FAR · Select balance sheet accounts · 9 practice questions
Which Equipment Costs Are Capitalized Under US GAAP?
Capitalize costs that acquire equipment and prepare it for intended use, not employee training or future routine service. Sort Lane's machine costs into equipment, current expense, or prepaid maintenance, then try the free practice questions.
Try one first
Hint
Distinguish costs that acquire and prepare the machine for use (capitalize) from costs for future operations like training or routine maintenance (expense or record separately).
Answer B. Initial cost includes amounts necessary to acquire the machine and prepare it for its intended use. Capitalize the purchase price, sales tax, freight, and installation: 200,000 + 12,000 + 5,000 + 8,000 = 225,000. Employee training is expensed when incurred and the one‑year routine maintenance agreement is not part of the asset's acquisition cost (it is a prepaid or period expense).
Why not A: Tempts because a candidate might mistakenly treat installation as a period expense or overlook it; this amount excludes the $8,000 installation. It is incorrect because installation is necessary to get the machine ready for use and must be capitalized.
Why not C: Tempts because training relates to using the machine, so one might think the $4,000 training enhances the asset and should be capitalized. It is incorrect under U.S. GAAP, employee training is a period operating expense and is not included in the initial cost of property, plant, and equipment.
Why not D: Tempts because it capitalizes both training and the maintenance agreement on the rationale they relate to the asset's operation. It fails because routine maintenance is not part of acquisition/preparation cost (it is a prepaid or period expense) and training is expensed, so adding both overstates the machine's initial recorded amount.
Sort it
Does the cost acquire Lane's machine or directly bring it to the location and condition for intended use?
Does the cost train people, reflect abnormal startup waste, or cover routine maintenance already performed?
Has Lane paid for future routine maintenance coverage that has not yet been received?
| Item | Goes to |
|---|---|
| Machine purchase price, net of trade discounts and cash discounts taken | Equipment costThe net price is the acquisition cost. Discounts reduce equipment cost. |
| Wages to train operators before the machine is ready | Current expenseThe wages prepare people, not the machine. Early timing does not change the treatment. |
| Freight-in to deliver the machine to Lane's plant | Equipment costDelivery brings the machine to its intended location. |
| One-year routine maintenance coverage paid in advance | Prepaid maintenanceThe payment buys future service, not machine readiness. Expense it over the coverage period. |
| Nonrefundable sales tax on the machine purchase | Equipment costThe tax is a direct acquisition cost and cannot be recovered. |
| Extra materials wasted through abnormal startup misfeeds | Current expenseAbnormal inefficiencies are excluded even when they occur before the machine is ready. |
| Installation required for the machine to operate | Equipment costInstallation puts the machine in the condition needed for intended use. |
| Routine maintenance performed after the machine is ready | Current expenseRoutine maintenance keeps the machine operating. It does not form part of its initial cost. |
| Necessary calibration before the machine is ready | Equipment costCalibration prepares the machine itself for intended use. |
| Site preparation needed to install the machine | Equipment costNecessary site preparation directly supports installing and readying this machine. |
| Wages for machine assembly and necessary pre-use testing | Equipment costUnlike training wages, these wages pay for work that directly prepares the machine. |
| Normal materials used in successful pre-use test runs | Equipment costNecessary testing confirms that the machine functions properly. Normal testing costs differ from abnormal startup waste. |
Key points
- Remember: Prepare the machine, capitalize; prepare the operator, expense; pay for future routine service, record a prepaid expense.
- Paying a cost before production begins does not make it part of equipment cost.
- If the invoice price is already net of a trade discount, do not subtract that discount again.
How the exam traps you
- Capitalize training because the machine cannot be used effectively without trained operators. Training prepares employees, not the machine. Expense it even if it occurs before production.
- Include a paid maintenance contract in equipment because it relates to the new machine. Record future routine service as prepaid maintenance, then expense it over the coverage period.
- Use the gross invoice price even though a purchase discount was taken. Subtract trade discounts and cash discounts taken before adding qualifying acquisition and setup costs.
Question 2
Hint
Focus on the principle for initial measurement of PPE: ask what makes an outlay part of getting the asset ready, and what remains a period cost even if incurred during startup.
Answer A. Under U.S. GAAP the initial measurement of PPE includes costs that are directly attributable to acquiring the asset and preparing it for its intended use (for example, freight-in, import duties, and necessary testing/calibration). Costs such as employee training and abnormal startup losses or wasted materials are not capitalized because they do not bring the asset to the location and condition necessary for intended use. Borrowing costs were excluded by assumption and would be considered separately under interest-capitalization guidance.
Why not B: This distractor leverages a common timing shortcut, students often assume any precommercial-production cost is capitalizable. Timing alone does not control capitalizability; the cost must be directly attributable to preparing the asset for its intended use, so training and abnormal startup waste remain expensed.
Why not C: This option appeals to the broad idea that assets provide future benefits, but initial PPE measurement applies a narrower test: costs must be directly attributable to acquiring and readying the asset for use. Mere expectation of indirect future benefits does not make training or abnormal inefficiencies part of the asset's cost.
Why not D: This choice confuses 'intended use' with achieving ideal operational efficiency. Costs incurred to fine-tune performance after the asset is already capable of operating as intended are typically period expenses, not additions to the asset's initial cost.
Question 3
| Asset / Expenditure | Amount |
|---|---|
| Invoice price | $180,000 |
| Freight-in | $6,000 |
| Site preparation | $9,000 |
| Test runs before normal production | $4,000 |
| One-year maintenance agreement beginning after the equipment was placed in service | $12,000 |
Hint
Focus on whether the cost gets the asset ready for its intended use, or instead relates to servicing it after it is already ready.
Answer C. Costs that are necessary to acquire an asset and prepare it for its intended use are capitalized (invoice price, freight-in, site preparation, and necessary preproduction testing here). A maintenance agreement that starts after the asset is placed in service does not make the asset ready for use and therefore is not capitalized; it is treated as a period cost (or a prepaid expense to be expensed over the contract term).
Why not A: Freight-in is a direct cost of bringing the equipment to the company's location and making it ready for use, so it is capitalized as part of the asset rather than expensed immediately.
Why not B: If site preparation is necessary to install and use the equipment, those costs are directly attributable to getting the asset ready for its intended use and are capitalized, not expensed.
Why not D: Necessary testing performed before the equipment is ready for normal production is part of placing the asset into service and is capitalized; only if test runs produce saleable output would there be additional accounting considerations.
Question 4
Hint
Ask which costs prepare the asset itself for intended use, versus which costs relate to people or later operations.
Answer C. Cost of PP&E includes the purchase price and costs directly attributable to bringing the asset to the location and condition necessary for its intended use. Freight, installation, and pre-service testing are directly attributable and capitalized; employee training costs relate to personnel and are expensed as incurred.
Why not A: Tempting because delivery can feel like an operating cost, but freight to bring the equipment to the company is a directly attributable acquisition cost and is capitalized as part of the asset.
Why not B: Some candidates view installation as a separate operating activity, but installation is necessary to place the equipment in the condition required for its intended use and therefore is capitalized.
Why not D: Candidates sometimes overgeneralize that testing is a start-up or operating cost; testing performed to get the asset ready for use is directly attributable and is capitalized.
Question 5
Hint
Capitalize costs that get the equipment acquired and ready for its intended use, but not costs of training people to use it.
Answer B. Initial cost includes the purchase price and all costs necessary to acquire the asset and prepare it for its intended use. Capitalize $120,000 purchase price + 6% nonrefundable sales tax ($7,200) + $2,500 shipping + $4,000 installation = $133,700. Employee training ($1,800) is an operating expense and is not capitalized.
Why not A: This includes purchase price, shipping, and installation but omits the nonrefundable sales tax (6% × $120,000 = $7,200), which must be capitalized as part of the asset cost.
Why not C: This amount adds employee training to the capitalized cost. Training costs are operating expenses and should be expensed, so they are not included in the asset's initial recorded cost.
Why not D: This reflects only the invoice price and ignores ancillary costs necessary to bring the equipment into service (sales tax, freight, installation), all of which are capitalized under US GAAP.
Question 6
Hint
Focus on whether the cost gets the asset itself ready for intended use, or instead relates to employees or operations after the asset is ready.
Answer C. Employee training costs are expensed as incurred because they are costs of developing personnel and do not directly bring the machine itself to the condition necessary for its intended use. Freight, installation, and pre‑use testing that verifies functionality are directly attributable to acquiring and preparing the asset and are capitalizable under U.S. GAAP (assuming no abnormal waste).
Why not A: Tempting because freight is a separate cash outlay, but delivery costs are directly attributable to acquiring the asset and bringing it to the location and condition required for use, so they are capitalized.
Why not B: Some candidates treat setup as an operating start‑up cost, but installation is part of getting the asset itself ready for its intended use and therefore is capitalized.
Why not D: A common trap is to expense all pre‑use costs; however, testing to confirm that the machine functions as intended is part of preparing the asset for use and is capitalized (absent abnormal waste).
Question 7
Hint
Focus on which cost gets the asset to the location and condition necessary for its intended use.
Answer C. Initial cost of equipment includes amounts directly attributable to acquiring the asset and bringing it to the location and condition necessary for its intended use. Freight and installation are incurred to get the machine ready for operation and therefore are capitalized as part of PP&E.
Why not A: Training costs are incurred to prepare personnel, not to prepare the asset itself for use. Under U.S. GAAP, employee training is expensed as incurred rather than capitalized into the asset.
Why not B: Routine maintenance performed after the asset is placed in service simply keeps the machine in ordinary operating condition and does not form part of the initial acquisition cost. Such costs are expensed when incurred unless they clearly improve or extend the asset's service potential.
Why not D: Relocation costs incurred after the asset is already in service are not part of the original acquisition cost. Those later costs are generally expensed when incurred unless specific capitalization criteria for improvements are met, which is not indicated here.
Question 8
Hint
Decide which expenditures are necessary to get the asset ready for use (capitalize) versus items to expense, and remember to prorate depreciation for an asset placed in service mid-year.
Answer B. Capitalizable cost includes purchase, freight, and installation: 450,000 + 15,000 + 15,000 = 480,000. Training and routine maintenance are expensed when incurred under U.S. GAAP. The asset was placed in service July 1, so record half-year depreciation: (480,000 / 8 years) × 6/12 = 30,000. Net PPE = 480,000 − 30,000 = 450,000.
Why not A: This choice capitalizes the $12,000 training costs (480,000 + 12,000 = 492,000), which some may think is a cost to get the asset ready; however, training costs are expensed as incurred, so gross equipment should not include training.
Why not C: This choice capitalizes the $8,000 routine maintenance (480,000 + 8,000 = 488,000). Routine maintenance is expensed, not capitalized, so it should not increase the asset base or depreciation.
Why not D: This choice applies a full year of depreciation (480,000 / 8 = 60,000) even though the equipment was placed in service on July 1. Only half-year depreciation is appropriate for Year 2, so accumulated depreciation should be $30,000, not $60,000.
Question 9
Hint
Focus on costs to acquire the machine and make it ready for its intended use, and separate those from costs of training people or maintaining the machine afterward.
Answer A. Record the machine at costs necessary to acquire it and prepare it for use: invoice price net of the trade discount plus nonrefundable sales tax, shipping, and installation/testing. Calculation: $180,000 - $15,000 + $9,000 + $4,000 + $7,000 = $185,000. Costs incurred after the asset is ready for use, such as employee training and routine maintenance contracts, are expensed and not capitalized.
Why not B: This adds the $3,000 employee training cost to the capitalized amount. Training is incurred after the asset is ready for use and should be expensed, not included in initial cost.
Why not C: This includes the $5,000 one-year maintenance contract as part of the asset cost. Routine maintenance or service contracts entered into after the asset is ready for use are expensed (or recognized over the coverage period), not capitalized.
Why not D: This totals invoice price plus tax, freight, and installation but fails to reduce the invoice price by the $15,000 trade discount. Trade discounts reduce the purchase price and therefore the capitalized cost.
Common questions
Are freight, installation, and testing capitalized under GAAP?
Yes. Freight-in and necessary installation, calibration, and normal testing are capitalized when they bring equipment to the location and condition needed for intended use.
Are employee training costs capitalized to equipment?
No. Training prepares personnel, not the asset, so it is expensed as incurred even before the machine is ready.
Is a one-year equipment maintenance contract capitalized?
Not as equipment. If paid before coverage is received, record a prepaid expense and expense it as routine maintenance coverage is provided.
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