Although the market price of the land has significantly increased, the amount entered in the balance sheet and other accounting records would continue unchanged at the cost of $25,000. According to the accounting standards, historical costs require some adjustment as time passes. Depreciation expense is recorded for longer-term assets, thereby reducing their recorded value over their estimated useful lives. Also, if the value of an asset declines below its depreciation-adjusted cost, one must take an impairment charge to bring the recorded cost of the asset down to its net realizable value. Both concepts are intended to give a conservative view of the recorded cost of an asset.

There is an element of estimation or speculation about it until a transaction formally ascertains the asset’s true market value. Conversely, if the value of an asset appreciates and is sold at a value higher than the historical cost, under the historical cost principle, the sale is recorded at historical cost and the asset appreciation funds are recorded as a gain in the books. The historical cost principle is one of the basic concepts of accounting and bookkeeping.

What is historical cost?

An asset becomes impaired when undergoes a sharp drop in its recoverable value—if it is worth less than its carrying value, it’s considered impaired. Some assets can be reported at less than the amounts based on historical cost if they’re impaired. Adjustments for normal wear and tear are usually recorded as annual depreciation, which is then subtracted from the historical cost to calculate the asset’s book value.

The advantages of the What Is Historical Cost? concept are that it’s reliable, comparable, and verifiable. It is usually the most conservative measure of an asset’s value and can be proven with invoice and payment documents retained in the company’s files. It reflects current practice for the attribution of value to most asset classes like inventory, property, plant, equipment, and certain intangibles. The historical cost concept will recognize that there will be a change in the value of an asset due to obsolescence and deterioration among other reasons.

Inconclosive data

The historical cost reflects the price of a previously acquired asset. A company’s balance sheet should reflect all assets, liabilities, and equities at this cost, regardless of how much they have appreciated over time. Comparing an asset’s current value to its original price shows how it has performed financially over time. As a result, it differs from the fair market, reflecting the asset’s current value. The mark-to-market practice is known as fair value accounting, whereby certain assets are recorded at their market value. This means that when the market moves, the value of an asset as reported in the balance sheet may go up or down.