Capitalized costs are expenses added to the cost of a fixed asset. A fixed asset (or capital asset) is something purchased by the company for long-term use that is not quickly converted into cash. Examples of capitalized costs include:
You don't expense a capitalized cost right away. Instead, you account for it over time through depreciation or amortization. Let's take a laptop for example. So you go to the store and buy a laptop. Once you start using it for business purposes you can start depreciating it.
The best part? Depreciation is a deductible expense. So, the more depreciation the company reports, the lower the taxable income, and the more you save on your tax bill over time.
And unlike equipment like laptops, there are some capital costs that are not depreciable until they're sold, like land.
Learn more about depreciation and amortization in our recent blog.
For a cost to qualify, you must gain an economic benefit from the asset longer than the year it is purchased. And the item must be used as part of normal operations. Capital costs are considered an investment in the business. Examples include:
Because capitalizing costs intends to match an asset's expenses with its production of income, it'll impact your taxes over time. Matching your expenses and income shows a clearer financial picture of the company. And on top of all the other benefits, capitalization helps offset taxable income by deducting deprecation, ultimately saving you money on your tax bills!