The write down of assets has long been a controversial topic in accounting and finance. Failure to recognize asset impairment and to write down the value in a timely manner has resulted in numerous law suites. Companies have taken write downs in the billions of dollars because they failed to recognize and/or deal with asset impairment in a timely manner. These huge write downs impact the financial statements all at once instead of being spread over the period when they occur. The proper write down of impaired assets is necessary for financial statements to be fairly stated.
Review events and circumstances that have occurred during the accounting period to determine if impairment tests are needed for any of the company's assets. Such events would include a significant decline of the market value of the asset; a change in the way the asset is used; expected loss for continued use of the assets; a change in business conditions and/or legal issues; and a greater cost of self-constructed assets than originally estimated. If any of these circumstances exist, an impairment test is needed.
Perform impairment test(s) as required. The test consists of comparing the estimated undiscounted future cash flows from the assets to its current book value. If the undiscounted cash flows are greater than its book value, then the asset is deemed not impaired, and no entries are made in the accounts. The asset is deemed impaired, and a write down is required when the undisclosed cash flows are less then the book value of the asset.
Write down the book value of impaired assets to equal the present value of the expected future cash flows by making the appropriate journal entry to the general ledger. Assume the equipment was $1,000, and accumulated depreciation is $400, and the expected future cash flows are $400. The impairment loss is calculated as follows: $1000 - $400 = $600, which is the current book value, then $600 -$400 = $200. The impairment loss is $200, the journal entry to write down the asset would be as follows:
Debit impairment loss, $200 Debit accumulated depreciation, $400 Debit equipment, $400 Credit equipment, $1,000
The book value of the equipment is now $400 instead of $600.