Should computer software be classified as an intangible asset or part of property, plant and equipment?

By Chizoba Morah AAA
A:

In accounting terms, an intangible asset is something of value that is not of physical nature. On the other hand, property, plant and equipment (PPE) are just as the name suggests. PPE refers to physical long-term assets, such equipment that is vital to a company's operations and has a definite physical component. Under most circumstances, computer software is classified as an intangible asset because of its non physical nature. However, accounting rules state that there are certain exceptions that permit the classification of computer software as Property Plant and Equipment (PPE).

Some of the statements that have rules concerning the classification of software include:

  • Financial Accounting Standards Advisory Board (FASAB) Statement of Federal Financial Accounting Standards (SFFAS) No. 10, Accounting for Internal Use Software.
  • Governmental Accounting Standards Board (GASB) Statement No. 42, Accounting of Costs of Computer Software Developed or Obtained for Internal Use.

There are two general rules that are applied to determine whether or not software must be capitalized as PPE or expensed. If software meets the criteria of property, plant and equipment, meaning it will be used in providing goods and services, then it can be classified as PPE. For example, a computer company would capitalize computer software as PPE because it is used in a major part of the company's operations that is intended to provide profits. However, software that provides a means for a warehouse to efficiently perform inventory management duties would not be incorporated as PPE.

The second capitalization criterion is based on cost. If an individual copy of the software package costs more than $100,000 it is classified in the PPE category. The software would then be amortized, like other assets, over its useful life. However, as a general rule, if two software copies are purchased for $150,000 they are accounted for as intangible assets.

If the two preceding conditions are not met, then the software, whether purchased or created internally would be considered an intangible asset. The basic nature of the business and the stage of software development also play a significant role in the classification decision.

This question was answered by Chizoba Morah.

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