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[/et_pb_text][/et_pb_column][/et_pb_row][/et_pb_section][et_pb_section admin_label=”Section” fullwidth=”off” specialty=”off”][et_pb_row admin_label=”Row”][et_pb_column type=”1_2″][et_pb_text admin_label=”Text” background_layout=”light” text_orientation=”center” text_font_size=”14″ use_border_color=”off” border_color=”#ffffff” border_style=”solid”] [button link=”http://www.frs102.com/members/premium-toolkit/” type=”big” color=”red”] Return to Main Index[/button] [/et_pb_text][/et_pb_column][et_pb_column type=”1_2″][et_pb_text admin_label=”Text” background_layout=”light” text_orientation=”center” text_font_size=”14″ use_border_color=”off” border_color=”#ffffff” border_style=”solid”] [button link=”http://frs102.com/members/premium-toolkit/section-17/” type=”big” color=”red”] Return to Section 17 Home[/button] [/et_pb_text][/et_pb_column][/et_pb_row][/et_pb_section][et_pb_section admin_label=”Section” fullwidth=”off” specialty=”off” transparent_background=”off” allow_player_pause=”off” inner_shadow=”off” parallax=”off” parallax_method=”off” padding_mobile=”off” make_fullwidth=”off” use_custom_width=”off” width_unit=”on” make_equal=”off” use_custom_gutter=”off” gutter_width=”3″][et_pb_row admin_label=”Row”][et_pb_column type=”4_4″][et_pb_text admin_label=”Main Body Text” background_layout=”light” text_orientation=”justified” use_border_color=”off” border_color=”#ffffff” border_style=”solid”]Example 1: Spare parts
A manufacturing company holds a significant stock of critical spare parts for its production equipment. Given that these spare parts are specific to the production equipment itself, and given that they will be used over more than one period, these assets are classified as PPE and depreciated over their expected useful life. In reality on transition the value if previously included in inventory should equal the cost to be transferred to PPE.
A similar example would be where plastic boxes are used for carrying and distributing the main products e.g. vegetables boxes which are used again and again and are not provided to customers on a long term basis as they must be returned. These are classified as fixed assets as opposed to spare parts.
Example 2: Replacement of a major component which was previously not separated
In 2015 a company purchases a new piece of production equipment for CU2,000,000. This equipment incorporates a pump which at the date of acquisition is assumed to have the same useful life of the whole asset of 20 years. However, in year 10, the pump fails, and a new pump has to be purchased for CU400,000. Given that the pump is a large component of the main asset and given that the replacement pump will provide future economic benefits, the new pump will need to be capitalised and the old pump derecognised. At the date of acquisition, the company did not separate the CU2,000,000 cost between the pump and main asset. Therefore, at the date of purchasing the new pump, the company can use the cost of the replacement part to estimate the carrying value of the original pump at the end of year 10 i.e. the estimated NBV of the pump would then be CU200,000 (CU400,000 / 20 years * 10 years). Therefore, in year 10 a loss on disposal of CU200,000 would be posted to the P&L and a CU400,000 addition capitalised and depreciated from that date over the remaining 10 years of the main asset. It cannot be depreciated for longer than the remaining useful life of the main asset of 10 years.
Example 3: Periodic replacement
A company purchased a warehouse for CU2,000,000 which has a specialised ventilation unit which requires replacement every 5 years. The useful life of the warehouse itself is 50 years with no residual value. In accordance with Section 17, each major component part needs to be separately identified and the useful life determined for each. On acquisition, the company can use the estimated future cost of replacing the ventilation unit every 5 years (with no residual value), which was CU300,000. Therefore, at the end of year 5, the company will dispose of the specialist equipment at which stage there is a nil NBV and at the same time capitalise the cost of the new specialised ventilation unit.
Example 4: Separation of land and buildings
Company A purchased a property on one acre of land for CU1,000,000. Under Section 17, it will be necessary for the company to allocate the purchase price between the land and property. The company asks a valuer to split the CU1,000,000 between these two components. It was determined the allocation of CU400,000/CU600,000 to land and buildings respectively was appropriate. The building cost of CU600,000 is depreciated over its useful life from the date of acquisition.
Example 5: Employee costs during construction
A retail outlet is moving into a new premises and incurs the cost of renovation for the store. It also has to incur salary costs for putting stock into the store. In this instance the cost of renovation can be capitalised even where own staff are used, however, the salary costs of employees stocking the shelves must be expensed.
Example 5A: Decommissioning
A manufacturing plant which leases land for 50 years and constructs a factory on this. As part of the lease agreement it must reinstate the land to its original condition. It builds a plant on the land. At that point a provision is made in the books at its estimated present value cost in 50 years time of CU500,000. The accounting required for this transaction is:
|
|
CU |
CU |
|
Dr Fixed Assets |
500,000 |
|
|
Cr Provision |
|
500,000 |
Being journal to recognise the decommissioning cost
On a yearly basis depreciation is charged to write it down over the 50 year life i.e. CU10,000 per annum.
In year 10 the new estimate of the present value cost to reinstate the land is CU600,000. The NBV at that date is CU400,000 (CU500,000/50 yrs*10yrs). The liability included in the accounts after unwinding of the discount is at that time is CU550,000. The journals required at this time are as follows:
|
|
CU |
CU |
|
Dr Fixed Assets (600,000-550,000) |
50,000 |
|
|
Cr Provision |
|
50,000 |
Being journal to write the liability up to the new estimate
From that date the new carrying amount of the asset is CU450,000 (NBV of CU400,000+change in estimate of CU50,000). The depreciation over the remaining life is as follows: New cost of CU450,000/40 yrs =CU11,250
|
|
CU |
CU |
|
Dr Depreciation |
11,250 |
|
|
Cr Accumulated Depreciation |
|
11,250 |
Being journal to reflect the depreciation to be charged from year 10 on.
For revalued assets, where an increase in the liability is required, the additional amount is posted to the OCI and then to the revaluation reserve up to the point where the revaluation surplus is nil and at that stage the remainder is recognised in the profit and loss. Where a decrease in the liability occurs, the credit is posted to the OCI and then to the revaluation reserve except where this is reversing a previous revaluation surplus posted to the profit and loss account. Included in the disclosure section of this manual is an example of an accounting policy for decommissioning and restoration costs.
Example 6: purchasing on deferred credit terms
A company purchased a piece of equipment from a related party supplier on preferential terms for CU300,000. The company does not have to pay for the equpment until 2 years after delivery. Under normal trading conditions, the company would have to pay on delivery. As a result, the Company must present value the CU300,000 using the rate of interest that would be charged on this balance by a third party. Assume the interest that would be charged by a bank for 2 years on a loan of CU300,000 is 7%. The amount to be recognised as an asset is the present value for the future payment.
CU300,000 / (1+.07)^2 = CU262,031.
The difference of CU37,969 (CU300,000-CU262,031) is posted as an interest cost over the two year period assuming it does not meet the requirements for capitalising borrowing costs under Section 25 i.e. it is a qualifying asset where the asset takes a period of time to complete. This CU37,969 is charged to the profit and loss account under the effective interest rate method as detailed in Section 11 of this website.
Example 7: Exchange of assets- assets that lack commercial substance
Company A exchanges van X with a book value of CU20,000 and a fair value of CU25,000 for cash of CU2,000 and van Y with a fair value of CU23,000. This transaction lacks commercial substance as cash flows are not expected to change as a result of the exchange, they are in the same position as before the transaction. Therefore, the company recognises the cost of VAN Y at the CU20,000. Hence accounting entries are to debit bank CU2,000, debit fixed assets CU18,000, credit profit/loss on disposal CU20,000 which is set against the disposal of the NBV of Van X to show a no profit/no loss.
Example 8: Revaluation of assets of the same class
A company has two factories in Ireland (manufacturing the same type of products) and wishes to revalue one of these premises. Under Section 17, the factories would be seen to be part of the same asset class, as a result the company would have to adopt a revaluation policy for both factories, if they do not then a policy of revaluation cannot be adopted.
In contrast another company has office buildings and factory buildings and the company wants to revalue the office building only. Given that the office buildings and the factories are different asset classes as both properties have different characteristics in relation to their function and nature. The company can choose to just adopt a revaluation policy on the office buildings only. If there were a number of office buildings all office buildings would need to be valued at the same time, however assets can be valued on a rolling basis provided they are performed within a short period of time and the revaluations are kept up to date. However, where rolling valuations are performed, in the PPE note, the properties will need to be shown separately with an appropriate disclosure given.
Example 9: Accounting for revaluations and subsequent movements
Company A has adopted a policy of revaluation on its PPE. The company purchased an asset for CU500,000 at the start of year 1 and determined the useful life to be 20 years. By the end of year one, there were indications of a change in market conditions and a valuation exercise was performed which showed the market value at CU525,000. At the end of year 4, a further valuation was performed as the difference in fair value and the carrying value was material, at this time the value was reduced to CU300,000. In year 8, a further valuation was performed which indicated a fair value of CU600,000.
Assume the deferred tax rate is 10% (this is not the sales rate as the asset is depreciated) and the asset does not qualify for capital allowances. Assume the depreciation on the revalued amount is transferred from the revaluation reserve to profit and loss reserves on a year by year basis as the depreciation is charged.
Company A would account for the changes in value in the following way:
At end of year 1:
The carrying value of the asset is CU475,000 (i.e. CU500,000 less depreciation for one year of CU25,000 (CU500,000/20yrs))
|
|
CU |
CU |
|
Dr Fixed Assets (CU525,000-CU475,000) |
50,000 |
|
|
Cr OCI/Revaluation Reserve |
|
50,000 |
From then on the carrying amount of CU525,000 will be depreciated over the remaining life of 19 years (CU27,632 per annum).
Deferred tax
|
|
CU |
CU |
|
Dr OCI/Revaluation Reserve |
5,000 |
|
|
Cr Deferred Tax in Balance Sheet (CU50,000 *10%) |
|
5,000 |
Therefore, the net amount posted to the revaluation reserve is CU45,000 (CU50,000-CU5,000). For year 2 to year 4, the deferred tax will be reduced and posted to the profit and loss account in line with the additional depreciation charged on the uplift in value of CU2,632 (i.e. CU27,632 less depreciation under cost basis of CU25,000).
At end of year 4:
The carrying value of the asset is CU442,104 (i.e. CU525,000 less depreciation of CU27,632 for three years totalling CU82,896)
|
|
CU |
CU |
|
Dr Profit and Loss (CU142,104-CU50,000) |
92,104 |
|
|
Dr Revaluation Reserve (reversal of amount recognised in yr 1) |
50,000 |
|
|
Cr Fixed Assets (CU442,104-CU300,000) |
|
142,104 |
From then on the carrying amount of CU300,000 will be depreciated over the remaining life of 16 years (CU18,750 per annum).
Deferred tax
|
|
CU |
CU |
|
Dr Deferred Tax in Balance Sheet (CU5,000 less (2,632 * 10%) * 3 years) = 789 |
4,211 |
|
|
Cr OCI/Revaluation Reserve |
|
4,211 |
Note deferred tax asset on the write down is not recognised on the basis that it is not reasonable that future economic benefits will be derived from the capital losses.
At end of year 8:
The carrying value of the asset is CU225,000 (i.e. CU300,000 less depreciation of CU18,750 for 4 years totalling CU75,000)
|
|
CU |
CU |
|
Dr Fixed Assets (CU600,000 mkt value-CU225,000 NBV) |
375,000 |
|
|
Cr Profit and Loss (CU92,104 previously posted-CU25,000 See Note 1 below) |
|
67,104 |
|
Cr Revaluation Reserve (CU375,000-CU67,104) |
|
307,896 |
Deferred tax
|
|
CU |
CU |
|
Dr OCI/Revaluation Reserve |
10,000 |
|
|
Cr Deferred Tax in Balance ((CU600,000-CU500,000 original cost) * 10%) sheet |
|
10,000 |
From then on the carrying amount of CU600,000 will be depreciated over the remaining life of 12 years.
Note 1: The amount that can be credited to the P&L is reduced by the additional depreciation that would have been charged had the asset not been revalued downward in the past i.e. original cost prior to downward revaluation of CU500,000 / useful life of 20 years= CU25,000 * 4 years = CU100,000. This compares to depreciation charged while the asset was being depreciated on the reduced amount of CU75,000 (year 5 to year 8 – CU300,000/UEL of 16 years* 4 years) = CU25,000
Example 10: Accounting for initial and subsequent revaluations on non-depreciable assets – i.e. on land
Company A has adopted a policy of revaluation on its PPE. The company purchased land for CU500,000 at the start of year 1. By the end of year 1, there were indications of a change in market conditions and a valuation exercise was performed which showed the market value at CU525,000. At the end of year 4, a further valuation was performed as the difference in fair value and the carrying value was material, at this time the value was reduced to CU300,000. In year 8, a further valuation was performed which indicated a fair value of CU700,000.
Assume the deferred tax rate on a sale of this asset is 20%
Company A would account for the changes in value in the following way:
At end of year 1:
|
|
CU |
CU |
|
Dr Fixed Assets (CU525,000-CU500,000) |
25,000 |
|
|
Cr OCI/Revaluation Reserve |
|
25,000 |
Deferred tax
|
|
CU |
CU |
|
Dr OCI/Revaluation Reserve |
5,000 |
|
|
Cr Deferred Tax in Balance Sheet (CU25,000* 20%) |
|
5,000 |
Therefore, the net amount posted to the revaluation reserve is CU20,000.
At end of year 4:
|
|
CU |
CU |
|
Dr Profit and Loss |
200,000 |
|
|
Dr OCI/Revaluation Reserve (being the amount previously recognised) |
25,000 |
|
|
Cr Fixed Assets (CU525,000-CU300,000) |
|
225,000 |
Deferred tax
|
|
CU |
CU |
|
Dr Deferred Tax in Balance Sheet (CU25,000 * 20%) |
5,000 |
|
|
Cr OCI/Revaluation Reserve (CU25,000 * 20%) |
|
5,000 |
Note deferred tax asset on the write down of the land is not recognised on the basis that it is not reasonable that future economic benefits will be derived from the capital losses.
At end of year 8:
|
|
CU |
CU |
|
Dr Fixed Assets (CU700,000-CU300,000) |
400,000 |
|
|
Cr Profit and Loss i.e. reversal of amounts previously recognised in P&L |
|
200,000 |
|
Cr OCI/Revaluation Reserve (CU400,000-CU200,000) |
|
200,000 |
Deferred tax
|
|
CU |
CU |
|
Dr OCI/Revaluation Reserve (CU200,000 * 20%) |
40,000 |
|
|
Cr Deferred Tax in Balance Sheet ((CU400,000-CU200,000) * 20%) |
|
40,000
|
Example 11: Transfer of depreciation on revalued amount from profit and loss reserves
Taking example 9 above, at the end of year 2 for the depreciated asset, the additional depreciation charged of CU2,632 (CU27,632-CU25,000) as a result of the revaluation and the related deferred tax credit on this of CU263 (CU2,632*10%), would be transferred from P&L reserves to the revaluation reserve. The below would be shown in the statement of changes to equity in the financial statements.
Year 2
|
|
CU |
|
Revaluation Reserve at 01/01/Year 2 |
45,000 |
|
Transfer from Profit & Loss Reserve (CU2,632-263) |
(2,369) |
|
Revaluation Reserve at 31/12/Year 2 |
42,631 |
|
|
CU |
|
Profit and Loss Reserves at 01/01/Year 2 |
50,000 |
|
Transfer to Revaluation Reserve |
2,369 |
|
Profit and Loss Reserves Reserve at 31/12/Year 2 |
52,369
|
Example 12: Revising a residual value of an asset
In year 1 an asset was purchased for CU100,000. It had an estimated life of 6 years. Its estimated residual value was estimated to be CU10,000. This residual value was assessed for indicators of change at each year end and there were no issues up to the end of year 4. During year 5 and at the end of year 5, due to a change in the market for this type of asset the residual value increased to CU20,000 (being the present value of future residual amount). At the end of year 4, the asset had a carrying amount as follows:
|
|
CU |
|
Cost |
100,000 |
|
Residual Value |
(10,000) |
|
Depreciable Amount |
90,000 |
|
Depreciation (CU90,000 / 6 yrs * 4 yrs) |
(60,000) |
|
Carrying Amount |
30,000 |
In year 5, the residual amount is CU20,000, therefore the depreciable amount is CU80,000. Deducting depreciation charged to date of CU60,000 leaves CU20,000 to be depreciated over the remaining useful life of 2 years. Therefore, depreciation of CU10,000 is charged in year 5 and year 6. Disclosure of the change in estimate would be required in the financial statements detailing the effect on current and future years.
If we take this example and assume the residual value increases to CU50,000, then the carrying amount in year 5 of CU30,000 is in excess of the residual amount. Therefore no depreciation is required in year 5 and 6 and any over depreciation is not reversed. Disclosure of the change in estimate would be required in the financial statements.
Land is not depreciated unless it is land used for extractive purposes. As stated previously on acquisition, there is a need to separate the land from the property so that depreciation can be charged.
Detailed below is an example of a disclosure requirement for a change in the depreciation rates used (i.e. a change in estimate)
Example 13: Change in accounting policy disclosure
During the year ended 31 December 201X the company changed its depreciation method for freehold buildings and leasehold improvements to depreciating same over 50 years on a straight line basis as opposed to 10 years. The effect of same was to reduce the depreciation charge by CU680,000 for the current year. In future years the depreciation charge will be extended whereby the depreciation charge will be lower but will go on for a longer period of time as it is being depreciated over its useful economic life. The depreciation charge will reduce by CUXXX in future years. The reason for the change in depreciation method is that the new policy more correctly reflects the useful economic life of these assets.
Example 14: Commencement of depreciation
Company A completed construction of a factory on 1 January, but the company did not use this until 1 April. Here the entity should charge depreciation from the date it is ready for use i.e. 1 January.
Example 15: Depreciation on basis of units of production
A machine cost CU100,000, over its useful life it will produce 200,000 widgets. The asset has no residual value. Therefore, the depreciation charge posted is based on the number of products produced by the machine. Therefore, the depreciation charge per product is CU0.50 (CU100,000 / 200,000 widgets). This can be done on the basis of hours also.
Example 16: Derecognition
Company A has a tangible fixed asset which has a useful life of 20 years. In year 10, there is a risk that the asset is no longer required, as technology has changed and it is likely there will no longer be demand for the product that it produces. Management expect this to be the case. If this is the case the company believe that it will have no further use and therefore would have a nil scrap value. In year 11, managements’ belief is confirmed. It is in year 10 that the asset should be derecognised as at that point there is an expectation there will be no further economic benefits from use or disposal.
If in the above example, the future economic benefits were reduced but not expected to be eliminated an impairment would have been required.
Example 17: Extract from an accounting policy for an entity that adopts fair value/or previous revaluation at deem cost and the cost model adopted:
Cost
Property, plant and equipmentare recorded at historical cost or deemed cost (note include valuation here where appropriate), less accumulated depreciation and impairment losses. Cost includes prime cost, overheads and interest incurred in financing the construction of tangible fixed assets. Capitalisation of interest ceases when the asset is brought into use.
Freehold premises are stated at cost (or deemed cost for freehold premises held at valuation at the date of transition to FRS 102 where the optional transition exemption under S.35.10(a) of FRS 102 has been applied) less accumulated depreciation and accumulated impairment losses.
The company previously adopted a policy of revaluing freehold premises and they were stated at their revalued amount less any subsequent depreciation and accumulated impairment losses. The company has adopted the transition exemption under FRS 102 paragraph 35.10(d) and has elected to use the previous revaluation as deemed cost OR The company has adopted the transition exemption under FRS 102 paragraph 35.10(C) and has elected to use the fair value as deemed cost.
The difference between depreciation based on the deemed cost charged in the profit and loss account and the asset’s original cost is transferred from the non-distributable reserve to retained earnings through equity.
Equipment and fixtures and fittings are stated at cost less accumulated depreciation and accumulated impairment losses.
Where investment property can no longer be reliably measured without undue cost or effort these assets are reclassified to property, plant and equipment at the carrying amount prior to the transfer and depreciated over the useful economic lives.
Spare parts that are acquired as part of an equipment purchase which are only to be used in connection with these specific assets are initially capitalised and amortised as part of the equipment. Spare parts which are expected to be used during more than one period are capitalised as property, plant and equipment.
NOTE: Policy to be included where a policy of revaluation has been chosen:
The company has adopted a policy of revaluing freehold premises. Freehold premises are included in the balance sheet at their fair value on the basis of a periodic professional valuation less accumulated depreciation. The difference between depreciation based on the revalued amount is charged in the profit and loss account and the asset’s original cost is transferred from revaluation reserve to retained earnings. Annually the carrying values are reviewed for appropriateness by the directors. Any changes in the value of freehold properties are reflected as a movement on the revaluation reserve except where the revaluation is below original cost in which case the balance is recognised in the profit and loss account.
To the extent a legal or constructive obligation exists, the acquisition costs include the present value of estimated costs of dismantling and removing the asset and restoring the site. A change in estimated expenditures for dismantling, removal and restoration is added to/and or deducted from carrying value of the related asset. To the extent the change results in a negative carrying amount, the difference is recognised in the profit and loss. The change in depreciation is recognised prospectively.
Depreciation
Depreciation is provided on tangible fixed assets, on a straight-line basis, so as to write off their cost less residual amounts over their useful lives.
The estimated useful lives assigned to property, plant and equipment are as follows:
The company’s policy is to review the remaining useful lives and residual values of property, plant and equipmenton an on-going basis and where indicators exist adjust the depreciation charge to reflect the remaining estimated life and residual value.
Fully depreciated property, plant & equipment are retained in the cost of property, plant & equipment and related accumulated depreciation until they are removed from service. In the case of disposals, assets and related depreciation are removed from the financial statements and the net amount, less proceeds from disposal, is charged or credited to the income statement.
Example 18: Extract from notes to the financial statements (assuming revaluation upwards)
- PROPERTY, PLANT AND EQUIPMENT
|
|
Freehold Premises |
Motor Vehicles |
Plant and machinery |
Computer Equipment |
Total |
|
|
CU |
CU |
CU |
CU |
CU |
|
Costs |
|
|
|
|
|
|
At beginning of year |
207,473 |
150,038 |
488,979 |
144,523 |
891,013 |
|
Additions in year |
1,295,000 |
165,000 |
91,733 |
34,704 |
1,586,437 |
|
Revaluation |
500,000 |
– |
– |
– |
500,000 |
|
Transfer from investment property |
100,000 |
– |
– |
– |
100,000 |
|
Disposals in year |
– |
(93,359) |
– |
– |
(93,359) |
|
At end of year |
1,502,473 |
221,679 |
580,712 |
179,227 |
2,984,091 |
|
|
|
|
|
|
|
|
Depreciation |
|
|
|
|
|
|
At beginning of year |
187,723 |
111,836 |
270,802 |
134,767 |
705,128 |
|
Charge for Year |
37,543 |
26,799 |
29,015 |
56,642 |
149,999 |
|
Revaluation |
(125,000) |
– |
– |
– |
(125,000) |
|
On disposals |
– |
(42,060) |
– |
– |
(42,060) |
|
Impairment |
– |
– |
100,000 |
– |
100,000 |
|
At end of year |
100,266 |
96,575 |
399,817 |
191,409 |
788,067 |
|
|
|
|
|
|
|
|
Net book value |
|
|
|
|
|
|
At 31 December 2015 |
1,752,207 |
125,104 |
80,895 |
(12,182) |
2,196,024 |
|
|
|
|
|
|
|
|
At 31 December 2014 |
19,750 |
38,202 |
18,177 |
9,756 |
85,885 |
The following assets were held under finance lease:
|
|
2014 |
|
|
|
CU |
CU |
|
Net Book Value |
66,884 |
129,389 |
|
Depreciation Charge for the Year |
29,015 |
31,317 |
(i) The land and buildings which are used as part of the company’s core business were revalued by [state name], [state qualification] to an open market value basis reflecting existing use [or state alternate basis if appropriate if this Is higher] on [state date] 20XX. The valuation was carried out in accordance with the SCS Appraisal and Valuation Manual. {If the valuer is an officer or employee of the company or a group company this fact must be stated}.
These valuations have been incorporated into the financial statements and the resulting revaluation adjustments have been taken to the revaluation reserve. The revaluations during the year ended 30th June 2015 resulted in a revaluation surplus of CU375,000.
(ii) The historical cost of the freehold premises is as follows:
At 31 December 2015 CU20,020
At 31 December 2014 CU24,165
(iii) As a result of falling profits and in accordance with Section 27 of FRS 102, the carrying values of the plant and machinery assets in the widget segment have been compared to their recoverable amounts. As a result of this exercise an impairment charge of CU100,000 recognised in the financial statements. The value in use has been derived from the future cash flow projections using a pre-tax discount rate of X%. Cash flows have been projected over the next five years based on management’s business plan, and thereafter a steady growth rate of 1% has been applied which is consistent with the company’s growth rate over the past number of years.
(iv) The freehold property has been pledged as security on loans taken out by the company.
Example 19: Fair value as deemed cost
A company previously chose the cost model under old GAAP. The date of transition is 1 January 2014 and the company intends to continue to use the cost model under FRS 102. The useful life of this asset was determined to be 20 years. The original cost was CU600,000. The remaining useful life at 1 January 2014 was 15 years and the NBV is CU450,000. The company has obtained a valuation representing fair value at 31 December 2013 of CU700,000. Under the exemption at the date of transition, the company can elect to use the CU700,000 as its deemed cost going forward and no further revaluation will be required as the entity has chosen to apply a cost model. Assume the deferred tax rate is 10% (non-CGT rate). Note however deferred tax will still have to be recognised on the difference between the tax value and the carrying value on the date of transition. This transition exemption gives companies a one off opportunity to bolster the balance sheet of the company on the date of transition. It is also worth nothing where applicable the fair value should be split into each of its component parts. Note a valuation prepared after the date of transition cannot be used as the deemed cost, the valuation must be a valuation of the PPE on the date of transition. The journals required on transition using the above example are:
On 1 January 2014
|
Being journal to reflect the uplift in value on the date of transition
Being journal to recognise deferred tax on the uplift in value In the 31/12/14 i.e. the comparative year for FRS 102, a journal adjustment would be required to account for the depreciation and the deferred tax impact as follows (assuming the opening adjustments above are carried forward):
Being journal to recognise the additional depreciation charge in the 2014 year and the release of the related deferred tax. The 2015 journal will be the very same as the 2014 journal above assuming the above journals are brought forward to reserves. |
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Example 20: Previous GAAP revaluation as deemed cost
A company previously chose the revaluation option and revalued the buildings under Old GAAP. The date of transition is 1 January 2014. The original cost of the building was CU300,000. A previous valuation was performed on 31 December 2012 and was stated at CU500,000 which was included in the GAAP accounts. The useful life of this asset was determined to be 20 years. The remaining useful life at 1 January 2014 was 15 years and the NBV is CU464,285. The amount in the revaluation reserve at 31 December 2013 was CU260,000. Under the exemption at the date of transition, the company has elected to use the CU464,285 as its deemed cost going forward and not to adopt a policy of revaluation going forward. Note however deferred tax will still have to be recognised on the difference between the tax value and the carrying value on the date of transition. Assume the rate of deferred tax is 10% (non-CGT rate). See below adjustments required on transition:
|
|
CU |
CU |
|
Dr Non-Distributable Reserve |
16,429 |
|
|
Cr Deferred Tax in Balance Sheet (CU464,285 – CU300,000) * 10%) |
|
16,429 |
Being journal to recognise deferred tax on the uplift at the date of transition to the non-distributable reserve
|
|
CU |
CU |
|
Dr Revaluation Reserve |
260,000 |
|
|
Cr Non Distributable Reserve |
|
260,000 |
Being journal to reclassify previous revaluations under old GAAP to a non-distributable reserve to set against the deferred tax recognised on transition.
From that date on, the increase in deferred tax should be recognised in the profit and loss account as the asset is depreciated. The asset is depreciated over its remaining life of 15 years so the depreciation charge will be the same as was posted under old GAAP.
In the 31/12/14 i.e. the comparative year for FRS 102, a journal adjustment would be required to account for the depreciation and the deferred tax impact as follows (assuming the opening adjustments above are carried forward):
|
|
CU |
CU |
|
Dr Deferred Tax in Balance Sheet ((CU464,285-CU300,000)/15yrs=10,952) * 10%) |
1,095 |
|
|
Cr Deferred Tax in Profit and Loss |
|
1,095 |
Being journal to reflect deferred tax movement to account for the decrease in the NBV of fixed assets due to depreciation for the year
|
|
CU |
CU |
|
Dr Non-Distributable Reserve |
9,857 |
|
|
Cr Profit and Loss Reserves (10,952-1,095) |
|
9,857 |
Being journal to transfer the depreciation on the revalued amount net of deferred tax from profit and loss reserves to the non-distributable reserve
The 2015 journal will be the very same as the 2014 journal above assuming the above journals are brought forward to reserves.
Example 21: Revaluation option chosen under old GAAP, reverting to the cost model on transition
A company previously chose the revaluation option and revalued the buildings under Old GAAP. On transition to FRS 102 the company decided to revert back to the cost model. The date of transition is 1 January 2014. The original cost of the property was CU300,000 purchased 5 years from the date of transition. A previous valuation was performed on 31 December 2012 and was stated at CU500,000 which was included in the Old GAAP accounts. The useful life of this asset was determined to be 20 years. The remaining useful life at 1 January 2014 was 15 years and the NBV is 464,285. Assume the CU300,000 was allowed for capital allowance purposes. The journals posted to reflect this are:
On 1 January 2014
|
|
CU |
CU |
|
Dr Revaluation Reserve |
243,750** |
|
|
Cr PPE |
|
239,285* |
|
Cr Profit and Loss Reserves (CU243,750-CU239,285) |
|
4,465 |
Being journal to restate the balance to a cost basis and eliminate the revaluation reserve
* total of the adjustment is the difference between the carrying amount at 1 January 2015 and the amount this would have been stated at if no revaluation policy had of occurred.
Original cost = CU300,000/20yrs * 15yrs being the number of years remaining up to 1 January 2014 = CU225,000. Therefore the adjustment required is =CU464,285-CU225,000= CU239,285
**the value in the revaluation reserve at 1 January 2014 assuming depreciation each year was transferred to the revaluation reserve. Total revaluation posted at 31 December 2013 was CU300,000/20yrs * 16yrs being the years held at cost up to date of revaluation=NBV of CU240,000. The uplift at that time was CU500,000-CU240,000= CU260,000.
Therefore the additional depreciation on this revaluation during 2013 was CU16,250 (CU260,000/16yrs being number of years remaining at time of revaluation on 31/12/12 * 1 yr being the length of time from revaluation to date of transition = CU16,250. Total carrying amount in reserve at 1 January 2014 was CU243,750 (CU260,000-CU16,250).
Note deferred tax is not effected here as under old GAAP deferred tax would only have been recognised on the cost. The revaluation was a permanent difference.
Example 22: Change in useful economic life
At the date of transition, the NBV of plant and machinery was nil however the fair value was CU30,000 with a remaining life of 2 years. Assuming the write down to nil is not an error under prior GAAP but instead due to changes in conditions, then although usually this change to the economic life would be treated as change in estimate and adjusted prospectively, Section 35.9 prevents a change in estimate to be recognised in the first set of financial statements under FRS 102 instead it should be reflected in the first set of FRS 102 financial statements. However, it can elect to use fair value as deemed cost as allowed under Section 35.10 and apply the below transition adjustment:
|
|
CU |
CU |
|
Dr Fixed Assets |
30,000 |
|
|
Cr Profit and Loss Reseres |
|
30,000 |
From then on the depreciation will have to be recognised on this value over two years remaining useful life. Note deferred tax may need to posted here if the machinery still has a tax written down value.
Example 23: Reclassification of spare parts from inventory to PPE
Company A, has a significant value of spare parts for the production equipment. Under old GAAP these spare parts were treated as inventory. The total value of these spare parts at the date of transition was CU500,000. At the date of transition, the company determines the useful life of the spare parts to be 10 years from the date of transition and the residual value is nil. Assume the date of transition is 1 January 2014 and the tax rate is 10% (non-CGT rate). The transition adjustment required on 1 January 2014 is:
|
|
CU |
CU |
|
Dr PPE |
500,000 |
|
|
Cr Inventory |
|
500,000 |
In the 31/12/14 i.e. the comparative year for FRS 102, a journal adjustment would be required to account for the depreciation and the deferred tax impact. Note from a tax perspective the depreciation will be allowed as a deduction, therefore after transition there will be no deferred tax effect. Assume deferred tax is recognised on transition for the tax deduction not allowed in the comparative year but will be allowed as part of transition adjustments in the tax computation going forward over 5 years. The journals required are:
|
|
CU |
CU |
|
Dr Profit and Loss – Depreciation (CU500,000 / 10yrs) |
50,000 |
|
|
Cr PPE – Spare Parts
|
|
50,000 |
|
Dr Balance Sheet – Deferred Tax (CU50,000 *10%) |
5,000 |
|
|
Credit Profit and Loss – Deferred Tax |
|
5,000 |
Example 24: Transfer of software and website costs to intangibles
Under old GAAP, Company A classified website development costs and software costs which are not an integral part of the asset as property, plant and equipment. Under FRS 102, these should be classified as intangible assets. The NBV of these assets on transition was CU100,000. The journal required on transition is therefore:
On 1 January 2014
|
|
CU |
CU |
|
Dr Intangible Assets |
100,000 |
|
|
Cr PPE |
|
100,000 |
For the year ended 31 December 2014 and 2015 a similar adjustment will be required for the NBV at that date assuming the journal is not brought forward year on year.
Example 25: Significant part of a fixed asset replaced since the date of transition
Company A renovated/replaced the ventilation system in its factory at a cost of CU200,000 on 1 January 2014. The transition date is 1 January 2014. This was a part that requires regular replacing. Under old GAAP, this was expensed as it had not previously been separately identified and depreciated nor did it enhance economic benefits above what it would have provided usually. Under FRS 102 it should have been capitalised and the NBV of the old ventilation system disposed of. Assume NBV of the factory is CU800,000 with 8 years useful life remaining on transition. The useful life in 10 years. Ignore deferred tax.
Under FRS102 the entity will need to calculate the depreciated replacement cost of the ventilation system. This is calculated as follows:
CU200,000/ useful life of 10 yrs * remaining useful life of 8 yrs = CU160,000
The transition adjustments to be posted in the 31 December 2014 year end (comparative year) are:
|
|
CU |
CU |
|
Dr Fixed Assets |
200,000 |
|
|
Cr Repairs in P&L |
|
200,000 |
Being journal to capitalise the cost previously expensed under old GAAP
|
|
CU |
CU |
|
Dr Loss on Disposal P&L |
160,000 |
|
|
Cr Fixed Assets |
|
160,000 |
Being journal to derecognise the old ventilation system
|
|
CU |
CU |
|
Dr Depreciation (CU200,000/8 yrs) |
25,000 |
|
|
Cr Fixed Assets |
|
25,000 |
Being journal to reflect additional depreciation on the new ventilation unit over its remaining UEL
The transition adjustment for 2015 will just be the depreciation journal of CU25,000 assuming the above journals are brought forward to reserves.
Example 26: purchasing on deferred credit terms
A company purchased a piece of equipment from a related party supplier on preferential terms for CU300,000 on 1 January 2013. The company does not have to pay for the eqipment until 2 years after delivery (i.e. 31 December 2014). Under normal trading conditions, the company would have to pay on delivery. Under old GAAP, the CU300,000 was charged to fixed assets and creditors respectively. The NBV at the date of transition (assume the date of transition is 1 January 2014) is CU270,000 with a remaining useful life of 9 years (CU30,000 depreciation charge per annum under old GAAP). Assume the entity will not adopt a policy of deemed cost or revaluation on transition. Assume the asset does not qualify for capital allowance purposes.
Under Section 17, the Company must present value the CU300,000 using the rate of interest that would be charged on this balance by a third party. Assume the interest that would be charged by a bank for 2 years on a loan of CU300,000 is 7%. The amount to be recognised as an asset is the present value for the future payment.
CU300,000 / (1+.07)^2 = CU262,031.
The difference of CU37,969 (CU300,000-CU262,031) is posted as an interest cost over the two year period assuming it does not meet the requirements for capitalising borrowing costs under Section 25 i.e. it is not a qualifying asset where the asset takes a period of time to complete. This CU37,969 is charged to the profit and loss account under the effective interest rate method as detailed in Section 11 of this manual. Therefore the interest charge for 2013 and 2014 should have been:
2013 interest charge = CU262,031*7%= CU18,342. Therefore the required carrying amount at the date of transition is CU280,373.
2014 interest charge = CU280,373 * 7%= CU19,627
The NBV required at 1 January 2014 under FRS 102 is= CU235,828 (CU262,031 cost net of finance charge/10 year life at date of acquisition* 9 years remaining at date of transition. The depreciation charge under FRS102 is CU26,203 (262,031/10 years).
The journals required on transition are:
1 January 2014
|
|
CU |
CU |
|
Dr Trade Creditors (CU300,000 of creditors-CU280,373) |
19,627 |
|
|
Dr Profit and Loss Reserves (CU34,172-CU19,627) |
14,545 |
|
|
Cr PPE (CU270,000 NBV-CU235,828 required NBV) |
|
34,172 |
Being journal to recognise the correct NBV of PPE and of trade creditors under FRS 102 at the date of transition and the related deferred tax impact
Journals required in year ended 31 December 2014 assuming the above journals are posted to profit and loss reserves etc.
|
|
CU |
CU |
|
Dr PPE (CU30,000-CU26,203) |
3,797 |
|
|
Cr Depreciation |
|
3,797 |
Being journal to reverse over depreciation charged under old GAAP
|
|
CU |
CU |
|
Dr Interest Charge |
19,627 |
|
|
Cr Trade Creditors |
|
19,627 |
Being journal to reflect deemed finance interest on the extended credit to bring the balance to CU300,000 prior to the date of payment
Journals required in year ended 31 December 2015 assuming the above journals are posted to profit and loss reserves etc.
|
|
CU |
CU |
|
Dr PPE (CU30,000-CU26,203) |
3,797 |
|
|
Cr Depreciation |
|
3,797 |
Being journal to reverse over depreciation charged under old GAAP.
If above asset qualified for capital allowance purposes deferred tax would need to be accounted for on the above journals as capital allowances are allowed on a gross basis.
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