Legal ownership is not the only criterion for classifying something in accounting terms as an asset; for instance, someone buys an item on hire purchase but does not become the owner of that item until the full purchase price has been paid. Nevertheless, the item is still recorded as an asset together with the corresponding obligation. Similarly, although a lessee never becomes the owner of the item leased, he may record that item as an asset providing that the corresponding obligation is also shown.
In an accounting sense ‘ownership’ usually implies ‘legal ownership’, but there are exceptions; an interest in a tangible or intangible object, or a right to value, combined with the right of possession and the right of use also constitutes an asset for the interested party.
If a person is the owner of the value or economic benefit arising from a specific source, then that source is an asset for the person concerned and he is the economic owner, although he may not be the legal owner. In such case accounting substance should take precedence over legal form in ascertaining the most suitable accounting procedure.
The chief function of accounting is to determine profits. The generation of income, however, requires capital investment in order to provide the facilities needed by an enterprise to operate continuously and indefinitely.
Historically, expenses that are incurred by not allocated as a cost during a period are deferred costs. From an accounting point of view, they represent an asset. If these costs can be recovered within a year, they are current assets and if they are recoverable over a longer period they are fixed assets.
This classification of assets is essential for determining profits and also to show the enterprise’s position at a specific time, in other words, the composition of its assets and the nature of its obligations. The purpose of acquiring fixed assets is to use them to generate income. They are not acquired for the purpose of resale. The fixed assets must produce goods that generate income, or in other words, they must be used in the business’ operations.
The largest category of fixed assets in accounting terms is tangible, such as buildings, machinery and vehicles. Land that is not subject to depreciation or depletion through use, since it is never ‘consumed’ is also considered as a tangible fixed asset. When evaluating buildings, machinery and vehicles these assets are subject to depreciation that must be apportioned annually as a cost. Natural resources that, through use, are also subject to depletion, such as mines, oil and gas wells and plantations are also considered as tangible fixed assets.
Another group of assets is intangible fixed assets such as patents, copyrights, trademarks’ and goodwill. Deferred expenses and debits such as the preliminary expenses of a company are also considered in accounting terms as intangible fixed assets.
Finally, the last to be considered as an asset are external assets also known as investments. These include fixed period investments earning a fixed income, investments in ordinary shares of other companies, sundry investments such as pension funds, housing schemes and insurance policies and, lastly, investment properties.