A company's capital assets are listed on the balance sheet in the asset section as machinery, equipment, property and other resources used to produce income. After accounting for liabilities, they can be used to help determine owner's equity.
As Cornell Law School explains, they generally provide a long life but also depreciate in value over a period of time. They help the company to generate revenue, so these long-term assets are accounted for as capital accounts rather than revenue accounts.
It is also worth noting that capital assets belong to permanent accounts and not temporary accounts. That is because permanent accounts have balances that carry over from one accounting cycle to the next, while temporary accounts end at the end of each accounting period, which could be the fiscal year or end of the year.
Accounting for Capital Assets
When you sell one of these capital assets, you close the particular asset account from the ledger using a multipart journal entry. In the process, you create a separate account, the Gain/Loss on Sale of Asset account, that gets reported on the financial statements, such as the Income Statement, under the nonoperating income section.
At the end of the accounting period, however, the Gain/Loss temporary account balances also close (so it starts from zero balance during the next accounting cycle) in preparation for the post-closing trial balance.
While bookkeeping to report closing entries on the sale of a capital asset during the closing process, you will close the specific account in your ledger associated with the asset and create a new account that tracks gains and losses from asset sales.
It is also worth noting that once you have prepared all adjusting entries, such as depreciation expense, within the general ledger account, you’ll have ending balances in all accounts. The listing is known as an adjusted trial balance, and it is used to prepare closing entries. In addition, it ensures that the numbers that show up in your balance sheet accounts at the end of the year are accurate and balanced.
Determine Accumulated Depreciation
When doing financial accounting, consider depreciation as one of the expense accounts your business should have. You must close expense accounts at the end of the accounting period because they contain temporary account balances.
First, start by making a journal entry to account for the asset's accumulated depreciation up to the date of its sale. Look in the asset's Accumulated Depreciation ledger account, advises Tallahassee Community College.
Then, to calculate depreciation accrual, compare the last date on which depreciation was recorded to the date you sold the asset and multiply the number of months it's been by the asset's monthly depreciation expense (one of the temporary accounts that is closed at the end of each accounting period after being reported to the income statement) to ensure your expense accounts are up to date.
For example, if your asset depreciates $500 every month and it's been three months between the last recorded depreciation and the date you sold the asset, multiplying $500 by three equals $1,500. That number must show up in your depreciation expense accounts.
Debit Depreciation Expense and credit Accumulated Depreciation for this amount in your journal entry. Post the entry to the ledger accounts to bring these accounts current.
Debit Cash and Accumulated Depreciation
According to the University of Minnesota, you'll debit Cash in a new journal entry to record the amount of the sale of the capital asset. For example, a business that sold its company truck would enter $8,000 in the debit column as part of the journal entry to increase the Cash account.
Debit Accumulated Depreciation as another part of the journal entry to close this account. Since you sold the capital asset, the asset no longer exists, and neither does the depreciation account associated with it. To zero the account, debit the asset's Accumulated Depreciation account for the full balance recorded in its ledger account.
Determine the Gain or Loss
Determine your gain or loss on the sale of your capital asset and add the Cash and Accumulated Depreciation lines of the journal entry. Then, subtract the total from the capital asset's ledger account balance, which typically represents the amount for which you originally purchased the asset.
For instance, if the asset's Accumulated Depreciation account balance was $4,000 when you sold the asset for $8,000 in cash, adding the two equals $12,000. If the capital asset had an original cost of $10,000 (i.e., the asset's ledger account balance), this means you have a gain of $2,000.
Credit the Gain on the Sale of Assets account in the journal entry if your business gained by selling the asset. On the other hand, debit the Loss on the Sale of Assets account in the journal entry if you sold the asset at a loss.
Credit the Sold Asset's Value
Credit the sold asset's account in the journal entry. Credit it for the full amount shown in the asset's ledger account. For example, if the ledger shows the asset's value at $10,000, credit the asset account in the journal entry for $10,000.
Post the journal entry to each of the ledger accounts. For example, make a credit in the asset's ledger account and a debit in the Accumulated Depreciation ledger account. Repeat the same for the Gain/Sale of Assets and the Cash ledger accounts.
Finish Closing the Account
Close the Gain/Loss on the Sale of Assets account at the appropriate time when recording closing entries at the end of your accounting period. If you have a gain at the end of the accounting cycle, you'll debit (to close) the Gain on the Sale of Assets account and credit the Income Summary account or Retained Earnings account in the journal entry.
On the other hand, if you have a loss at the end of the accounting period, you'll credit (to close) the Loss on the Sale of Assets account and debit the Income Summary account or Retained Earnings (dividends are not included here). Post the journal entry to its respective ledger accounts.
Of course, you can always use a relevant accounting software to reduce the work, but it never hurts to know how to arrive at closing journal entries manually.
This article was written by PocketSense staff. If you have any questions, please reach out to us on our contact us page.