CA Madhuri Thete 1.IAS 23 Borrowing Cost 2.IFRS 5 Non-current assets Held For Sale and Discontinued Operations

IAS 23 Borrowing Cost

Core Principle Borrowing costs that are directly attributable to the acquisition, construction or production of a qualifying asset form part of the cost of that asset. Other borrowing costs are recognised as an expense.

Definitions Borrowing costs are interest and other costs that an entity incurs in connection with the borrowing of funds. A qualifying asset is an asset that necessarily takes a substantial period of time to get ready for its intended use or sale.

BC which can be capitalised  Actual borrowing cost on the funds borrowed specifically for obtaining a particular qualifying asset minus any investment income on temporary investment of these borrowings  Borrowing costs on funds borrowed generally but used for obtaining a qualifying asset - calculated by reference to the weighted average cost of the general borrowings.

Wonder Ltd has of the following general loan arrangements: 1. Loan from Jackson Bank: loan amount $ 6,00,000, interest paid at 9%; 2. Loan from Bank of Origin; loan amount $ 15,00,000, interest paid at 8%; and 3. Loan from Turner Investment services $ 3,00,000, interest paid at 7.5%. Wonder Ltd decided to build a factory building. The total cost of this construction will be $ 600,000 and the entity will be able to fund the project from its existing borrowings. he construction takes 1 year. In this case, the weighted average cost of capital is calculated as follows: (600,000 x 0.09) + (1,500,000 x 0.08) + (300,000 x 0.075) = 8% (600, ,500, ,000) Therefore, borrowing costs to be capitalised: = Cost of asset x weighted average cost of capital = $ 600,000 x 8% = $ 48,000 Example

Capitalisation of borrowing cost (BC) Commences when the entity Stops when  Incurs expenditure for the asset  Incurs borrowing costs &  Undertakes activities needed to prepare asset for its use / sale Substantially all the activities necessary to prepare the qualifying asset for its intended use or sale are complete Capitalisation of BC shall be suspended during the period in which the active development of a qualifying asset was suspended.

The following events take place:  An entity buys some land on 1 December.  Work is undertaken in December and January in preparing a planning application.  Planning permission is obtained on 31 January.  Payment for the land is deferred until 1 February.  The entity takes out a loan to cover the cost of the land and the construction of the building on 1 February.  Due to adverse weather conditions there is a delay in starting the building work for six weeks and work does not commence until 15 March. When should capitalisation of borrowing costs commence? In this scenario the key dates are as follows:  Expenditure on the acquisition is incurred on 1 February.  Borrowing costs start to be incurred from 1 February.  Activities to prepare the building for intended use/sale (work on planning permission) were carried out during December and January. The earliest date when all three of these conditions were met is 1 February. But the six-week inactive period represents an extended period when active development was suspended, so capitalisation of borrowing costs should also be suspended. Capitalisation of borrowing costs should therefore commence from 15 March. Example

IAS 23 requires some significant judgments on the part of management, particularly in terms of how to define:  “A substantial period of time to get ready” which is a central part of the definition of a qualifying asset.  The borrowing costs which are “directly attributable” to work on the qualifying asset. In groups of companies with a central treasury function, it may be that some of the group borrowings are really attributable to activities other than the work on the qualifying asset.  “Activities necessary to prepare the qualifying asset”. This is central to identifying when capitalisation should commence.  An “extended period” when active development has been suspended and capitalisation should also be suspended.  When “substantially all the activities necessary are complete”, the point at which capitalisation should cease.

Disclosures An entity shall disclose:  the amount of borrowing costs capitalised during the period; and  the capitalisation rate used to determine the amount of borrowing costs eligible for capitalisation.

IFRS 5 Non-current Assets Held for Sale and Discontinued Operations

Core Principle A Non-current asset (or disposal group) should be classified as held for sale when the entity intends to recover its carrying amount principally through sale rather than through continuing use.

Definitions A non-current asset is an asset which is not a current asset. A disposal group is a group of assets to be disposed of, by sale or otherwise, together as a group in a single transaction, and liabilities directly associated with those assets that will be transferred in the transaction.

An entity shall classify a non-current asset (or disposal group) as held for sale when:  An asset is available for immediate sale in its present condition  Sale is highly probable For the sale to be treated as being highly probable, following conditions are to be met:  Appropriate level of management must be committed to sell the asset or the disposal group.  Active programme to locate a buyer and complete the plan must have been initiated.  Asset must be actively marketed for sale at a price that is reasonable in relation to its present current fair value.  Sale should be expected to qualify for recognition as a completed sale within 1 year.  It is unlikely that any significant changes to the plan will be made or that the plan will be withdrawn. Classification of NCA as held for sale

 Measured at lower of: Carrying amount Fair value less costs to sell  Any loss is considered an impairment loss  No depreciation charged on this asset after classification as asset held for sale Measurement of an asset held for sale Immediately before the initial classification of the asset as held for sale, the carrying amounts of the asset shall be measured in accordance with applicable IFRSs.

An entity prepares its accounts on 31 December each year. On 1 January 20X4 it acquired an item of PPE at a cost of $40,000. The asset has an estimated residual value of $4,000 and a useful life of 10 years. On 1 January 20X7 the asset was classified as held for sale. Its fair value was estimated at $16,000 and the costs to sell at $800. The asset was sold on 30 June 20X7 for $19,200. Required: Discuss the impact of the above transactions on the entity’s accounts. Case Study Example: Assets held for sale (cost model)

Upon classification as held for sale on 1 January 20X7:  The asset is removed from its property, plant and equipment category within non-current assets and moved into the held for sale category.  The carrying amount of the asset immediately before the reclassification is $29,200 ($40,000 – (($40,000 – $4,000) x 3/10)) (depreciation will be charged)  The fair value less costs to sell of the held for sale asset is $15,200 ($16,000 less $800 costs). The asset is now measured at this value, which is lower than its carrying amount.  A loss of $14,000 is recognised as an impairment loss as part of profit or loss for the period. This is the difference between the current carrying amount and the fair value less costs to sell. Upon sale on 30 June 20X7, a profit of $4,000 is recognised in profit or loss for the period.

An entity carries its land at fair value. One piece of land had a carrying amount of $60,000. On 1 January 20X8 the asset was classified as held for sale, its fair value being estimated at $70,000 and the costs to sell at $2,000. The asset was sold on 30 June 20X8 for $67,000. Required: Discuss the impact of the above transactions on the entity’s accounts. Case Study Example: Assets held for sale (revaluation model)

Answer  On 1 January 20X8 the land was revalued to $70,000. The gain of $10,000 should be recognised in other comprehensive income and held in revaluation surplus.  The land should then be classified as held for sale and the costs to sell of $2,000 recognised in profit or loss as an impairment loss. The carrying amount should now be $68,000.  Upon sale a further loss of $1,000 should be recognised as a loss on sale, because the sale proceeds are less than the carrying amount.  Any balance in revaluation surplus is now realised and should be transferred to retained earnings through the statement of changes in equity.

Answer The journal entries required are as follows: 1 January 20X8 DR Non-current assets $10,000 CR Revaluation surplus $10,000 Revaluation immediately prior to classification as held for sale. 1 January 20X8 DR Non-current assets held for sale (70 – 2) $68,000 DR Profit or loss $2,000 CR Non-current assets $70,000 Reclassification of non-current assets held for sale and re-measurement at fair value less costs to sell. 30 June 20X8 DR Cash $67,000 DR Profit or loss $1,000 CR Non-current assets held for sale $68,000 De-recognition of non-current asset now sold and recognition of loss on disposal. 30 June 20X8 DR Revaluation surplus $10,000 CR Retained earnings $10,000 Transfer through statement of changes in equity of revaluation surplus now realised.

If an entity does not intend to sell the asset any more, it should cease to classify the asset or the disposal group as held for sale. Measurement: LOWER of  Possible carrying value if asset was not classified as held for sale (Cost – Accumulated depreciation – Impairment) OR  Recoverable amount at the date of decision Any adjustments to the carrying value in the period in which the classification is changed are included in income from continuing operations. Changes to a plan for sale

On 1 January 20X5, the carrying value of an asset was $60,000 when it was classified as held for sale. Had it not been classified as held for sale, then the depreciation for 20X5 and 20X6 would have amounted to $6,000 each year and there would not have been any impairment loss. On 31 December 20X6, the carrying value of the asset held for sale is $50,000 and the company does not intend to sell it any more. The recoverable amount of the asset is $49,000. If the asset had not been classified as held for sale then the carrying amount on 31 December 20X6 would have been $60,000 – $6,000 – $6,000 = $48,000. Its recoverable amount at this date is $49,000. The lower of the two is $48,000. Therefore, the asset is measured at this value on 31 December 20X6. This is compared to the current carrying amount i.e. the carrying amount on 31 December 20X6 which is $50,000. Therefore the loss of $2,000 is recognised under continuing operations in the statement of profit or loss. Example

A discontinued operation is a component of an entity that either has been disposed of or is classified as held for sale, and:  represents either a separate major line of business or a geographical area of operations  is part of a single co-ordinated plan to dispose of a separate major line of business or geographical area of operations, or  is a subsidiary acquired exclusively with a view to resale and the disposal involves loss of control. Discontinued operation

IFRS 5 requires the presentation of a single amount in the statement of comprehensive income comprising the total of:  the post-tax profit or loss of discontinued operations; and  the post-tax gain or loss recognised on the measurement to fair value less costs to sell or on the disposal of the assets or disposal group(s) constituting the discontinued operation. In addition, this single amount must be analysed, either in the notes or in the statement of comprehensive income, into:  the revenue, expenses and pre-tax profit or loss of discontinued operations;  the related income tax expense as required by IAS 12  the gain or loss recognised on the measurement to fair value less costs to sell or on the disposal of the assets or disposal group(s) constituting the discontinued operation; and  the related income tax expense as required by IAS 12 Presenting discontinued operation