When starting or growing a small business, you'll invest in a mix of equipment, improvements, and other high-cost items. But when it comes to accounting, not all purchases are treated the same.
That’s where capitalization comes in. Instead of listing large purchases as immediate expenses, you record them as long-term assets—spreading their cost over time through depreciation.
What Does It Mean to "Capitalize" Something?
To capitalize an expense means recording it as an asset on your balance sheet rather than an expense on your income statement. This typically applies to items that:
- Have a useful life beyond one year
- Cost more than a set threshold (commonly $500–$1,000)
- Are used in operations, not consumed immediately
Capitalizing spreads the cost of an asset across its useful life, helping you match expenses to the revenue they help generate.
Why Capitalization Matters
- Accurate Financial Reporting: Avoids large one-time expense spikes and gives a clearer view of profitability.
- Tax Benefits: Depreciation can reduce taxable income over several years.
Examples for a Coffee Shop or Restaurant
- Leasehold Improvements – Built-in counters, plumbing upgrades
- Kitchen Equipment – Espresso machines, ovens, refrigerators
- Furniture & Fixtures – Tables, chairs, lighting
- POS Systems – Transaction hardware and software
- Signage – Permanent interior/exterior signs
What Shouldn’t Be Capitalized?
- Inventory & supplies
- Repairs & maintenance
- Marketing materials
- Employee wages & training
- Low-cost tools
Set a Capitalization Threshold
Many small businesses use a set dollar amount (e.g., $1,000) to decide what to capitalize. Check with an accountant for your ideal policy.
How to Record Capitalized Assets
- Record the asset with purchase cost & category
- Assign an estimated useful life
- Calculate depreciation (straight-line is common)
- Deduct depreciation annually on your tax return
Final Takeaway
Knowing what to capitalize keeps financials accurate, smooths expenses, and can provide tax advantages. Set clear rules and review them regularly.
