Advanced financial accounting - Lecture 31: Borrowing cost IAS-23. The main topics covered in this chapter include: borrowing cost; qualifying asset; bench mark treatment; allowed alternative treatment; borrowing costs eligible for capitalization;... Please refer to the lecture for details!
Advanced Financial Accounting Lecture31 Borrowing Cost IAS23 IAS23 Borrowing Cost Borrowing Cost Borrowing cost are interest and other cost incurred by an entity in connection with the borrowing of funds. Qualifying Assets A qualifying asset is an asset that necessarily takes a substantial period of time to get ready for its intended use or sale. Examples of Qualifying Assets Power plant being un the process of manufacture Inventories routinely manufactured Assets ready to use. Inventories requiring a substantial period for the manufacturing Special order for a special inventory that will be manufacturer that will be manufactured in five months. Qualifying Assets Not Qualifying Assets Not Qualifying Assets Qualifying Assets Qualifying Assets Barrowing Costs (Recognition) Bench Mark Treatment: Borrowing cost shall be recognized as an expense Allowed Alternative Treatment: Borrowing cost shall be recognized as an expense in the period in which they are incurred, except to the extent that borrowing costs that are directly attributable to the acquisition, construction or production of a qualifying asset shall be capitalized as part of the cost of that asset. Borrowing Costs Eligible for Capitalization The borrowing costs that are directly attributable to the acquisition, construction or production of a qualifying assets are those borrowing costs that would have been avoided if the expenditure on the qualifying assets had not been made Example Mega limited is engaged in the production of power generation plants ,which is to be used by the company The company borrows funds for the construction of this plants Rs. 20,000,000 @ 10% The company wants to adopt the accounting treatment of interest expense on such asset. What option are available to the company under IAS23, borrowing costs Interest Expense = Rs. 20,000,000 @ 10% = Rs. 2,000,000 Bench Mark Treatment : Rs. 2,000,000 is shown in Profit & Loss Account as an expense Allowed Alternative Treatment : Rs. 2,000,000 is should be capitalized Example Swan limited borrowed a loan from bank on 12 % per annum amounting to Rs 1,000,000 for the construction of power generation facilities of the company. The loan was received on January 01 and utilized Rs. 300,000 on Qualifying asset. On January 01, the company deposited the remaining amount in the bank yielding interest @ 6 %. Whole the amount is withdrawn and paid to contractor on March 01. The company returned the loan to bank after 9 months i.e. on October 01 You are required to calculate the amount of borrowing cost eligible for capitalization Interest paid to bank Rs 1,000,000 x 12% x 9/12. 90,000 less interest income 700,000 x 6% x 2/12 7,000 Borrowing cost eligible for capitalization 83,000 Capital expenditure barrowed 1,000,000 Add Borrowing cost eligible for capitalization 83,000 1,083,000 Capitalization Rate: Total borrowing cost incurred = Weighted average borrowing outstanding during the year X 100 Question MCQ Pvt. Limited has the following loans outstanding as at December 31st 2005 Rs Loan – 1@ 6 % 300,000 Loan – 2 @ 8 % 200,000 Loan –3 @ 9 % 150,000 All the three loans were brought forward from previous year. Neither loan is acquired during the year nor is paid The company spent following amounts on construction of an asset January 31, 2005 70,000 April 01, 2005 80,000 December 01, 2005 10,000 Required: Calculate the capitalization rate Solution Capitalization Rate: Total borrowing cost incurred = Weighted borrowing outstanding during the year Rs. Interest Loan – 1@ 6 % 300,000 18,000 Loan – 2 @ 8 % 200,000 16,000 Loan –3 @ 9 % 150,000 13,500 47,500 Capitalization Rate = 47,500 / 650,000 x 100 = 7.31% x 100 Question MCQ Pvt. Limited has the following loans outstanding as at December 31st 2005 Rs Loan – 1@ 6 % Due on opening date 300,000 Loan – 2 @ 8 % Taken on 1st April 2005 200,000 Loan –3 @ 9 % Taken on 1st July 2005 150,000 Solution Capitalization Rate: Total borrowing cost incurred = Weighted Average borrowing outstanding during the year Total Borrowing cost: Rs. Interest Loan – 1@ 6 % 300,000 18,000 Loan – 2 @ 8 % (9 moths) 200,000 12,000 Loan –3 @ 9 % (6 moths) 150,000 6,750 Total borrowing cost incurred 36,750 x 100 Solution Weighted Average: Loan – 1@ 6 % Loan – 2 @ 8 % (9 moths) Rs. 300,000 200,000 x 9/12 Loan –3 @ 9 % (6 moths) 150,000 x 6/12 Capitalization Rate = 36,750 / 525,000x 100 = 7% 150,000 75,000 525,000 Borrowing Costs Eligible for Capitalization Jan 31 = 70,000 x 7.31 % x 11/12 April 01 = 80,000 x 7.31 % x 9/12 Dec. 01 = 10,000 x 7.31 % x1/12 Rs 4,689 4,386 61 9136 ...IAS23 Borrowing? ?Cost? ? Borrowing? ?Cost? ? Borrowing? ?cost? ?are interest and other? ?cost? ?incurred by an entity in connection with the? ?borrowing? ?of funds. Qualifying Assets ... Qualifying Assets Barrowing Costs (Recognition) Bench Mark Treatment: Borrowing? ?cost? ?shall be recognized as an expense Allowed Alternative Treatment: Borrowing? ?cost? ?shall be recognized as an expense in ... capitalized as part of the? ?cost? ?of that asset. Borrowing? ?Costs Eligible for Capitalization The? ?borrowing? ?costs that are directly attributable to the acquisition, construction or production of a qualifying assets are those? ?borrowing? ?costs that would have been