Borrowing Cost (IAS -23)

IFRS 2546 views 5 replies

CA. Amit Daga

Finance Controller CA. CS. CFA. CIFRS.

9017 Points Joined October 2007

Capitalisation of borrowing costs on qualifying assets is mandatory.

Qualifying assets is defined as “…an asset that necessarily takes a substantial period of time to get ready for its intended use or sale”

As substantial period of time is not defined in the standard. Therefore management exercises judgment that what is substantial period of time. An asset normally takes more than a year to be ready for use will usually be a qualifying asset.

For the assumption of substantial period of time management need to disclose in the notes to the financial statements.

Capitalisation of borrowing costs includes capitalising foreign exchange differences relating to borrowings to the extent that they are regarded as an adjustment to interest costs.

For foreign exchange differences IFRIC has given two methods :-

• The portion of the foreign exchange movement may be estimated based on forward currency rates at the inception of the loan.

• The portion of the foreign exchange movement may be estimated based on the interest rates on similar borrowings in the entity’s functional currency.

Replies (5)

CA. Amit Daga

Finance Controller CA. CS. CFA. CIFRS.

9017 Points Joined October 2007

Example:- A telecom entity has acquired a 3G licence. The license could be sold or licensed to a third party. However, management intends to use it to operate a wireless network. Development of the network is starting on the acquisition date of the licence.

Should borrowing costs on the acquisition of the 3G licence be capitalised until the network is ready for its intended use ?

Yes, The licence has been exclusively acquired to operate the wireless network. The fact that licence can be used or licensed to a third party is irrelevant. The acquisition of the license is the first step in a wider investment project. It is part of the network investment, which meets the definition of a qualifying asset.

Example:- A real estate entity has incurred expenses for the acquisition of a permit allowing the construction of a building. It has also acquired equipment that will be used to construct various buildings.

Yes for the permit, because it first step in a wider investment project and is part of the construction cost of the building.

No for equipment, it can be used for other construction projects. Its ready for its intended use at the acquisition date. It does not meet the definition of a qualifying assets

CA. Amit Daga

Finance Controller CA. CS. CFA. CIFRS.

9017 Points Joined October 2007

Cost eligible for Capitalisation

Where an entity borrows specifically for the purpose of obtaining a qualifying asset, the borrowing costs attributable to obtaining that asset are readily identifiable.

However, where such specific borrowings are not taken out and an entity funds the asset out of general borrowing, it may be difficult to identify a relationship between particular borrowings and a qualifying asset.

Such a situation might occur where an entity has a centralised treasury function, which uses a range of debt instruments carrying different rates of interest and lends funds to group companies, at different rates or even interest free. Other difficulties may arise where an entity uses foreign currency loans or operates in a highly inflationary economy.

In such situations, the amount of borrowing cost should be determined by applying a capitalisation rate to the expenditure on the asset.

The capitalisation rate should be the weighted average of the borrowing rates applicable to the borrowings of the entity that are outstanding during the period, other than borrowing made specifically for the purpose of obtaining a qualifying asset. The amount of borrowing costs capitalised during a period should not exceed the amount of borrowing costs incurred during the period.

CA. Amit Daga

Finance Controller CA. CS. CFA. CIFRS.

9017 Points Joined October 2007

Example:- On 1st July 2006 entity A contracted of a building for $ 2.2 M on land that it had previously purchased. The building was completed at the end of June 2007. and during the period the following payments where made to the contractor.

1st Jul06:- .2 M, 30th Sep06 :- .6 M 31st Mar07 :- 1.2 M 30th Jun07 :- .2 M

a. 10% 4-year note with simple interest payable annually, which relates specifically to the project; Debt outstanding at 30th June 07. amounted to $ .7 M. Interest of $ 65 K was incurred on these borrowings during the year and interest income $ 20K was earned on these funds while they were held in anticipation of payments.

b. 12.5% 10 year note with simple interest payable annually; debt outstanding at 1st July 2006 amounted to $ 1 M and remained unchanged during the year

c. 0%, 10-year note with simple interest payable annually; debt outstanding at 1ST Jul 06 is $1.5 M and remained unchanged during the year.

Borrowing costs eligible for capitalisation on specific borrowings are the actual costs incurred. Any interest income earned on specific borrowings taken out and then put on deposit should be deducted in calculating the net amount eligible for capitalisation.