Every now and then you’re required to make prepayments for an acquisition of asset. Or you’re constructing a building; or setting up machinery is taking time and setting up the place for the machine requires additional investments. How should you treat those transactions?
A prepayment that you’ve made within your accounts is your asset. Essentially you’ve agreed with the prepayment to acquire a new asset and as such this prepayment is shown under the same grouping as the asset will be one day once it’s acquired. For an example, if you’ve made a prepayment to acquire new machinery, this prepayment is shown under ‘property, plant and equipment’. If the prepayment is for software, it’s shown under ‘intangible assets’.
Construction of a building or setting up machinery is shown as ‘construction in progress’ within the movement schedule of the ‘property, plant and equipment’ accounts. Normally it’s also shown separately from the prepayments although accounting treatment is more or less the same for them.
Both prepayments and construction in progress aren’t depreciated and once the asset is either acquired or the asset is ready to be used as intended (when it was constructed previously), the asset is transferred from the either the ‘prepayments’ or ‘construction in progress’ to the specific asset group.