How to record the purchase of a capital asset when using cash basis accounting

This article explains how to record the purchase of a capital asset that your business buys if you’re preparing your accounts using cash basis accounting.

When using cash basis accounting, most asset purchases should be deducted as a business cost rather than as a capital allowance. However, land, buildings, cars and motorcycles cannot be treated as costs when using cash basis accounting. Capital allowances can usually be claimed on cars and motorcycles.

If you’re not sure whether you should record the asset purchase as a cost or claim capital allowances, please ask your accountant.

If you’re preparing your accounts using traditional accruals basis accounting, find out how to record the purchase of a capital asset after the FreeAgent start date.

Recording the asset purchase as a business cost

To record the capital asset purchase as a cost of the business, you can either add a bill, create an out-of-pocket expense or explain a bank transaction. Please note that recording the cost using more than one method will result in your cost being double or triple counted. Before entering this data, it’s a good idea to familiarise yourself with the difference between an expense, a bill and a bank payment in FreeAgent.

If your business uses the VAT Flat Rate Scheme and the purchase is over £2,000, you’ll also need to create journal entries to reclaim the VAT in box 4 of your VAT return and adjust box 7 of your VAT return.

Please note that capital assets that are recorded as a cost will not appear in your ‘Capital Assets’ report or balance sheet, and FreeAgent will not calculate any depreciation on the asset. If you’d like to track capital assets that are recorded in this way, you will need to do so outside of FreeAgent.

Adding a bill

If you’re adding a bill instead of creating an out-of-pocket expense or explaining a bank transaction, enter the relevant details for the purchase in the 'Bill Contents' section and select the relevant cost category from the ‘Spending Category’ drop-down menu. Don’t select one of the capital asset purchase categories.

You can create custom categories if you need to. If you’re unsure which category to select, please ask your accountant.

Once you’ve entered all of the relevant information for the purchase, select ‘Save and Review’ at the bottom of the screen to complete the process.

Creating an out-of-pocket expense

If the purchase was bought using personal funds and you’re adding an out-of-pocket expense instead of adding a bill or explaining a bank transaction, enter the relevant details for the expense and select the relevant cost category from the ‘Category’ drop-down menu. Don’t select one of the capital asset purchase categories.

You can create custom categories if you need to. If you’re unsure which category to select, please ask your accountant.

Once you’ve entered all of the relevant information for the expense, select ‘Create New Expense’ to complete the process.

Explaining a bank transaction

If you’re explaining a bank transaction instead of creating an out-of-pocket expense or bill, select ‘Payment’ from the ‘Type’ drop-down menu and select the relevant cost category from the ‘Category’ drop-down menu. Don’t select one of the capital asset purchase categories.

You can create custom categories if you need to. If you’re unsure which category to select, please ask your accountant.

Select ‘Explain transaction’ to complete the process.

Creating journal entries to reclaim the VAT in box 4 of your VAT return on the invoice basis for VAT

If your business uses the VAT Flat Rate Scheme on the invoice basis for VAT, the capital asset purchase is over £2,000 and you’re entitled to reclaim this VAT, you’ll also need to create the following journal entries in FreeAgent.

On the date of the bill:

• Debit code ‘818 - VAT Reclaimed’ for the amount of VAT you’re reclaiming
• Credit code '998 - Contra Account' for the amount of VAT you're reclaiming

On the date of the payment:

• Debit code ‘998 - Contra Account’ for the same amount as the previous journal entry
• Credit the same cost category you allocated the purchase to, for the same amount as the previous journal entry

This will add the VAT you’re reclaiming to box 4 of your VAT return. If you’re unsure which journal entries are required, please ask your accountant.

Adjusting box 7 of your VAT return

If your business uses the VAT Flat Rate Scheme and the purchase is over £2,000, you’ll also need to adjust box 7 of your VAT return by the net amount of the purchase.

If you’re unsure how much to adjust box 7 of your VAT return by, please speak to your accountant.

Creating journal entries to reclaim the VAT in box 4 of your VAT return on the VAT cash accounting scheme

If your business uses the VAT Flat Rate Scheme on the VAT Cash Accounting Scheme, the capital asset purchase is over £2,000 and you’re entitled to reclaim this VAT, you’ll also need to create the following journal entries in FreeAgent.

On the date of the payment:

• Debit code ‘818 - VAT Reclaimed’ for the amount of VAT you’re reclaiming
• Credit the same cost category you allocated the purchase to, for the amount of VAT you’re reclaiming

This will add the VAT you’re reclaiming to box 4 of your VAT return. If you’re unsure which journal entries are required, please ask your accountant.

Adjusting box 7 of your VAT return

If your business uses the VAT Flat Rate Scheme and the purchase is over £2,000, you’ll also need to adjust box 7 of your VAT return by the net amount of the purchase.

If you’re unsure how much to adjust box 7 of your VAT return by, please speak to your accountant.

Claiming capital allowances on the asset purchase

To claim capital allowances on the capital asset purchase instead of deducting it as a cost, follow the steps to record the purchase of a capital asset after your FreeAgent start date, before your FreeAgent start date, or between start dates.

Regardless of which method you use to record the capital asset purchase, the asset will be added to your Capital Assets report.

If you would like to claim the Annual Investment Allowance (AIA) on the asset, you'll need to manually enter the amount being claimed into box 23 of your Self Assessment tax return if you’re using the short version of the ‘Self Employment’ page, or box 49 if you’re using the long version. If you’re unsure whether the purchase qualifies for the AIA or the amount you're able to claim, please speak to your accountant.

Recording the capital asset purchase using journal entries

Alternatively, you can record the capital asset purchase by creating journal entries. Please note that capital assets that are recorded as journal entries will not appear in your Capital Assets report and FreeAgent will not calculate any depreciation on the asset. Therefore, you would need to post additional journal entries for depreciation each month or year if required.

You would also need to manually enter the amount of any capital allowances you can claim on the purchase in box 23 of your Self Assessment tax return. If you’re unsure which journals are required or how much capital allowances you can claim, please ask your accountant.