How Do You Account for Land Improvements
Land improvements refer to enhancements to a piece of land, which often include landscaping, parking lots, fences, and so on. Unlike land itself, land improvements are subject to depreciation over their useful life because they have a finite useful life and lose value over time.
When a company incurs costs for improvements to a piece of land, these costs are usually capitalized, meaning they’re recorded as a long-term asset on the company’s balance sheet. Here’s a basic example of the journal entry for a land improvement:
Debit: Land Improvements (an asset account under Property, Plant, and Equipment) Credit: Cash or Accounts Payable (depending on how the improvements are financed)
Let’s assume a company spends $20,000 on landscaping and fencing for its property. The journal entry would be:
Debit: Land Improvements $20,000
Credit: Cash $20,000
After the land improvements are capitalized, they are depreciated over their useful life using an appropriate depreciation method (straight-line, declining balance, etc.). The depreciation expense is recorded annually as follows:
Debit: Depreciation Expense
Credit: Accumulated Depreciation—Land Improvements
The amount of Depreciation Expense each year depends on the cost of the improvements, their expected useful life, and the chosen depreciation method.
Remember, Land is never depreciated. Only the improvements to land are depreciated. As always, it’s important to consult with an accounting professional to ensure that the accounting for land improvements is done in accordance with the applicable accounting standards.
Example of How to Account for Land Improvements
Let’s say a company called Bright Solar Inc. purchases a piece of land for $100,000 to set up a solar power station. They also spend an additional $30,000 on land improvements, such as grading the land and installing fencing and a parking lot for their employees.
Here’s how the accounting for these transactions would work:
1. Purchase of land:
On the purchase of the land, Bright Solar Inc. would debit (increase) the Land account and credit (decrease) Cash:
Debit: Land $100,000
Credit: Cash $100,000
This records the purchase of the land.
2. Land improvements:
When Bright Solar Inc. incurs costs for land improvements, they would debit (increase) the Land Improvements account and credit (decrease) Cash:
Debit: Land Improvements $30,000
Credit: Cash $30,000
This records the cost of the improvements.
3. Depreciation of land improvements:
Land improvements are depreciated over their useful lives. Suppose the useful life of the improvements is estimated at 15 years and the company uses the straight-line method of depreciation, which spreads the cost evenly over the useful life.
Each year, Bright Solar Inc. would record depreciation expense of $2,000 ($30,000 / 15 years) like this:
Debit: Depreciation Expense $2,000
Credit: Accumulated Depreciation—Land Improvements $2,000
This reflects the annual depreciation of the land improvements.
By the end of the 15-year period, the total depreciation expense would be $30,000, which matches the original cost of the improvements. At that point, the net book value of the Land Improvements (Cost – Accumulated Depreciation) would be $0.
Note that the Land account is not depreciated. Only the Land Improvements account is depreciated.
