Good management of a business depends on a clear understanding of what it owns. Correctly identifying the goods, equipment or rights that make up your business assets is a fundamental first step. But how do you know whether an item should be considered a genuine "asset" in the accounting sense? And once identified, how do you enter it correctly in the accounts? These are not insignificant questions, because the wrong classification or accounting treatment can distort your company's financial image and have tax consequences. The General Chart of Accounts (PCG), which sets out the rules in France, provides precise answers. This article explains the definition of a non-financial asset, the different categories that exist and the essential criteria for accounting for them, including the more detailed component-based approach.
What are assets under the General Chart of Accounts?
At the heart of French accounting, the concept of an asset is defined in a specific way. According to article 211-1 of the French General Accounting Code (PCG), an asset is much more than a simple possession. It is a an identifiable asset with a positive economic value for the entity. This definition is based on three essential pillars that need to be clearly understood.
Firstly, the element must be identifiable. This means that it can be distinguished from other elements that the company owns or controls. It may be separate or the result of a specific right.
Secondly, the entity must control this element. This control generally stems from past events, such as a purchase or creation. Control implies that the company has the ability to obtain the future economic benefits associated with the item and to restrict third parties' access to these benefits. It does not necessarily mean legal ownership, although this is often the case.
Thirdly, and this is undoubtedly the most important point, the entity must expect the following from this element future economic benefits. What do we mean by this? It is the asset's potential to contribute, directly or indirectly, to generating cash flow for the company. Think of a machine that produces products for sale, or a patent that enables an innovation to be marketed.
For structures such as associations or certain public sector entities, the concept of future economic benefits is broader. This is referred to as expected service potential. The asset contributes to the mission or corporate purpose of the entity, even if it does not directly generate cash. The PCG specifies these adaptations to take account of their specific features.
This definition is fundamental: an item is only recognised as an asset if it meets all three of these conditions. An expense does not automatically become an asset.
The main categories of non-financial assets
The term "Non-financial assets covers a number of very different aspects of a company's accounts. GAAP classifies them into broad categories to better reflect their nature and role.
The tangible fixed assets are undoubtedly the easiest to visualise. Article 211-6 of the French General Chart of Accounts defines them as physical assets held for long-term use in a business: production, provision of services, leasing to third parties or internal management. Examples include land, buildings, machinery, transport equipment and office furniture. The key characteristic is the intention to use them beyond the current financial year.
Then come the intangible assets. As their name suggests, these are non-monetary assets that have no physical substance (PCG, art. 211-5). To be an intangible asset, the item must not only meet the general definition of an asset but also be identifiable. The criterion of identifiability is essential here: the intangible asset must be either separable (can be sold, leased, transferred in isolation), or result from a right legal or contractual (such as a patent, licence or acquired trademark). Items such as goodwill acquired on the purchase of a company, patents, software licences or purchased trademarks fall into this category. However, not everything that is intangible is an intangible fixed asset. Internal know-how that is not protected by rights, or a portfolio of customers who are loyal to the company because of the quality of the service they receive but who have no specific contract, are generally not considered identifiable and controllable assets for accounting purposes, even if they are of great economic value to the company.
The third major category concerns stocks. An inventory is an asset held for sale in the normal course of business (goods, finished goods), in the course of production for such sale (work in progress), or for consumption in the production or service provision process (raw materials, supplies). This is defined in article 211-7 of the French General Chart of Accounts. Inventories are intended to be sold or consumed quickly, whereas fixed assets are used on a long-term basis.
Finally, there are the prepaid expenses (CCA). Defined in article 211-8 of the French General Chart of Accounts, these are rather special assets. They correspond to purchases of goods or services that will be provided or rendered in the future. subsequently. Paying an annual insurance premium at the beginning of the calendar year creates a SCA for the part of the premium covering the months of the following year. This is a receivable in kind from the supplier.
It should also be noted that certain items that do not strictly correspond to the definition of an asset (in particular the criterion of direct future economic benefits) are nevertheless recorded as assets by legal obligation or by option allowed by the law. In France, this is the case for foreign currency translation adjustments on foreign currency debts (linked to unrealised losses, with an offsetting provision) or certain costs such as the cost of a capital increase or merger, for which recognition as an asset (under "formation expenses") is an option, although the preferred method is to deduct them from additional paid-in capital or to recognise them as an expense.
Conditions for capitalising an item
It is not enough to know what an asset is and what its categories are. It is also necessary to know when, in practical terms, an item can or must be included in the balance sheet. The French General Chart of Accounts sets out two general cumulative conditions, defined in article 212-1.
The first condition is probability that the entity will benefit from the future economic advantages associated with the item (or the service potential). It is not a question of absolute certainty, but of a reasonable degree of confidence, assessed on the basis of the information available at the time of recognition. This probability is generally acquired when the risks and benefits associated with the item have been transferred to the entity.
The second condition is that its cost or value can be assessed with sufficient reliability. For a purchased good, the cost is generally easy to determine from the invoice. For goods produced in-house, the valuation is based on production costs. Sometimes the valuation is less straightforward. For example, when a set of goods is acquired for a global price, if the cost of certain items is not individualised, it can be obtained by difference after valuing the other items (PCG, art. 213-7). This is typically the case for goodwill acquired in a business takeover: its value is often determined by the difference between the price paid and the value of the other identified assets and liabilities.
These two criteria apply not only to initial acquisition or production costs, but also to expenditure incurred subsequently on an existing asset (additions, replacement of components, major repairs, etc.).
However, there is a tolerance: the French General Accounting Code (art. 212-6) allows assets insignificant may not be recorded in the balance sheet and be expensed directly. The materiality threshold is to be assessed by each company, depending on its size and activity, but it must be applied consistently.
The component approach: refining accounting
For certain complex tangible fixed assets, a more detailed approach is required: component accounting. Introduced to better reflect the economic reality of wear and tear on these assets, it is governed by article 214-9 of the French General Chart of Accounts. The idea is simple: if an asset is made up of several major components with different useful lives or requiring replacement at regular intervals, they must be recognised and depreciated separately.
There are two main categories of component.
La first category refers to the main components of a fixed asset that must be replaced at regular intervals and that have a different useful life from the main structure. Think of the engine of an aircraft, the seats of a high-speed train or the roof of an industrial building. For these components, it is compulsory to identify and account for them separately from the outset (or when they are replaced). Each component will have its own depreciation schedule.
La second category covers major maintenance or overhaul expenditure that is part of a multi-year programme (imposed by law or regulation, or resulting from the company's constant practice). These are expenditure to maintain the asset in good working order, without necessarily extending its initial lifespan beyond what was planned. For example, the complete overhaul of a blast furnace every 5 years. For these expenses, the company has a choice: either it recognises a "major maintenance" component from the outset, which will be depreciated over the period between two programmes; or it records a provision for major maintenance as a liability. Choosing one method excludes the other. If the company chooses the component method, it must verify that the conditions for recognising an asset (probable future economic benefits, reliably measurable cost) are met for these planned future expenditures. This option for the second category remains in the PCG mainly for reasons of divergence with the French tax system (depreciation of second category components is not always deductible for tax purposes), whereas the international IFRS standards require the component approach.
When a component (of the first or second category) is replaced, the cost of the new item is recognised as a new asset, while the net book value of the old component replaced is removed from the balance sheet and recognised as an expense (PCG, art. 213-20). It is possible to identify a component at a later date, even if it was not originally identified, if the conditions are met, particularly at the time of the first major revision if the "component" option is chosen.
Intangible fixed assets created internally: a complex case
While the acquisition of an intangible asset (patent, licence, etc.) generally poses few accounting problems, the situation is more delicate for those created by the company itself. The French General Chart of Accounts (art. 212-3) makes a fundamental distinction between the phase of research and the development.
Expenses incurred during the research phase (activities aimed at acquiring new knowledge, research into alternative solutions, evaluation of possible applications, etc.). always recognised as an expense at the time they are incurred. At this stage, it is considered that the existence of future economic benefits is too uncertain to justify capitalisation. If the company cannot clearly distinguish between the two phases for an internal project, all expenditure is treated as research costs.
On the other hand, costs incurred during the development phase (design and testing of prototypes, design of new tools, construction of pilot plants, design of new services, etc.) can be capitalised as an intangible asset, but only if the company can demonstrate that all the following conditions are met:
- The technical feasibility of completion has been established.
- The intention to complete the asset for use or sale exists.
- The ability to use or sell the asset is real.
- The asset will generate probable future economic benefits (existence of a market or proven internal usefulness).
- Sufficient resources (technical, financial, etc.) are available to complete development and use/sale.
- Expenses attributable to development can be measured reliably.
If all these conditions are met, the capitalisation of development costs is even considered to be the most effective way to reduce costs. preferred method The other option is to leave them as expenses. The company must describe the method used in the notes to the financial statements.
Please note that some items created in-house cannot be never be recognised as assets, even if they are of considerable value. This is the case, for example, for goodwill generated internally, brands created, newspaper titles developed, customer lists compiled, etc. The French General Chart of Accounts (PCG) considers that the corresponding expenses cannot be distinguished from the cost of developing the business as a whole (PCG, art. 212-3, para. 3).
Specific rules apply to software and websites created internally. For software intended for marketing or internal use, production costs may be capitalised if the project has a serious chance of technical success (and commercial profitability for external use) and if the company demonstrates its desire to produce and use the software on a long-term basis (PCG, art. 611-2 et seq.). Capitalisable costs mainly relate to detailed design (organic analysis), programming (coding), testing and technical documentation. For websites, similar capitalisation conditions apply to the costs of the development and production phase (domain name, operating hardware/software, code, initial content, graphics, etc.) (PCG, art. 612-1 et seq.). Prior research costs are expensed as incurred.
Identifying and accounting for your assets correctly is a fundamental step towards sound management. If you have any questions about how to classify or account for any of your assets, our firm can help.
Sources
- General Chart of Accounts (as issued in particular by ANC Regulation no. 2014-03 and subsequent updates), Articles 211-1 to 211-8, 212-1 to 212-3, 212-6, 212-9, 213-7, 213-20, 214-9, 611-2 et seq., 612-1 et seq.
- Decree no. 83-1020 of 29 November 1983 (for translation differences).
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