Welcome to the ‘Sam’s Story’ series, where we cover common accounting topics in a real-world scenario. This week we’re talking about fixed asset depreciation!
Sam’s Story Recap
If you haven’t read any of our previous Sam’s Story articles, catch up on them now!
Sam’s Story Part One: Selecting a Business Entity for a New Business
Sam’s Story Part Two: Accrual vs Cash Accounting
Sam’s Story Part Three: Subcontractor or Employee?
Sam’s Story Part Four: Lease or Buy a Car for Your Small Business
Fixed Assets & Depreciation
Since business had been going well at Sam’s Sports Bar LLC, Sam decided that he needed to upgrade and purchase a new larger stove for the kitchen. He gave me a call to discuss his options and what the impact of this purchase would be.
Fixed Asset Basics
I explained to him that the stove would be considered a fixed asset which would have to be capitalized and depreciated. Fixed assets are generally items that are subject to wear and tear, decay or lose value over time and have a life span that is greater than one year. Depreciating an asset spreads the cost of the piece of equipment, or the stove in this case, out over the life of the equipment. Depreciation for the stove that Sam is looking at would begin on the date of the purchase and continue through until the entire cost of the stove had been expensed.
It may be helpful in certain situations to have the expense of the stove spread out over the useful life of the stove. In Sam’s situation, though, he has income and the cash flow to purchase the equipment. So, it may be more beneficial for him to be able to write off more this year than what the standard depreciation calculation would allow. There is a provision in the tax code that will allow Sam to do just that.
Tax Code Provisions
For 2010 and 2011, Sam can expense up to $500,000 of equipment purchases. This amount, however, is limited to Sam’s taxable income. So, as I was talking with Sam I asked him if there was additional equipment that he would consider purchasing or upgrading. He said that there were some pieces of equipment that he would like to get. I told him that if he felt comfortable with his cash flow that he should go ahead and purchase the equipment this year so that we could take advantage of the higher expensing limit which would allow us to reduce his taxable income for the year.
I spoke with Sam again a few days later. He had just installed his new stove and was shopping around for some additional equipment. Sam was pleased that he’d be able to purchase the equipment that he needed and be able to fully expense it in the same year.
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