Chapter 1_Accounting_for_Tangible_Non_current_Asset.pdf

Accounting for
Tangible Non
current Assets
Initial Recognition and Subsequent
Measurement of NCA Expenditure

Introduction
The main accounting starndard relating to the
recognition and measurement of tangible non
current assets is IAS16 Property, Plant and
Equipment.
However the following accounting standards are
relevant as well:

Other relevant standards
❑ IAS 20 Accounting for Government grants
❑IAS 23 Borrowing costs
❑ IAS 36 Imparements of assets
❑ IAS 40 Investment property

Definition
IAS16 defines property, plant and
equipment as "tangible items that:
(a) are held for use in the production or
supply of goods or services, for rental to
others, or for administrative purposes;
and
(b) are expected to be used during more
than one period."

Definition
It is clear that items which will benefit more than
one accounting period fit the description of PPE.
The ammendments 2009-2011 finalised in May
2011 clasifies that items of spareparts, standby
equipemnt and servicing equipment that will be
used during more than one period meet the
definition of PPE.

Definition
Items that are not used during more
than one period are accounted for as
inventories under IAS 2

Recognition of Property, Plant
and Equipment
An item of property, plant and equipment should
be recognised as an asset if and only if:
(a) it is probable that future economic benefits
associated with the item will flow to the entity
concerned, and
(b) the cost of the item can be measured reliably.

Initial Measurement of
Property, Plant and Equipment
On initial recognition, property, plant and
equipment should be measured at cost. Cost
includes:
Purchase price, including import duties and
non-refundable purchase taxes, less trade
discounts
Costs that are directly attributable to bringing
the item to the location and condition
necessary for it to be operated as intended

Initial Measurement of
The estimated costs of dismantling and
removing the item and restoring the site on
which the item is located, as long as the
obligation to meet these costs is incurred
when the item is acquired

Subsequent Measurement of
After initial recognition, items of property, plant
and equipment may be measured using either:
The cost model; items are carried at cost (initial
cost plus subsequent expenditure) less any
accumulated depreciation and less any
accumulated impairment losses

Measuring non current assets
Direct atributable costs might include:
Proffesional fees
Delivery costs
Site prepartion costs
Assembly and testing costs

EXAMPLE 1
On 1 March 20X0 Yucca Co acquired a machine
from Plant Co under the following terms:

In addition to the above information, Yucca Co was
granted a trade discount of 10% on the initial list price
of the machine and a settlement discount of 5% if
payment was received within one month of purchase.
Yucca Co paid for the machine on 25 March 20X0.
Required:
Explain how the above information should be
accounted for in the financial statements of Yucca Co
for the year ended 28 February 20X1

Self-constructed assets
For self-constructed assets (non-current assets that
are constructed by the entity itself):
❑internal profits and abnormal costs should be
excluded from cost
❑administrative expenses and other similar
overheads should also be excluded from cost
❑interest costs incurred in the course of
construction may be included, in accordance with
IAS 23 Borrowing costs

Subsequent Expenditure
Subsequent expenditure relating to non-current
assets, after their initial acquisition, should be
capitalized if it meets the criteria for recognising an
asset. In practice, this means that expenditure is
capitalized if it:
improves the asset (for example, by enhancing its
performance or extending its useful life)

is for a replacement part (provided that the
part that it replaces is treated as an item that
has been disposed of).
Repairs and maintenance expenditure is
revenue expenditure. It is recognised as an
expense as it is incurred, because no
additional future economic benefits will arise
from the expenditure

Examples of subsequent expenditure on a
building, for example, include:-
❑constructing an extension to the building
❑replacing the elevators or the heating or air
conditioning system

Measuring non current assets
Under the revaluation model, an item of
property, plant and equipment is ‘carried’ in
the statement of financial position at:
❑its revalued amount (its fair value)
❑less accumulated depreciation charges
and impairment losses (since the
revaluation).

Revaluation model
Fair value is normally open market value. If
there is no reliable market value (for
example, because the asset is specialized or
because sales are rare), depreciated
replacement cost can be used.
Valuation should normally be performed by
a professionally qualified valuer

If the revaluation model is
adopted:
assets must be revalued regularly so that
their carrying values do not differ materially
from their fair values
once an asset is revalued, all assets within
that class must also be revalued

Revaluation model
IAS 16 does not prescribe a time interval between
revaluations. However it states that revaluations
should be made with ‘sufficient regularity’ to
ensure that its carrying value in the statement of
financial position is not materially different from
what its fair value would be

Measurement model
A measurement model must be chosen for each
class of non-current assets. It is an accounting policy
choice.
The chosen accounting policy for a class of assets
should be applied consistently to all the assets in
that class.
For example, an entity may choose the revaluation
model for all its land and buildings, and the cost
model for all its plant and equipment.

Gains on revaluation
When an asset is revalued upwards from its
carrying amount, there is a gain on
revaluation
The gain on revaluation is included as other
comprehensive income in the statement of
comprehensive income and is not included in
profit or loss for the period.

Exception
There is an exception to this rule. If the gain on
revaluation reverses a previous loss on revaluation,
where the loss was recognised in profit or loss, the
revaluation gain should be recognised in profit or
loss, not ‘other comprehensive income’.

Gains on revaluation
When a gain on revaluation is recognised in
other comprehensive income, it is a
requirement of IAS 1 and IAS 12 that the
tax associated with the revaluation should
also be included in other comprehensive
income.

Losses on revaluation
When an asset is revalued down from its
carrying value there is a loss on revaluation
The amount of the reduction in valuation
should be recognised in profit or loss (not in
other comprehensive income).

Losses on revaluation
There is an exception to this rule. If the loss
on revaluation reverses a previous gain on
revaluation that was reported in other
comprehensive income, the decrease should
be reported in other comprehensive income
and not recognised as a loss.

Reserves transfer
The depreciation charge on the revalued asset will be different to
the depreciation that would have been charged based on the
historical cost of the asset.
As a result of this, IAS 16 permits a transfer to be made of an
amount equal to the excess depreciation from the revaluation
surplus to retained earnings.

The objective of depreciation
IAS 16 states that the objective of depreciation
is to allocate the depreciable amount of an
asset on a systematic basis over its useful life.
The depreciable amount of a non-current asset
is:
its cost minus its expected residual value,
where the cost model of valuation is used

The objective of depreciation
the amount substituted for cost, less its
expected residual value, where the
revaluation model is used
The depreciation charge has the effect of
spreading the cost/fair value of the asset
over the financial periods that will benefit
from its use.

The depreciation charge for the year (whether
based on cost or revalued amount) is
recognised in profit or loss in the statement of
comprehensive income.
All tangible non-current assets must be
depreciated. The only exception to this rule is
land, which normally has an indefinite useful
life (unless the land is used in mining or
similar industries).

Depreciation methods
Methods of depreciation that may be
used include:
❑ the straight-line method
❑ the reducing balance method
❑ the units of production method.

✓The asset must continue to be depreciated
following the revaluation. However, now
that the asset has been revalued the
depreciable amount has changed.
✓In simple terms the revalued amount
should be depreciated over the asset’s
remaining useful life.
Depreciation of revalued assets

A change in the method of
measuring depreciation
IAS 16 requires depreciation methods to be
reviewed at least annually. It only allows a
change in the method of measuring
depreciation where this would give a fairer
presentation of the entity’s financial results
and financial position.

Reserves transfer
✓ The depreciation charge on the revalued asset will be
different to the depreciation that would have been
charged based on the historical cost of the asset.
✓ As a result of this, IAS 16 permits a transfer to be made
of an amount equal to the excess depreciation from the
revaluation surplus to retained earnings.
Journal entry:
Dr Revaluation surplus
Cr Retained earnings

A change in the method of
measuring depreciation
Where there is a change in the depreciation
method used, this is a change in accounting
estimate. A change of accounting estimate is
applied from the time of the change, and is
not applied retrospectively.

Example
Entity L owns a machine which originally cost
30,000 on 1 January Year 1. It has no residual
value. It was being depreciated over its useful life
of 10 years on a straight line basis.
At the end of Year 4, when preparing the financial
statements for Year 4, Entity L decided to change
the method of depreciation, from straight-line to
the reducing balance method, using a rate of 25%.

Solution
Cost on 1 January Year 1 = 30,000
Depreciation for Years 1 to 3 (30,000 × 3/10) = (9,000)
Carrying amount at end of Year 3 = 21,000
Depreciation for Year 4 will therefore:
$21,000 × 25% = 5,250

A change in the asset’s useful
life
IAS 16 requires useful lives to be reviewed
at each year-end. Any change is a change in
accounting estimate. The carrying amount
(cost minus accumulated depreciation) of
the asset at the date of change is written off
over the (revised) remaining useful life of
the asset

Example
Entity M owns a machine which originally cost 60,000 on
1 January Year 1. It has no residual value. It was being
depreciated over its useful life of 10 years on a straight-
line basis. On 31 December Year 4 Entity L revised the
total useful life for the machine to eight years.
Required
Calculate the depreciation charge for Year 4 and
subsequent years.

Solution
The change in accounting estimate is made at the
end of Year 4 but may be applied to the financial
statements from Year 4 onwards
Cost on 1 January Year 1 = 60,000
Depreciation for Years 1 to 3 (60,000 × 3/10) =
(18,000)
Carrying amount at end of Year 3 = 42,000

Solution
Remaining useful life at the end of Year
3 = 8 – 3 years = 5 years.
Depreciation for Year 4 and
subsequent years will be 42,000 ÷ 5
years = 8,400.

Chapter 1_Accounting_for_Tangible_Non_current_Asset.pdf

Derecognition of non current
asset
When an asset is de-recognised, its carrying
amount is removed from the statement of
financial position.
IAS 16 Property, plant and equipment states
that the carrying amount of an item of
property, plant and equipment should be
derecognized in the following circumstances

Derecognition of non current
asset
❑ on disposal of the asset, or
❑ when no future economic benefits are expected
to arise from its use or from its disposal
❑ If a non-current asset is disposed of, the gain or
loss on the disposal should be included in profit or
loss in the period in which the disposal occurs. The
gain or loss should not be included in sales
revenue.

Investment property: IAS 40
Definitions
An investment property is property held
to earn rentals or for capital appreciation
or both. It differs from non-investment
property, which is property:

❑ used in the production or supply of goods, or
for administrative purposes, or
❑held for sale in the ordinary course of business.
❑Property could be land or a building (or part of
a building) or both, and it includes the building
whilst it is under construction for eventual use as
an investment property.

The property could be held by:
❑ the owner, or
❑the lessee under a finance lease or an
operating lease.

The following are not
investment property:
Property intended for sale in the ordinary course
of business
❑ property being constructed or developed on
behalf of third parties
❑ owner-occupied property
❑property being leased to another entity under a
finance lease.

Accounting treatment of
investment property
The recognition criteria for investment property
are the same as for property, plant and equipment
under IAS 16.
it is probable that future economic benefits
associated with the property will flow to the
entity,
and the cost of the property can be measured
reliably

Measurement
Investment property should be measured
initially at cost plus the transaction costs
incurred to acquire the property.
After initial recognition an entity may
choose as its accounting policy:
❑ the fair value model, or
❑the cost model

This is different to the revaluation model of IAS 16,
where gains are reported as
other comprehensive income in the statement of
comprehensive income (and are not included in
profit or loss) and credited to a revaluation
reserve.
Fair Value Model

Treatment of loss or gain
Gains or losses on disposals of investment
properties are included in profit or loss in
the statement of comprehensive income in
the period in which the disposal occurs.

Chapter 1_Accounting_for_Tangible_Non_current_Asset.pdf

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