Capital assets are important financial assets you own, like houses, cars, investments, or even valuable items like art. Anything that a business uses for more than a year and isn't intended to be sold as part of regular operations is considered a capital asset. It resembles a sustained investment.
For example, a computer purchased by a business for its office is a capital asset. However, if the same computer is bought by another company to sell it, then it's just part of their inventory.
What is a capital asset?
An asset classified as a capital asset will likely yield financial gains well into the future. Capital assets are assets that are held by businesses and individuals for long-term gain. These assets are distinguished by their intrinsic value, their rarity in that they do not fall under the normal course of business, and their frequently higher monetary value.
Types of capital assets
1. Tangible Assets - These are real estate holdings, such as buildings, machinery and land, that have been used for more than a year to generate profits. On balance sheets, they are shown as property, plant and equipment (PP&E). Businesses may upgrade or sell these assets to fund their expansion.
2. Intangible Assets - Although the majority of capital assets are material, some are not, such as bonds, stocks, patents and trademarks. Different techniques of valuation are needed for these and must be periodically reviewed to retain value, but these assets nevertheless contribute to long-term profit.
Capital assets: To sell or hold
Property, Plant, and Equipment (PP&E) examples include real estate, structures and equipment. In worst-case situations, such as when a business files for bankruptcy or undergoes a reorganisation, the assets might be liquidated. In other situations, a company may sell its capital assets if it needs to upgrade or expand. A company might, for instance, sell one property and purchase a larger one in a better area.
Businesses frequently create their capital assets. For instance, a business might purchase land, which is a capital asset, and then utilise funds and labour to construct a structure such as a warehouse.
Taxation and recording of capital assets
Taxation and recording of capital assets require attention to tax laws and different expenses related to asset acquisition. For example, if a business spends $500,000 on machinery, then other costs such as transportation ($10,000) and installation ($7,500) are added to the asset's total cost, which comes to $517,500.
These kinds of expenditures are classified as capital expenses by the Internal Revenue Service (IRS). Capital expenses are handled differently than normal expenses, which can be subtracted from revenue in the same tax year. To comply with tax laws, they are capitalised as assets and progressively expensed over several years, as opposed to being deducted immediately.
Capital assets vs ordinary assets
An ordinary asset is anything valuable that a business or individual plans to use in the upcoming year is considered an ordinary asset. Examples of essentials for daily operations are cash, inventory, prepaid and accounts receivable.
On the other hand, capital assets are utilised over extended periods- often decided. They consist of things like land, buildings and equipment and are regarded as long-term investments. Ordinary assets are often short-term, but capital assets are shown as long-term assets on balance sheets.
Fixed asset vs capital asset
Fixed Asset - A tangible capital asset intended for usage over a longer period is referred to as a fixed asset. Typical instances include structures or property, plants and equipment (PPE), all of which experience progressive depreciation over time.
Capital Asset - This is a more general term for a range of assets that have a useful life longer than a year. Capital assets can also include non-fixed assets like investment properties like stocks and bonds owned for personal gain, even if fixed assets are included in this category. Usually, they are not purchased or sold as part of everyday commercial activities.
In general, capital assets are long-term, tangible assets with a higher value than regular assets. They are crucial to business operations and frequently yield benefits that last longer than a year. They can also be substantial investments for people, contributing significantly to personal wealth.