The Accounting Standard IAS 16 “property plant and equipment” is basically designed to specify the accounting treatment with reference to the Property, Plant & Equipment. The property, plant and equipment are also referred to as fixed tangible assets. This standard also gives guidance on issues such as recognition of fixed tangible assets, the measurement of assets at the time of recognition and after the recognition. This standard also gives out information regarding how to deal with impairment, depreciation and de-recognition with regards to a fixed asset.
As per IAS 16, property plant and equipment are those tangible assets that an entity possesses the ownership off either for its own use or for the purpose of renting to others and the entity expects to use and yield benefits from these assets for more than one accounting period. These assets can either be constructed by the entity itself or can be purchased from other entities.
– IAS 16 basically covers the accounting for property, plant and equipment
– The Scope of IAS 16 does not include:
(a) Property, plant and equipment that are classified under the held for sale category as per IFRS 5
(b) The biological assets with reference to the agricultural activity as per IAS 41(Agriculture)
(c) The exploration and evaluation assets which are dealt with in the IFRS 6 (Exploration for and Evaluation of Mineral Resources).
(d) Mineral rights and reserves like natural gas, oil and similar non-regenerative resources.
Although, this standard does apply to property, plant & equipment with reference to developing and maintaining assets which are mentioned in the points (b), (c) and (d).
This standard does not incorporates the treatment of investment properties that are either constructed or completed as IAS 41 is designed to deal with these kind of properties. Although IAS 16 does deals with the non-investment property being constructed or completed or developed for being used in the future as an investment property by the entity.
Definition of Relevant terms
It is that amount that can either be attributed as an amount being equal to cash or cash equivalent considerations or an amount equal to the fair value of the other consideration, with reference to the purchase, acquisition or construction of an asset.
2. Carrying Amount
It is the value or amount at which an entity recognizes an asset in its statement of financial position and it is computed by deducting the Accumulated depreciation and any impairment loss from the cost of the asset.
3. Depreciable Amount
It is that amount of an asset which gets depreciated using the asset’s useful life and it is either attributed as the cost of an asset (if the asset has no residual value) or it is calculated by deducting an asset’s residual value from the cost of the same asset.
4. Residual Value
It is the estimated amount that an entity would get currently with reference to the disposal of an asset, after deducting any estimated costs relating to the disposal of that asset, and if the asset were fully depreciated or in a condition in which an asset’s useful life is expected to be at the end.
5. Useful Life
It is either the estimated time period for which an asset will be available for use by the management of the entity or the number of production or similar units which the entity expects to derive from the asset.
It is the reduction in the value of an asset and the reason of it can be attributed as the depreciable amount with reference to an asset gets systematically allocated over its own useful life.
7. Fair value
It is the amount or price that the entity either expects to receive to sell an asset or pay to transfer a liability in an orderly transaction among market participants at the measurement date.
8. Impairment Loss
It is the amount by which the carrying amount of an asset exceeds its recoverable amount.
9. Recoverable Value:
It is the amount that is the higher of an asset’s value in use and its fair value less cost to sell.
Initial Recognition Criteria
AS per IAS 16 an item of property plant and equipment can only be recognized as an asset if it fulfills the following criteria:
– It is probable that future economic benefits associated with the asset will flow to the entity and;
– The cost associated with the item can reliably be measured.
• This Recognition criterion is to be applied to all the costs incurred with reference to each and every item of property, plant and equipment. The cost recognized at this stage basically includes all those costs which are initially incurred either to construct or acquire the possession and ownership of an item related to the asset category of property, plant and equipment.
The entity after initially recognizing the costs of an asset (which is dealt by with IAS 16), the entity should also capitalize the subsequent costs related with that asset if these costs meet the criteria of recognition mentioned in IAS 16. Examples of such costs can be replacement cost of the asset’s components or parts and costs incurred on conducting major inspections regularly.
According to IAS 16, an item associated with the property, plant and equipment asset category should initially be measured at its cost. The cost can be termed as the fair value of the consideration provided for against the asset. This is actually applied to all the assets that are dealt by with IAS 16, whether they are constructed or are purchased from the third party by the entity.
• The cost of a Fixed tangible asset (dealt by with IAS 16) basically includes the purchase price and all the other costs that are directly associated or attributable with bringing the asset into the condition and location necessary for it to be capable of operating and functioning in a manner intended by the management of the entity.
• The directly associated or attributable costs basically include costs such as initial delivery and handling costs, legal and professional fees, Costs of site preparation, trade discount, Asset testing charges, costs associated with the transportation of the asset, any cost associated with the Dismantling and Restoration of an asset (as per IAS 16).
• As per IAS 16, there are some costs that cannot be attributed directly to the cost of an asset, and these include costs such as relocation cost, start-up cost, re-organization cost, initial operating losses, administrative and general overheads and all those costs which are incurred after the asset has been brought in to a condition which enables the asset to be operated in the manner intended by the management but the asset has not yet been brought in to function or is operating at less than its full capacity.
• The cost of the qualifying asset as per IAS 16 may also include the element of borrowing cost that directly relates with the production, acquisition or construction of the same asset.
• The cost of a fixed tangible asset (dealt by with IAS16) is basically attributed as the cash price equivalent at the date of recognition. When a transaction with relation to the acquisition of an asset is based on deferred terms opposed to the normal credit terms, then the cost should be discounted to the present value and should be adjusted accordingly.
• The cost of an asset as per IAS 16 may also include the transfer of gain or losses through other comprehensive income in the event of qualifying cash flow hedges that are directly associated with the acquisition of a fixed tangible asset.
• When an entity acquires an item through exchange for a non-monetary asset then the cost of the item acquired through exchange is measured at fair value, but if the commercial substance does not exists with reference to the exchange transaction or it is not possible to determine the fair value of both the assets involved in the exchange transaction then the cost of the acquired asset will be measured at the carrying amount of the asset exchanged as a consideration in the exchange transaction.
• In some cases, during the acquisition or construction of an asset, the entity becomes contractually bound or gets bound by the government to decommission or dismantle or to restore the site of the asset in its original condition at the end of the asset’s life. All these costs should be capitalized as part of the asset’s cost when the entity has the obligation to incur all these costs.
As per IAS 16 an entity can either use the cost model or the revaluation model subject to the entity’s own choice for subsequently measuring the fixed tangible assets.
1. Cost Model
Under the cost model the carrying amount of the asset at the reporting date is computed by deducting accumulated depreciation and impairment (if any) from the cost of the asset.
2. Revaluation Model
Under the Revaluation model the carrying amount of the asset at the reporting date is computed by deducting any accumulated depreciation (subsequent to the revaluation of the asset) and impairment losses (if any) from the revalued value of the asset.
The following factors should be considered by an entity when opting for the revaluation model:
(a) Basically the basis of revaluation is the fair value of the asset at the revaluation date.
(b) The process of performing a revaluation with respect to an asset should regularly be carried out, so that the carrying amount of the asset does not materially differ from its fair value at the date of revaluation.
(c) As per IAS 16, if an asset gets revalued then the entity is required to revalue the whole asset class to which the revalued asset relates to or is associated with.
(d) In case of revaluation of an asset, its accumulated depreciation should be reversed or set at zero at the revaluation date so that the carrying amount of the asset is the same as its revalued amount.
(e) An entity must recognize any Revaluation gain resulting from the revaluation of an asset in the other comprehensive income and must accumulate the gain in equity under the head of revaluation surplus or reserve. Although the gain on revaluation of an asset will first reverse any revaluation or impairment loss in relation to the asset that was previously recognized in the profit or loss of the entity.
(g) An entity must treat a revaluation loss resulting from the revaluation of an asset as an expense in the statement of comprehensive income of the entity. Although the loss will first be settled against any revaluation reserve or surplus that exists in relation with the same asset and the remaining loss will then be recognized in the statement of comprehensive income as revaluation loss (expense).
(i) The balance standing in the revaluation reserve in relation to an asset can be transferred at once at the time of that asset’s de-recognition or disposal.
There are some factors which an entity should know and consider with reference to the depreciation of an asset:
(a) It is the reduction in the value of an asset and the reason of it can be attributed as the depreciable amount with reference to an asset gets systematically allocated over its own useful life.
(b) Each and every part of an item of property, plant and equipment that has a significant cost in relation to the total cost of the item should separately be depreciated.
(c) As per IAS 16 the depreciation charge shall be recognized as an expense in the statement of comprehensive income. Although the assets which are used for the construction or manufacturing of other assets, their depreciation will be capitalized and made part of the cost of the asset being manufactured or constructed.
(d) An entity, at least once in a year, should conduct a review of an asset’s residual value and its useful life preferably at each financial year end. If the results of the review arises the need to revise these estimates, then in that case, the charge related to the depreciation of the same asset will then be required to be adjusted for current as well as future accounting periods.
(e) As per the standard the entity is required to charge zero depreciation in relation to an asset where the residual value of the same asset is equal to or more than the carrying amount of that asset.
(f) An entity will only start depreciating an asset where that asset is in the condition and location that is necessary for the asset to function in the manner intended by the entity’s management.
(g) In case of revalued assets the standard (IAS 16) actually provides the entities with an option to transfer an element of revaluation reserve to the retained earnings through other comprehensive income so that to compensate for the excess depreciation being charged on the revalued asset, but the amount of reserve transfer should not be more than the difference between the depreciation charged on the original value of the asset and on the revalued amount of the asset.
Method of Depreciation
(a) The method of depreciation selected by the entity should be consistent and should also be able to reflect the pattern in which the economic benefits are to be utilized by the entity.
(b) The method of depreciation adopted by the entity should at least be reviewed annually preferably at the year end, and if the consumption pattern with reference to the economic benefits associated with the asset changes significantly when compared with previous estimates then in that case the entity should change the method of depreciation to reflect the new consumption pattern of the economic benefits by the entity.
All the impairment losses resulting from the execution of impairment tests should be dealt by the entity in accordance with the principles and information given out in IAS 36 ‘Impairment of assets’.
As per IAS 16, an entity ceases to recognize an asset in its financial statements either when the asset is disposed of or where no future economic benefits are expected to flow to the entity from the use of the asset. The gain or loss arising on the de-recognition of an asset is computed by taking the difference of carrying amount of the asset and the net disposal proceeds of the same asset. In case of disposal of a revalued asset, the balance standing in the revaluation reserve against the same asset can be transferred to the retained earnings through a reserve transfer.
An entity is required to give disclosures with regards to all the assets that are dealt by with IAS 16, and as per IAS 16 these disclosures should include information about:
(a) The method or model used for measuring the value of the asset.
(b) The Model or Method used for depreciating an asset.
(c) Useful life (or rate of depreciation) associated with the depreciation of an asset.
(d) The balances relating to each class of assets including elements of a fixed asset like gross carrying amount, accumulated depreciation, and impairment losses both at the beginning and at the year-end.
(e) The details of all the movements occurring during the year with reference to each class of fixed tangible assets.
(f) The expenses associated with the asset that is being constructed during the year and the amount related to the commitments made by the entity for acquiring an item of property, plant and equipment.
(g) Any kind of compensation which the entity is entitled to receive from a third party with reference to the associated fixed tangible asset.
(h) The depreciation charges that the entity capitalizes as the part of the cost of other assets.
(i)The changes made by the entity in the asset’s residual value, useful life or the method of depreciation which the entity uses to depreciate an asset.
(j) The date of revaluation of the asset class, whether an independent expert was used during the revaluation and whether any revaluation surplus exists at the reporting date with reference to the assets that were revalued during the current accounting period.
(k) The Carrying amounts of all the assets that are idle.