Small Business Asset Capitalization Policy
Capitalization refers to the accounting process used to record expenditures as assets on a company's books. Since assets are used to generate income, their acquisition, valuation and classification is of great importance. For this reason, small-business owners and managers should establish a capitalization policy that contains guidelines on how assets are accurately valued, reported and documented. A capitalization policy should be made available to all employees with the authority to initiate or approve capital purchases.
A business's capitalization policy defines its capital assets and provides a description of asset classes such as land, buildings, machinery and equipment. The policy provides employees with guidelines on expenditures that qualify for capitalization and those that should be expensed instead. For example, a small-business capitalization policy may state that repair costs that do not increase the value of a property are expensed, while those that increase a property's value are capitalized.
A capitalization policy includes a capitalization threshold, a dollar amount over which expenditures are treated as assets and not expensed on a corporation's books. For example, a small-business capitalization policy may require that all expenditures over $500 are capitalized. This means that if a copier was purchased for $320, the copier is expensed, and therefore reduces income. If instead the copier had cost $680, it would be capitalized, meaning it's recorded as an asset and not an expense on the company's books.
A capitalization policy will indicate the estimated "useful life" each asset should have to qualify for capitalization. The useful life is the estimated time period the asset is expected to provide benefits to the corporation, determined by management and business owners. For example, a small-business capitalization policy may state that only assets with an estimated useful life of two years or more are capitalized. If a piece of equipment is purchased with an estimated useful life of 18 months, the equipment is not capitalized, but instead expensed on the corporation's books in the month of purchase.
Details on how assets are treated from an accounting perspective are included in a capitalization policy. A policy may specify the depreciation method to use for a certain asset class. For example, a small-business capitalization policy may specify that all assets assigned to a particular asset class -- class A -- are depreciated according to the straight-line method of depreciation, while those assigned to class B are depreciated according to the declining-balance method.