What are the fundamental issues surrounding capitalization vs expensing?
What approach does management seem to prefer and why?
Which approach do you think auditors seem to prefer?
Meaning of capitalizing
In general, capitalizing expenses is beneficial as companies acquiring new assets with a long-term lifespan can spread out the cost over a specified period of time. Companies simply take expenses that they incur today and deduct them over the long term without an immediate negative affect against revenues. However, if a company capitalizes regular operating expenses, it is doing so inappropriately, most likely to artificially boost its operating cash flow and look like a more profitable company. Because a company can't hide it's expenses forever, such a practice will fail in the long run.
1. In accounting, it is where costs to acquire an asset are included in the price of the asset.
For example, if a machine has a price of $1 million this value would be recorded in the assets, if there was also a $20,000 charge for shipping the machine then this cost would be capitalized and included in assets.
Capitalization Vs. Expensing
are generally allowed to deduct any ordinary and necessary cost relating to your business. One exception to this rule is for a category of expenses called capital expenditures. These are amount you pay for long-lived business assets like buildings, vehicles, and computers. They also include any expense which adds to the value or useful life of other property, such as a building improvement or a new roof.
Capital assets cannot be deducted in the year you pay for them; instead, they must be capitalized and then deducted over a period of years through depreciation, amortization, or depletion. Some capital expenditures cannot be deducted at all, in which case their cost is just added to the tax basis of the property.
Not all capital assets are things you can touch, they also include a category called intangible assets. Amounts a business pays develop or pay for intellectual property, patents, architect fees, business organizational costs, and copyrights are all intangible assets ...
This discusses the issues regarding capitalization and expensing.