ANSWERS TO QUESTIONS
The major characteristics of plant assets are (1) that they are acquired for use in
operations and not for resale, (2) that they are long-term in nature and usually
subject to depreciation, and (3) that they have physical substance.
The company should report the asset at its historical cost of $420,000, not its
current value. The main reasons for this position are (1) at the date of acquisition,
cost reflects fair value; (2) historical cost involves actual, not hypothetical
transactions, and as a result is extremely reliable; and (3) gains and losses should
not be anticipated but should be recognized when the asset is sold.
(a) The acquisition costs of land may include the purchase or contract price, the
broker’s commission, title search and recording fees, assumed taxes or other
liabilities, and surveying, demolition (less salvage), and landscaping costs.
(b) Machinery and equipment costs may properly include freight and drayage
(handling), taxes on purchase, insurance in transit, installation, and expenses of
testing and breaking-in.
(c) If a building is purchased, all repair charges, alterations, and improvements
necessary to ready the building for its intended use should be included as a part
of the acquisition cost. Building costs in addition to the amount paid to a
contractor may include excavation, permits and licenses, architect’s fees,
interest accrued on funds obtained for construction purposes (during
construction period only) called avoidable interest, insurance premiums
applicable to the construction period, temporary buildings and structures, and
property taxes levied on the building during the construction period.
(d) Machinery. The only controversy centers on whether fixed overhead should be
allocated as a cost to the machinery.
(e) Land Improvements, may be depreciated.
Building, provided the benefits in terms of information justify the additional cost
involved in providing the information (
FASB Statement No. 34
(a) The position that no fixed overhead should be capitalized assumes that the
construction of plant (fixed) assets will be timed so as not to interfere with
normal operations. If this were not the case, the savings anticipated by
constructing instead of purchasing plant assets would be nullified by reduced
profits on the product that could have been manufactured and sold. Thus,
construction of plant assets during periods of low activity will have a minimal
effect on the total amount of overhead costs. To capitalize a portion of fixed
overhead as an element of the cost of constructed assets would, under these
circumstances, reduce the amount assignable to operations and therefore
overstate net income in the construction period and understate net income in
subsequent periods because of increased depreciation charges.