When a company acquires certain types of Tangible Asset under Ind AS 16, it sometimes has an obligation to remove these assets after the end of their useful lives and restore the site or sometimes, the legislation requires a company to remove the plant and restore the site after the end of its useful life.
Eg. Nuclear power plant
We need to know how to account for such expenses as to account them as and when they arose will be against matching concept as well since such expense arises after a certain period for use of asset over the period of time. The reason is that the obligation to remove and restore the site arose right when the related assets were built and therefore, the company knew about these costs right from the start.
Ind AS 37 on Decommissioning
The standard Ind AS 37 Provisions, Contingent Liabilities and Contingent Assets requires recognizing a provision when there is a liability - i.e. present obligation arising from past events.
Except for Ind AS 37, there's the standard Ind AS 16 Property, Plant and Equipment that requires including the initial estimate of the costs of dismantling and removing the item and restoring the site into the cost of an asset.
As per the interpretation of above two standards don't recognize a decommissioning provision in profit or loss, but in your assets as a part of an item of PPE.
Also Appendix A to Ind AS 16: Changes in Existing Decommissioning, Restoration and Similar Liabilities deals with subsequent measurement of a provision and recognition of its changes.
How to measure decommissioning provision
Points to remember
Involve valuation officer to estimate future costs.
Discount cash flows.
Para 47 of Ind AS 37 requires selecting a 'pre-tax rate(s) that reflect(s) current market assessment of the time value of money and the risks specific to liability”.
• Debit Property, Plant and Equipment
• Credit Provision for Decommissioning
Recognize a provision when there's a past event creating a present obligation. In most cases, obligation builds up together with asset when it is ready to use. The obligating event happens when the asset is being constructed. Therefore, we recognize any provision to rectify damages caused by construction at the time of asset is ready for its intended use.
However sometimes such provision may relate to the operations and not to an asset, therefore it is recognized in profit or loss and not capitalized to the cost of an asset.
For example, factory built on rented premise, when constructed, then there is obligation to dismantle it after the end of their lease term and therefore, the provision for dismantle is recognized at the time of construction in the cost of a factory.
But, when you operate a factory, then some waste maybe produced. One may need to remove the waste at end of lease term and maybe the amount is material. The provision for these expenses is recognized when the waste is produced i.e. when you operate the factory.
This requires unwinding of discount each year, i.e. charging an interest (in P&L) on your provision to build up your discounted liability to its future value.
Change is estimates of provisions
Appendix A to Ind AS 16: Changes in Existing Decommissioning, Restoration and Similar Liabilities deals with the same
It depends on the model applied to PPE:
• If cost model, then recognize a change in your provision in the cost of your asset;
• If revaluation model, then recognize a change in your provision in the revaluation surplus or deficit.
Estimated the expenses to decommission the plant is 25 lakhs after 10 yrs of operation of PPE and discount rate extimated is 5%
Expense to be incurred: 25 lakhs
Discount factor for 10yrs at 5% = 0.6139
Provision required: 25 * 0.6139 = 15.3475 lakhs
The journal entry is:
• Debit Property, Plant and Equipment: 15.3475 lakhs
• Credit Provision for Decommissioning: 15.3475 lakhs
When there's no change in estimates in the subsequent reporting period, unwind the discount. Therefore, journal entry at end of year 1 will be is:
• Debit P/L - Interest Expenses: 76,738 (15.3475 lakhs * 5%)
• Credit Provision for Decommissioning: 76,738
Assume next year estimate of cash outflow change to 27 lakhs and all the other estimates remain unchanged.
One needs to recalculate the provision and account for its changes as per Appendix A of Ind AS 16.
We are at end of second year and not beginning of First year, therefore the number of years for discounting change to 8 yrs
27 lakhs * PVF(5%, 8yrs)
= 27 * 0.6768
Assuming one uses cost model, we need to recognize the change in the cost of a plant.
Before we recognize this change first lets account for unwinding of discount in year 2:
• Debit P/L - Interest Charges: 80,744 ((15.3475 + 0.76738)*5%)
• Credit Provision for Decommissioning: 80,744
Then, we can recognize the change in the provision:
• Debit PPE: 135,298 (18.2736 - (15.3475+0.76738+0.80744))
• Credit Provision for Decommissioning: 135,298
Finally, when a company starts decommissioning - i.e. removing the PPE and restoring the site, then all expenses are charged against the provision:
• Debit Provision for Decommissioning: 27 lakhs
• Credit Cash/Bank Account/Suppliers: 27 lakhs
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