How do other companies handle capital purchases as they relate to trade-ins and making payments?

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If you are looking at trade-ins for purchases such as company autos, equipment or furniture, your question depends on the type of assets exchanged, whether they are similar or dissimilar in their function, whether a cash portion is paid and if a loss or a gain is realized. If you are trading in a similar, non-monetary asset, which by definition means "assets of the same general type, or that perform the same function, or are employed in the same line of business" and it generates a loss on the trade-in, then you are generally required to record the loss on the transaction immediately. For example, let's say you are trading in similar widget A ("old A") for a new widget A ("new A"). Old A costs $10K and has a book value of $5K (original cost of $10K less $5K of accumulated depreciation) and it has a fair value of $4K. Old A is traded in for New A which has a list price of $13K and you negotiated a trade-in allowance of $6K. 

This results in the following transaction values:

  • List price: $13K
  • Trade-in value:($6K)
  • Cash paid: $7K
  • Fair value Old A: $4K
  • Cost of New A: $11K

This transaction results in a $1K loss that should be recorded upon completion of the transaction. The loss is calculated:

  • Fair value of Old A $4k
  • Book value of Old A $5k
  • Loss: $1K

To record the new asset on the books:

  • New A (Debit) $11k
  • Accumulated Depreciation-Old A (Debit) $5k
  • Loss on trade-in (Debit) $1k
  • Old A original cost (Credit) ($10k)
  • Cash paid for trade-in (Credit) ($7k)

This is a very simple view on the trade-in of similar non-monetary assets that results in a loss. The reason the trade-in allowance is not used as a basis for New A is because it included a price concession (similar to a price discount) to the purchaser. In other words, the seller gave the buyer a price break by giving a higher value to the trade-in versus the actual fair value of Old A. The same process is done when you look at a situation where a gain results, however, if the exchange does not "complete the earnings process, then generally the gain should be deferred." This usually happens with the exchange of real estate.

 

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