September 2006 Q17

Hi

Good question - these are pretty subtle points. It's perhaps worth me mentioning in passing that it's possible to score well on this question without needing these ideas, sticking instead to more familiar ideas around depreciation (choice of method, assessment of useful life, estimate of residual value) and revaluation (judgement required in the absence of a current objective value).

During the lifetime of a non-current, tangible asset (eg a property) the owner may spend money on maintaining, improving or altering the asset. The owner will then have to decide when producing the accounts if this expenditure represents an 'addition' to the purchase price (the costs are capitalised) or just a maintenance cost (the costs are an expense). In some cases, even the interest paid on borrowing to finance an asset may be capitalised rather than expensed.

Sometimes this distinction might be clear, for example adding an extension to a property might be a cost that can be capitalised, whereas repairing a burst water pipe is a maintenance cost. In other cases, it will be less clear-cut and so judgement and estimates might be needed to split any expenditure between the two types.

Hope this helps
Lynn