Question

E10-5 (Treatment of Various Costs) Ben Sisko Supply Company, anewly formed corporation, incurred
the following expenditures related to Land, to Buildings, and toMachinery and Equipment.
Abstract company’s fee for title search $ 520
Architect’s fees 3,170
Cash paid for land and dilapidated building thereon 87,000
Removal of old building $20,000
Less: Salvage 5,500 14,500
Interest on short-term loans during construction 7,400
Excavation before construction for basement 19,000
Machinery purchased (subject to 2% cash discount, which was nottaken) 55,000
Freight on machinery purchased 1,340
Storage charges on machinery, necessitated by noncompletion of
building when machinery was delivered 2,180
New building constructed (building construction took 6 monthsfrom
date of purchase of land and old building) 485,000
Assessment by city for drainage project 1,600
Hauling charges for delivery of machinery from storage to newbuilding 620
Installation of machinery 2,000
Trees, shrubs, and other landscaping after completion ofbuilding
(permanent in nature) 5,400

Instructions
Determine the amounts that should be debited to Land, to Buildings,and to Machinery and Equipment.
Assume the benefits of capitalizing interest during constructionexceed the cost of implementation. Indicate how any costs notdebited to these accounts should be recorded.

Answer 1

Concepts and reason

Fixed assets are the assets that are bought and intended to be used by a company for long-term period and are not quickly converted into cash. Fixed assets include land and building, plant and machinery, equipment etc.

The costs assigned to fixed assets also include the costs to bring the assets to their present location and condition intended by the management. Such costs forms part of the costs of the fixed assets and are recorded in the books of account.

Fundamentals

The costs assigned to a fixed asset include costs including:

• Purchase price and taxes relating to purchase.

• Import duties

• Handling charges

• Borrowing cost up to the date at which asset is ready for use

• Site preparations cost

• Consultancy fees for set up

• Installation cost

The costs relating to different categories of fixed assets are added to the cost of assets of the respective fixed assets. Asset replacement costs also forms part of asset as it increases the economic life of an asset which in turn increases the efficiency and productivity of the asset.

Provide the explanation regarding the treatment of various costs, as follows:

1.Abstract company’s fee for title search is the fee charged to establish title to a property, that is, the buyer of the property is assured that he is getting a legal title to the property and no one in future can claim the title to such property. Hence, it becomes a pre-requisite expense for a buyer in relation to a property. It is debited to the land being acquired.

2.Architect’s fee is the cost incurred to make the building in usable condition for the purchaser. Also, architect’s fee is directly related to development of building. Hence, it is debited to building.

3.Cash paid for land and old building is the purchase price paid to acquire the land and old building. It forms part of the cost of land since it is the basic amount that the buyer pays to acquire land and old building. Hence, it is debited to land.

4.Costs associated with removal of old building is the cost necessary to bring new building in to present and usable condition and abandon the old building. Any amount received as a scrap reduces the costs being incurred. Hence, costs related to removal of old building is debited with $14,500, that is $20,000 less $5,500 realized as salvage value.

5.Interest cost incurred during construction of building is the cost of short-term borrowings used to finance the cost of construction of the building. Hence, it forms a part of the cost of building and is debited with building.

6.Excavation done before construction of basement is the cost incurred on digging the land deep for constructing basement. Such an act is done to lay the foundation of the building and is a cost directly related with the construction of the building. Hence, it is debited with building.

7.Cash discount is the discount offered on cash payment by the seller to the buyer. If a buyer does not avail a cash discount, the asset is recorded net of discount and the cash discount foregone is a miscellaneous cost for him. Hence, machinery purchased is debited with net of discount (2%) amount of $53,900 and discount of $1,100 is recorded as a miscellaneous cost in the books of account.

8.Freight cost is a cost incurred to bring the machinery to its place of use and place it into operation. Hence, freight paid on machinery purchased is a debited with the cost paid for the asset.

9.Storage charges on machinery, necessitated by non-completion of building when machinery was delivered is a cost not related either with purchase, reconditioning, alteration or bringing any asset to its intended place of use. It is a cost required to be incurred for non-performance of other work. Hence, it is an expense and is not to be debited with any asset.

10.Construction cost of building comprising costs like direct materials, labor is an integral part of the cost of the building. These are direct costs associated with the construction of building and hence debited to the building.

11.Assessment by city for drainage project is required to assess the drainage system on the land acquired for construction etc. Hence, it gets debited to the cost of land as it is related to the acquisition of land and the activities that are proposed to be done on land thereto.

12.Hauling charges for delivery of machinery is debited with machinery at the initial stage, that is, from bringing it from seller up to the place of storage. Any subsequent movements are charged as expense in the books. Hence, hauling charges incurred subsequently are expensed off.

13.Installation cost of machinery is incurred to make the machinery ready for use as intended by the management. Installation cost becomes a pre-requisite for machinery to work. Hence, installation cost of machinery is debited to machinery.

14.Certain land improvements are carried out to make the land ready for its intended use. The land improvements include the landscaping, growing of trees which makes land usable. Hence, these costs are debited along with land and recognized as assets in the books of account.

Ans:

Various costs to be debited to land, to buildings, and to machinery and equipment are as follows: