QuickBooks 2022 All-in-One For Dummies. Stephen L. Nelson
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In the old days (by the old days, I mean a few decades ago), businesses compared their accounting records with the physical counts of inventory items only once a year. In fact, the annual inventory physical count was a painful ritual that many distributors and retailers went through. These days, I think, most businesses have found that it works much better to stage physical inventory counts throughout the year. This approach, called cycle counting, means that you’re probably comparing your accounting records with physical counts for your most valuable items several times a year. For your moderately valuable items, you’re probably comparing your inventory accounting records with physical counts once or twice a year. With your least valuable inventory items, you probably compare inventory records with physical counts only irregularly, and you may accept a degree of imprecision. Rather than count screws in some bin, for example, you may weigh the bin and then make an estimate of the screw count. In any case, you want some system that allows you to compare your accounting records with your physical counts. Inventory shrinkage and inventory obsolescence represent real costs of doing business that won’t get recorded in your accounting records in any other way.
Accounting for Fixed Assets
Fixed assets are those items that you can’t immediately count as expenses when purchased. Fixed assets include such things as vehicles, furniture, equipment, and so forth. These assets are tricky for two reasons: Typically, you must depreciate them (more on that in a bit), and you need to record their disposal at some point in the future for either a gain or a loss.
Purchasing a fixed asset
Accounting for the purchase of a fixed asset is pretty straightforward. Table 3-10 shows how a fixed-asset purchase typically looks.
TABLE 3-10 Journal Entry 10: Recording Fixed-Asset Purchase
| Account | Debit | Credit |
|---|---|---|
| Delivery truck | $12,000 | |
| Cash | $12,000 |
If you purchase a $12,000 delivery truck with cash, for example, the journal entry that you use to record this purchase debits “Delivery truck” for $12,000 and credits “Cash” for $12,000.
Within QuickBooks, this journal entry gets made when you write the check to pay for the purchase. The one thing that you absolutely must do is set up a fixed-asset account for the specific asset. In other words, you don’t want to debit a general catch-all fixed-asset account. If you buy a delivery truck, you set up a fixed-asset account for that specific delivery truck. If you buy a computer system, you set up a fixed-asset account for that particular computer system. In fact, the general rule is that any fixed asset that you buy individually or dispose of later individually needs its own asset account. The reason is that if you don’t have individual fixed-asset accounts, the job of calculating gains and losses on the disposal of the fixed asset turns into a Herculean task later.
Dealing with depreciation
Depreciation is an accounting gimmick to recognize the expense of using a fixed asset over a period of time. Although you may not be all that familiar with the mechanics of depreciation, you probably do understand the logic. For the sake of illustration, suppose that you bought a $12,000 delivery truck. Also suppose that because you know how to do your own repair work and take excellent care of your vehicles, you’ll be able to use this truck for ten years. Further suppose that at the end of the ten years, the truck will have a $2,000 salvage value (your best guess). Depreciation says that if you buy something for $12,000 and later sell it for $2,000, that decrease in value can be apportioned to expense. In this case, the $10,000 decrease in value is counted as expense over ten years. That expense is depreciation.
Accountants and tax accounting laws use a variety of methods to apportion the cost of using an asset over the years in which it’s used. A common method is called straight-line depreciation; it divides the decrease in value by the number of years that an asset is used. An asset that decreases $10,000 over ten years, for example, produces $1,000 a year of depreciation expense.
To record depreciation, you use a journal entry like the one shown in Table 3-11.
TABLE 3-11 Journal Entry 11: Recording Fixed Asset Depreciation
| Account | Debit | Credit |
|---|---|---|
| Depreciation expense | $1,000 | |
| Acc. dep. — delivery truck | $1,000 |
CHOOSING A DEPRECIATION METHOD
Straight-line depreciation, which I illustrate here, makes for a good example in a book. It’s easy to understand and to illustrate. Most accountants and business owners use more-complicated depreciation methods, however, for a variety of reasons. One of the most important reasons is that tax accounting laws generally allow for depreciation methods that accelerate tax deductions.
You can figure out the annual depreciation according to one of these tax-based depreciation methods with your tax adviser’s help. Different rules apply to different types of assets. The rules that you use for a particular asset depend on when you originally purchased the asset. I recommend that you use the same asset depreciation method in QuickBooks that you use for your tax accounting. Depreciation is complicated enough as it is. You don’t want to be using one method of depreciation within QuickBooks for your own internal financial management and another method for your tax returns.
While I’m on the subject of depreciation, I should also mention that many small firms have the option of using something called a Section 179 election. (Section 179 is a chunk of law in the Internal Revenue Code.) A Section 179 election allows many businesses to immediately depreciate 100 percent of the cost of many of their fixed assets at the time of purchase. Despite the fact that a Section 179 election means that you can immediately write off the purchase of, for example, a $24,000 delivery truck at the time of purchase, you still want to treat fixed assets expensed via a Section 179 election the way I describe here. The difference is that you’ll immediately show the asset as fully depreciated — which means depreciated down to its salvage value or down to zero.
Journal Entry 11 debits an expense account called “Depreciation expense” for $1,000. Journal Entry 11 also credits a contra-asset account called “Acc. dep. — delivery truck” for $1,000. (By convention, because the phrase accumulated depreciation is so long, accountants and bookkeepers usually abbreviate it as acc. dep.) Note also that you need specific individual accumulated depreciation contra-asset accounts for each specific individual fixed asset account. You don’t want to lump all your accumulated depreciation together into a single catch-all account. Down that way lie madness and ruin.
Disposing of a fixed asset
The final wrinkle of fixed-asset accounting concerns disposal of a fixed