Investment Property - IAS 40

IFRS 2556 views 14 replies

CA. Amit Daga

Finance Controller CA. CS. CFA. CIFRS.

9017 Points Joined October 2007

Investment Property IAS 40

The classification of certain properties as “Investment Property” for financial reporting purposes arises because its argued that the characteristics of investment properties differ sufficiently from the characteristics of owner occupied property.

Investment Property is defined in IAS 40 as…………..

“ Property (land or building – or part of a building – or both) held (by the owner or by the lessee under a finance lease) to earn rentals or for capital appreciation or both rather than for :

§ use in the production or supply of goods or services or for administrative purpose

§ sale in the ordinary course of business”

In addition, a property interest that is held by a lessee under an operating lease may be treated as an investment property if and only if :

§ The rest of the definition of investment property is met

§ The lessee uses the fair model in IAS 40

§ The property interest held under the operating lease is accounted for as if it’s a finance lease

Replies (14)

CA. Amit Daga

Finance Controller CA. CS. CFA. CIFRS.

9017 Points Joined October 2007

Example of Investment Property Includes :-

§ Land held for long term appreciation in value, rather than for short – term sale in the ordinary course of business

§ Land whose future use has not yet been determined. If the future use has not been yet been determined, land is assumed to be held for capital appreciation

§A building owned under a finance lease and leased out under an operating lease

§ A building that is vacant, but held to be leased out under an operating lease

§ Investment Property being redeveloped for continued use as investment property

Example of Investment Property does not Includes :-

§ Property intended for sale in the ordinary course of business or for development

§ Property under construction for third parties

§ Owner- occupied property

§ Property occupied by employees

§ Owner occupied property awaiting disposal

§Property being constructed or developed for future use as investment property. Until Construction or development is not complete, IAS 40 will not attract

CA. Amit Daga

Finance Controller CA. CS. CFA. CIFRS.

9017 Points Joined October 2007

Property that is under construction or development for future use as investment property will be valued under Fair value.

However, where fair value of the investment property under construction is not reliably measurable, the property is measured at cost until the earlier of the date construction is completed or the date at which fair value becomes reliably measurable.

Example:- Entity A, is a supplier of industrial products. In 2007, the entity purchase a land on the outskirts of a major city.

The govt. has plans to develop the area as an industrial park in five years time and the land is expected to greatly appreciate in value if the govt. proceeds with the plan.

Entity A’s Management classify such a property that is held for undetermined future use ?

Management should classify the property as an investment property.

Although management has not determined a use for the property after the park’s development takes place, in the medium-term the land is held for capital appreciation.

IFRS considers land as held for capital appreciation, if an entity has not determined that it will use the land either as owner- occupied property or for short term sale in the ordinary course of business.

CA. Amit Daga

Finance Controller CA. CS. CFA. CIFRS.

9017 Points Joined October 2007

Recognition

Investment property will be recognised when it is probable that the future economic benefits associated with the property will flow to the entity and the cost of the property to the entity can be reliably measured.

Recognition involves considering all costs incurred relation to investment property, both initial cost and costs incurred subsequently. Subsequent costs include costs of servicing and maintaining the property and costs of replacing parts of the property.

Subsequent costs of day to day servicing and maintaining a property are not recognised as an asset. Instead they are expensed as incurred.

Example:- Entity A, acquired an investment property on 1st Jan 2000. Entity A, has a policy of holding its investment properties at cost. During 2009 entity A spent a significant amount of money installing a modern upgraded glass roof on this property. Entity A management believes that its important for the property to have a modern roof system to attract and retain tenants. It also enables management to reduce electricity costs.

The new roof should be capitalised, as a roof is usually replaced during the life of a building and the roof of the building is separate component that should be future economic benefit for entity A. The carrying value of the existing roof would be derecognised. If the cost is not known management could use an estimated cost.

CA. Amit Daga

Finance Controller CA. CS. CFA. CIFRS.

9017 Points Joined October 2007

Measurement at Initial Recognition

Owned Property :- Investment property should be measured at Cost. The amount will include borrowing cost. Cost incurred relating to market studies before the purchase of property cannot be capitalised but instead are expensed as incurred.

Start-up cost will not be part of cost of investment property. Similarly, operating losses incurred before the investment property achieves its planned level of losses incurred before the investment property achieves its planned level of occupancy should not be capitalised..

Example:- Air-conditioning plant was purchased at the beginning of 2005 at a cost of $.5M. Its depreciated at 10% per annum on a straight line basis. Fair value of assets as on 2008 is $.3M. During 2008 plant has to be replaced that cost $1M. The F.V of investment property at the beginning of 2008 is $15M and at year end its $18M. How is this presented in the financial statements.

Fair value at the beginning of the year $ 15,000,000

Addition- Capitalised subsequent expenditure $ 1,000,000

Disposal ($ 300,000)

Net gain from fair value adjustment $ 2,300,000

Fair value at the end of the year $ 18,000,000

CA. Amit Daga

Finance Controller CA. CS. CFA. CIFRS.

9017 Points Joined October 2007

Measurement at Initial Recognition

Property held under a lease :- IAS 40 requires that the initial cost of a property interest held under a lease and classified as investment property should be determined in accordance with the requirements for finance lease in IAS -17.

IAS -17 requires that a finance leased asset should be recognised at the asset’s fair value or, if lower, at the present value of the minimum lease payments. An equivalent amount is recognised as a liability. Any initial direct costs of the lessee are added to the amount recognised as an asset.

Property held under an operating lease may also in certain circumstances, be accounted for as investment property. One condition for this is that the lease is accounted for as if it is a finance lease.

Where an entity has paid a premium on entering into a lease, the premium is treated as part of the minimum lease payments for the purpose of determining cost. The premium is excluded from the related liability, because it has already been paid.

Although, IAS 17 normally requires that the land and buildings elements of a property are considered separately for the purpose of lease classification and that the minimum lease payments are allocated between the land and buildings elements, it makes and exception where the lessee’s interest in both land and building are classified as investment property and the fair value model is adopted.

CA. Amit Daga

Finance Controller CA. CS. CFA. CIFRS.

9017 Points Joined October 2007

Measurement at Initial Recognition

Exchange :- An investment property may be acquired in exchange for another non – monetary asset or assets or for a combination of non-monetary and monetary asset. The cost of such an acquired investment property is measured at fair value of the consideration given, unless :

§ the exchange transaction has no commercial substance ; or

§ the F.V of neither the asset received not the asset given up can be reliably measured.

Where there are no comparable market transactions, the fair value of either the asset given up or the asset received can still be reliably measured if :

§ the range of reasonable estimates of fair value does not vary significantly, that is, if the range is reasonably narrow; or

§ if the range itself is not narrow, the probabilities of the various estimates within the range can be reasonably assessed and used in estimating fair values.

Where both the fair value of the asset given up and the fair value of the asset received can be estimated with equal reliability, the fair value of the asset given up is used to measure the cost of the asset received. However, if the fair value of the asset received can be measured with more reliability, the value is used.

CA. Amit Daga

Finance Controller CA. CS. CFA. CIFRS.

9017 Points Joined October 2007

Subsequent Measurement

Where the cost model is chosen under IAS 40 and entity may not carry any of its investment property at fair value, but it may still adopt a policy of revaluation for its owner- occupied property if it wishes.

Whereas, and entity has adopted fair value model, the IASB considers that it should not subsequently change to the cost model.

Where an entity adopts the cost model, its still required to make disclosure of the fair value of its investment property.

Where an entity holds investment property that is linked to liabilities', it can

§ choose either the fair value model or cost model for all investment property backing liabilities that pay a return linked directly to the fair value of, or returns from, specified assets including that investment property; and

§ choose either fair value model or cost model for all other investment property, regardless of the choice made in the first bullet point.

Sales of investment property between pools of assets measured using different models should be recognised at fair value and the cumulative change in fair value should be recognised in profit or loss account.

CA. Amit Daga

Finance Controller CA. CS. CFA. CIFRS.

9017 Points Joined October 2007

Subsequent Measurement

Example :- Entity A, owns several investment properties and has adopted the fair value model for measurement purposes. It has completed the development of an entertainment complex and intends to lease the complex to a third party.

Entity A’ will classify the complex as an investment property. Entity A’s management is not able to determined the entertainment complex's fair value, as there is no active market for such a property. A sale of the complex would be subject to significant negotiations.

In this situation, Entity A should measure the property at fair value even thought there is no active market for the property. As management intends to lease the provide to a third party, it should be able to approximate FV based on the PV of the future lease rental.

The only exception to this should be where there is clear evidence that the entity will be determine the fair value of the investment property reliably on a continuing basis.

In such a circumstance the entity should use the cost basis, that is cost less depreciation and impairment. The residual value of the investment property should be assumed to be nil.

CA. Amit Daga

Finance Controller CA. CS. CFA. CIFRS.

9017 Points Joined October 2007

Determining Fair Value

F.V excludes any estimated price that is inflated or deflated by special terms such as unusual financing i.e. sale and leaseback arrangements or special consideration or concessions granted by any one associated with the sale.

Fair value of a property held under a lease will reflect expected cash outflows as well as expected cash inflows. The former may include contingent rents payable as well as fixed lease payments.

It will be necessary to add back the lease liabilities to the valuation amount to arrive at the fair value of the property to be recorded as an asset and the lease liabilities will then be recorded as a liability.

In other words it will be necessary to “gross-up” the asset and the lease liability.

The fair value of investment property should not reflect future capital expenditure that will improve or enhance the property nor the future economic benefit that are expected to flow from such expenditure.

This is simply because the fair value at the balance sheet date should reflect conditions at that date and should not reflect future events, such as commitments for capital expenditure, until those events occur.

CA. Amit Daga

Finance Controller CA. CS. CFA. CIFRS.

9017 Points Joined October 2007

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Transfer

Transfer should be made when, and only when there is change of use

Investment Property becomes owner- occupied property :- Where the investment carried at F.V, the F.V at the date of transfer becomes the deemed cost for subsequent accounting under IAS 16 (PPE)

Investment Property to be developed for sale:- Where the investment property carried at F.V, the F.V at the date of transfer becomes the deemed cost for subsequent accounting under IAS 2 (Inventory)

Owned property becomes Investment Property :- A transfer should be made from owner- occupied property to investment property when owner-occupation ceases. If the investment property is to be carried at fair value, IAS 16 is applied up to the date of transfer. The property is fair valued at the date of transfer and revaluation gain or loss, is accounted for a revaluation surplus or deficit in equity

Property held as Inventory becomes Investment Property :- When an operating lease is granted to a third party on a property held as inventory, the property should be transferred to investment property as soon as the operating lease commences. If the Investment property is to be held at F.V, any difference between the fair value and the previous carrying amount at the date of transfer is recognised in profit or loss. This is consistent with the treatment of sales of inventory.

CA. Amit Daga

Finance Controller CA. CS. CFA. CIFRS.

9017 Points Joined October 2007

Transfer

Self Constructed property becomes investment Property :- When construction of development of a self constructed property is complete it should be transferred to investment property. If the investment property is to be carried at fair value, any difference between fair value and the previous carrying amount at the date of transfer should be recognised in profit or loss.

Transfer under the cost model:- When and entity has a policy of carrying investment property at cost less depreciation. However such transfer do no change the carrying amount of the property transferred, that is, no revaluation gains or losses arise, nor do they change the cost of the property for measurement.

Owner occupied property transferred to Investment Property When property is transferred from developed property or owner occupied property to investment property and where the company received a govt. grant as a contribution towards its cost. In this case, the grant would have been treated as deferred income and release to the income statement over the property’s estimated useful life to match its depreciation.

If the cost model is adopted then the grant would continue to be treated as it had been before the transfer. If the fair value model is adopted, the grant would be deducted from the carrying value of the asset in accordance with IAS 20

CA. Amit Daga

Finance Controller CA. CS. CFA. CIFRS.

9017 Points Joined October 2007

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Transfer-- Exception

There are two specific situation where transfer do not takes place

Investment Property sold without development :- Where an investment property is to be disposed of without development, there has been no change of use and the property is not transferred to inventory.

Instead it is retained in investment property until disposal or until it is otherwise derecognised

Investment Property developed for continuing future use as investment Property:- If an investment property is developed for continued future use as an investment property.

It is also retained in investment property and is not transferred to inventory or to owner- occupied property.

Again this is because there has been no change of use.

CA. Amit Daga

Finance Controller CA. CS. CFA. CIFRS.

9017 Points Joined October 2007

Summary of Valuation of Properties

Property type-	Standard	Valuation
Owner-occupied property	IAS 16	Cost or revaluation.
Property under construction (including investment property under construction)	IAS 16	Cost.
Property acquired in an exchange of assets	IAS 16	Fair value or the carrying amount
Investment property	IAS 40	Cost or fair value.
Investment property being redeveloped for continuing use as investment property.	IAS 40	Cost or fair value.
Investment property held for sale without development	IAS 40	Cost or fair value.
Property held under an operating lease classified as an investment property	IAS 40	Fair value (accounted for as a finance lease under IAS 17).
Property held under an operating lease	IAS 17	Leasing costs expensed.
Property held under a finance lease	IAS 17	Lower of fair value and the P.V of the minimum lease payments.

CA. Amit Daga

Finance Controller CA. CS. CFA. CIFRS.

9017 Points Joined October 2007

Summary of Valuation of Properties

Property lease to another party under a finance lease	IAS 17	Receivable = the net investment in the lease.
Property sale and leaseback	IAS 17	As operating lease or finance lease, as appropriate
Trading properties – property (including investment property) intended for sale in the normal course of business	IAS 2	Lower of cost and net realisable value.
Property held for sale, or included in a disposal group that is held for sale.	IFRS 5	Lower of carrying amount and fair value less costs to sell.
Assets received in exchange for loans (taking possession of collateral)	IFRS 5	Lower of fair value less costs to sell and carrying amount of the loan net of impairment at the date of exchange.
Property provided as part of a construction contract	IAS 11	Stage of contract completion or cost.
Future costs of dismantling, removal and site restoration.	IAS 37	Present value of the expected costs, using a pre-tax discount rate.