Scope
1. The Standard provides that it should be applied in accounting for property, plant and equipment, except when another Accounting Standard requires a different accounting treatment – how is it possible to apply another Standard in accounting for PPE?
An entity purchases three plots of land, and intends to use these assets for different purposes. One plot of land is for sub-dividing into smaller plots, and resale with or without any building constructed thereon. This will be recognised as per inventory and valued in accordance with AS 2, i.e., cost or NRV whichever is lower. The entity intends to construct its own building in second plot of land, and this will be accounted for in accordance with AS 10 (PPE). The entity does not intend to sell the third plot in the near future, but wishes to hold it for capital appreciation. This will be recognised as Investment (AS 13 Accounting for Investments), classified as long term investment, and valued at Cost, that is, only cost model can be applied and not Cost or Revaluation model as in AS 10.
2. In some industries, such as in hotel industry, there is a custom of maintaining base stock of items, i.e., silver-ware or cutlery. What is the accounting treatment for these items?
It is seen that the life of these items is generally more than one year. These are tangible assets. The level of stock does not undergo perceptible (or volatile) changes. These are therefore recognised as PPE and not treated as current assets.
3. An entity engaged in research and development also uses very expensive equipment for testing, and finding results. What is the accounting treatment of such equipment in these cases?
Expensive testing equipment used in the process of Research and Development falls within the ambit of an item of PPE. Life is greater than one year, and the benefits are derived by the entity. Hence, these should be recognised and accounted for as PPE. The Standard on Intangible Assets, provides that all expenses incurred in research activities (until development is established), require to be expensed. However, that Standard does not require expenditure on an item of PPE used in research should also be charged to P&L.
4. A private NBFC is holding a given amount of gold bullion, in order to meet exigencies such as a “run” on the Company, because of customer distrust. How does the NBFC account for the gold bullion?
Gold bullion is a commodity (and is not a financial instrument). It is seen that the NBFC is holding gold bullion for disposal at any future date, and is not held for sale. It is a tangible asset. It is held for use in the supply of services, namely, to meet emergent demands. It is also expected that it can be used for more than one period. While this item does fall within the definition of PPE, the substance of this holding is for capital appreciation (or depreciation) and should be recognised and accounted for as investments.
Definition
5. An entity is engaged in agricultural activity, and is growing a set of biological assets that fall under the group of bearer plants. How will the entity account for this biological asset?
A Bearer plant is defined as a plant that (a) is used in the production or supply of agricultural produce; (b) is expected to bear produce for more than a period of twelve months; and (c) has a remote likelihood of being sold as agricultural produce, except for incidental scrap sales. This meets the definition of PPE and therefore is accounted for as PPE.
6. Can the rationale spelt out under item 5, be extended to livestock?
Livestock is generally held for breeding purposes. While there invariably exists an active market for its sale, livestock is generally not sold, but is allowed to breed continuously, and the young-ones (calves) are sold. The life of Live-stock is more than one period of twelve months. The entity gets benefits from such stock. The Standard provides a Footnote to the effect that, until a standard on Agriculture is developed and announced, live-stock is to be treated as PPE.
7. How does an entity account for plants that have more than one potential use?
The Standard provides an explanation to the effect that the following are not bearer plants:
(i) Plants cultivated to be harvested as agricultural produce (for example, trees grown for use as lumber); (ii) Plants cultivated to produce agricultural produce when there is more than a remote likelihood that the entity will also harvest and sell the plant as agricultural produce, other than as incidental scrap sales (for example, trees that are cultivated both for their fruit and their lumber); and (iii) annual crops (for example, maize and wheat).
This explanation does not adequately address a situation where a plant is grown for more than one purpose, i.e., they are cultivated both for their lumber and their fruit are not to be treated as bearer plants and cannot be accounted for as PPE. To this end, reliance is placed on the basis for conclusion provided in IAS 16 (PPE).
8. How does an entity account for plants that are not yet mature, i.e., still in the process of becoming ripe.
The Standard does not address this issue specifically. However, this can be decided by management. Where it is intended that such plants would only be used in the production or supply of agricultural produce, it would be accounted for under AS 10 (PPE).
Recognition
9. An entity has installed two generators. One generates electricity for the plant. Another generator is kept as a standby item. The entity cannot predict when one generator may fail and the other needs to be used. What is the accounting treatment in this situation?
Prima facie this standby item would seem to be an item of inventory. However, AS 10 (PPE) clearly provides that items such as spare parts, stand-by equipment and servicing equipment are recognised in accordance with this Standard when they meet the definition of property, plant and equipment. Otherwise, such items are classified as inventory. One may extend an argument that the standby equipment is not used at all, and the entity does not seem to be deriving economic benefit from the stand-by equipment from year to year. However, there is a fallacy in such a rationale. It is conceded that the probability of usage stand by generator is very low, but the useful life thereof is equal to that of the operating generator. A reference to definition clause reveals that AS 10 merely states that such items are “expected” to be used by the entity regularly every year. This expectation of usage fits in to the standby generator, and hence, it is recognised and accounted for as PPE.
10. If entity is required to maintain safety equipment for environmental reasons, what is the recommended accounting treatment for such assets?
The Standard addresses this situation very clearly, and provides as follows. Items of property, plant and equipment may also be acquired for safety or environmental reasons. The acquisition of such property, plant and equipment, although not directly increasing the future economic benefits of any particular existing item of property, plant and equipment, may be necessary for an enterprise to obtain the future economic benefits from its other assets. Such items of property, plant and equipment qualify for recognition as assets because they enable an enterprise to derive future economic benefits from related assets in excess of what could be derived had those items not been acquired. Recommended approach: Recognise and account for the same as PPE.
11. What is this new concept of componentisation introduced by AS 10?
Thus far (prior to reissue of AS 10), in the matter of depreciation of an asset, the Standard incorporated a relatively simple principle of an entity having to depreciate an item of PPE with reference to its RV and Useful life. However, the reissued AS 10 makes a departure here. The Standard provides that an entity recognises an asset for a given amount, but the amount so initially recognised in respect of an item of PPE should be allocated to its “significant parts” and each part – or major identifiable component thereof – be depreciated separately. A component of an equipment is one bearing a cost that is significant in relation to the total asset. Under this concept, an entity identifies one or more major parts of an item of PPE, having a useful life lesser than the life of the asset to the component belongs, and this component (or part) is depreciated separately, with reference to its useful life.
12. An entity installs an item of PPE, i.e. a machine and the cost recognised as the initial gross carrying amount of the asset. The useful life is estimated at 10 years. The asset is used for three years. Thereafter, the entity incurs additional cost on that machine. How does the entity treat this expenditure?
- The entity is required to first identify the nature of expenditure. If the expenditure so incurred represents day-to-day servicing costs, then, such costs are charged directly to P&L as and when incurred. Expenditure of this nature is popularly referred to as “repairs and maintenance”.
- If the expenditure is to meet costs relating to less frequently required replacements. Also, the expenditure may be for performing regular “major” inspections and “overhauls”. In such cases, the test of recognition is whether the expenditure so incurred meets the two basic criteria laid down in the recognition principle, namely, (i) probability of future economic benefits associated with this item flowing to entity, and (ii) the entity can measure the cost reliably.
If these two conditions are met, then, the entity capitalises the cost along with the original carrying amount of the asset. If either of the conditions is not met, the amount is charged as expense in P&L
Even though initial costs could have qualified for recognition as an asset, the expenditure incurred in a later period may not necessarily meet the qualifying criterion. It is essential, therefore, to test for compliance of the primary recognition principle, irrespective of whether the expenditure incurred represents initial costs or subsequent costs. Costs are included in the carrying amount of an asset only if the recognition criteria are met.
One somewhat complicated area is the “derecognition” of the part or component replaced, (or unamortised inspection costs) to be extricated out of the asset. To this end, the entity has to determine what would be the depreciated amount of the part replaced (or overhaul costs capitalised). For this to happen, it is essential to maintain a separate asset account for the component.
13. An entity has installed an imported item. The invoice does not show separate pricing for the major components. The machine is put to use for six years. Thereafter, the entity feels the need for replacement of the identified major component, the independent (segregated) carrying amount of which is not readily seen. If the replacement is however carried out by the entity, what accounting treatment it would follow?
The issue here is to extract and derecognise the depreciated carrying amount of the major component that is now getting replaced, when the original allocation is absent. Since a since a single rate of depreciation was being charged, the amount to be derecognised from the composite asset can be determined by using the same ratio as the original cost of component bears to the composite asset. If in a given situation, the ratio of cost of component to total cost of asset is 7:18, and assuming pro-rata RV, carrying amount can be apportioned in this ratio for a determination of amount to be derecognised.
14. An entity faces practical difficulties in determining the unamortised element of previously capitalised such as inspection and overhaul costs. The overhaul or inspection costs that may be incurred at a future date could not have been included in the carrying amount of the asset, unless an obligation existed. What should be the accounting treatment?
The Standard envisages flexibility. If the recognition criteria are met, costs can be capitalised, irrespective of whether the cost of the previous inspection or overhaul was identified (or not) in the transaction in which the asset was acquired or constructed. Generally, the cost of current inspection or overhaul being carried may be – and is – used, as an indication of what the cost of the inspection or overhaul component was when the asset was acquired or constructed – by working backwards.
For abundant clarity, it is emphasised that irrespective of whether the cost is expensed or capitalised, it can be recognised only on ‘as incurred basis’, and not prior to its incurrence – unless there is a current obligation that necessitates future outgo of expenditure.
15. An entity determined in the previous year(s) that an asset was impaired, and suitable adjustments were made, by providing for impairment. Subsequently in the current year, the entity is required to incur expenditure towards the asset (subsequent expenditure). Since the asset is already impaired, can the entity capitalise the subsequent costs?
Yes. The entity can capitalise the subsequent costs, incurred in respect of an impaired asset, so long as the recognition conditions (probable economic flow to entity, and reliable measurement of cost) are fully and completely met.
Measurement at initial Recognition
16. Apart from purchase related costs, and directly attributable costs, the Standard has introduced a new element that i.e., an estimated sum representing costs to be incurred in future, for dismantling or removing the asset or restoration of site must also be included as a cost of asset. Is this statement correct?
Usage of the phrase “must be” makes the statement incorrect. Such dismantling and restoration costs can be included, only if the entity carries an obligation arise either at the time when the asset is acquired, where such an obligation arises at a later date. In these cases, an enterprise is required to make an initial estimate of the cost of such an obligation. If such an obligation does not exist, there is no need to add any estimate sum of expenditure likely to be incurred at a future date – to the cost of asset.
17. In a given situation, after recognising the decommissioning or restoration liability initially, the quantum of liability changes after two years. The entity has recognised the difference in liability as gain or loss in P&L. What should the attest functionary do?
The Standard provides detailed guidelines, as to the manner in which this is to be accounted, when the entity follows either the cost model or revaluation model.
Under the cost model, the cost of asset is adjusted to the extent there is a change in liability. If the adjustment were to increase the cost of asset, the increase should be restricted to recoverable amount.
Under the Revaluation model, any change in decommissioning liability would lead to a change in revaluation surplus. The accounting principle is similar to a change occurring in one or more subsequent revaluations. Because of this situation, the following prescription in the Standard is applied:
(i) a decrease in the liability should (subject to (b)) be credited directly to revaluation surplus in the owners’ interest, except that it should be recognised in the statement of profit and loss to the extent that it reverses a revaluation deficit on the asset that was previously recognised in the statement of profit and loss;
(ii) an increase in the liability should be recognised in the statement of profit and loss, except that it should be debited directly to revaluation surplus in the owners’ interest to the extent of any credit balance existing in the revaluation surplus in respect of that asset.
(b) in the event that a decrease in the liability exceeds the carrying amount that would have been recognised had the asset been carried under the cost model, the excess should be recognised immediately in the statement of profit and loss.
18. Land is a non-depreciable item. An entity using the land, had incurred certain clearing costs (tree cutting, ground-levelling etc) to make the land usable. Should this cost be capitalised? What is the accounting treatment?
Yes these costs qualify to be capitalised since, such costs are directly attributable to making the land ready for its intended use.
The Standard prescribes (paragraph 61) that if the cost of land includes the costs of site dismantlement or removal etc., that portion of the land asset is depreciated over the period of benefits obtained by incurring those costs. In some cases, the land itself may have a limited useful life, in which case it is depreciated in a manner that reflects the benefits to be derived from it. This is a somewhat difficult and trying prescription. In quite a few cases, one may find it convenient to ignore and not include the site development costs. If that were to happen, it can be deemed as a deviation. The attest functionary needs to exercise care, and analyse the cost of land carefully.
19. An entity acquires an asset for long-term usage. In terms of the contract, the seller is required to deliver the asset, on or prior to a predetermined date and compensate the buyer, for any delays beyond the grace time allowed in the contract. How is this compensation recognised with reference to cost of the item of PPE
There are two possibilities. First is where the seller agrees to provide compensation as a percentage of selling price. In such cases, in substance, payment of compensation is a penalty for the seller and should be accounted for by buyer as a reduction in cost of asset. If on the other hand, the agreement specifies that the seller would merely reimburse the expenses incurred by buyer, then, that that compensation is to be accounted for as reimbursement under AS 29 (Provisions, Contingent Liabilities and Contingent Assets), and either credited to P&L if there is virtual certainty, or as a reduction from expenses incurred. In this second case, there is no reduction in cost.
20. An entity acquires a very large computer from the USA, for use in India to cover its world-wide operations. Inasmuch as the operating system and certain other algorithms incorporated in the Computer are new, the entity has to have its technical staff trained in operating this computer. The entity puts forth an argument that such expenditure is inevitable and is directly attributable to making the computer ready for its intended use, and has capitalised. As an attest functionary, do you agree?
The only issue here is: Are these costs essential for making the computer ready for its intended use? The answer is clearly NO. The computer is ready for use, the absence of operating knowledge and skills of staff does not vitiate that position. The Standard also provides that such costs are not includible in the cost of asset. As attest functionary, the answer is NO.
21. An entity receives income from certain activities before making the asset ready for use. What would be the accounting treatment?
Income if any derived from activities may also be deducted the income, if any, earned during the period of construction or development, provided it can be specifically attributed to the asset. If incidental operations generate income essential to make the asset ready for its use, it can be deducted from the cost, after adjusting the cost incurred for generating that incidental income.
Paragraph 22 of AS 10 also prescribes a negative covenant that if the incidental operations are not necessary to bring an item to the location and condition necessary for it to be capable of operating in the manner intended by management, the income and related expenses of incidental operations are recognised in P&L.
Note: IAS 16 (Property Plant and Equipment) has introduced an amendment to change this practice of deducting from “cost of asset” any proceeds from selling items produced in the course of bringing the asset ready for its intended use, say, during testing. Instead, this amendment stipulates that the proceeds of selling any items so produced during testing etc. as also cost of these items, should be recognised in P&L Ind AS 16 and AS 10 may also be amended soon. When this happens, accounting for cost of producing items in incidental operations and sale proceeds thereof, would also change.
22. Does AS 10 also make any prescriptions as to when capitalisation of costs should stop, and if yes, when?
Yes. An entity cannot continue to add costs incurred in connection with the asset indefinitely, even if the asset is ready for use, and not put to use. The capitalisation stops when the asset is “ready for use”. This is in contrast to provisions in Income Tax that the cut off point for depreciation is that it is put to use.
23. An entity purchases land and building for a total of Rs.128 lacs. Of this, cost of land-element is Rs.60 lacs. The building is depreciated at 10% p.a. After completion of one year, the entity decides to demolish the building and construct a new one at a cost of Rs.72 lacs. The entity has clubbed the carrying amount of old building, with the cost of the new one. As attest functionary, what is your view?
The WDV of old building (at 10% depreciation for one year) is Rs.54 lacs. This sum should be charged to P&L and cannot be clubbed with Rs.72 lacs. The reason is that as per prescriptions relating to depreciation, an entity is required to depreciate the WDV of the building, over its remaining useful life. In the instant case, at the time of demolition of the building, the remaining useful life thereof is ZERO. Hence, it is required to be written off as depreciation expense.
24. An entity, is in the process of completing a self-constructed asset, and has applied for necessary regulatory approvals before the asset can be put to use. What is the trigger that prompts an entity to cease capitalisation for self-construction assets.
The cut-off time prescribed in the Standard is the point of time from at which the asset is made ready for its intended use. In the case of self-constructed assets, the generally accepted practice is that a policy decision is made and applied consistently as to “what event or activity characterises the point at which an asset’s physical construction or installation is complete”. Such a determination resolves the issue of when an item is in the location and condition necessary for it to be capable of operating in the manner intended by the management, so that all costs incurred after that “point in time” are identified and expensed. The following three points add clarity:
- Where there is a delay in achieving final physical completion, costs arising during the period of delay come under the category of abnormal costs; such costs are necessarily expensed.
- Where regulatory consents, such as consents for safety, are required, cost capitalisation process will not necessarily continue until such consents are in place; it would be but appropriate to ensure that such consents are in place, very close to the time-frame for physical completion and testing, so that the asset can be put into operation without delay. If consents are delayed unreasonably, capitalisation would cease, when the asset is ready but not put to use due to regulatory consents.
- The principle of “capable of operating in the manner intended by management” prescribed in Ind AS 16, cannot be used to justify ongoing capitalisation of costs.
25. An entity exchanges one of its existing assets and in return acquires a new asset. Can the entity go ahead and recognise the incoming asset at the carrying amount of outgoing asset?
Even the pre-revised AS 10 (Fixed Assets) carried prescriptions in this regard. The principle was that a fixed asset acquired is in exchange for another asset, its cost is usually determined by reference to the fair market value of the consideration given. It may be appropriate to consider also the fair market value of the asset acquired if this is more clearly evident. The Standard had also earlier prescribed that for similar assets, the carrying amount of outgoing asset can be used.
The revised Standard incorporates a proviso, that assets acquired in exchange for non-monetary assets or a combination of monetary and non-monetary assets should be measured at fair value, excepting where (i) either the fair value of assets exchanged cannot be measured reliably (ii) or the transaction lacks commercial substance. The concept of transactions that lack commercial substance in determining the cost of incoming asset. In simple words, if the cash-flows attached to the outgoing asset were to be different from that of incoming asset, then, it is deemed to bear commercial substance. If both are equal, there is no commercial substance. In such cases, and if there is no fair value, the cost of incoming asset may be taken as the carrying amount of outgoing asset. The Standard also introduces the concept of “enterprise specific value” as opposed to fair value, in this determination.
Consider the following simplified table:
| Fair Value of asset given up (A) | Fair Value of asset acquired (B) | Cost of acquired asset is | |
| Situation 1 | Determinable | Not determinable | FV of A |
| Situation 2 | Determinable | Determinable | FV of A, except where FV of B is more clearly evident |
| Situation 3 | Not determinable | Determinable | Adopt B, because FV B is more clearly evident |
| Situation 4 | Not determinable | Not determinable | Adopt carrying amount of asset given up |
26. If an entity has acquired an under lease, how does it determine its initial recognition cost – or when the asset is acquired for deferred credit terms.
In the first case, AS 19 Leases, will apply. The entity will ascertain if it an operating lease or finance, and if it is of latter type, then, the financing element will be segregated, by ascertaining the fair value of equipment, and to all intents and purposes, fair value principle will be applied.
In the latter case, the difference between cash price equivalent and the total payment is recognised as “interest” over the period of credit, except to the extent that it qualifies to be capitalised under AS 16 (Borrowing Costs).
27. If an entity has acquired a number of assets, under a consolidated invoice showing single price, what should be the accounting treatment?
First: In situations where several items of property, plant and equipment are purchased for a consolidated price, the consideration is apportioned to the various assets on the basis of their respective fair values.
Two: In situations where, the first parameter is not applicable, the values of each of the asset covered by the consolidated invoice are estimated on a fair basis, as determined by competent valuers.
28. An entity acquires an asset, with the partial funding support of government grants? What is the accounting treatment?
The carrying amount of a tangible fixed asset may be reduced by Government Grants in accordance with AS 12, Accounting for Government Grants. This is an optional requirement and both gross and net basis approach can be adopted.
29. There are two independent entities. They acquire a ship and own the same in their joint names. What is the accounting treatment in the case of such jointly owned assets?
AS 27 (Financial Reporting of interests in joint ventures) is in place. Joint ownership also implies a joint venture. This is a jointly owned asset, and AS 17 will apply. Each entity will account for its share of assets, income, expenses and liabilities.
30. If an entity having acquired an asset, is desirous of revaluing the asset, and modify the carrying amount, what would be accounting treatment?
The Standard lays down detailed guidelines for accounting under revaluation model, and these are similar and comparable to the pre-revised AS 10. The focus of the new Standard that the revalued amount should bear close approximation to Fair Value. Preferred approach for determining fair value is market-based approach, but other approaches are not prohibited.
Revaluation should be for entire class of assets, and should be carried out at reasonable frequency (not exceeding three years).
31. An entity has entered into an arrangement for purchase of a property. The property would be delivered at the end of two years, at which time, the entity would pay a sum of Rs.120 lacs. However, the arrangement provides a choice to the effect that the entity can pay a sum of Rs.12 lacs in advance, as non-refundable deposit or Rs.6 lacs in Year 1 and Rs.6.72 lacs in year 2. The alternative choice is also an upfront non-refundable payment. In measuring the cost of asset, can the entity recognise only the sum of Rs.12 lacs, on the ground that 0.72 lacs is interest unwound from the deposit
The deposit is not considered as a financial asset, because it is non-refundable. Also, during these two years, the property can be deemed to be a qualifying asset for making it ready for its intended use, and the interest cost paid by the buyer can be justifiably included in the initial amount recognised as cost.
Depreciation – Useful Life and Method
32. The Standard provides for an entity adopting alternative methods of depreciating an asset. If an entity changes the method from WDV or SLM (or vice versa), what should be the accounting treatment.
The new prescription is that depreciation is an accounting estimate. Any change in the method of depreciation should, therefore, be treated as a change in accounting estimate. The revised or changed method of depreciation will be adopted by the entity on a prospective basis. The retrospective computation prescribed in earlier standard (AS 6 now withdrawn) has been given up.
33. The Standard provides two alternative methods of accounting for adjustment to accumulated depreciation, when a revaluation is carried out. An entity having a property worth Rs.100 lacs, depreciates it at SLM 5% for first two years and at the revised depreciation rate of 10% SLM thereafter (NIL RV). In year 5, before revaluation the net carrying amount stood at Rs.63 lacs while the accumulated depreciation stood at Rs.37 lacs. The revaluation carried out at the end of the year increases the gross carrying amount by Rs.50 lacs to Rs.150 lacs. What would be the accounting methodology adopted by entity, in either of the two alternatives provided in the Standard.
Under restating model: PPE is debited by Rs.50 lacs (for gross carrying amount), by a corresponding credit to Revaluation Reserve by Rs.21 lacs and Depreciation account by Rs.29 lacs (balancing figure so as to bring the net carrying amount from Rs.63 lacs to Rs.84 lacs)
Under the alternative model – the accumulated depreciation at Rs.37 lacs would be eliminated such that after revaluation, both the gross and net amounts of assets remain at Rs.84 lacs. Therefore the asset would increase by only Rs.16 lacs and Revaluation Reserve by Rs.21 lacs. (Detailed working of annual movement in depreciation is not shown).
34. An entity is required to formulate an accounting methodology for depreciating an “intangible” element forming part of the cost of asset. The total purchase cost of asset Rs.100 lacs, of which the intangible element representing estimated overhaul costs is Rs.10 lacs. The overhaul is to be carried out once in five years. Life of the asset is 30 years. SLM depreciation and Nil RV is assumed.
The tangible and intangible elements in the asset would be as under.
- Physical asset Rs.90 lacs
- Intangible portion being overhaul cost included Rs.10 lacs
- Physical asset would be depreciated at Rs.3 lacs per annum on SLM basis, while the overhaul costs would be depreciated atRs.2 lacs per annum on SLM basis for five years. At the end of fifth year, overhaul costs that would be incurred again would be added to asset, and the task of extracting unamortised overhaul cost does not arise in this case. When the overhaul cost of say Rs.10 lacs is so added in 6th year, the net carrying amount of asset would stand at 85 lacs (75 + 10)
35. An entity uses production-units method (as permitted in the Standard) for depreciating the asset. During a given period of six months, there is no production. Does the entity stop applying depreciating the asset?
The depreciation is ZERO during the period of production stoppage, because of units of production method is being adopted. Production Unit method allows depreciation being zero for a given time.
36. An entity using a unique machinery and equipment encounters the need to change the machine. The replacement arrives. The usage of earlier equipment is discontinued. However, in order to protect itself from competition the entity does not sell the equipment. The entity continues to provide for depreciation for both the old and new items. The attest functionary is perplexed.
The old equipment is to be treated as retired from active use. The Standard makes appropriate prescriptions in paragraph 57. Depreciation of an asset ceases at the earlier of the date that the asset is retired from active use and is held for disposal and the date that the asset is derecognised. Therefore, depreciation does not cease when the asset becomes idle or is retired from active use (but not held for disposal). In the instant case, the machinery has been retired, but is not held for disposal nor is the asset derecognised. Hence, the accounting is in order. The attest functionary has to ensure that the depreciated carrying amount does not exceed its possible sale value less cost to sell.
37. An entity having applied SLM depreciation on an asset having NIL RV, finds that the asset can still be used even after the end of its originally estimated useful life. Can the entity continue to use the asset, when carrying amount is ZERO?
Yes. The entity can continue to use the asset, when carrying amount is ZERO. But has to comply with the disclosure requirement, and disclose the Gross Carrying amount of the item in use but the carrying amount of which is ZERO
38. An entity has purchased a few machinery items of PPE along with a spare motor. Based on a technical evaluation, it has classified this motor as an item of PPE. The motor has not however been used. What is the accounting treatment for such capitalised item of valuable spares?
The motor cannot be classified as a standby equipment, as it has not been installed. It is not ready for use only when installed. Accordingly, the depreciation will commence, when the item of Spare-Motor is installed and is ready for use, and not when the item is acquired along with other machines.
Derecognition
39. Under what conditions does an entity have to derecognise the asset?
The Standard requires that the carrying amount of an item of PPE should be derecognised (a) on disposal; or (b) when no future economic benefits are expected from its use or disposal. The phrase ‘carrying amount of a tangible fixed asset’, as used in this paragraph bears a wide connotation to include (i) Carrying amount of major parts or components of an asset treated as separate assets, and (ii) carrying amount of major overhaul or inspection costs previously included in the tangible asset, in the context of similar costs being incurred subsequently.
In other words, an asset should be derecognised when recognition criteria are not met i.e., absence of future economic benefits flowing from the asset, either because the asset is sold or because it is no longer in use. There is a variety of ways in which disposal of an asset occurs, namely, by sale, by donating the asset another entity, or by entering into a finance lease transaction. Disposal of an asset is to be reckoned as a separate economic event that generates income (or loss). The timing of recognition of such an event i.e., the date of disposal of an asset is critical. To this end, AS 9 (Revenue Recognition) should be applied. As regards an event that results in a sale and lease back transaction AS 19 (Leases) should be applied.
Gain or loss arising on derecognition should be recognised in P&L.
40. An entity holding certain property for rentals, also periodically disposes of the items and acquires new ones. Prior to such disposal, the item is classified as inventory. Can an item of PPE be held as inventory?
Such a property is to be initially recognised and classified as long-term Investments. AS 13 (Accounting for Investments) prescribes that the investment properties should be accounted for as per AS 10 Property, Plant and Equipment. Once the item ceases to be given on rentals, the item assumes the characteristics of current assets, although the common practice may be to include them in investments. The principle of “PPE retired from active use and held for sale” will apply, and hence, will be carried at lower of cost and expected sale value adjusted for cost to sell”.
The classification as inventory (because AS 10 applies), is not appropriate.
41. Is it in order for an entity to write off as expense, any amount incurred for an item of PPE?
Para 9 of AS 10 provides that an enterprise may decide to expense an item which could otherwise have been included as property, plant and equipment, because the amount of the expenditure is not material. The crux is that it is management’s call based on materiality, and prudence is preferred. There is however no reference to depreciation on low value assets in Companies Act.
42. What are the exemptions available under AS 10 to Level III and IV non-corporate entities?
Non-corporate entities falling in the categories of Level III and Level IV entities are exempt from making the undernoted disclosures, under AS 10:
An enterprise is encouraged to disclose the following:
(a) the carrying amount of temporarily idle property, plant and equipment;
(b) the gross carrying amount of any fully depreciated property, plant and equipment that is still in use;
(c) for each revalued class of property, plant and equipment, the carrying amount that would have been recognised had the assets been carried under the cost model;
(d) the carrying amount of property, plant and equipment retired from active use and not held for disposal.
43. What accounting changes need to be made for purposes of Tax?
One major difference arises in the area of ‘depreciation charge’ for reported profits, and for taxable income. All the adjustments shown in the following summary requires to be made, while computing taxable profit, and for making tax provisions.
| Financial Reporting(General practice) | Taxation (S.32/32A)of IT Act | |
| Method | Straight line or WDV | WDV only |
| Written down value | No block Concept | Block Concept as per S.43(6)(c) |
| Rate | Schedule III | As prescribed by IT Act |
| Fractional period | Number of days used in a year | Less than or more than 180 days |
| Finance Lease | To be recognised as an asset and depreciated | Not recognised as an asset |
| Low cost assets | 100% depreciation for individual items | No special treatment |
| Extra shift depreciation | Permitted in Schedule | No special treatment |
| Actual cost of asset | Cost as per AS 10 | As per specific provisions u/s 43(1) |
44. What accounting changes need to be made for purposes of Tax?
- Accounting adjustments are needed in the following situations (i) When an asset is acquired by exchanging with another asset, the FV of the asset acquired shall be its actual cost and (ii) When an asset is acquired in exchange for shares or other securities, the FV of the asset so acquired shall be its actual cost.
- In some cases, AS 10 permits treating the cost assets acquired, as expense, on grounds of materiality. The concept of materiality is not available in Tax. Therefore, needs adjustment.
- Asset revaluation is not recognised in TAX. Therefore, all revaluations have to be reworked and profit if any adjusted.
- Expense incurred after the conduct of test runs and experimental production but before commencement of commercial production shall also be treated as capital expenditure. (this is in terms of a Circular no 10/2017)
- Capitalisation of eligible borrowing costs (and in some cases capitalisation of exchange differences) are to be adjusted, on cash payment or settlement basis (not on accrual basis)
More Articles on Accounting Standard 10
- Learn the essentials of Accounting Standard 10 – Property, Plant, and Equipment. Covering initial recognition, cost determination, and measurement criteria- Click here
- Explore the key aspects of Accounting Standard 10 – Property, Plant, and Equipment with detailed specimen disclosures- Click here
