![](media/image1.wmf){width="0.6229166666666667in"
height="0.6048611111111111in"} **U.S. Department of Housing and Urban
Development**

**Public and Indian Housing**

Special Attention of: **Notice PIH-2006 - 39 (TDHEs)**

ONAP Administrators, Issued: October 19, 2006

Tribes, and Tribally

Designated Housing Entities (TDHEs) Expires: October 31, 2007

Cross Reference: 24 CFR Part 1000, 24 CFR Part 85, and OMB Circular A-87

### Subject: Accounting for Fixed Asset Depreciation and Related Issues

1.  **Purpose:** This Notice and its attachment provide guidance on the
    fixed asset depreciation requirements and related issues for
    recipients of Indian Housing Block Grant (IHBG) Program funds
    administered by the Office of Native American Programs (ONAP).
    Specifically this Notice will clarify the differences between
    depreciation and capitalization requirements of Generally Accepted
    Accounting Principles (GAAP) and costs allowed under Federal grants
    by Office of Management and Budget (OMB) Circular A-87. The
    attachment provides information on depreciation and related issues
    in a question and answer format.

2.  **Background:** The IHBG Program is authorized by the Native
    American Housing Assistance and Self-Determination Act of 1996 and
    the regulations governing the program are found at 24 CFR Part 1000.
    Title 24 CFR §1000.26(a) requires recipients, with specified
    exceptions (most notably self-governance Indian tribes), to comply
    with the requirements and standards of Office of Management and
    Budget (OMB) Circular A-87, *Cost Principles for State, Local and
    Indian Tribal Governments.* Pursuant to §1000.28, a self-governance
    Indian tribe shall certify that its administrative requirements,
    standards and systems meet or exceed the comparable requirements of
    §1000.26. The latest version of Circular A-87 was issued on May 10,
    2004, with an effective date of June 9, 2004.

3.  **Program Guidance:** OMB Circular A-87 provides that:

    a.  Depreciation and use allowances are means of allocating the cost
        of fixed assets to periods benefiting from asset use.
        Compensation for the use of fixed assets on hand may be made
        through depreciation or use allowances. A combination of the two
        methods may not be used in connection with a single class of
        fixed assets (e.g., buildings, office equipment, computer
        equipment, etc.) except as provided for in subsection g. Except
        for enterprise funds and internal service funds that are
        included as part of a State/local cost allocation plan, classes
        of assets shall be determined on the same basis used for the
        government-wide financial statements.

    b.  The computation of depreciation or use allowances shall be based
        on the acquisition cost of the assets involved. Where actual
        cost records have not been maintained, a reasonable estimate of
        the original acquisition cost may be used. The value of an asset
        donated to the governmental unit by an unrelated third party
        shall be its fair market value at the time of donation.
        Governmental or quasi-governmental organizations located within
        the same State shall not be considered unrelated third parties
        for this purpose.

    c.  The computation of depreciation or use allowances will exclude:

        1.  The cost of land;

        2.  Any portion of the cost of buildings and equipment borne by
            or donated by the Federal Government irrespective of where
            title was originally vested or where it presently resides;
            and

        3.  Any portion of the cost of buildings and equipment
            contributed by or for the governmental unit, or a related
            donor organization, in satisfaction of a matching
            requirement. (OMB Circular A-87, Attachment B, 11.)

> If you have any questions regarding this policy, please contact your
> assigned Grants Evaluation Specialist in the local ONAP Area Office.
> For specific accounting questions, please contact your accounting
> professional.
>
> [/s/]{.underline}
>
> Orlando J. Cabrera, Assistant Secretary for
>
> Public and Indian Housing

# QUESTIONS AND ANSWERS

Fixed Assets

1.  **[Question:]{.underline}** What is ***Depreciation***?

> ***[Answer:]{.underline}*** Depreciation is a systematic and rational
> means of allocating the net cost of an asset over its useful life.
> Depreciation is a measure of the wearing out, consumption or other
> reduction in the useful economic life of an asset whether arising from
> use, influence of time, or obsolescence through technological or
> market changes.

2.  **[Question]{.underline}:** How can a Federal grant recipient meet
    the conflicting requirements of OMB Circular A-87 and Generally
    Accepted Accounting Principles (GAAP) regarding depreciation?

> **[Answer:]{.underline}** There is no direct conflict between the
> requirements of GAAP and the Circular. GAAP provides for depreciation
> as it is presented in the financial statements of an organization.
> GAAP requires that all fixed assets, except for land, be depreciated
> for presentation in the financial statements.
>
> OMB Circular A-87 allows for recipients to be compensated for the use
> of fixed assets through depreciation, a use allowance, or an indirect
> rate. The Circular restricts the compensation by excluding from the
> depreciation computation land cost, building and equipment cost borne
> by the Federal government, and building and equipment cost used to
> meet a matching requirement of the Federal government.

3.  ***[Question:]{.underline}*** What assets should be depreciated?

> ***[Answer:]{.underline}*** GAAP requires capital assets that
> gradually lose their value over time to be depreciated for financial
> statement presentation. Capital assets are tangible or intangible
> property items with an expected life of more than one year purchased
> for use within the organization's operation and not intended for
> resale. Examples include building structures, machinery, vehicles,
> fixtures and fittings, roads, bridges, dams, equipment, water and
> sewer systems, and patents and trademarks.

4.  ***[Question:]{.underline}*** How may depreciation be computed?

> ***[Answer:]{.underline}*** There are several methods for computing
> depreciation under GAAP: straight-line depreciation,
> units-of-production and accelerated depreciation such as
> sum-of-the-years'-digits and double-declining balance methods.
> However, for purposes of charging or allocating these costs to Federal
> grants, OMB Circular A-87 provides that unless it can be proven by
> clear evidence that an item or class of items would deteriorate at a
> greater rate in the early years versus the later years, the
> straight-line method of depreciation shall be used (OMB Circular A-87
> Attachment B, 11.d.).

5.  ***[Question:]{.underline}*** May a recipient change from one
    depreciation method for fixed assets, e.g. straight-line,
    units-of-production, sum-of-the-years'-digits and double-declining
    balance methods, to another method during the useful life of the
    asset?

> ***[Answer:]{.underline}*** Program participants may not change the
> depreciation methods for fixed assets without the express approval of
> HUD or, if depreciation is charged through a cost allocation plan, the
> Federal cognizant or oversight agency (24 CFR §1000.26(b)(1)(i)).
> Please note: A combination of two depreciation methods may not be used
> in a single class of fixed assets (e.g., buildings, office equipment,
> computer equipment, etc) except when a reasonable use allowance has
> been negotiated for fully depreciated assets.

6.  ***[Question:]{.underline}*** Why is land not subject to
    depreciation?

> ***[Answer:]{.underline}*** Land does not decline in economic value as
> a consequence of wear and tear, natural deterioration through
> interaction of the elements, or technical obsolescence. As a
> reflection of these characteristics, OMB Circular A-87 and GAAP
> specifically exclude land from computation of depreciation.

7.  ***[Question:]{.underline}*** Are there any circumstances or
    situations in which assets or portions of assets otherwise subject
    to depreciation are not depreciated for the purposes of Federal
    grants?

> ***[Answer:]{.underline}*** Yes, OMB Circular A-87 provides that if
> any portion of the cost was paid or donated by the Federal government,
> those costs are excluded from the depreciation expense computation
> chargeable to a Federal grant. Also, if the recipient provided any
> portion of the cost because of a matching requirement of a Federal
> program, those costs are also excluded from depreciation chargeable to
> a Federal grant. (OMB Circular A-87, Attachment B.11.c.). For example,
> the Department of Defense surplus housing units that tribes or
> Tribally Designated Housing Entities (TDHEs) acquired through
> Operation Walking Shield would not be subject to depreciation expense
> charged to a Federal grant because the Federal government paid to
> construct those units.
>
> However, the costs of assets acquired through a Federal grant program
> or provided to match funds in a Federal grant program would be treated
> as other assets in the same classification category and would be
> depreciated according to GAAP for financial statement presentation
> purposes.

8.  ***[Question:]{.underline}*** What is the ***Depreciable Amount***?

> ***[Answer:]{.underline}*** The depreciable amount is the cost of an
> asset, or the fair market value at the time of acquisition if donated,
> less any residual value.

9.  ***[Question:]{.underline}*** What should be considered in
    determining the cost of an asset?

> ***[Answer:]{.underline}*** Under GAAP only those costs actually
> relating to the purchase of a new asset or the construction or
> improvement of a project are to be included in the cost of an asset.
> Please note: If you have not converted to GAAP, the older property
> ledgers may include items that should not be capitalized, such as
> routine maintenance and repair costs. In consultation with your
> accounting professional, you should undertake an analysis to determine
> the actual cost of construction to be capitalized and then adjust your
> accounting records as appropriate.

10. ***[Question:]{.underline}*** What is ***Residual Value***?

> ***[Answer:]{.underline}*** The residual value of a depreciable asset
> is the estimated amount that should be received upon sale of the asset
> at the end of its useful life.

11. ***[Question:]{.underline}*** What is ***Useful Life***?

> ***[Answer:]{.underline}*** Buildings and equipment items have a
> limited useful life as a result of certain physical and functional
> factors. The physical factors that move a property item towards its
> ultimate retirement are (1) wear and tear, (2) deterioration and
> decay, and (3) damage or destruction. The useful life of an item may
> be expressed in terms of either an estimated time factor or an
> estimated use factor. The time factor may be a period of months or
> years; the use factor may be a number of hours of service or a number
> of units of output. [Please note:]{.underline} Useful life should not
> be confused with the period of time that a recipient declares in its
> Indian Housing Plan (IHP) that housing is to remain affordable (24 CFR
> §1000.142).

12. ***[Question:]{.underline}*** Are there any suggested useful life
    ranges that may be used to calculate depreciation?

> ***[Answer:]{.underline}*** Useful lives in practice for both broad
> general categories and more specific items are as follows: Please
> note: These are suggestions only, and are not mandatory.

+---------------------------------------------+------------------------+
| -   Buildings                               | 20 to 40 years         |
+---------------------------------------------+------------------------+
| -   Building improvements                   | 10 to 40 years         |
+---------------------------------------------+------------------------+
| -   Furniture and fixtures                  | 5 to 10 years          |
+---------------------------------------------+------------------------+
| -   Equipment                               | 3 to 10 years          |
+---------------------------------------------+------------------------+
| -   Telephones                              | 5 years                |
+---------------------------------------------+------------------------+
| -   Tools                                   | 5 years                |
+---------------------------------------------+------------------------+
| -   Appliances                              | 7 years                |
+---------------------------------------------+------------------------+
| -   Furniture                               | 10 years               |
+---------------------------------------------+------------------------+
| -   Computers                               | 3 years                |
+---------------------------------------------+------------------------+
| -   Roofs                                   | 10 years               |
+---------------------------------------------+------------------------+

13. ***[Question:]{.underline}*** How are fixed assets reported under
    GAAP using the enterprise model?

> ***[Answer:]{.underline}*** The value of a fixed asset is reported at
> the historical cost, which includes all expenditures relating to its
> acquisition and preparation for use. Donated assets would be reported
> at the estimated fair market value of the item on the donation date.
> Fixed assets are depreciated over the useful life of the item, except
> for land and land improvements.

14. ***[Question:]{.underline}*** How are fixed assets reported under
    GAAP using the government fund model?

> ***[Answer:]{.underline}*** The value of the fixed asset is reported
> as a capital expenditure at the historical cost, which includes all
> expenditures relating to its acquisition and preparation for use, and
> is not reported in the governmental fund financial statements but is
> noted in the General Fixed Asset Account Group. The fixed asset would
> be reported as a fixed asset in the government-wide financial
> statements.

15. ***[Question:]{.underline}*** Are there any fixed asset management
    procedures that must be followed?

> ***[Answer:]{.underline}*** Yes, recipients are required to meet the
> following requirements (24 CFR § 85.32(d)):

a.  Maintain property records that include physical description of the
    property, serial number or other identification number, source of
    property, identity of title holder, acquisition date, cost of the
    property, percentage of Federal fund participation in the
    acquisition of the property, location, use and condition of the
    property, and any disposition data including disposal date and sale
    price.

b.  Conduct a physical inventory at least once every two years and
    reconcile the results to the property records.

c.  Install a property control system that provides adequate safeguards
    to prevent loss, damage or theft of property. Any loss, damage or
    theft shall be investigated.

d.  Establish an adequate maintenance process that keeps the property in
    good usable condition.

e.  Establish adequate sales procedures that will ensure that if the
    property is sold, the highest possible return is realized.

**LEASE-TO-OWN HOMEOWNERSHIP**

1.  ***[Question]{.underline}**:* What is a ***Capital Lease***?

> ***[Answer]{.underline}**:* A capital lease is a transaction in which
> the lessee obtains significant property rights. Although *not* legally
> a purchase, *Theoretical Substance* governs over legal form and
> requires that the leased property be recorded as an asset on the
> lessee's books. A capital lease exists if any one of the following
> four criteria is met: (1) the lease transfers ownership of the
> property to the lessee at the end of the lease term; (2) a bargain
> purchase option exists; (3) the lease term is 75% or more of the life
> of the property; and (4) the present value of minimum lease payments
> equals or exceeds 90% of the fair value of the property.

2.  ***[Question]{.underline}**:* What is a ***Sales Type Lease*** or
    ***Direct Financing Lease***?

> *[**Answe**r]{.underline}:* The sales type lease and the direct
> financing lease are methods the lessor uses to classify a capital
> lease. If the lessor is the manufacturer or dealer in the item, then
> the transaction is given the term "sales type lease." If the lessor is
> not the manufacturer or the dealer of the item, then the transaction
> is called a "direct financing lease".

For the transaction to be termed either a sales type lease or direct
financing lease the following criteria must be satisfied: (1)
collectibility of minimum lease payments is predictable, and (2) no
important uncertainties surround the amount of un-reimbursable costs yet
to be incurred.

The Mutual Help Homeownership Program as provided for under the 1937
Housing Act is very similar to a direct financing lease. However, the
Mutual Help Program does not satisfy the criteria that the
collectibility of minimum lease payments be predictable. Therefore, the
Mutual Help lease-to-sell arrangement should not be classified as a
direct financing lease.

3.  *[**Questio**n]{.underline}:* Should a Mutual Help Homeownership
    unit be depreciated as you would a fixed asset?

> ***[Answer]{.underline}**:* No. The Mutual Help Homeownership units do
> not meet the definition of a fixed asset. The Mutual Help
> Homeownership homes are not for use within the tribe's or TDHE's
> operation but were obtained or constructed for sale to eligible
> homebuyers. Therefore, the homes would not be subject to depreciation
> by the tribe or TDHE.
>
> In contrast, housing units in the Low Rent Program are subject to
> depreciation for financial statement purposes because these units do
> meet the definition of a fixed asset. The units would be excluded from
> the compensation computation because the Federal government has borne
> their construction cost.

4.  ***[Question]{.underline}**:* How should the lease-to-own
    arrangement of the Mutual Help Homeownership Program be valued on a
    tribe's or TDHE's financial books?

> ***[Answer]{.underline}**:* A Mutual Help housing unit should be
> maintained on the financial records in the 'other assets' account
> until the housing unit is conveyed to the homebuyer. The value
> assigned to the housing unit in the 'other assets' account should be
> the current balance for the unit as shown on the amortization schedule
> as of the financial statements date. As noted above, the unit is not
> depreciated.
>
> The 'other assets' account is used to record miscellaneous assets that
> may not be readily classified within other asset accounts. Examples of
> items that can be classified in this account include long-term
> prepayments (e.g., rent, insurance), prepaid income taxes, bond issue
> costs, organization costs, idle fixed assets, cash from security
> deposits of customers on returnable containers, and assets leased to
> others.

5.  ***[Question]{.underline}**:* How should you account for the funds
    collected from a homebuyer in the financial records?

> ***[Answer]{.underline}**:* The payments made by the homebuyer are
> comprised of two parts: one being an administrative fee portion and
> the other being the homebuyer's equity portion. The administrative fee
> is a reimbursement of the Mutual Help Program's operating expense;
> therefore these funds would be the tribe's or TDHE's operating income.
> The Mutual Help and Occupancy Agreement (MHOA) provides that when the
> homebuyer's monthly payment amount exceeds the administrative fee, the
> balance is transferred to the homebuyer's equity account. The
> homebuyer's equity funds may be used to pay several things: unpaid
> monthly charges; charges made by the housing entity for completed
> maintenance work (which, under the MHOA are stated as the
> responsibility of the homebuyer); charges for unit improvements
> requested by the homebuyer and approved by the housing entity; and the
> balance of the purchase price.

6.  ***[Question]{.underline}**:* What should you do with the
    homebuyer's equity fund balances when title to the housing unit is
    conveyed to the homebuyer?

> ***[Answer]{.underline}**:* According to the MHOA the net balance of
> the homebuyer's equity accounts should be applied in the following
> manner (MHOA Article X, §10.5(d)):

a.  For the initial payment for fire and extended coverage on the unit
    after conveyance, if the TDHE is financing the purchase of the
    housing unit;

b.  For settlement costs, if the homebuyer so directs;

c.  For the purchase price; and

d.  The balance, if any, for refund to the homebuyer.

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7.  ***[Question]{.underline}**:* How should you account in the
    financial records for a lease-to-purchase IHBG program established
    under the provisions and requirements of NAHASDA?

> ***[Answer]{.underline}**:* It depends on how the lease-to-purchase
> program is structured. If the program follows the structure of the
> Mutual Help Homeownership Program established under the '37 Housing
> Act, it may be accounted for in the manner previously described. The
> tribe or TDHE should consult with their accounting professional to
> determine the proper accounting procedure for their particular
> lease-to-purchase program if it does not follow the structure of the
> Mutual Help Homeownership Program.***\
> ***
>
> 8\. ***[Question:]{.underline}*** How should a lease-to-purchase
> program unit purchased or constructed under an IHBG program
> established under the provisions and requirements of NAHASDA be
> depreciated?
>
> ***[Answer:]{.underline}*** Lease-to-purchase homes would not fit the
> definition of a fixed asset. Lease-to-purchase homes are not for use
> within the tribe's or TDHE's business operation but were purchased or
> constructed for sale to eligible homebuyers. The lease-to-purchase
> units would not be subject to depreciation by the tribe or TDHE. The
> lease-to-purchase homes should be maintained on the financial records
> in the 'other assets' account until the homes are conveyed to the
> homebuyer.