FAR · Select balance sheet accounts · 6 practice questions
Repairs vs. Improvements: Capitalize or Expense PPE Costs
Capitalize later PPE costs when they increase future economic benefits, not when they merely keep the asset working. Follow the steps below to separate repairs from improvements and see why extending useful life alone qualifies.
Try one first
Hint
Focus on what changed about the truck's future benefits after the work, not on who billed it or simply when it was done.
Answer D. U.S. GAAP capitalizes subsequent expenditures only when they increase an asset's service potential and thus provide additional future economic benefits (extend life, increase capacity, or improve efficiency). Routine maintenance or repairs that merely restore the asset to its prior condition are expensed, regardless of timing or invoice presentation.
Why not A: An invoice description or separate billing may be evidence of the work performed, so it can be tempting to treat it as determinative. However, vendor billing practices do not control GAAP treatment, the accounting depends on whether the work produced additional future economic benefits.
Why not B: This tempts because large amounts receive scrutiny and companies set capitalization thresholds. Materiality and internal thresholds affect disclosure and recognition timing choices, but they do not by themselves change whether a cost creates additional future economic benefits, the substance of the work governs capitalization.
Why not C: Candidates may think only acquisition costs are capitalized, but subsequent expenditures can also be capitalized if they increase service potential. Timing alone (pre- or post-placement in service) does not determine accounting treatment.
Step by step
- Separate the costs
Evaluate each separately identifiable cost on an asset already in use. Costs incurred during the same shutdown do not automatically receive the same treatment.
- Compare service potential
Ask whether the work increases future benefits beyond the machine's previously assessed condition. Restoring normal operation alone does not qualify.
- Look for one qualifying benefit
A longer useful life, increased capacity, or materially improved efficiency supports capitalization. The work does not need to provide all three.
- Expense ordinary upkeep
Expense cleaning, lubrication, routine inspection, and minor repairs that only maintain or restore normal condition.
- Test an overhaul that extends life
Redd's $120,000 overhaul extends remaining life by four years without increasing capacity or replacing a separate component. Capitalize it because the life extension adds future benefits.
- Update depreciation prospectively
Add the qualifying overhaul cost to the machine's carrying amount. Depreciate the revised carrying amount, less any residual value, over the revised remaining life without restating prior depreciation.
Key points
- Remember: Back to normal means expense; longer life, more output, or better efficiency means capitalize.
- Dollar size, invoice labels, and capital-budget approval do not establish additional future benefits.
- Training and routine relocation of equipment already in use are expensed, even when related to an improvement.
- Capitalize the qualifying cost, not the machine's increase in fair value.
How the exam traps you
- Capitalizing a large repair because it exceeds a policy threshold. Check for added service potential. Materiality and policy thresholds do not create future benefits.
- Expensing an overhaul because output stays the same. An extension of useful life alone can justify capitalization.
- Capitalizing all costs from the same shutdown. Separate each cost. Capitalize the improvement and expense ordinary servicing.
Question 2
Hint
Ask whether each expenditure merely keeps the asset working as expected or instead improves the asset's future usefulness.
Answer A. Routine inspection and lubrication are ordinary maintenance costs that keep the asset in normal operating condition, so they are expensed as incurred. The new control system increases production capacity and provides benefits in future periods, so it should be capitalized as part of property, plant, and equipment. The key distinction is maintenance versus an expenditure that improves future economic benefits.
Why not B: This choice is tempting if a candidate assumes any cost that helps equipment operate should be capitalized. Routine inspection and lubrication merely maintain normal condition and do not increase capacity or extend useful life, so they are expensed.
Why not C: This is tempting because both costs relate to equipment the company already owns. However, GAAP does not automatically expense all subsequent costs; expenditures that increase capacity or provide future economic benefits (like the control system) should be capitalized.
Why not D: This reverses the correct treatment. The inspection and lubrication are routine upkeep and should be expensed, while the control system provides future benefits and should be capitalized.
Question 3
Hint
Focus on which later costs add future economic benefit beyond the machine's original condition, versus which costs simply maintain or support current operations.
Answer B. Under U.S. GAAP, subsequent expenditures for property, plant, and equipment are capitalized only when they extend useful life, increase capacity, or improve efficiency beyond the asset's original condition. The $9,000 major overhaul extended the machine's useful life and therefore should be capitalized. Routine maintenance (cleaning and lubrication), employee training, and routine relocation costs are generally expensed as incurred.
Why not A: This is tempting for candidates who overgeneralize that any cost tied to an asset must be capitalized. Once an asset is in service, only expenditures that add future economic benefit (extend life, increase capacity, or materially improve efficiency) are capitalized; routine maintenance, training, and most relocations do not qualify.
Why not C: Routine cleaning and lubrication are maintenance costs that preserve the asset's current operating condition rather than improve or extend its service potential, so they are expensed, not capitalized.
Why not D: This choice overgeneralizes in the opposite direction. Some post-acquisition costs, like a major overhaul that extends useful life, do meet the capitalization criteria and therefore increase the carrying amount.
Question 4
Hint
Decide whether each cost enhances the asset's service potential (extends life, increases capacity, or materially improves productivity) or merely returns it to its prior condition.
Answer C. Under US GAAP, subsequent expenditures are capitalized when they increase the asset's future economic benefits (extend useful life, increase capacity, or materially improve productivity); costs that merely restore the asset to its prior condition are expensed. Applying that test here: the bearing replacement merely restores prior condition → expense; the motor replacement extends life and increases capacity → capitalize; the computerized control increases throughput (service potential) even without life extension → capitalize.
Why not A: This distractor tempts by linking capitalization to observable increases in market/fair value, which often accompany useful improvements. It fails because, under the cost model, the test for capitalizing subsequent costs is enhanced service potential (life/capacity/productivity), not a one-time market revaluation, fair value is not the controlling criterion for capitalizing repairs or improvements.
Why not B: This distractor is tempting because companies do use dollar thresholds and materiality to implement capitalization in practice, so a candidate might conclude the $40,000 control is expensed while the $150,000 motor is capitalized. It is wrong because administrative thresholds do not replace the fundamental accounting criterion: the cost must enhance future economic benefits (life, capacity, or productivity) to be capitalized.
Why not D: This distractor is tempting because routine maintenance is typically expensed, so a candidate who focuses on 'replacement' language might expense all items. It is incorrect because the planned/recurring nature of work is only an indicator, not the primary test; a replacement that extends useful life or increases capacity (the motor) should be capitalized despite resembling maintenance.
Question 5
Hint
Focus on whether the expenditure only maintains current operations or instead improves the asset's future economic benefits.
Answer A. Subsequent expenditures are capitalized when they increase an asset's future service potential (for example, by improving capacity, efficiency, or extending useful life). Replacing the control system that both increases output and extends remaining useful life meets that criterion, so the cost is added to the asset's carrying amount rather than expensed immediately.
Why not B: Routine, recurring maintenance preserves the asset's current operating condition but does not increase its future service potential; such costs are expensed as incurred under U.S. GAAP.
Why not C: Training benefits the workforce, not the physical asset itself; training costs are expensed as incurred and are not capitalized as part of the asset's cost.
Why not D: Costs of moving an asset already in service are expensed when the move does not enhance the asset's capacity, efficiency, or useful life. Because the stem specifies no increase in future service potential, the relocation cost is a current-period expense.
Question 6
Hint
Focus on whether each cost only maintains the machine or instead improves it by increasing future benefits.
Answer D. The control system replacement should be capitalized because it increases output and extends the machine's remaining useful life, yielding future economic benefits. The $12,000 for routine cleaning, lubrication, and minor adjustments is ordinary maintenance and should be expensed as incurred. Each expenditure is evaluated on its own substance even if performed during the same shutdown.
Why not A: This is tempting since many postacquisition costs are maintenance, but expenditures that increase capacity or extend useful life meet capitalization criteria. The $90,000 replacement increases output and extends life, so it must be capitalized.
Why not B: This reverses the correct treatment: routine cleaning and lubrication do not create a separable future economic benefit and are not capitalizable as prepaid maintenance. The $90,000 replacement is the improvement that should be capitalized.
Why not C: Capitalizing solely because costs occurred together ignores substance; routine servicing that only restores the asset's condition is expensed. Only the control system replacement qualifies as a capital improvement.
Common questions
Are major repairs capitalized under US GAAP?
Capitalize a major repair if it extends useful life, increases capacity, or materially improves efficiency. A high cost alone does not qualify.
Can an overhaul be capitalized without increasing capacity?
Yes. Extending useful life provides additional future benefits even when output stays unchanged, so capitalize the qualifying overhaul and depreciate it over the revised remaining useful life.
Are equipment moving and employee training costs capitalized?
Expense employee training and routine moves of equipment already in use. Initial delivery and installation costs necessary to prepare a new asset for use are part of its cost.
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