In 1984, the FASB issued Concept Statement 5, which included discussion of assets. However, it was limited in scope, as one would expect in a concept statement. The discussion emphasized the following issues:
- Recognition assumption of assets, clearly indicating that assets are consumed by their use and the cost should be recognized in the accounting periods of their life.
- Consumption of economic benefits during a period may be recognized either directly or by relating it to revenues recognized during the period.
- Some expenses such as depreciation and insurance are allocated by systematic and rational procedures to the period during which the related assets are expected to provide benefits:
Any expense or loss (in future benefits) is recognized if it becomes evident that previously recognized future economic benefits of an asset have been reduced or eliminated.
Since its creation, the FASB has entertained considerable discussion about assets, but the only statements issued cover specific assets:
- Expensing versus capitalizing research and development
- The accounting for software
- Depreciation in not-for-profit organization financial statements
- Impairment of Assets
- Involuntary Conversions
FASB Concept Statement 6, Elements of Financial Statements, has more material than any other on the accounting for long-term tangible assets. However, it addresses itself primarily to the definition, the purpose of accrual accounting, and the characteristics of an asset.
In 1985, Concept Statement 6 added a definition of assets:
Assets are probable future economic benefits obtained or controlled by a particular entity as a result of past transactions or events.
Concept Statement 6 continues, enumerating the three essential characteristics of an asset:
- It embodies a probable future benefit that involves a capacity, singly or in combination with other assets, to combine directly or indirectly to future net cash in flows.
- A particular entity can obtain the benefit and control others’ access to it.
- The transaction or other event giving rise to the entity’s right to or control of the benefit has already occurred.
This is the first discussion in promulgated accounting rules discussing the definition and characteristics of an asset. The major thrust is that probable future benefit is the definition of an asset. To reflect it on the balance sheet, the entity must be able to obtain benefit from the asset and control others’ access to the asset. This statement also reviews the concept of future economic benefit and service potential as it relates to not-for-profit organizations. It states:
In a not-for-profit organization, the service potential or future economic benefit is used to provide desired or needed goods or services to beneficiaries or other constituents, which may or may not directly result in net cash inflows to the organizations. Some not-for-profit organizations rely significantly on contributions or donations of cash to supplement selling prices. This discussion introduces the argument that depreciation of tangible assets is an appropriate expense of not-for-profit organizations.
In a discussion of accrual accounting, Concept Statement 6 discusses assets under a heading “Recognition, Matching, and Allocation.” In paragraph 145, it states:
Accrual accounting uses accrual, deferral, and allocation procedures whose goal is to relate revenues, expenses, gains, and losses to periods to reflect an entity’s performance during a period instead of merely listing its cash receipts and outlays . . . the goal of accrual accounting is to account in the periods in which they occur for the effects on an entity of transactions and other events and circumstances, to the extent that those financial effects are recognizable and measurable.
There is a discussion of costs and revenues to determine profits for periods. Depreciation and assets are excluded from the matching concept. Paragraph 149 of Concept Statement 6 explains:
However, many assets yield their benefit to an entity over several periods, for example, prepaid insurance, buildings, and various kinds of equipment. Expenses resulting from their use are normally allocated to the periods of the estimated useful lives (the periods over which they are expected to provide benefits) by a rational allocation procedure, for example, by recognizing depreciation or other amortization. Although the purpose of expense allocation is the same as that of other expense recognition—to reflect the using up of assets as a result of transactions or other events or circumstances affecting an entity—allocation is applied if causal relations are generally, but not specifically, identified. For example, wear and tear from use is known to be a major cause of the expense called depreciation, but the amount of depreciation caused by wear and tear in a period normally cannot be measured.
This discussion appears to make the distinction between the matching principle for revenues and expenses and the allocation of the cost of using up future benefits. Although this distinction is subtle, it is the point of basic disagreement between those who argue for inflation accounting and the depreciating of assets based on current market value and those who argue for depreciating using a lesser historical cost.
Appendix B of Concept Statement 6 further discusses characteristics of assets, defining assets as “probable future economic benefits obtained or controlled by a particular entity as a result of past transactions or events.”
Most of this discussion relates to intangible or nonphysical assets. The FASB, in issuing its Statement 2, Accounting for Research and Development Costs, also gives us some information on “what makes up tangible physical assets“. In their concern for the appropriate accounting for research and development costs, they conclude that all should be charged to expense accounts. However, they do give us their thoughts about which tangible assets should and should not be included in research and development costs. A prime consideration is that materials, equipment, and facilities that have an alternative future use (in research and development projects or otherwise) shall be capitalized as tangible assets when acquired or constructed.
However, the costs of such materials, equipment, or facilities that are acquired or constructed for a particular research and development project and have no alternative future uses and therefore no separate economic values are research and development costs at the time the costs are incurred. All research and development costs encompassed by the statement are charged to expense when incurred. This reflects the concept that research and development costs will be used up during the span of the research project. Tangible assets that have a life beyond the current project, however, should be capitalized and depreciated over their useful lives.
The preceding paragraphs summarize the present state of GAAP relating to property, plant, and equipment.
Many subjects in accounting have not been covered at length within the promulgated statements. Most with the significance of long term tangible assets have been covered in more detail in secondary accounting material, but few secondary publications provide any in depth discussion on fixed assets.
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