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Advance Financial Accounting (FIN-611)
VU
LESSON # 32
EXCESS OF THE CARRYING AMOUNT OF THE QUALIFYING ASSET OVER
RECOVERABLE AMOUNT:
When the carrying amount or the expected ultimate cost of the qualifying asset
exceeds its recoverable amount or net realizable value, the carrying amount is written
down or written off in accordance with the requirements of other Standards. In certain
circumstances, the amount of the write down or write-off is written back in accordance
with those other Standards.
Commencement of capitalization:
The capitalization of borrowing costs as part of the cost of a qualifying asset shall
commence when:
(a)
Expenditures on the asset are being incurred;
(b)
Borrowing costs are being incurred; and
(c)
Activities that are necessary to prepare the asset for its intended use or sale are
in progress.
Solved problem #7:
Silver Star (Private) Limited engaged in manufacturing of surgical items.
Currently the company is manufacturing its power plant. The company started the
project on February 01, with its own funds. Later on due to shortage of funds, the
company takes a loan to sponsor the project on May 01. The first payment out of the
loan on the plant is made on June 01.
Required:
When should the company commence capitalization of borrowing cost on the plant?
Solution:
The necessary three conditions for commencement of capitalization are fulfilled on
June 01, so capitalization should commence on June 01.
Treatment of Subsidies by the Government:
Expenditures on a qualifying asset include only those expenditures that have resulted
in payments of cash, transfers of other assets or the assumption of interest bearing
liabilities. Expenditures are reduced by any progress payments received and grants
received in connection with the asset. The average carrying amount of the asset during
a period, including borrowing costs previously capitalized, is normally a reasonable
approximation of the expenditures to which the capitalization rate is applied in that
period.
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Advance Financial Accounting (FIN-611)
VU
Solved problem #8:
Pak Solutions Limited is engaged in the production of plants. The company is
currently manufacturing a plant for internal use.
Following expenditures were made:
Rupees
Payment to vendors for material
500,000
Depreciation of equipment used for manufacturing of plant
20,000
Wages paid
300,000
Utilities to be paid
80,000
Government granted a subsidy to the company for manufacturing of plant amounting
to Rs.200, 000.
Required:
Assuming that the company funds the project by obtaining a loan, calculate the
amount to be used as cost of the asset for computing the borrowing cost eligible for
capitalization.
Solution:
Amount on which capitalization should be made:
Rs.
Payment to vendors for materials
500,000
Wages paid
300,000
Depreciation of equipment
20,000
Utilities to be paid
80,000
900,000
Less: Govt. subsidy
(200,000)
700,000
The activities necessary to prepare the asset for its intended use or sale encompass
more than the physical construction of the asset. They include technical and
administrative work prior to commencement of physical construction, such as the
activities associated with obtaining permits prior to the commencement of the physical
construction.
Suspension of capitalizing borrowing cost:
Capitalization of borrowing costs shall be suspended during extended periods in
which active development is interrupted.
Capitalization is not suspended when a temporary delay is a necessary part of the
process of getting an asset ready for its intended use or sale e.g. the extended period
during which high water level delay construction of a bridge.
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Advance Financial Accounting (FIN-611)
VU
Solved problem # 9:
Shahid and company is constructing an asset for their own use in the business.
The production of asset started on September 30, 2006. Due to some internal problems
of the company, the construction remained suspended from November 01 to
November 31. The asset was completed on December 31. The asset was constructed by
utilizing the borrowed funds.
Required:
Calculate the period for which capitalization should be made.
Solution:
The active development started on September 30, and continued till October 31, and
then after stoppage construction again started on December 1 till December 31.
Therefore, the borrowing cost should be capitalized for two months and shall remain
suspended for one month.
Cessation of Capitalization:
Capitalization of borrowing costs shall cease when substantially all the activities
necessary to prepare the qualifying asset for its intended use or sale are complete.
Solved problem #10:
Haroon Limited is constructing an asset for its internal use. The construction started
on March 01, 2009. The asset was completed on July 31, 2009. It was put into use on
September 15. The production was started from such asset on November 1.
Required:
You are required to state when capitalization of borrowing cost should be ceased.
Solution:
The asset was completed on July 31, 20x9. It was ready for use although the
production from such asset was not started. Thus capitalization of borrowing cost
should cease on July 31, 2009.
Modification work after completion:
An asset is normally ready for its intended use or sale when the physical construction
of the asset is complete even though routine administrative work might still continue.
If minor modifications, such as the decoration of a property to the purchaser's or
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Advance Financial Accounting (FIN-611)
VU
user's specification, are all that are outstanding, this indicates that substantially all the
activities are complete.
Solved problem #11:
Zeshan Limited is engaged in production of an asset. The production started on July
31, 2007. The production completed on July 31, 2008.
The works manager checked the asset and requested some minor modifications. These
modifications were completed on August 30, 2008. The asset delivered to works
manager on September 10, 2008. The production started from such asset on October
01, 2008.
Required:
When should capitalization cease.
Solution:
The capitalization should cease on July 31, 2008, as substantially the activities have
been completed on this date.
Completion of work in parts:
When the construction of qualifying asset is completed in parts and each part is
capable of being used separately while construction continues on other parts,
capitalization of borrowing costs shall cease when substantially all the activities
necessary to prepare that part for its intended use or sale are completed.
A business centre comprising several buildings, each of which can be used
individually is an example of a qualifying asset for which each part is capable of being
used while construction continues on other parts.
An example of a qualifying asset that needs to be completed in full, before any other
part can be used, is an industrial plant involving several processes which are carried
out in sequence at all parts of the plant within the same site, such as a steel mill.
Solved problem #12:
Sialkot (Pvt.) Limited contracted with B Limited to build a group of factory buildings.
Each building is capable of being used separately.
Sialkot (Pvt.) Limited capitalizes its borrowing costs in accordance with Allowed
Alternative Treatment of IAS-23, Borrowing Costs.
Required:
Advice the company to capitalize its borrowing costs based on the period when all the
buildings are ready for use or based on the period when each building is ready for use.
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Advance Financial Accounting (FIN-611)
VU
Solution:
As each component of the contract is capable of being used separately, the borrowing
costs should be capitalized based on the period of construction of each building.
Disclosures:
Following should be disclosed in the financial statements:
(a)
The accounting policy adopted for borrowing costs;
(b)
The amount of borrowing costs capitalized during the period; and
(c)
The capitalization rate used to determine the amount of borrowing costs
eligible for capitalization.
Solved problem # 13:
Disclosure:
(i)
Borrowing costs are recognized as an expense in the period in which these are
incurred, except to the extent that borrowing costs that are directly attributable
to the acquisition, construction or production of a qualifying asset is capitalized
as part of the cost of that asset.
(ii)
The amount of borrowing costs capitalized during the period is Rs. 75,145.
(iii)
Capitalization rate for the year used to capitalize borrowing costs is 9.15%.
PRACTICE QUESTIONS
QUESTION #1:
On 1st Jan 2006, Sparkle Co borrowed Rs. 1.5 million to finance the production of two
assets both of which were expected to take a year to build. Production started during
2006. The loan facility was drawn down on 1 Jan 2006 and was utilized as follows,
with the remaining funds invested temporarily
Asset A
Asset B
1 Jan 2006
250,000
500,000
500,000
1 Jul 2006
250,000
500,000
1,000,000
The loan rate was 8 % and Sparkle Co can invest surplus funds at 5 %.
Required:
Calculate the borrowing costs which may be capitalized for each of the asset and
consequently the cost of each asset as at 31 Dec 2006.
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Advance Financial Accounting (FIN-611)
VU
QUESTION #2:
AUM engineering limited has been engaged in construction business and wins a
contract to construct Kalabhag Dam work Rs. 120 million with a completion period of
one year.
Progress payments made by the government are as under
1st April
30 M
1st July
30 M
31st December
60 M
The company's bankers agree to finance the project @ 9 % mark up per annum as per
following schedule.
1st January
40 M
1st April
40 M
1st July
40 M
The company realizes at the end of third month that second installment of
disbursement by the bankers needs to be paid to the company's creditors a month
later. Therefore, on receipt of second installment, it is temporarily invested to fetch
return of 2 % per month to the company.
Required:
Compute the amount of borrowing cost to be capitalized as per IAS-23.
QUESTION #3:
Loan worth of Rs. 300,000 taken on 1st January 2006 for construction of X and Y blocks.
Interest Rate is 10% per annum and surplus funds are invested @ 7% per annum.
Detail of Expenditure
Year 2006
X
Y
1st January
100,000
50,000
30th June
0
60,000
_______
______
110,000
100,000
Block X was completed on June 30, 2006.
Required:
Calculate total expenditure on X and Y Blocks as on December 31, 2006, applying
allowed alternative treatment under IAS-23 is adopted.
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Table of Contents:
  1. ACCOUNTING FOR INCOMPLETE RECORDS
  2. PRACTICING ACCOUNTING FOR INCOMPLETE RECORDS
  3. CONVERSION OF SINGLE ENTRY IN DOUBLE ENTRY ACCOUNTING SYSTEM
  4. SINGLE ENTRY CALCULATION OF MISSING INFORMATION
  5. SINGLE ENTRY CALCULATION OF MARKUP AND MARGIN
  6. ACCOUNTING SYSTEM IN NON-PROFIT ORGANIZATIONS
  7. NON-PROFIT ORGANIZATIONS
  8. PREPARATION OF FINANCIAL STATEMENTS OF NON-PROFIT ORGANIZATIONS FROM INCOMPLETE RECORDS
  9. DEPARTMENTAL ACCOUNTS 1
  10. DEPARTMENTAL ACCOUNTS 2
  11. BRANCH ACCOUNTING SYSTEMS
  12. BRANCH ACCOUNTING
  13. BRANCH ACCOUNTING - STOCK AND DEBTOR SYSTEM
  14. STOCK AND DEBTORS SYSTEM
  15. INDEPENDENT BRANCH
  16. BRANCH ACCOUNTING 1
  17. BRANCH ACCOUNTING 2
  18. ESSENTIALS OF PARTNERSHIP
  19. Partnership Accounts Changes in partnership firm
  20. COMPANY ACCOUNTS 1
  21. COMPANY ACCOUNTS 2
  22. Problems Solving
  23. COMPANY ACCOUNTS
  24. RETURNS ON FINANCIAL SOURCES
  25. IASBíS FRAMEWORK
  26. ELEMENTS OF FINANCIAL STATEMENTS
  27. EVENTS AFTER THE BALANCE SHEET DATE
  28. PROVISIONS, CONTINGENT LIABILITIES AND CONTINGENT ASSETS
  29. ACCOUNTING POLICIES, CHANGES IN ACCOUNTING ESTIMATES AND ERRORS 1
  30. ACCOUNTING POLICIES, CHANGES IN ACCOUNTING ESTIMATES AND ERRORS 2
  31. BORROWING COST
  32. EXCESS OF THE CARRYING AMOUNT OF THE QUALIFYING ASSET OVER RECOVERABLE AMOUNT
  33. EARNINGS PER SHARE
  34. Earnings per Share
  35. DILUTED EARNINGS PER SHARE
  36. GROUP ACCOUNTS
  37. Pre-acquisition Reserves
  38. GROUP ACCOUNTS: Minority Interest
  39. GROUP ACCOUNTS: Inter Company Trading (P to S)
  40. GROUP ACCOUNTS: Fair Value Adjustments
  41. GROUP ACCOUNTS: Pre-acquistion Profits, Dividends
  42. GROUP ACCOUNTS: Profit & Loss
  43. GROUP ACCOUNTS: Minority Interest, Inter Co.
  44. GROUP ACCOUNTS: Inter Co. Trading (when there is unrealized profit)
  45. Comprehensive Workings in Group Accounts Consolidated Balance Sheet