Question

What accounting treatment is normally given to the following items in accounting for plant assets?(a) Additions.(b) Major repairs.(c) Improvements and replacements. How would the financial statements be affected if these costs are misclassified?

Answer 1

Answer:

Expenditure needs to be classified properly into capital & revenue expenditure & accordingly need to record the transaction, the wrong classification of revenue & capital expenditure affects the profitability of the organization as well.

Accounting treatment is normally given to the following items are as follows:

• Additions: Additions result in adding new assets or improving the existing assets which increase the life of the original assets or productivity increases need to be capitalized with those assets.
• Major Repairs: major repairs result in increasing the productivity beyond the current capacity or increase in the useful life of the assets is a capital expenditure & hence capitalize the same with the assets for which major repairs have been done.
• Improvements and replacements: Improvement & replacements result in increasing the productivity beyond the current capacity or increase in the useful life of the assets is a capital expenditure & need to be capitalized, however if it does not result into increase in useful life or productivity or if there are a minor improvement or replacement then it should e treated as revenue expenditure & transferred to profit & loss account.

If this expenditure will not be classified as capital & revenue expenditure in such a situation financial statements do not provide a true & fair view. It also affects the income statement & balance sheet of the organization. Its affects the expenditure, assets & depreciation accounts & which result in untrue picture of financial statement to the stakeholders.