What is Functional Obsolescence?

Functional obsolescence is the impaired usage of an asset because its design is outdated and it can no longer be updated to handle current requirements. This condition is most likely to arise in markets where product updates are continual, or when assets have extremely long lives.

Accounting for Functional Obsolescence

When functional obsolescence occurs, an asset is disposed of and its remaining book value is written off. This can result in a significant loss, if an asset is judged to be functionally obsolescent before it has been fully depreciated. Auditors may inquire about this issue as part of an annual audit.

Budgeting for Functional Obsolescence

A business needs to review its assets on a regular basis in order to determine when they may be approaching the point of functional obsolescence, so that it can budget for replacement purchases.

Functional Obsolescence in Real Estate

The functional obsolescence term is commonly applied to real estate to describe the reason for a drop in value. For example, if an older home only has one bathroom and no basement in a neighborhood where other homes are better-equipped, this can be considered functional obsolescence.

Examples of Functional Obsolescence

Here are several examples of functional obsolescence in different industries:

Smartphones. Older smartphones without 5G capabilities, lower-resolution cameras, or fewer storage options can become functionally obsolete as newer models offer faster connectivity, better cameras, and more storage.
Vehicles. Cars without built-in GPS navigation are seen as outdated, as consumers expect either built-in navigation or smartphone integration, like Apple CarPlay.
Real estate. In markets where buyers expect multiple bathrooms, single-bathroom homes can be functionally obsolete, limiting their market appeal and value.
Fax machines. As email and digital document sharing have become standard, fax machines are rarely used and are functionally obsolete in most office environments.
Refrigerators. Older refrigerators that consume more electricity are functionally obsolete because modern models are far more energy-efficient, reducing long-term operational costs.