As a public institution, you regularly encounter the need to maintain or repair your existing assets. You may currently treat all these items as maintenance or repair expenses. You see these items as a clear expense. However, not every repair is an expense. Often, a repair turns into a Capital Improvement Project (CIP). A repair becomes a CIP when the scope of work extends beyond keeping an asset working.
Maintenance costs are expenses for routine actions that keep your assets in their original condition. When creating your operating budget, you would classify these as repairs and maintenance. If you intend to improve an asset and increase its value, you should classify these as capital expenditures in your budget.
Understanding the differences allows you to categorize these projects correctly, which keeps your budget in line. It also lets you maximize your expenses, which can be tax deductible, and depreciate your capital expenditures.
The classification of expense versus CIP isn’t always clear. There are questions and considerations you need to reflect on before you enter the expense.
When is maintenance an expense?
Maintenance expenses can vary. Depending on the type of repair needed: from replacing a broken door lock to painting a fence. These seem like simple items that are certainly an expense. Yet, it’s important to define what an expense is for your institution. Consider these guidelines:
- Work is on an existing asset
- Rehab of an asset to a specific standard
- Preserving an asset from future decay
- Restoring an asset’s functionality
- Component replacements that do not improve the asset but rather keep it functional
Maintenance is about usage, which decreases the value of the asset and should be an expense.
Projects can shift from repair to a CIP. A project may start as a repair but evolve into a capital project. That leaky roof may appear as though it needs a simple repair. Upon further inspection, a determination is made that the entire roof needs to be replaced. Thus, it needs to move from a repair expense to a CIP.
When is maintenance a capital expenditure?
To understand when maintenance is actually a capital project, it’s imperative to define your CIPs. Do you define CIPs by total cost? Length of project? Or scope? Having a clear definition will allow you to classify correctly. Here are some critical factors that can help you determine when a repair is actually a CIP:
- Is the asset improved?
- Has its useful life been extended?
- Has the asset’s quality been improved?
- Does the repair actually upgrade the asset?
- Does the repair reduce future maintenance costs?
What is useful life?
Useful life means the lifespan of an asset. Every asset has a different useful life. A light bulb’s useful life may be a few months while a new fence would have a useful life of 10 years. It’s affected by many factors. These include environment, wear and tear, an asset becoming obsolete or new specifications for safety. A useful life can be extended with many assets, often when new or improved materials are used in the repair.
When maintenance is actually a CIP
Here’s an example of maintenance that is actually a CIP. A building is in need of new siding. The material of the original siding is no longer available, as it has been phased out. A new material that is more durable and prevents things like water damage is used. This repair has actually improved the asset, extended its useful life, enhanced quality and reduced future maintenance costs. This repair is clearly a CIP and should be noted as such. This allows you to depreciate the asset, as its value has been increased.
Why understanding the differences matter
If you aren’t classifying your projects correctly, you could be missing out on opportunities to deduct expenses or depreciate the asset. When creating your operating budget, you must understand the differences because these costs can’t come from the same buckets. It’s not easy to always classify projects from the onset. It’s a decision that often needs to be made for each individual project. Your definition of repairs and maintenance and CIP will help you make the best decision. Consider the value of the asset, the objective of the work, the scope of work, the result and its impact on the asset’s value, depreciation and equity return.
Tracking and Management
Municipalities and public institutions often need help with tracking and management of CIPs. Keeping all your data in a central software system has many benefits. You can manage assets more efficiently and simplify your workflow. Public works software like WebDPW, helps you:
- Improve preventive maintenance activities to extend an asset’s useful life
- Budget effectively for maintenance and CIPs
- Reduce operational costs
To learn more about how WebDPW can help you, sign up for a live demo today.