A business asset is anything a business buys, owns and holds. Fixed assets are long-term assets, used for at least a year, but often a lot longer. There's no limit to their useful life. On a company's balance sheet, fixed assets appear under "plant, property and equipment" (PP&E), a standard accounting term. "Capital equipment" refers to fixed assets like factory machinery and office equipment.
Fixed assets help businesses increase sales and profits, lower costs
Businesses use fixed assets as engines to grow sales and lower costs. For example, a business owner might decide to purchase new computer equipment or machinery to increase employee productivity, save time and increase production at a lower unit cost. Anything you buy for your business that isn't consumed is an asset, such as a printer for your office. But ink cartridges are consumables because you recycle or discard them when the ink runs out. Ironically, even if a cheap inkjet printer costs less than the ink cartridges it consumes, it's still considered capital property. A landscaping company might decide to buy a small, efficient excavator to perform twice as many jobs without hiring more employees. An excavator is a fixed asset and it helps landscapers work faster. It's a big investment for the business but it'll generate more revenue for years to come.
What are considered fixed assets?
Fixed, tangible, long-term, and long-lived assets are the same thing. Their useful life is longer than 12 months (a full year or fiscal year) and you won't want to sell them within a year. They include:
Land, buildings and other real estate
Vehicles, boats, planes
Tools and plant machinery and equipment
Computers, office equipment and furniture
Improvements and upgrades to buildings and land
Any other physical property you can't sell quickly
Besides generating income, fixed assets can help businesses survive. If they run into financial difficulties and need to raise cash, selling some of their fixed assets helps to raise cash. And if the business needs to borrow, it can use fixed assets as collateral for a loan. Fixed assets show financial strength and value on a company's balance, even in difficult times. Lenders and investors like a business more when they see fixed assets on the balance sheet, or with their own eyes. Why? Because they represent a tangible value that's convertible into cash a business can use if it faces financial difficulties.
What's the difference between a current and fixed asset?
Fixed or long-term assets are used for a minimum of 12 months. Current assets don't last as long. Your business would use, replace or convert current assets into cash over a 12-month accounting cycle. Fixed assets are major investments for businesses. Their value and useful life stretch out over many years. The 12-month ownership period is a full year of operation. It's also an accepted accounting standard.
What's "fixed" about fixed assets?
Fixed assets are physical assets. Think of "fixed" as something that's stable or constant over time, or that doesn't move (fixed) because it's bolted down. Buildings, heavy machinery in a plant or land fit the description perfectly. A 3-ton metal press is a good example of a fixed asset in a factory. It stays put for as long as the owner needs or wants it there. And except for wear parts needing maintenance or repair, the business won't consume the frame and bulk of the machine. Current assets include:
Cash, including foreign currency
Short-term investments like treasury bills and other marketable securities business can easily sell for cash
Prepaid expenses
Accounts receivable
Inventory
The list above ranks current assets based on how fast you can sell them or convert them into cash. Cash is liquid and easily used, so it's at the top of the list. Short-term investments only take a few days to sell for cash. Accounts receivable and inventory are at the bottom and the least liquid current assets. It could take many months to sell off inventory.
How to calculate depreciation on the sale of fixed assets?
When you sell a depreciated fixed asset, you'll have a tax impact. We'll cover asset sales later, but first, here's a primer on depreciation. Depreciation is a tax-deductible business expense that offsets the declining value of assets businesses use to earn income. The CRA calls that tax-deductible depreciation expense Capital cost allowance, or CCA. Businesses use fixed assets like equipment or buildings for years and they don't deteriorate much over time. When a business purchases a fixed asset, it can write off depreciation each year over the life of the asset.
Tax tip: how to choose a depreciation method
Straight line and declining balance are the two most common methods for calculating depreciation on fixed assets. Here's what you need to know:
The straight line method uses the cost of the asset, less the estimated end of life value and divides it by the years of service you expect. With this method, the depreciation amount is constant each year of the asset's useful life.
The declining balance method applies a fixed percentage to the remaining value at year-end until the asset's written off. CRA determines asset classes and allowable percentages. With this method, also called "accelerated", depreciation is higher in the early years.
According to CPA Dennis Najjar, "Straight line depreciation is properly used when an asset's value declines evenly over time. This would often be a piece of machinery that you expect to use until you scrap it."
Najjar adds that the declining balance method "is appropriate when an asset initially loses value quickly but then loses less value over time." Good examples would be purchasing a new car or computer equipment. The value of these assets declines quickly in the first years of ownership.
You can visit taxtips.ca for depreciation calculation examples. If you aren't a numbers guru, an accountant can recommend depreciation methods tailored to your assets and business goals. The capital cost allowance (CCA) is what you can claim on your taxes. The undepreciated capital cost (UCC) of your asset at the start of your fiscal year and the allowable rate for the asset class determine your CCA amount. When you sell or scrap depreciating fixed assets, the adjusted cost base (ACB), UCC and amount the assets sell for (POD or proceeds of disposition) determine tax payable. Your fixed asset's purchase price, ACB and UCC are identical at the time of purchase, before applying depreciation.
CCA and timing the sale of fixed assets
In a post about depreciation, finance blogger Craig Anthony advises against selling an asset in the first year of ownership if possible, because of the half-year rule. The rule limits CCA to 50% of the depreciation in year one, but not in later years. He also recommends selling assets closer to year-end to get the full benefit of the CCA for the year.
CCA recapture and terminal loss
A CCA class can include several depreciating fixed assets. Selling a fixed asset reduces the CCA class by the lesser of the asset's original cost or the POD. Also, if proceeds of sale exceed the lesser of the original asset cost or the UCC, the balance of UCC will be negative. This adds a CCA recapture amount to the business's income. Tip: if you expect a recapture amount, purchasing assets and adding them to the class before year-end might prevent adding to income and any associated tax payable.
How to use a terminal loss
If a UCC balance remains in the class at year-end after selling all assets in a class, take the loss in the same amount and use it to offset business income, creating a terminal loss. It's the reverse of the recapture situation discussed above. Let's say a business that has a terminal loss plans to add new assets to the same class. Tax-wise, it makes sense to claim the allowable terminal loss since the CCA class is empty. The business will be able to deduct a terminal loss if it postpones asset purchases in the same class to the following fiscal year. Check out these examples to learn more about recapture and terminal loss.
