To capitalize an asset means to record a cost as an asset on the balance sheet, rather than expensing it in full against earnings in the current accounting period. This accounting method allows companies to spread the expense of their assets over the same time period that those assets are generating revenue for the company. Capitalization is used to recognize a cash outlay as an asset on the balance sheet, rather than an expense on the income statement. The cost of fixed assets, such as computers, cars, and office buildings, are recorded on the general ledger as the historical cost of the asset and not expensed in full against earnings in the current accounting period. The following are the criteria that must be met to capitalize an expenditure:
- The item is recorded as an asset, rather than an expense.
- The expenditure will appear in the balance sheet, rather than the income statement.
- The asset exceeds the capitalization limit set by the company.
- The asset has a useful life of at least one year.
Capitalization is a way for companies to report purchases that reflects the long-term financial benefits of the asset. Companies set a capitalization limit, below which expenditures are deemed too immaterial to capitalize, as well as to maintain in the accounting records for a long period of time. A common capitalization limit is $1,000.
