Fixed asset accounting: Basics, types, and examples

As your business evolves, you’ll likely acquire long-term assets that help you scale up and generate more revenue. Accounting for these fixed assets can help you better monitor your business’s value and improve operations. 

Today, we’ll explain everything you need to know and how to get started with a few fixed assets accounting methods.

Jump to:

• The basics of fixed asset accounting
• The 3 types of fixed assets in accounting
• How the fixed asset accounting cycle works
• Depreciation methods for fixed asset accounting
• Fixed asset accounting challenges and how to address them
• Navigate midsize business challenges and opportunities
• Fixed asset accounting FAQ

The basics of fixed asset accounting

Fixed asset accounting recognizes that all financial activities are linked to fixed assets. If a business requires physical assets to operate, it likely uses fixed asset accounting. This form of accounting for fixed assets deals with the lifecycle of an asset: including purchase, depreciation, audits, revaluation, impairment, and disposal. 

From a bookkeeping perspective, each asset has an account where all financial activities related to it are properly recorded. This method of accounting determines what asset costs can be capitalized and what needs to be expensed when the asset goes into service.

Industries that commonly use fixed asset accounting:

• Farming
• Fishing
• Construction
• Manufacturing

This approach to accounting is especially important for businesses with subsidiaries and multiple brands under one roof. Identifying and accounting for all fixed assets as part of their multi-entity accounting process can help them leverage potential losses through depreciation and reduce liability.

What are fixed assets?

Fixed assets, also known as capital assets, are your business’s tangible and intangible property that you purchase for long-term use.

For example, property, plant, and equipment (PP&E). These assets and property may be converted into cash once they’re no longer needed, but they don’t typically have high liquidity. 

Every business has at least one type of asset in their possession. For example, a small business may own these fixed assets regardless of industry:

• Real estate
• Computer equipment
• A car
• Office equipment

For many businesses, fixed assets are items and property that are considered necessary to their organization and operations processes.

How to record fixed assets

Recording the purchase of a fixed asset is a two-step process:

1. Debit the account. Record the acquisition or purchase of the asset by category. Note the type of asset (equipment, property, etc.) in your accounting software.
2. Credit your cash account for the purchase price. Record the asset's purchase price in the cash or accounts payable account.

If you use accounting software, you’ll likely be able to do this by filling out a journal entry for each asset.

The 3 types of fixed assets in accounting

Before looking at how fixed asset accounting works, it’s important to understand the different types of assets you may encounter or already have in your business.

Tangible fixed assets

Tangible fixed assets are pieces of physical property that your business owns outright and uses as part of its daily operations. This includes assets the business owns and uses, like:

• Property

Work vehicles

• Office furniture and supplies
• Machinery

Intangible fixed assets 

Businesses can also own intangible fixed assets that are still essential to their company. These items are not physical goods but may include things like:

• Trademarks
• Patents
• Brand reputation
• Internally produced software
• Training methodology
• Goodwill
• Permits
• Easements

These assets can seem hard to quantify, but they still play an essential role in your company’s operation.

Natural resources

Some businesses may also have natural resources assets that are essential to their operations. This may include:

• Timber
• Water access
• Oil deposits
• Coal deposits
• Mineral deposits
• Animals like livestock

These assets are typically held by companies in the oil, mining, and agricultural sectors.

How the fixed asset accounting cycle works

Annual fixed asset accounting helps you monitor your expenses, the value and depreciation of the assets over time, and assess how much your company is truly worth. 

The key steps you need to know:

1) Acquisition of fixed assets: When you purchase a fixed asset like property or business equipment, you’ll want to log that purchase in your accounting software. Typically, you’ll want to include the purchase price and any other incidental costs associated with the ownership of that asset. 

2) Depreciation and amortization: As you use the asset, it may decrease or depreciate. You’ll want to confirm that depreciation in your accounting program helps you track the actual or real value of the asset over time. Remember, depreciation can slow over time. The longer you own the asset, the less severe the depreciation may be.

3) Revaluation: Every quarter or every year, you’ll want to compare the asset’s depreciation to its original purchase price. You’ll also want to identify what assets like yours are going for on the market. This will give you a more accurate understanding of the asset’s true value.

4) Impairment testing: Over time, the asset’s value may further decrease due to use or damage. Be sure to note any loss in value as part of your fixed asset accounting efforts.

5) Disposal of fixed assets: Fixed assets won’t last forever. This means you may need to dispose of or sell the asset when it is no longer useful. If you sell the asset, you’ll want to note the price you sold it for in your books. And if you simply scrap the asset, you’ll want to note its market value so you can count it as a loss to reduce your tax liability.

The process will repeat over time for every fixed asset you acquire. Keep in mind that not all stages will apply to every asset. For example, land and business buildings typically don’t depreciate in value.

Depreciation methods for fixed asset accounting

For many business owners, calculating each fixed asset’s depreciation value is the most difficult part of the process. Here are some common methods you may be able to use:

Straight-line depreciation

Straight-line depreciation is widely considered to be the easiest way to determine an item’s depreciation value. It follows the idea that the amount of depreciation is the same every year that you own the asset. There’s a simple formula you can use to calculate the depreciation:

Depreciation amount = (cost - salvage value) / useful life in years

Say you own a work vehicle that you paid $15,000 for when you purchased it. You expect the car to continue working for five years and expect it to have a $0 salvage value (or resale value) after those five years. The depreciation formula would be as follows:

Depreciation amount = ($15,000 - $0) / 5 years of useful life

In this example, the depreciation amount would be $3,000 per year. 

Declining balance depreciation

This method of depreciation considers that fixed assets are typically more useful or more beneficial to businesses earlier in their life spans. The method increases the amount of depreciation over time. Let’s look at the formula:

Periodic depreciation expense = Original market value X the rate of depreciation

Say you have a piece of equipment that you paid $10,000 for with a useful life span of 5 years, just like your work vehicle. The equipment has a salvage value of $1,000, so you won’t be completely out of the money when you need to upgrade. 

Here’s what it would look like:

• Identify the original market value of the asset at year one ($10,000). Then, identify the value at year 5 ($1,000).
• Plug the information into the formula: Expense = (100% / 5) X 2 or Expense = (100% / 5) X 2 = 20%.
• Then, multiply the rate of depreciation (20%) by the original value of the asset. This will give you the expense for the year. In this case, it would be $2,000.
• Subtract the $2,000 from the original value of the item to get the value of the equipment at the end of your first year. In this case, it would be $8,000. 
• Repeat the process each year of the asset’s useful life.

Units-of-production method

Units-of-production depreciation refers to the amount of depreciation the asset experiences based on the number of hours the asset is used. For many businesses, this can give them a more accurate understanding of a piece of equipment’s value over time. Here’s the formula:

Depreciation expense = (number of items produced / life in number of total units produced) X (cost - salvage value)

Using the above piece of equipment as an example, say that piece of equipment will produce an estimated 5 million units a year and an estimated 100 million units over its useful life span. The formula would look something like this:

Depreciation expense = (5 million / 100 million) X (10,000 -$0) = 500

Your depreciation will be roughly $500 during that first year.

Sum-of-the-years-digits method 

Sum-of-the-years-digits depreciation assumes higher depreciation rates upfront and lower rates as the asset ages. The formula looks like this:

Depreciation expense = (remaining life / sum of the years digits) X (cost - salvage value)

Using the same piece of equipment with a purchase price of $10,000, an estimated life span of five years, and a salvage value of $0 as an example, the formula would look like this for the first year:

Depreciation expense = (8 years / 36 years) X ($10,000 - $0) = $2,222

For the second year, it would look like this:

Depreciation expense = (8 years / 28 years) X ($10,000 - $0) = $2,851

You’ll want to run this calculation for each year to get an accurate depreciation value.

Fixed asset accounting challenges and how to address them

Fixed asset accounting is a great way to understand the actual value of the assets your business relies on. But it’s not without its challenges. 

Capitalization vs. expense decisions 

Figuring out when to factor in an item’s expenses or its capitalization potential can be difficult when you’re starting out. And miscategorizing your asset’s projections can change your fixed asset accounting efforts. 

How to address::

• Capitalize assets that should benefit your company for more than one year. Business should spread out these expenses over the years you own the asset.
• Log the asset as an expense if it will only provide value for the first year after you purchase it. 

Impairment assessments 

These assessments help determine if an asset’s value has decreased and needs to be noted in the fixed asset accounting logs. However, identifying when to assess an item, how to assess it, and what information you need to document isn’t always easy. 

How to address:

• Get in the habit of assessing your assets regularly. Most businesses do this once each quarter.
• Compare the asset’s current value against the amount you could recover if you sold it. 
• If the asset’s current value is still higher than the recoverable or salvage amount, record it. You can log the difference as an impairment loss on your books.

These assessments should be part of your routine accounting efforts, whether you’re following a simple accounting plan or are using a project-based accounting method.

Asset disposals

Many business assets have a finite life span and will need to be disposed of eventually. That disposal needs to be documented in your accounting books. 

How to address:

• Remove the item from your books as a fixed asset.
• Delete accumulated depreciation for that item once you’re no longer using it and have scrapped or sold it.
• Note the cash value you received from the sale, if applicable.
• Identify the gain or loss on the item.
• Note any costs associated with the disposal. 

This will help you keep your fixed asset journal entry more accurate and reduce errors in your fixed asset accounts.

Navigate midsize business challenges and opportunities

Identifying your fixed assets and understanding their lifecycle is the first step to accurate asset management and fixed asset accounting. Getting started might seem overwhelming, but consider it an investment in your company’s future growth. 

When you’re ready to streamline your financial reporting, including documenting your fixed assets, QuickBooks may be able to help. You’ll have access to solutions tailored to small businesses as well as mid-size enterprises.