From rodisio at igc.org Sun Aug 29 15:21:49 1999
This is true only for a single asset.
It is not. It is the same for N assets: the only implication is for higher taxes sooner (and no taxes later; we're back to the cost of carry for a "loan" to the government) due to higher profits shown earlier.
When you look at a firm with multiple assets, which buys
new equipment each year, both to replace stuff that is worn
out (fully depreciated) and to add to capacity as sales
grow, Doug's original conclusion holds.
This is just bad math. You "eventually" catch up. This is why I said it's really just a question of how long your accounting period lasts. Now I admit that sometimes it's "better" to show a profit sooner ("Jordan, Inc. shows higher quarterly profits!"), but in the end you just paid for your PR-effect with higher taxes.
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Let's take a step back. I think that a credible case could be made to want to include software expenditures as assets (as opposed to expenses) because of the revenue implications -- what Greenspan has to do in that conspiracy, I'm not sure; the less you can expense immediately, the more you're liable for taxes -- today. In my own previous company, expensing things was preferable to depreciating them for exactly this reason -- but I depreciated software because I wasn't some huge company whose accouting firm felt comfortable ignoring the suggestion that software was 3 year property. My claim is that, all other things being equal, expensing something vs. depreciating it really comes down to paying taxes earlier and having a lingering loss later ("eventually").
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Expensing assets understates profits compared to depreciating
them.
True. Today. But tomorrow, you have no deduction, so the profits that you would have stated in a previous period (but instead understated, due to the immediate expensing) now come out.
I think my example showed this clearly.
Effectively, you never get to "tomorrow" on the multi-asset
firm's books.
False! This is some kind of juggling act -- if you just keep buying stuff, you never have to show it! Heh. This is, as they say, a bubble.
The value of the expensing will, under normal circumstance,
always exceed the value of the depreciation.
Incorrect. The "value" of the asset is exactly the cost basis minus accumulated depreciation -- you can never depreciate more than you spent. In some cases (software is notable here!), the "value" goes to zero long before you're done depreciating it. Doug gave the example of "upgrading too much" ... and in some cases, the asset is useful (furniture is a good example -- 7 year property, often you'll see 15 year old desks in use) long beyond the depreciation schedule.
You can't get actual value in the latter case except as a result of "money not spent" -- if that's something that's of actual value to you, you'd get taxed on it (sort of the opposite of capitalizing "good ideas") ... it's important to note here that the distinction between capitalization and expensing is *purely* a tax issue. If you buy that $800 Herman Miller chair (damn, how do I get one?), then you are exactly $800 in the hole.
This effect is exacerbated as prices rise--expensing all
of the higher priced asset in the year it's bought vs.
adding part of its cost to the undepreciated, original cost
balance. But what if asset prices drop? This would work
in the opposite direction, to counteract the conclusion.
I'm lost. Asset prices don't "drop" -- they are fixed in time when you buy them (forget about borrowing money to buy them, that's the same thing, it just adds to the basis -- in the exact amount of the interest paid -- of the asset; like your credit card buying habits, you "paid too much"). Replacement of "fully depreciated" assets (by definition: either you're done depreciating them and you get value from having it beyond the depreciation term or you're not done depreciating them and you're replacing them "early" -- in which case, you accelerate the depreciation so that the final basis of the replaced out-o-service item is zero) may come at a lower cost, but this is not the same -- it's a new asset.
/jordan