FIXED ASSETS 11.1 Chapter 11 FIXED ASSETS

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1 FIXED ASSETS 11.1 Chapter 11 FIXED ASSETS NARRATIVE Fixed assets are tangible and intangible property capable of being owned or controlled to produce value to the owner. They also represent an economic value of ownership that could be converted to cash. In the case of the Highway Department, the primary function of recording assets is to accumulate cost information on maintenance and construction work through the year. Eligible costs are then reported to State Aid to be reimbursed from available allotment funds. The County Highway Department Fund is classified as a special revenue fund by COFARS. The purpose of a special revenue fund is to track current operating revenues and expenditures, and to report on available spendable resources that can finance the operations of the fund in the current operating period. Since fixed assets represent long-term holdings, the Governmental Modified Accrual Basis of Accounting (explained in the GAAFR and COFARS manuals) requires the removal of fixed assets from the balance sheet of special revenue fund types. Accounting for fixed assets at the highway fund level consists of recording the cash value on an ongoing asset master listing, establishing and maintaining rental rates for cost accumulation, and depreciating those costs over time to reflect wear and establish the need for replacement. In 2013, the State Aid Task Force updated and re-established basic guidelines for asset valuation previously determined in These are considered accepted practices to be followed but are not legally required. This chapter includes: The cash value of an asset to be recorded at purchase remains consistent with GAAP. Reaffirmed that straight line depreciation to a zero salvage value is the standard practice. Accounting for betterments and changes in depreciation remain consistent with GAAP. The goal of established rental rates continues to attempt to reflect actual costs as closely as possible. Treatment of equipment rental, leases and lease buy backs are clarified. An equipment list showing groups of like equipment with a useful life range. See list at the end of the chapter. Minor equipment expensing guideline.

2 FIXED ASSETS 11.2 ACCOUNTS NEEDED (unallocated exp) - EOY-ADJUST TO EQUAL COST VS RENTAL (equipment exp) - EOY-ADJUST TO EQUAL COST VS RENTAL (county exp) - CAPITAL OUTLAY - EQUIPMENT PURCHASES (county exp) - CAPITAL OUTLAY - LAND PURCHASES (county exp) - CAPITAL OUTLAY - BUILDING PURCHASES (county exp) - CAPITAL OUTLAY - OTHER FIXED ASSET PURCHASES (county exp) - CAPITAL IMPROVEMENTS - EQUIPMENT (county exp) - CAPITAL IMPROVEMENTS - LAND (county exp) - CAPITAL IMPROVEMENTS - BUILDINGS (county exp) - CAPITAL IMPROVEMENTS - OTHER FIXED ASSETS (revenue) - REVENUE FROM SALE OF EQUIPMENT (revenue) - REVENUE FROM SALE OF LAND (revenue) - REVENUE FROM SALE OF BUILDINGS (revenue) - REVENUE FROM SALE OF OTHER FIXED ASSETS (asset) - CASH (asset) - ACCOUNTS RECEIVABLE (liability) - ACCOUNTS PAYABLE ASSET LISTING The listing of assets and their useful lives in this chapter is intended to be a guideline for counties, it is not required. The estimated useful lives stated by each piece of equipment or equipment type are based on the varied experience of counties, manufacturer s recommendations, and other standard tables of asset lives. That said, if a county knows they replace a plow truck every eight years, the useful life is eight years regardless of the life stated on the asset listing. MINOR EQUIPMENT Counties will have several assets that have values below the county s threshold for depreciation, and even values below what is cost effective to depreciate. Assets that fall into this category can be expensed in the year purchased. However, if the asset is used in an activity that can be submitted to State Aid for reimbursement, the asset should be listed on the master asset listing and a rental rate assigned. The master asset listing can include every asset purchased by the department whether expensed or depreciated, or it can include only those assets that the department needs for accumulating costs. This master asset listing is NOT the insurance asset listing, that listing should be a more complete list of assets with the intent to document the existence in the event of a loss. It is important to understand the difference. It is important to determine who maintains both lists.

3 FIXED ASSETS 11.3 PURCHASES According to GAAP, equipment acquisition costs for accounting purposes include the full cost required to put the asset into service. All cash or trade discounts allowed at purchase would be deducted from the booked value of the unit. If there is a remaining book value, this should be added to the new unit. Also, any costs to get the unit ready for service may be added to the unit cost. The formula for calculating equipment value for depreciation purposes is: Gross unit price including delivery, etc. PLUS: MINUS: PLUS: EQUALS: Cost to get the unit ready for service Discounts, interest and trade in value Remaining book value of unit traded Value of the new unit EXAMPLE 1: NEW UNIT PURCHASED WITH A DISCOUNT DELIVERED SERVICE READY Unit Selling Price including delivery, etc. $ 140, Vendor Discount/Trade In ($ 20,000.00) Net Booked Unit Cost $120, The accounting entries would be: DR Fixed Assets (New Unit) 120, CR Accounts Payable/Cash 120, EXAMPLE 2: NEW UNIT PURCHASED WITH TRADE-IN GAIN $5, LABOR & EQUIPMENT BEFORE SERVICE READY Unit Selling Price including delivery, etc. $ 140, Vendor Discount/Trade In ($ 50,000.00) Net Payable for new unit $ 90, Cost to get ready for service/add-ons $ 5, Remaining book value of old unit $ 20, Net Booked Unit Cost $ 115,000.00

4 FIXED ASSETS 11.4 EXAMPLE 3: The accounting entries would be: DR Fixed Assets (New Unit) 115, CR Accounts Payable/Cash 90, CR Salaries Payable/Accounts 5, Payable/Cash CR Fixed Assets (Old Unit) 20, NEW UNIT PURCHASED WITH TRADE-IN LOSS $5, LABOR & EQUIPMENT BEFORE SERVICE READY Unit Selling Price including delivery, etc. $ 140, Vendor Discount/Trade In ($ 50,000.00) Net Payable for new unit $ 90, Cost to get ready for service/add-ons $ 5, Remaining book value of old unit $ 60, Net Booked Unit Cost $ 155, The accounting entries would be: DR Fixed Assets (New Unit) 155, CR Accounts Payable/Cash 90, CR Salaries Payable/Accounts 5, Payable/Cash CR Fixed Assets (Old Unit) 60, State Aid Finance has a worksheet to assist in fixed asset calculations, click on the link below: Sales Tax: Be aware that sales and use tax may apply to all purchases. The tax applied to the initial unit selling price, or after the allowance for any discount or trade in, should be consistent with current tax laws. Be sure to consult the Minnesota Sales and Use Tax webpage for current information. DEPRECIATION The straight line depreciation method using the equipment s useful life with zero salvage value is generally used to provide consistency in equipment costing on a statewide basis. The calculation uses the booked value of the new unit.

5 FIXED ASSETS 11.5 BETTERMENTS Equipment betterments are defined as any modification or extraordinary major repair which changes or alters a unit's original function and/or extends the life of the unit. In both situations, the costs should be capitalized and depreciated over the unit's remaining life. These costs should be identified as a county expense and should not be included in the costs added for the current year. Major repairs which occur early and do not extend the unit's life shall be included as part of cost added and be expensed in the year of occurrence. Betterment costs are compiled and added to the remaining book value. Depreciation is recalculated based on the new book value and remaining life using the initial formula. Book Value before betterment $ 150, Value of betterment $ 20, Book Value After Betterment $ 170, Remaining years of life original life plus any increase 8 New Annual Depreciation 170,000 / 8 $ 21, RENTAL RATES Equipment used to maintain or construct the roads should be recorded on the asset master listing and assigned a Rental Rate. Rental rates are assigned to each unit based on a formula that considers the annual depreciation and all the costs added (parts, fuels, oils, labor, etc.) during the year compared to the total rental revenue earned by that unit or similar units. The goal is to estimate a rental rate that will come as close to the actual cost as possible. These rates should be reviewed and changed as needed, at least annually, to maintain records that accurately reflect the costs being charged to the roads. The rates are used as the unit's cost basis whenever used through the year and measured either by the hour or mile depending on the county s preference or equipment type. Some counties choose to calculate the best or average rate for a group of like items, like tandem trucks, and apply that rate to all tandems rather than a different rate per truck. Rental Rate Calculation: Cost Added + Depreciation Expense Current New X Rental = Rental Rental Earned Rate Rate The costs that have been accumulated on the roads through rental rates over the year need to be adjusted to reflect the actual costs to operate the units. Most counties have a computerized accounting program that computes and posts this adjustment. Essentially, if rental rates are too high the costs charged to the roads must be reduced, if rental rates are too low the costs charged are increased. This is referred to as the Adjustment to Equalize Depreciation and should not impact the balance sheet. Equipment rental rates must be as close to actual costs as possible for road system reporting purposes and State Aid maintenance reimbursement. The goal is to reduce the Adjustment to Equalize Depreciation at year end as much as possible. In times when major costs are fluctuating widely, it may be better to adjust the rental rates more often than once a year.

6 FIXED ASSETS 11.6 When a county does work for others a different billing rate may be applied, either higher or lower than the county rental rate used for its road systems. That billing rate should be documented and can include the operator's wages and fringes, equipment cost rate and appropriate county overhead. EQUIPMENT RENTAL, LEASE & LEASE BACK Counties often need a piece of equipment but do not have the capital available to purchase it, or only need the equipment for a limited time so purchasing is not cost effective. In these cases it may rent or lease the equipment. These units have some special considerations. If the lease is a long term lease to own, the unit will be entered into the fixed asset system as if it were purchased and the lease payments accounted for as if the unit was purchased on installment. (See section on capital leases) If the equipment is rented, or a short term lease, charging use and costs to the unit should be considered. The unit can be given a number on the asset listing to allow charges to the unit as well as usage. The unit should not be given a value because it is not truly an owned asset. The usage cost of the unit can be challenging. In cases where the unit is being used for a specific purpose or project, it may be practical to allocate the cost of the monthly rent or lease payment to that purpose or project and not to an asset number. In cases where this is not determinable, a rental rate can be established and charged for the usage. This will allow costs to be charged to the correct areas. In this case, the year-end adjustment to equalize depreciation will reduce the rental earned because there will be no depreciation to offset the revenue. The result will be that final maintenance costs reported to State Aid will be correctly reduced, but the costs throughout the year will reflect the usage costs for the unit. Vendors sometimes offer leases at rates far below the market rate for various reasons, these are called deep discount leases. Accounting for this type of lease can be done in the same way as a regular lease. Again at year end, the adjustment to equalize depreciation will provide the correct maintenance cost for the year, and the costs throughout the year will reflect the set rental rate. If the county rents equipment often, it may be beneficial to set up a single unit number for all the units titled rental equipment to which consumables may be charged. The unit would not have a rental rate because a rental fee is paid, but the time it s used can still be charged to provide a tracking of where it is used. EQUIPMENT RENTALS Rental is generally used when there is no long term need for the equipment. It may be needed for a season or a project and then sit idle. In a rental agreement, the assumption of ownership remains with the rental company as do any major repairs or malfunctions. The county is usually only responsible for the consumables required to operate the unit such as fuels. Depending on the equipment and the county s policy, its liability insurance may need to be notified. The rental fee is an expense on the highway books and consumables are charged out to the rental unit, project, or road. Accounting Entry Record monthly rental rate ($1,000 monthly rent) Debit Account: (expense) Credit Account: (asset) Equipment Rental Expense Cash

7 FIXED ASSETS 11.7 EQUIPMENT LEASES When a county needs equipment for a long period or permanently, it may lease rather than purchase. Leasing allows the county to try equipment to see if it is what s needed, and it allows capital to be retained and used for other things. Liability / property loss insurance, regardless of the lease option, should be verified. Leases can have one of three outcomes and each will be accounted for differently. 1. Operating Lease (Straight Lease) The county leases a unit for a defined period of time then is returned. 2. Capital Lease (Lease to own) The county knows when the lease is signed that it will own the unit when the last payment is made. 3. Lease with Option The lease is essentially an operating lease, but there is a clause allowing the county to purchase the unit at or near the end of the lease (generally at a discounted amount). OPERATING LEASE (STRAIGHT LEASE) An operating lease is very similar to a rental agreement but is generally longer in term, less flexible, and the parties to the agreement are committed for the entire term of the lease. No long term liability is booked. Even though the county is obligated to pay, the lease payment would be expensed through the life of the lease. The unit is not owned by the county, but it may be listed on the fixed asset listing. Accounting Entry Record monthly lease ($5,000 monthly rent) Debit Account: (expense) Credit Account: (asset) Equipment Rental Expense Cash CAPITAL LEASE (LEASE TO OWN) Lease to own is very similar to actually financing an equipment unit, the ownership essentially transfers when the lease is signed. The unit should be added to the fixed asset listing at the value of the unit as calculated earlier in this chapter and a rental rate established. Accounting Entry Record asset and long term liability as book value ($150,000) Debit Account: (asset) Credit Account: (liability) Fixed Assets New Unit Long Term Lease Payable Interest paid on annual lease payments are NOT considered part of the purchase price, but is considered the cost of retaining the capital that would have been paid at full purchase and is expensed annually. The annual lease payments would decrease the long term liability. Lease Principal $ 150, Lease Term 5 years Annual Lease Principal Payment $ 30, Interest Due Year 1 (varies annually) $ 4,500.00

8 FIXED ASSETS 11.8 Accounting Entry Record current liability equal to the annual lease amount Debit Account: (liability) Credit Account: (liability) Long Term Lease Payable Current Lease Payable Accounting Entry Record payment of current liability Debit Account: (liability) (expense) Credit Account: (asset) Current Lease Payable Interest Expense Cash LEASE WITH OPTION A lease with an Option to Buy must meet certain criteria at the beginning of the lease to determine the accounting of the asset and the lease liability. The first criteria is ownership. If ownership transfers upon execution of the lease, move on to the next criteria; if not, it is an operating lease. The second criteria is how the option is presented. If the option is contingent upon something at the end of the lease, it is treated as if the option does not exist and is an operating lease. If the option to buy is certain and determinable, it becomes the final payment of the capital lease, but only if it meets one or both of the following points. If you have a capital lease based on the criteria thus far, determination must be made if one or both of the following are true. If so, the lease is a capital lease. If neither are true, it is an operating lease regardless. 1. The term of the lease is greater than or equal to 75% of the unit s average life. AND/OR 2. The present value of the lease payments, calculated using the county s borrowing rate, and including the purchase option, is greater than or equal to 90% of the book value of the unit. The following flow chart helps to determine the lease type. CAPITAL VS. OPERATING LEASE TEST: Term => 75% Trans Owner YE S No No No Buyout known YE S Term => 75% YE S Pymts =>90% YE S No O p e r a t i n g Capital Lease

9 FIXED ASSETS 11.9 LEASE CONSIDERATIONS Often leases contain executor costs about maintenance costs, taxes, or insurance fees charged to the unit. When these are included as a part of the regular payment, the payment should be reduced by this amount and the executor costs should be expensed. Tax implications always apply to leases in some way. Verify the sales tax liability on the annual principal lease payment. The unit should be depreciated through the term of a capital lease in the same manner other equipment is depreciated. Use caution not to depreciate the book value to a value less than the liability value remaining on the books. BUY BACKS In a buy back situation, an option is available for the county to sell the equipment back to the vendor at the end of a certain period for a specified sum. EXAMPLE 1: BUY BACK WITH TRADE IN GAIN Unit Selling Price including delivery, etc. $ 140, Trade In Amount $ 50, Useful Life 10 years Buy Back in 5 Years $ 80, Remaining Book Value $ 20, Book value of new asset: Unit Selling Price including delivery, etc. $ 140, Remaining book value of old unit $ 20, Vendor Trade Allowance for old unit ($ 50,00.00) Net Booked Unit Cost $ 110, Depreciation Calculation: (First 5 Years) Net Booked Unit Cost $ 110, Buy Back Value in 5 Years $ 80, $ 30, Annual Depreciation for First 5 years $ 6, Depreciation Calculation: ( Last 5 Years ~ Asset NOT sold back after 5 years) Net Booked Unit Cost Year 6 $ 80, Divide by remaining life 5 Annual Depreciation for 5 years $ 16,000.00

10 FIXED ASSETS PRESENTATION IN ANNUAL REPORT The equipment account presentation in the annual report should include a summary of activity or changes in the account value during the year. The summary should identify: BEGINNING BALANCE BETTERMENTS AND MAJOR REPAIRS NEW ACQUISITIONS SALES, TRADES, ETC. SCRAPPED ENDING VALUE OF CAPITAL ASSETS

11 FIXED ASSETS USEFUL LIFE RECOMMENDED GUIDELINES SUMMARY This listing, a condensed version of the more specific schedule, reflects a range of estimated life used by several counties for depreciation purposes. It is not intended to be an all-inclusive list of specific equipment. Your county's schedule should reflect not only the purchase price but also consideration of the rental hours and costs added for these particular types of equipment so that expenses of such are recouped within the depreciation time period. The determination of estimated life is based upon these tables and the County's own experience and professional opinion. Equipment Types Estimated Life (Yrs) Attachments Mounted and Pulled 5 15 ATVs All Classes 5 8 Autos Vans 5 8 * Bituminous Maintenance Equipment 5 10 Compressors 7 10 * Concrete Maintenance Equipment 5 10 Conveyors Stackers 5 10 Forklifts Skidsteers 5 10 Generators Engines 5 10 Heavy Equipment (includes specialized equipment for specific road maintenance procedures) Hoist / Lift not attached to building or unit 5 10 Pickups 5 8 Plant Crushing, Screening, Washing Salt Brine Systems 8 10 Small Maintenance Tools 3 5 (Saws, Jack Hammers, etc. often holding a number just to allow cost recovery) Steamers 5 8 Tractors Trailers, large 8 15 Trailers Pup, Belly Dump, Flatbeds 7 12 Trailers, small 5 10 Trucks 7 12 (Tandems and single axle trucks over 1 Ton) * Turf Establishment & Maintenance Equipment 5 10 Water Tanks 6 8 Wood Chippers 8 10 * Includes specialized equipment not large enough to be considered Heavy Equipment Many small equipment items that do not meet the capitalization threshold for a county are listed on the asset list for the purpose of recouping maintenance funds. These items can be expensed in the year purchased. Broad categories have been used in the list to allow the list flexibility and longevity. The county can use the categories and life spans that best fit their situation.