Acc 217 PDF

DEPARTMENT OF FINANCIAL ACCOUNTING
ACCOUNTING III
Distinctive financial reporting

ONLY STUDY GUIDE FOR
ACN302-U
ACN312-W
UNIVERSITY OF SOUTH AFRICA

PRETORIA
ii
2006 University of South Africa

All rights reserved
Printed and published by the
University of South Africa
Muckleneuk, Pretoria
Page-layout by
the Department
ACN302-U/ACN312-W/1/2007
iii
ACN302-U/ACN312-W/1
STUDY GUIDE
CONTENTS
Page
INTRODUCTION AND OVERVIEW OF MODULE
iv
PRESCRIBED BOOKS
vi
STUDY UNIT 1
Property, Plant and Equipment [IAS 16 (AC 123) and SIC-21 (AC 421)]
STUDY UNIT 2
Investment Property [IAS 40 (AC 135)]
62
STUDY UNIT 3
Impairment of Assets (excluding cash generating units) [IAS 36 (AC 128)]
98
STUDY UNIT 4
Intangibles [IAS 38 (AC 129)]
121
STUDY UNIT 5
Non-current Assets Held for Sale and Discontinued Operations [IFRS 5

(AC 117)]
151
STUDY UNIT 6
Financial Instruments [IAS 32 (AC 125) and IAS 39 (AC 133)]
185
STUDY UNIT 7
The Effects of Changes in Foreign Exchange Rates [IAS 21 (AC 112) and
SIC-7 (AC 407)]
186
iv
INTRODUCTION AND OVERVIEW OF MODULE

We would like to welcome all students to this module on financial accounting on the third year level. We
hope that you will find this module valuable in your studies and that it will help you to further your career
in financial accounting and eventually make a contribution to the advancement of the accounting and audit
profession in South Africa.
Purpose of your studies
The purpose of your study of financial accounting on third year level is to provide you with knowledge and
skills to enable you to prepare a set of financial statements for a company or group of companies with
specific reference to the requirements of the Companies Act, 1973 and Generally Accepted Accounting
Practice as contained in the standards set out by the South African Institute of Chartered Accountants.
You will be able to achieve this purpose after studying the following four modules:
ACN301-T/ACN311-V
ACN302-U/ACN312-W
ACN303-V/ACN313-X
ACN304-W/ACN314-Y
General financial reporting

Distinctive financial reporting
Specific financial reporting
Group financial reporting
Approach to your studies

Certain information is necessary to successfully complete this module. Please take note of the following:
# The study package
The study package for this module consists of:
the prescribed textbooks containing text as well as questions and solutions;
the study guide in which study material is grouped into topics in study units. The study guide serves
as a key to the study material you have to study in the prescribed textbooks;
assignments - the assignments are contained in tutorial letter 101 for ACN302-U/ACN312-W; and
tutorial letters which contain information to which we want to draw your attention.
# Meanings of words
In this module we require you to understand the meaning of certain words to enable you to interpret
assessment criteria, to understand what various questions in the textbooks require you to do, and to
interpret assignments and examination questions.
To indicate the length, scope and format of answers to study activities and questions, we have deliberately
built limits or restrictions into the questions by using action verbs. These action verbs give you an
indication of how to tackle the given problem and what style of writing is called for.
An analysis of the action verbs contained in a question will enable you to:
S
plan the answer systematically and organise your thoughts systematically, and
S
ensure that you comply with the lecturers requirements.
ACN302-U/ACN312-W/1
You will also save yourself time and trouble by eliminating irrelevant material that falls outside the scope
of the answer.
For the purpose of this module the following meanings will be attached to the following action words:
Account for
Record
Advice
Give advice to, express an expert opinion
Allocate
Assign, apportion
Apply
Use in a practical manner; use as relevant or suitable
Calculate
Figure out; determine by a mathematical procedure
Compare
Place side by side in order to observe similarities, relationships and differences
Complete
Finish; supply whatever is missing
Criticise
Evaluate
Decide
Come to a conclusion (in writing); determine
Define
Describe accurately; establish the exact meaning; explain the inherent meaning
Demonstrate
Explain; make clear
Describe
Give an account of the respective particulars or essential characteristics; give an
accurate account
Determine
Establish, reach a conclusion or decision
Disclose
Reveal; show
Discuss
Examine; explain, examine by means of argument
Distinguish
Determine; differentiate; tell the difference
Draft
Prepare a provisional outline
Examine
Inspect; investigate
Explain
Make clear or comprehensible; explain the meaning in detail
Identify
Establish through consideration, recognise
Illustrate
Use an example to explain something
List
Set down; tabulate
Motivate
Supply a reason or facts for substantiation of a point
Prepare
Make ready; finish, get something ready on the basis of previous study
Present
Make known; demonstrate (in writing)
Produce
Demonstrate; construct
Recognise
Identify
Record
Put on record (in writing); set down for reference and preservation
State
Specify by name; characteristics
Summarise
Condense; state the crux of the matter
# Mastery of the study material
This section contains useful advice on time management; we also discuss study methods such as selfevaluation to help you master the material.
Use the study guide to guide you through the study material. The prescribed textbooks and study guide
contain the information you are required to master and remain the primary source that you will need to
study. Information, explanations and questions in the tutorial letters and assignments are included in order
to make the information in the textbooks and study guide comprehensible to you and to provide you with
an indication of how well you have mastered the study material.
Particulars of the assignments that can be completed for this module are contained in tutorial letter 101.
Tutorial letter 301 contains information regarding other administrative arrangements and the student
support services offered. Make sure that you are familiar with all the information contained in these tutorial
letters.
vi
# Self-study and self-evaluation
Since self-study and self-evaluation form important components of distance education, the study material
contains various activities that you are asked to do. Make the most of these opportunities to determine
whether you have made sufficient progress to achieve the assessment criteria in the various study units.
Try to answer the questions contained in the study guide, textbooks and the assignments independently,
before looking at the suggested answers.
When you come across a subject-related problem in financial accounting, make a persistent effort to get
to the bottom of the uncertainty or problem. If you persevere until you have solved the problem, you will
find that you derive great satisfaction from doing so. As we indicated in the tutorial letter 101 for each
financial accounting module, the lecturers responsible for the module are available to help you solve
subject-related problems.
PRESCRIBED TEXTBOOKS
1. International Financial Reporting Standards (IFRSs) - SAICA Handbook (latest edition).
2. Oppermann H.R.B., Booysen, S.F. et al: Accounting Standards (latest edition).(This prescribed
textbook is referred to in the study guide as Accounting Standards.)
The contents of this module has been divided into topics. Each topic is contained in a study unit and
sections will commence with the learning outcomes for that study unit and will proceed to lead the student
through the learning process for that section of the work.
In each study unit we will indicate which sections of the prescribed textbooks must be studied.
The sections to be studied will be clearly indicated, and the assignments and examinations will be
based on these sections
IT IS REQUIRED OF STUDENTS TO USE A NON-PROGRAMMABLE FINANCIAL POCKET
CALCULATOR IN THIS MODULE.
REVISION OF PREVIOUS YEARS STUDY MATERIAL
The following topics which have been fully dealt with in Accounting II, must be revised. We may examine
you on these topics without specifically dealing with them again:
- those sections of the Companies Act, 1973 which refer to financial statements; and
- the Fourth Schedule of the Companies Act, 1973.
The module ACN301-T/ACN311-V is a registration requirement for this module and you will be examined
on those topics that have implications on this module.
ACN302-U/1
STUDY
UNIT
1
PROPERTY, PLANT AND EQUIPMENT [(IAS 16 (AC 123) AND SIC-21 (AC 421)]
LEARNING OUTCOME 1
Once you have studied and completed this course material, you should be able to:
account for property, plant and equipment, and depreciation in the financial statements of an entity
in terms of the requirements of Generally Accepted Accounting Practice.
account for revaluations of property, plant and equipment in the financial statements of an entity in
terms of the requirements of Generally Accepted Accounting Practice.
account for the deferred tax and tax implications in respect of property, plant and equipment.
OVERVIEW OF STUDY UNIT
This study unit will be discussed under the following sections:
A
PROPERTY, PLANT AND EQUIPMENT
1.1
1.2
1.3
1.4
1.4.1
1.4.2
1.5
1.5.1
1.5.2
1.6
1.6.1
1.6.2
1.6.3
1.6.4
1.6.5
1.7
Objective
Scope
Definitions
Recognition of property, plant and equipment
Initial costs
Subsequent costs
Measurement at recognition
Elements of cost
Measurement of cost
Measurement after recognition
Cost model
Revaluation model
Depreciation
Impairment
Compensation for impairment
Derecognition
2
B
REVALUATIONS
1.8
1.9
1.10
1.10.1
1.10.2
1.10.3
1.10.4
1.10.5
1.10.6
1.10.7
1.11
1.12
1.13
1.14
C
1.15
1.16
1.17
1.18
1.19
D
1.20
E
1.21
1.22
F
Introduction
Frequency of revaluations
Method of revaluing
Change in accounting policy
Residual value
Estimated useful life
Determination of replacement value
Alternative accounting treatments when assets are revalued
Methods of revaluation - schematic diagram
Date of revaluation
Revaluing an entire class of property, plant and equipment
Revaluation surplus
Further examples
Summary of revaluations
DISCLOSURE
Disclosure requirements for the cost- and the revaluation model
Further disclosure requirements
Specific disclosure requirements for the revaluation model
Further relevant information for users of financial statements
Requirements of the Companies Act
SIC (AC 400) - INTERPRETATIONS
SIC-21 (AC 421) - Income taxes: recovery of revalued non-depreciable assets
TAX IMPLICATIONS
Capital Gains Tax (CGT)
Deferred tax
COMPREHENSIVE EXAMPLES
STUDY:
1. SAICA Handbook. International Financial Reporting Standards (IFRSs)
IAS 16 (AC 123) - Property, Plant and Equipment (issued March 2004).
SIC-21 (AC 421) - Income Taxes: Recovery of Revalued Non-depreciable Assets (issued
October 2000)
2. Accounting Standards
The chapter dealing with IAS 16 (AC 123) and SIC-21 (AC 421).
3. Companies Act, 1973 - Fourth schedule
Paragraphs .20 to .22(a), .42(o) and .44.
3
A
1.1
ACN302-U/1
PROPERTY, PLANT AND EQUIPMENT
OBJECTIVE - IAS 16 (AC 123).1
IAS 16 (AC 123) contains prescriptions for the accounting treatment for property, plant and equipment
(PPE) so that users of the financial statements can discern information about an entitys investment in its
PPE and the changes in such investment. The principal issues in accounting for PPE are the following:
S the recognition of PPE as assets, and
S the determination of their carrying amounts, and
S the related depreciation charges and impairment losses.
1.2 SCOPE - IAS 16 (AC 123).2-5

The standard shall be applied to PPE except when another standard requires or permits a different
accounting treatment.
The standard does not apply to:
(a) PPE-items classified as held for sale in accordance with IFRS 5 Non-current Assets Held for Sale and
Discontinued Operations (refer to study unit 5);
(b) biological assets related to agricultural activity (IAS 41 (AC 137) Agriculture); or
(c) mineral rights and mineral reserves such as oil, natural gas and similar non-regenerative resources.
However, the standard applies to PPE used to develop or maintain the assets described in (a) and (b).
The standard also applies to the following:
S
where other standards may require recognition of an PPE-item based on a approach different from that
in the standard (eg leases under IAS 17 (AC 105)), other aspects of the accounting treatment for these
assets, including depreciation, are prescribes by this standard;
property that is being constructed or developed for future use as investment property but does not yet
satisfy the definition of investment property in IAS 40 (AC 135) Investment Property;
investment property that is being accounted for in accordance with the cost model (see study unit 2
for investment properties).
1.3 DEFINITIONS - IAS 16 (AC 123).6

The following terms are used in the standard with the meanings specified:
Carrying amount
The carrying amount is the amount at which an asset is recognised in the balance sheet after deducting
any accumulated depreciation and accumulated impairment losses.
4
Cost
Cost is the amount of cash or cash equivalents paid and the fair value of the other consideration given to
acquire an asset at the time of its acquisition or construction.
Depreciable amount
The cost of an asset, or other amount substituted for cost, less its residual value.
Depreciation
The systematic allocation of the depreciable amount of an asset over its useful life.
Entity-specific value
The present value of the cash flows an entity expects to arise from the continuing use of an asset and from
its disposal at the end of its useful life or expects to incur when settling a liability.
Fair value
The amount for which an asset could be exchanged between knowledgeable, willing parties in an arms
length transaction.
Impairment loss
The amount by which the carrying amount of an asset exceeds its recoverable amount.
Property, plant and equipment
PPE are tangible assets that:
(a) are held for use in the production or supply of goods or services, for rental to others, or for
administrative purposes; and
(b) are expected to be used during more than one period.
Recoverable amount
It is the higher of an assets net selling price (fair value less costs to sell) and its value in use.
Residual value
The estimated amount that an entity would currently obtain from disposal of an asset, after deducting the
estimated costs of disposal, if the asset were already of the age and in the condition expected at the end
of its useful life.
Useful life
It is either:
(a) the period over which an asset is expected to be available for use by an entity; or
(b) the number of production or similar units expected to be obtained from the asset by an entity.
1.4
RECOGNITION OF PROPERTY, PLANT AND EQUIPMENT - IAS 16 (AC 123).7-14
The first step to take in accounting for an item of expenditure, is to decide whether the item should be
recognised and accounted for as an asset or as an expense, based on the recognition criteria set out in
the Framework for the Preparation and Presentation of Financial Statements (IFRSs - SAICA Handbook).
These criteria also apply to subsequent recognition.
ACN302-U/1
The cost of an PPE-item shall be recognised as an asset if, and only if:
it is probable that future economic benefits associated with the item will flow to the entity (this will
usually be the case where the risks and rewards of ownership have passed to the entity); and
the cost of the item can be measured reliably.
An entity evaluates under this recognition principle all its PPE-costs at the time they are incurred. These
costs include costs incurred initially to acquire or construct a PPE-item and costs incurred subsequently
to add to, replace part of, or service it (under certain circumstances).
Spare parts and servicing equipment do not normally meet the definition of PPE as they are used in one
accounting period. They are normally carried in inventory and recognised in profit and loss as and when
it is used. However, major spare parts and stand-by equipment qualify as PPE when an entity expects to
use them during more than one period. Similarly, if the spare parts and servicing equipment can be used
only in connection with a certain PPE-item, they are accounted for as PPE.
1.4.1 Initial costs
Sometimes entities are obliged to acquire certain PPE-items for safety or environmental reasons. Although
such assets will not directly give rise to increased future economic benefits embodied in a specific asset
itself, the entity is obliged to acquire such assets for increased future economic benefits from other assets.
Consequently these assets meet the general recognition criteria for assets and are therefore capitalised
as assets. The resulting carrying amount of such an asset and related assets is reviewed for impairment
in accordance with IAS 36 (AC 128) (see study-unit 3 for impairment).
Example
In order to comply to environmental requirements, a manufacturer of chemical products has to install new
chemical air filters to prevent the emission of toxic gasses. The relevant values at year end, 30 April 20.4,
were as follows:
R
Existing plant
Accumulated depreciation
5 000 000
(1 250 000)
Carrying amount on 30 April 20.4

Cost of air filters (brought into use on 30 April 20.4)
3 750 000
800 000
New carrying amount on 30 April 20.4
4 550 000
1.4.2 Subsequent costs

Servicing cost
In terms of the general recognition principle described above, the normal day-to-day servicing
(maintenance) costs of a PPE-item are not recognised in the carrying amount of the item, but in profit or
loss (an expense) as incurred. The expense is described as repairs and maintenance and consist mainly
of the cost of labour, consumables and small (low value) spares.
6
Replacement at regular intervals
Parts of some PPE-items may require replacement at regular intervals. For example:
S the relining of a furnace
S the seats and galleys in an aircraft
S the interior walls of a building such as an office block.
The principle (main) asset (like the furnace, aircraft and building) has a much longer useful life than the
respective components (like the relining, seats and interior walls). An entity recognises in the carrying
amount of a PPE-item the cost of replacing part of such an item when that cost is incurred if the recognition
criteria are met. The remaining carrying amount of the replaced part is then derecognised (see 1.7 below
for derecognition).
Regular major inspections
Certain assets need regular major inspections for faults regardless of whether parts of the item are
replaced (eg aircraft) to ensure continuing operations. When each major inspection is performed, its cost
is recognised in the carrying amount of the asset as a replacement (if the recognition criteria are met) and
depreciated. Any remaining carrying amount of the previous inspection (as distinct from physical parts) is
derecognised. This occurs regardless of whether the cost of the previous inspection was identified in the
transaction in which the item was acquired or constructed. If necessary, the estimated cost of a future
similar inspection may be used as an indication of what the cost of the inspection component was when
the item was acquired or constructed. In this way the depreciable amount that needs to be separately
depreciated, can be estimated.
Example
Deens Limited bought a machine on 1 January 20.2 vir R 1600 000. The machine has to be inspected
every 6 000 hours which means that a major inspection will have to be carried out every two years. The
estimated cost of a major inspection is R150 000. The machine has an estimated useful life of 8 years.
REQUIRED:
(a) Calculate the depreciation and carrying amount of the machine for 20.2 en 20.3 if everything goes
according to plan.
(b) If, due to several factors, the inspection needed to be done after 18 months in stead of the planned two
years and the cost of the first physical inspection amounted to R200 000, show how this matter will be
disclosed in the note on property, plant and equipment for the year ended 31 December 20.3. The machine
is the only asset of the entity.
7
Solution
ACN302-U/1
(a) Depreciation and carrying amount of the machine for 20.2 en 20.3
Machine
R
Inspection
component
R
Total
R
Cost (1 600 000 - 150 000)

Depreciation 20.2 (1 450 000/8); (150 000/2)
1 450 000
(181 250)
150 000
(75 000)
1 600 000
(256 250)
Carrying amount on 31 December 20.2

Depreciation 20.3
1 268 750
(181 250)
75 000
(75 000)
1 343 750
(256 250)
1 087 500
1 087 500
Comment
The inspection component forms a part of the machine and is not a separate asset.
(b) DEENS LIMITED

NOTES FOR THE YEAR ENDED 31 DECEMBER 20.3
5. Property, plant and equipment
Machinery
R
Carrying amount on 1 January 20.3
Gross carrying amount
Depreciation (calc)
Derecognition of initial inspection cost (75 000 - 37 500 (calc))
Capitalisation of inspection cost incurred
Gross carrying amount (1600 000 - 150 000 + 200 000)
Accumulated depreciation (256 250 + 268 750 - 75 000 - 37 500)
1 343 750
1 600 000
(256 250)
(268 750)
(37 500)
200 000
1 237 500
1 650 000
(412 500)
CALCULATION
Depreciation - machine
Depreciation - inspection (initial) (75 000 x 6/12)
Depreciation - inspection (new) (200 000/2 x 6/12)
181 250
37 500
50 000
268 750
8
1.5 MEASUREMENT AT RECOGNITION - IAS 16 (AC 123).15-28
A PPE-item that qualifies for recognition as an asset shall be measured at its cost.
1.5.1 Elements of cost
The cost of an PPE-item comprises:
(a) its purchase price, including import duties and non-refundable purchase taxes, after deducting trade
discounts and rebates.
(b) any costs directly attributable to bringing the asset to the location and condition necessary for it to be
capable of operating in the manner intended by management.
(c) the initial estimate of the costs of dismantling and removing the item and restoring the site on which
it is located. This obligation can arise either when the item is acquired or as a consequence of having
used the item during a particular period for purposes other than to produce inventories during that
period.
Examples of directly attributable costs are:
(a) costs of employee benefits arising directly from the construction or acquisition of the PPE-item;
(b) costs of site preparation;
(c) initial delivery and handling costs;
(d) installation and assembly costs;
(e) costs of testing whether the asset is functioning properly, after deducting the net proceeds from selling
any items produced while bringing the asset to that location and condition (such as samples produced
when testing equipment); and
(f) professional fees.
An entity applies IAS 2 (AC 108) Inventory to the costs of obligations for dismantling, removing and
restoring the site on which an item is located that are incurred during a particular period as a consequence
of having used the asset to produce inventories during that period. (This implies that these costs will be
capitalised to inventory and not to the PPE-item.)
Examples of costs that are not costs of a PPE-item are:
(a) costs of opening a new facility;
(b) costs of introducing a new product or service (including costs of advertising and promotional activities);
(c) costs of conducting business in a new location or with a new class of customer (including costs of staff
training); and
(d) administration and other general overhead costs.
ACN302-U/1
Recognition of costs in the carrying amount of a PPE-item ceases when the the item is in the location and
condition necessary for it to be capable of operating in the manner intended by management. Therefore,
costs incurred in using or redeploying an item are not included in the carrying amount of that item. For
example:
(a) costs incurred while an item capable of operating in the manner intended by management has yet to
be brought into use or is operated at less than full capacity;
(b) initial operating losses, such as those incurred while demand for the items output builds up; and
(c) costs of relocating or reorganising part or all of an entitys operations.
Some operations occur in connection with the construction or development of a PPE-item, but are not
necessary to bring the item to the location and condition necessary for it to be capable of operating in the
manner intended by management. For example, income may be earned through using a building site as
a car park until construction starts. Income and related expenses of such incidental operations are not
included in the carrying amount of that item, but are recognised in profit or loss and included in their
respective classifications.
The cost of a self-constructed asset is determined using the same principles as for an acquired asset. Any
internal profits are eliminated in arriving at such costs. Similarly, the cost of abnormal amounts of wasted
material, labour, or other resources incurred in self-constructing an asset is not included in the cost of the
asset.
1.5.2 Measurement of cost
Abnormal credit terms
The cost of an PPE-item is the cash price equivalent at the recognition date. If payment is deferred beyond
normal credit terms, the difference between the cash price equivalent and the total payment is recognised
as interest over the period of credit (unless such interest is recognised in the carrying amount of the item
in accordance with the allowed alternative treatment in IAS 23 (AC 114) - however, capitalisation of finance
costs do not form part of this module).
Exchange (swap) of PPE-items (IAS 16 (AC 123) .24)
One or more PPE-items may be acquired in exchange for monetary or non-monetary asset(s) or a
combination of both. The cost of the acquired item is measured at fair value unless (a) the exchange
transaction lacks commercial substance or (b) the fair value of neither the asset received nor the asset
given up is reliably measurable. In both cases the asset that is acquired, is measured at the carrying value
of the asset given up.
An entity determines whether an exchange transaction has commercial substance by considering the
extent to which its future cash flows (after tax) are expected to change as a result of the transaction. An
exchange transaction has commercial substance if:
(a) the configuration (risk, timing and amount) of the cash flows of the asset received differs from the
configuration of the cash flows of the asset transferred;
(b) the entity-specific value of the portion of the entitys operations affected by the transaction (after tax
cash flows) changes as a result of the exchange; and
(c) the difference in (a) or (b) is significant relative to the fair value of the assets exchanged.
10
When the fair values of both the acquired asset and the asset given up can be measured reliably, then the
fair value of the asset given up is used to measure the cost of the asset received unless the fair value of
the asset received is more evident, in which case it can be used.
Example
Bob Limited entered into the following exchange transactions during the year ended 30 June 20.4:
Transaction 1
A motor vehicle with a carrying amount of R100 000 in the records of Bob Limited and a fair value of
R120 000 was exchanged for a light delivery vehicle of Zaz Limited with a fair value of R125 000. The fair
values of both vehicles can readily be determined since there is an active market for used vehicles.
Transaction 2
A machine of Bob Limited with a carrying amount of R90 000 was exchanged for a machine of Yk Limited
which is carried in Yks records at R80 000. The fair values of neither of the machines could be readily
determined.
Transaction 3
A computer network system of Bob Limited with a carrying amount of R160 000 was exchanged for
furniture with a carrying amount of R170 000 in the records of Xi! Limited. The fair value of the network
system cannot be determined readily as this item is seldom sold in its entirety, but based on probabilities
the fair value is estimated at R150 000. The fair value of the furniture is R165 000 and is readily
determinable because an active market exists for these used assets.
Transaction 4
Bob Limited exchanged a truck with a carrying value of R200 000 for a similar truck with the same age and
condition of WOW Limited. The truck of Bob Limited has blue stripes painted on the sides and the other
truck has silver stripes which is more to the liking of the managing director of Bob Limited. The fair value
of the blue striped truck is R210 000 and that of the silver striped truck is R220 000, which indicates that
the silver striped truck is more popular.
REQUIRED:
Calculate for each transaction the amount at which the new asset acquired from the exchange should be
measured in the financial statements of Bob Limited according to the requirements of Generally Accepted
Accounting Practice.
Motivate your answer by reference to IAS 16 (AC 123).
11
Solution
ACN302-U/1
Transaction 1
The delivery vehicle will be measured at R120 000. IAS 16 (AC 123).26.
Transaction 2
The acquired machine will be measured at R90 000, the carrying amount of the machine given up. IAS 16
(AC 123)16.24.
Transaction 3
The furniture will be measured at R165 000, its fair value, since it is more readily determinable than the
fair value of the asset given up. IAS 16 (AC 123).26 (last part).
Transaction 4
The silver stripe truck will be measured at R200 000. This transaction is without commercial substance and
the carrying amount of the blue stripe truck given up is used as the cost of the acquired truck. IAS 16
(AC 123).24, 25.
1.6 MEASUREMENT AFTER RECOGNITION - IAS 16 (AC 123).29-65

An entity shall choose, after the initial recognition of a PPE-item, either
the cost model or
the revaluation model
as its accounting policy and shall apply that policy to an entire class of property, plant and equipment.
1.6.1 Cost model
After recognition as an asset, a PPE-item shall be carried at its cost less any accumulated depreciation
and any accumulated impairment losses.
1.6.2 Revaluation model - IAS 16 (AC 123).31-42 (refer to part B of this study unit)
1.6.3 Depreciation - IAS 16 (AC 123).43-62
Traditionally there are different points of departure regarding the nature of depreciation within the context
of historical cost. The three most important views regard depreciation as a process of:
valuation, or
capital maintenance, or
cost allocation.
IAS 16 (AC 123) follows the point of view that depreciation is a process of cost allocation. IAS 16
(AC 123).6 and 50 state that depreciation is the systematic allocation of the depreciable amount of an
asset over its useful life. The standard also allows a revaluation amount to be the depreciable amount (see
PART B below for revaluations).
12
Depreciable items of property, plant and equipment
Each part of a PPE-item with a cost that is significant in relation to the total cost of the item shall be
depreciated separately.
An entity allocates the amount initially recognised in respect of a PPE-item to its significant parts and
depreciates separately each such part. For example, it may be appropriate to depreciate separately the
airframe and engines of an aircraft.
A significant part of a PPE-item may have a useful life and a depreciation method that are the same as the
useful life and the depreciation method of another significant part of that same item. Such parts may be
grouped in determining the depreciation charge.
To the extent that an entity depreciates separately some parts of a PPE-item, it also depreciates separately
the remainder of the item. The remainder consists of the parts of the item that are individually not
significant. If an entity has varying expectations for these parts, approximation techniques may be
necessary to depreciate the remainder in a manner that faithfully represents the consumption pattern
and/or useful life of its parts.
An entity may choose to depreciate separately the parts of an item that do not have a cost that is
significant in relation to the total cost of the item.
Where is depreciation recorded?
The depreciation charge for each period shall be recognised in profit or loss unless it is included in the
carrying amount of another asset.
The depreciation charge for a period is usually recognised in profit or loss. However, sometimes, the future
economic benefits embodied in an asset are absorbed in producing other assets. In this case, the
depreciation charge constitutes part of the cost of the other asset and is included in its carrying amount.
For example, the depreciation of manufacturing plant and equipment is included in the costs of conversion
of inventories. Similarly, depreciation of PPE for development activities may be included in the cost of an
intangible asset (refer to study unit 4 of this module).
Depreciable amount
The depreciable amount of an asset shall be allocated on a systematic basis over its useful life.
The residual value and the useful life of an asset shall be reviewed at least at each financial year-end and,
if expectations differ from previous estimates, the change(s) shall be accounted for as a change in an
accounting estimate in accordance with IAS 8 (AC 103).
Depreciation is recognised even if the fair value of the asset exceeds its carrying amount, as long as the
assets residual value does not exceed its carrying amount. Repair and maintenance of an asset do not
negate the need to depreciate it.
The depreciable amount of an asset is determined after deducting its residual value. In practice, the
residual value of an asset is often insignificant and therefore immaterial in the calculation of the
depreciable amount.
The residual value of an asset may increase to an amount equal to or greater than the assets carrying
amount. If it does, the assets depreciation charge is zero unless and until its residual value subsequently
decreases to an amount below the assets carrying amount.
13
ACN302-U/1
Period of depreciation
Depreciation of an asset begins when it is available for use, i.e. when it is in the location and condition
necessary for it to be capable of operating in the manner intended by management. Depreciation of an
asset ceases at the earlier of the date that the asset is classified as held for sale and the date that the
asset is derecognised. Therefore, depreciation does not cease when the asset becomes idle or is retired
from active use unless the asset is fully depreciated. However, under usage methods of depreciation the
depreciation charge can be zero while there is no production.
Useful life
The future economic benefits embodied in an asset are consumed by an entity principally through its use.
However, other factors , such as technical or commercial obsolescence and wear and tear while an asset
remains idle, often result in the diminution of the economic benefits that might have been obtained from
the asset. Consequently, all the following factors are considered in determining the useful life of an asset:
(a) expected usage of the asset. Usage is assessed by reference to the assets expected capacity or
physical output.
(b) expected physical wear and tear. This depends on (i) operational factors such as the number of shifts
for which the asset is to be used and the repair and maintenance program, and (ii) the care and
maintenance of the asset while idle.
(c) technical or commercial obsolescence. This arises (i) from changes or improvements in production,
(ii) or from a change in the market demand for the product or service output of the asset.
(d) legal or similar limits on the use of the asset, such as the expiry dates of related leases.
The useful life of an asset is defined in terms of the assets expected utility to the entity. The asset
management policy of the entity may involve the disposal of assets after a specified time or after
consumption of a specified portion of the future economic benefits embodied in the asset. Therefore, the
useful life of an asset may be shorter than its economic life. The estimation of the useful life of the asset
is a matter of judgement based on the experience of the enity with similar assets.
Useful life of land and buildings
Land and buildings are separable assets and are accounted for separately, even when they are acquired
together. With some exceptions, such as quarries and sites used for landfill, land has an unlimited useful
life and therefore is not depreciated. Buildings have a limited useful life and therefore are depreciable
assets. An increase in the value of the land on which a building stands does not affect the determination
of the depreciable amount of the building.
If the cost of land includes the costs of site dismantlement, removal and restoration, the restoration cost
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.
Depreciation methods and their recognition - IAS 16 (AC 123).60-62
The depreciation method used shall reflect the pattern in which the assets future economic benefits are
expected to be consumed by the entity.
14
The depreciation method applied to an asset shall be reviewed at least at each financial year-end and, if
there has been a significant change in the expected pattern of consumption of the future economic benefits
embodied in the asset, the method shall be changed to reflect the changed pattern. Such a change shall
be accounted for as a change in an accounting estimate in accordance with IAS 8 (AC 103).
A variety of depreciation methods can be used to allocate the depreciable amount of an asset on a
systematic basis over its useful life, namely:
The straight-line method: depreciation results in a constant charge over the useful life if the assets
residual value does not change. This allocation of depreciation in fixed instalments is usually adopted
where the income produced by the asset or part of it is a function of time rather than usage and where
the repair and maintenance charges are fairly constant.
The diminishing balance method: depreciation results in a decreasing charge over the useful life of
the asset. The allocated amount of depreciation declines on an annual basis. The method is usually
used where there is uncertainty as to the amount of income that will be derived from the asset,
especially in subsequent years, and where the effectiveness of the asset is expected to gradually
decline. The repair and maintenance costs will ususally increase as an asset ages. The total debit for
the cost of the asset will therefore remain fairly constant.
The units of production method (or: sum of the units method): depreciation is a charge based on the
expected use or output of the asset.
The entity selects the method that most closely reflects the expected pattern of consumption of the future
economic benefits embodied in the asset. That method is applied consistently from period to period unless
there is a change in the expected pattern of consumption of those future economic benefits.
Example
Cost of equipment (1 March 20.3)

Residual value (remains unchanged)
Useful life
The year-end is on 28 February
REQUIRED:
Calculate the depreciation charge according to:
- the straight-line method
- the diminishing balance method
- the sum of the units method.
R500 000
R20 000
4 years
15
Solution
ACN302-U/1
(i) Straight-line method: (500 000 - 20 000)/4 = 120 000 annually
Annual
depreciation
R
Carrying
amount on
28 February
R
120 000
120 000
120 000
120 000
380 000
260 000
140 000
20 000
=
=
120 000
90 000
380 000
290 000
67 500
222 500
50 625
171 875
37 969
133 906
Year 1:
Year 2:
Year 3:
Year 4:
(ii) Diminishing balance method (assume an annual rate of 25%)
Year 1: (500 000 - 20 000) x 25%
Year 2: (500 000 - 20 000) x 75% x 25%
or: (380 000 - 20 000) x 25%
Year 3: (500 000 - 20 000) x 75% x 75% x 25%
or: (290 000 - 20 000) x 25%
Year 4: (500 000 - 20 000) x 75% (3 times) x 25%
or: (222 500 - 20 000) x 25%
Year 5: (500 000 - 20 000) x 75% (4 times) x 25%
or: (171 875 - 20 000) x 25%
(iii) Sum of the units method: total number of years or number of units = 4 + 3 + 2 + 1 = 10
Year 1:
Year 2:
Year 3:
Year 4:
4/10 x (500 000 - 20 000)

3/10 x (500 000 - 20 000)
2/10 x (500 000 - 20 000)
1/10 x (500 000 - 20 000)
192 000
144 000
96 000
48 000
308 000
164 000
68 000
20 000
In all three the above methods the figures or amounts shall be reviewed at least at each financial year-end
and if expectations differ significantly from previous estimates, the changes shall be accounted for as a
change in an accounting estimate. Thus the depreciation charge for the current year and future periods
will change. In the year of change disclosure of the nature and amount of the change in estimate is
required in terms of IAS 8 (AC 103).39-40) as well as the effect on the current and future periods.
1.6.4 Impairment - IAS 16 (AC 123).63-64
An impairment loss is the amount by which the carrying amount of an asset exceeds its recoverable
amount (IAS 16 (AC 123).6).
To determine whether a PPE-item is impaired, an entity applies IAS 36 (AC 128) Impairment of Assets.
That standard explains how an entity reviews the carrying amount of its assets, how it determines the
recoverable amount of an asset, and when it recognises, or reverses the recognition of, an impairment
loss.
1.6.5 Compensation for impairment - IAS 16 (AC 123).65-66
Compensation from third parties for PPE-items that were impaired, lost or given up shall be included in
profit or loss when the compensation becomes receivable.
16
Monetary or non-monetary compensation that an enterprise may receive from third parties may include:
reimbursement by insurance companies after an impairment or loss of PPE-items, eg due to natural

disasters, theft or mishandling;
indemnities by the government for PPE-items that were expropriated;
compensation related to the involuntary conversion of PPE-items, eg relocation of facilities from a

designated urban area to a non-urban area in accordance with a national land policy; or
physical replacement in whole or in part of an impaired or lost asset.
The following are separate economic events that are accounted for separately:
impairments or losses of PPE-items;
related compensation from third parties;
subsequent purchase or construction of assets.
The separate accounting treatments are as follows:

(a) impairments of PPE-items are recognised in accordance with IAS 36 (AC 128);
(b) derecognition of PPE-items retired or disposed of is determined in accordance with IAS 16 (AC 123);
(c) compensation from third parties for PPE-items that were impaired, lost or given up is included in
determining profit or loss when it becomes receivable; and
(d) the cost of PPE-items restored, purchased or constructed as replacements is determined in
accordance with IAS 16 (AC 123).
1.7 DERECOGNITION - IAS 16 (AC 123).67-72
The carrying amount of an PPE-item shall be derecognised:
(a) on disposal; or
(b) when no future economic benefits are expected from its use or disposal.
The gain or loss arising from the derecognition of a PPE-item shall be included in profit or loss when the
item is derecognised. Gains shall not be classified as revenue from the sale of goods and sevices.
The disposal of a PPE-item may occur in a variety of ways (eg by sale, by entering into a finance lease
or by donation). In determining the date of disposal of an item, an entity applies the criteria in IAS 18
(AC 111) Revenue for recognising revenue from the sale of goods, which are as follows:
the enterprise has transferred to the buyer the significant risks and rewards of ownership of the goods;
the enterprise retains neither continuing managerial involvement to the degree usually associated with
ownership nor effective control over the goods sold;
the amount of revenue can be measured reliably;
it is probable that the economic benefits associated with the transaction will flow to the enterprise; and
the costs incurred or to be incurred in respect of the transaction can be measured reliably.
17
ACN302-U/1
All the conditions should be satisfied before a disposal can be recognised.

If, under the recognition principle (see 1.4 above), an entity recognises in the carrying amount of a PPEitem the cost of a replacement for part of the item, then it derecognises the carrying amount of the replaced
part regardless of whether the replaced part had been depreciated separately. If it is not practicable for
an entity to determine the carrying amount of the replaced part, it may use the cost of the replacement as
an indication of what the cost of the replaced part was at the time it was acquired or constructed.
The gain or loss arising from the derecognition of a PPE-item shall be determined as the difference
between the net disposal proceeds, if any, and the carrying amount of the item.
The consideration receivable on disposal of a PPE-item is recognised initially at its fair value. If payment
for the item is deferred, the consideration received is recognised initially at the cash price equivalent. The
difference between the nominal amount of the consideration (the amount actually received) and the cash
price equivalent is recognised as interest revenue in accordance with IAS 18 (AC 111), reflecting the
effective yield on the receivable.
Example
A Limited entered into the following two transactions in respect of PPE-items during the year ended
31 December 20.4:
1.
Machine 1, with an original cost price of R300 000 on 1 January 20.2, a residual value of nil and a
carrying amount of R180 000 on 1 January 20.4, was sold on 30 June 20.4 for R210 000. The
payment will only be received on 30 June 20.5 from the buyer.
2.
Machine 2, with an original cost price of R500 000 on 1 January 20.1, a residual value of nil and a
carrying amount of R200 000 on 1 January 20.4, was withdrawn from use on 30 April 20.4 after health
inspectors prohibited the further use of the asset due to irreparable polution problems. The asset
cannot be adjusted to secure further use thereof which makes its resale impossible.
Both machines are depreciated at 20% per annum on the straight-line basis. The current interest rate for
asset financing is 12% per annum.
REQUIRED:
Calculate the profit or loss with derecognition of the two assets to be shown in the income statement,
and any other relevant income statement items.
Solution
Machine 1
R
Proceed on disposal
(n =1; FV = R210 000; i = 12%; compute PV = ? = R187 500)
Carrying amount on date of disposal [180 000 - (300 000 x 20% x 6/12)]
187 500
(150 000)
Profit on sale of machine 1 (in income statement)
37 500
Interest received (in income statement) (187 500 x 12% x 6/12)
11 250
18
Comment
The total interest that will be recognised as income on the deferred payment is R22 500 (year 20.4 =
R11 250 and year 20.5 = R11 250). The proceed of R187 500 plus the interest of R22 500 equals the
selling price of R210 000.
Machine 2
R
Proceed on withdrawal from use
Carrying amount on date of withdrawal [200 000 - (500 000 x 20% x 4/12)]
Nil
(166 667)
Loss on withdrawal (in income statement)
(166 667)
Example
The details of the property, plant and equipment of Manufac Limited are as follows:
On 1 July 20.3, the date of incorporation of the company, Manufac Limited bought office furniture for
R80 000. At that date the estimated useful life of the furniture was 5 years, with no residual value.
On 31 December 20.3, Manufac Limited bought a machine for R423 000. At that date the estimated useful
life of the machine was 6 years, with a residual value of R32 000 at the end of its useful life. The following
costs were incurred to bring the machine to the location and working condition for its intended use:
- installation costs
R10 000
- transport costs
R 7 000
On 1 April 20.5 a main water pipe burst causing the office to be flooded. Extensive damage to the office
furniture that was bought on 1 July 20.3 resulted in a reduction of the recoverable amount to R20 000. This
estimate was based on the net selling price in an arms length transaction. The remaining useful life was
determined to be 2 years and the residual value remained unchanged at Rnil.
The company depreciates its assets on the straight-line basis over the useful life of the assets.
The income tax rate is 30%.
REQUIRED:
Show how the above-mentioned transactions should be disclosed in the notes to the financial statements
of Manufac Limited for the year ended 30 June 20.5.
Your answer must comply with the requirements of the Companies Act, 1973 and Generally Accepted
Accounting Practice.
Comparative figures are required.
19
Solution
ACN302-U/1
MANUFAC LIMITED
ANNUAL FINANCIAL STATEMENTS
NOTES FOR THE YEAR ENDED 30 JUNE 20.5
1.
Accounting policy
The financial statements are presented on the historical cost basis, conforming with Generally Accepted
Accounting Practice and the Companies Act, 1973. It incorporates the following principal accounting policy
which is consistent with that applied in previous years:
1.1 Property, plant and equipment and depreciation
All items of property, plant and equipment are shown at cost less accumulated depreciation except where
the recoverable amount declined below this amount, in which case it is shown at its recoverable amount.
Property, plant and equipment are depreciated over their expected useful lives on the straight-line basis.
The expected useful lives of the assets are as follows:
Office furniture - 2 years
Machinery
- 6 years
20.5
Office
furniture
R
64 000
Machinery
R
406 000
Total
R
470 000
Cost
80 000
(16 000)
440 000
(34 000)
520 000
(50 000)
Impairment loss (calc 1)

Depreciation (calc 1) (calc 3)
(32 000)
(14 500)
(68 000)
(32 000)
(82 500)
17 500
338 000
355 500
80 000
(62 500)
440 000
(102 000)
520 000
(164 500)
Carrying amount beginning of year
Carrying amount end of year

Cost
Accumulated depreciation and impairment loss
The impairment loss on office furniture was caused by flooding. The recoverable amount is the fair value
less costs to sell based on an arms length transaction.
20
20.4

Cost
Additions
Cost
3.
Office
furniture
R
-
Machinery
R
-
Total
R
-
80 000
(16 000)
440 000
(34 000)
520 000
(50 000)
64 000
406 000
470 000
80 000
(16 000)
440 000
(34 000)
520 000
(50 000)
20.5
R
82 500
32 000
20.4
R
50 000
-
Profit before tax
Profit before tax includes the following:

Impairment loss
Change in estimate
Included in depreciation for 20.5 is a change in estimate to the amount of R2 500. This increase in
deprecation is the result of an impairment loss of office furniture. The cumulative effect of the change in
future periods is a decrease in depreciation of R2 500 (calc 2).
CALCULATIONS
1.
Depreciation and carrying amount of office furniture

R
Cost at 1 July 20.3

Depreciation to 30 June 20.4 (80 000/5)
80 000
(16 000)
Carrying amount at 30 June 20.4

Depreciation to 1 April 20.5 (80 000/5 x 9/12)
64 000
(12 000)
Carrying amount before impairment loss

Impairment loss - reduction to recoverable amount
52 000
(32 000)
Carrying amount at 1 April 20.5

Depreciation (20 000/2 x 3/12)
20 000
(2 500)
17 500
Depreciation for the year ended 30 June 20.5 (12 000 + 2 500)
14 500
21
ACN302-U/1
2. Change in estimate
R
Depreciation as previously
Depreciation on office furniture before impairment (1)
Depreciation on carrying amount before impairment, and effect of impairment
On carrying amount [(64 000 - 12 000) / 39 (months left) x 3 (months for rest of year)]
On impairment amount [32 000 / 24 (months after impairment) x 3]
12 000
4 000
(4 000)
Depreciation as previously - office furniture

Depreciation - machinery (3)
12 000
68 000
Depreciation for 20.5
80 000
Depreciation for 20.4 [16 000 (1) + 34 000 (3)]
50 000
Depreciation because of change in estimate

Depreciation on carrying amount before impairment, and effect of useful life
On carrying amount after change in useful life (52 000 / 24 x 3)
On carrying amount before change in useful life (52 000 / 39 x 3)
Effect of change in estimate
6 500
(4 000)
2 500
Effect of change in estimate on depreciation in future periods

Depreciation on carrying amount before impairment, and remaining useful life
Carrying amount in proportion to remaining useful life after change (52 000 x 21/24)
Carrying amount in proportion to remaining useful life before change (52 000 x 36/39)
Effect of change in estimate on future periods - decrease
45 500
(48 000)
(2 500)
3. Depreciation and carrying amount of machinery

R
Purchase price on 31 December 20.3
Installation costs
Transport costs
423 000
10 000
7 000
Cost at 31 December 20.3

Depreciation to 30 June 20.4 ((440 000 - 32 000)/6 x 6/12)
440 000
(34 000)

Depreciation to 30 June 20.5 ((440 000 - 32 000)/6)
406 000
(68 000)
338 000
22
B
REVALUATION MODEL - IAS 16 (AC 123).31-42
1.8 INTRODUCTION
In terms of the alternative accounting treatment provided for in IAS 16 (AC 123) PPE may be revalued. The
revaluation of PPE is widely used in practice due to the limitation of the historical cost basis to present a
true and fair reflection of the results and position of the entity. PPE that has a long useful life will be
significantly undervalued if only the historical cost basis is used.
After recognition as an asset, a PPE-item whose fair value can be measured reliably shall be carried at
a revalued amount, being its fair value at the date of the revaluation less any subsequent accumulated
depreciation and subsequent accumulated impairment losses. Revaluations shall be made with sufficient
regularity to ensure that the carrying amount does not differ materially from that which would be
determined using fair value at the balance sheet date.
The fair value of land and buildings is usually determined from market-based evidence by appraisal that
is normally undertaken by professional qualified valuers. The fair value of plant and equipment is usually
their market value determined by appraisal.
If there is no market-based evidence of fair value because of the specialised nature of the PPE-item and
the item is rarely sold (except as part of a continuing business), an entity may need to estimate fair value
using an income or a depreciated replacement cost approach.
1.9 FREQUENCY OF REVALUATIONS
The frequency of revaluations depends upon the changes in fair values of the PPE-items being revalued.
When the fair value of a revalued asset differs materially from its carrying amount, a further revaluation
is required. Some PPE-items experience significant and volatile changes in fair value, thus necessitating
annual revaluation. Such frequent revaluations are unnecessary for PPE-items with only insignificant
changes in fair value. Instead, it may be necessary to revalue the item only every three or five years.
1.10 REVALUATION METHODS
Points to be considered are:
1.10.1 Change in accounting policy
When an item of PPE is revalued for the first time it is considered to be a change in accounting policy. The
specific requirement of IAS 8 (AC 103).17 is that the initial adoption of the policy to carry PPE at revalued
amounts should be dealt with in terms of IAS 16 (AC 123) and IAS 38 (AC 129) rather than in accordance
with IAS 8 (AC 103).19-31. IAS16 (AC 123) does not specify disclosure requirements for the change in
accounting policy. It is therefore treated as a normal revaluation.
Only the effect of the change on the figures for the current year is shown, as replacement values applicable
to previous years are not readily available.
1.10.2 Residual value
Residual values of assets should be reviewed at least at each financial year-end. If necessary the residual
values should be adjusted and the disclosure requirements in IAS 8 (AC 103).39 with regard to a change
in accounting estimate should be complied with (IAS 16 (AC 123).51).
23
ACN302-U/1
1.10.3 Estimated useful life

If necessary the amended remaining useful life should be used and the disclosure requirements in IAS 8
(AC 103).39 with regard to a change in accounting estimate should be complied with (IAS 16 (AC 123).51).
1.10.4 Determination of replacement value
Assets can be revalued according to the net replacement value or the gross replacement value.
Gross replacement value is the replacement cost (market value) of a similar, new asset.
Net replacement value is the equivalent fair market value of a similar asset of the same age and/or
condition.
1.10.5 Alternative accounting treatments when an asset is revalued
When a PPE-item is revalued, any accumulated depreciation at the date of the revaluation is treated in one
of the following ways:
(a) restated proportionately with the change in the gross carrying amount of the asset so that the carrying
amount of the asset after revaluation equals its revalued amount (this method is on the gross
replacement value basis). This method is often used when an asset is revalued by means of applying
an index to its depreciated replacement cost.
(b) eliminated against the gross carrying amount of the asset and the net amount restated to the revalued
amount of the asset (this method is on the net replacement value basis). This method is often used for
buildings.
The amount of the adjustment arising on the restatement or elimination of accumulated depreciation forms
part of the increase or decrease in the carrying amount (see 1.12 below).
The following example illustrates the alternative accounting treatments when an asset is revalued:
Example
The following information applies to the machinery of X Limited:

Cost price of equipment (purchased 1 January 20.0)
Accumulated depreciation on 31 December 20.1
Expected useful life (straight-line method)
Financial year end
R100 000
R 20 000
10 years
31 December
At the beginning of 20.2 the equipment was revalued at a net replacement value of R120 000.
REQUIRED:
Journalise the revaluation of the machinery according to the two allowed alternative methods in
accordance with IAS 16 (AC 123).35.
24
Solution
Alternative (a): proportional restatement (increase) in accumulated depreciation (gross

replacement value basis)
Revalued
Carrying
amount
amount
Revaluation
R
R
R
Cost
150 0001
(30 000)2
Carrying amount
120 000
1
2
100 000
(20 000)
50 000
(10 000)
80 000
40 000
R120 000 x 10/8

R150 000/10 x 2 years
Journal
Equipment (150 000 - 100 000)
Accumulated depreciation (30 000 - 20 000)
Revaluation surplus
Revaluation of equipment on the gross replacement value basis
Dr
R
50 000
Cr
R
10 000
40 000
Alternative (b): elimination of depreciation (net replacement value basis)

R
Carrying amount end of 20.1
Net replacement value
80 000
120 000
Revaluation surplus
Journal
Equipment at cost
Equipment at revaluation
Revaluation surplus
Revaluation of equipment on the net replacement value basis
40 000
Dr
R
Cr
R
20 000
100 000
120 000
40 000
Comment
Both alternative (a) and (b) show the correct surplus, but (b) is preferable because (a) reflects an
amount of accumulated depreciation that has not been debited to the income statement.
25
ACN302-U/1
1.10.6 Revaluation methods S schematic diagram

REVALUATION
2 Methods
Gross replacement value basis
Net replacement value basis
STEP 1:
The gross replacement value is regarded as
the cost price of a similar, new asset on
acquisition date
STEP 1:
The net replacement value is regarded as
the cost to replace the asset currently with
a similar asset of the same age and
condition
STEP 2:
Restate gross replacement value to net
replacement value on revaluation date
STEP 3:
Calculate the amount that must be
transferred to the revaluation surplus
(revalued amount - carrying amount of asset
on revaluation date)
STEP 2:
Calculate the amount that must be
transferred to the revaluation surplus
(revalued amount - carrying amount of
asset on revaluation date)
STEP 4:
Journalise the revaluation (alternative (a) of
example 7 is used)
STEP 3:
Journalise the revaluation (alternative (b)
of example 7 is used)
The following example illustrates the two methods of revaluation:

Example
8
R
Cost of asset (purchased 01/01/20.1)

Accumulated depreciation on 31/12/20.4
Carrying amount 31/12/20.4
Expected useful life (straight-line method)
The net replacement value is R 90 000
The gross replacement value is R150 000
It is company policy to revalue assets on the:
(a) net replacement value basis
(b) gross replacement value basis.
100 000
(40 000)
60 000
10 years
26
REQUIRED:
Journalise the revaluation of the asset according to the two allowed alternatives in accordance with IAS 16
(AC 123).35.
Solution
(a) Net replacement value basis

Step 1:
The net replacement value of R90 000 is regarded as the cost to replace the asset currently
with a similar asset of the same age and condition.
Step 2:
Calculate the amount that must be transferred to the revaluation surplus (revalued amount carrying amount of asset on revaluation date).
R

Carrying amount
90 000
60 000
Revaluation surplus
30 000
Step 3:
Journalise the revaluation (alternative (b) (refer example 7) is used).

Dr
Journals
R
Cr
R
Asset at revaluation
Asset at cost
Revaluation surplus
Revaluation of asset on net replacement value basis
90 000
Depreciation (90 000/6)

Depreciation for the year based on revalued amount
15 000
(b)
100 000
40 000
30 000
15 000
Gross replacement value basis
Step 1:
The gross replacement value of R150 000 is regarded as the cost of a similar, new asset on
original acquisition date.
Step 2:
Restate the gross replacement value to the net replacement value on revaluation date.
R
Gross replacement value

Accumulated depreciation (150 000/10 x 4 years)
Net replacement value (150 000/10 x 6 years)
Step 3:
150 000 (10 years)

(60 000) (4 years)
90 000
(6 years)
Calculate the amount that must be transferred to the revaluation surplus (revalued amount carrying amount of asset on revaluation date).
27
ACN302-U/1
R

Carrying amount
90 000
60 000
Revaluation surplus
30 000
Cost
Revalued
amount
R
Carrying
amount
R
150 000
(60 000)
100 000
(40 000)
50 000
(20 000)
90 000
60 000
30 000
Carrying amount
Step 4:
Journalise the revaluation (alternative (a) (refer example 7) is used).
Journals
Dr
R
Asset at cost
Revaluation surplus
Revaluation of asset on the gross replacement value basis
50 000

Depreciation for the year based on the revalued amount
15 000
1.10.7
Revaluation
R
Cr
R
20 000
30 000
15 000
Date of revaluation
IAS 16 (AC 123) does not specify the date that the revaluation of the asset should take place. If the asset
should be revalued in the middle of the financial year, it implies that the depreciation for the current year
will be based on different amounts. An amount before the revaluation and then a different amount after the
revaluation has taken place. As this is not a desirable practice it is recommended that the revaluation
should be performed either at the beginning or at the end of the financial year.
If the revaluation is performed at the end of the financial year the revalued amount is worked back to the
beginning of the year and the depreciation for the current year is based on the recalculated, revalued
amount. This practice must be stipulated in the accounting policy of the company. (Refer example 19.)
1.11 REVALUE AN ENTIRE CLASS OF PROPERTY, PLANT AND EQUIPMENT - IAS 16

(AC 123).36-38
If a PPE-item is revalued, the entire class of PPE to which that asset belongs shall be revalued.
A class of PPE is a grouping of assets of a similar nature and use in an entitys operations. The following
are examples of separate classes:
(a) land
(b) land and buildings
(c) machinery
28
(d) ships
(e) aircraft
(f) motor vehicles
(g) furniture and fixtures
(h) office equipment
The items within a class of PPE are revalued simultaneously to avoid selective revaluation of assets and
the reporting of amounts in the financial statements that are a mixture of costs and values as at different
dates. However, a class of assets may be revalued on a rolling basis provided revaluation of the class of
assets is completed within a short period and provided the revaluations are kept up to date.
1.12 REVALUATION SURPLUS - IAS 16 (AC 123).39-42
If an assets carrying amount is increased as a result of a revaluation, the increase shall be credited
directly to equity under the heading of revaluation surplus. However, the increase shall be recognised
in profit or loss to the extent that it reverses a revaluation decrease of the same asset previously
recognised in profit or loss.
If an assets carrying amount is decreased as a result of a revaluation, the decrease shall be recognised
in profit or loss. However, the decrease shall be debited directly to equity under the heading of
revaluation surplus to the extent of any credit balance existing in the revaluation surplus in respect of that
asset.
The revaluation surplus is unrealised and should be disclosed as part of equity. It should be considered
to be a non-distributable reserve. The reserve should only be used for subsequent write-downs of
revaluations or it may be used for a capitalisation share issue.
The revaluation surplus included in equity in respect of a PPE-item may be transferred directly to retained
earnings when the asset is derecognised. This may involve transferring the whole of the surplus when the
asset is retired or disposed of. However, some of the surplus may be transferred as the asset is used by
an entity. In such a case, the amount of the surplus transferred would be the difference between
depreciation based on the revalued carrying amount of the asset and depreciation based on the assets
original cost. Transfers from revaluation surplus to retained earnings are not made through profit or loss.
The realised and unrealised portion of the revaluation surplus should be disclosed. Where transfers to
accumulated profits are made, the balance of the revaluation surplus will be unrealised. If transfers to
accumulated profits are not made, the realised amounts (that is the amounts which could have been
transferred to accumulated profits) and the unrealised amounts of the revaluation surplus must be
disclosed.
29
ACN302-U/1
1.13 FURTHER EXAMPLES
Example
9
R
180 000
60 000
150 000

Accumulated depreciation (31/12/20.2)
Net replacement value at date of revaluation (01/01/20.3)
The asset is depreciated on the straight-line basis over 6 years.
REQUIRED:
Calculate the revaluation amount if the gross carrying amount and accumulated depreciation are restated
in proportion to the revalued amount (gross replacement value basis). Journalise the revaluation.
Solution
9
Revalued
amount
R
Carrying
amount
R
Revaluation
R
Gross carrying amount (150 000 x 61/42 ) or cost price

225 000
(75 000)
180 000
(60 000)
45 000
(15 000)
Carrying amount
150 000
120 000
30 000
1
2
Original useful life of 6 years

Age of asset at date of revaluation is 2 years. Therefore, the remaining useful life is 4 years which is
the number of years on which the revaluation is based.
Journal
Revaluation surplus
Revaluation of asset on the gross replacement value basis
Dr
R
45 000
Cr
R
15 000
30 000
The asset will be shown in the balance sheet at:

Gross carrying amount (180 000 + 45 000)
Accumulated depreciation (60 000 + 15 000)
R
225 000
(75 000)
Carrying amount
150 000
30
Example
10
R

Accumulated depreciation (31/12/20.2)
Net replacement value at date of revaluation (01/01/20.3)
180 000
60 000
150 000
The asset is depreciated on the straight-line basis over 6 years.

REQUIRED:
Journalise the revaluation if the original cost and accumulated depreciation are written back and the asset
is stated at the revalued amount (net replacement value basis).
Solution
10
Journal
Asset at cost
Revaluation surplus [150 000 - (180 000 - 60 000)]
Revaluation of asset on the net replacement value basis
Dr
R
60 000
150 000
Cr
R
180 000
30 000
The asset will be shown in the balance sheet at:

R
150 000
-
Carrying amount
150 000
Note
Unisa prefers the net replacement value basis for revaluing. If the gross replacement value basis is
used, accumulated depreciation will include depreciation which has never been debited against income.
Example
11
The net replacement value of the asset is given on revaluation date (at financial year-end) and the
net replacement value basis is required.
The asset was originally purchased for R180 000 on 1 January 20.2.
Accumulated depreciation on the date of revaluation is R60 000.
The asset is depreciated on the straight-line basis over the expected useful life of 6 years.
The net replacement value of the asset on 31 December 20.3 is R160 000.
31
ACN302-U/1
The asset must be disclosed on the net replacement value basis.
Solution
11
Revaluation date: 31 December 20.3

Net replacement value: R160 000
The asset is 2 years old at 31 December 20.3.
(180 000/6 = 30 000; 60 000/30 000 = 2 years) or 1 January 20.2 - 31 December 20.3 = 2 years
At 1 January 20.3, the beginning of the financial year, the asset is therefore 1 year old.
The revaluation surplus at this date is:
R
Net replacement value at 31 December 20.3
Depreciation for the year (160 000/4) (remaining useful life at 31 December 20.3)
160 000
40 000
Net replacement value at 1 January 20.3

Carrying amount at 1 January 20.3 (180 000 - 30 000)
200 000
(150 000)
Revaluation surplus at 31 December 20.3
50 000
The accumulated depreciation and cost of the asset is written back and the asset is shown at the
revalued amount.
Dr
R
Journals
Asset at cost
Revaluation surplus
30 000
200 000

40 000
Example
Cr
R
180 000
50 000
40 000
12
If the net replacement value of the asset is given on revaluation date (at beginning of financial
year) and the net replacement value basis is required.
The net replacement value of the asset on 1 January 20.3 is R160 000.
The asset must be disclosed on the net replacement value basis.
32
Solution
12
Revaluation date: 1 January 20.3

Net replacement value: R160 000
The asset is 1 year old at 1 January 20.3.
(180 000/6 = 30 000; 30 000/30 000 = 1 year) or 1 January 20.2 - 1 January 20.3 = 1 year
R
180 000
(30 000)
Cost
Carrying amount at 1 January 20.3
Net replacement value 1 January 20.3
150 000
(160 000)
Revaluation surplus at 1 January 20.3
10 000
The accumulated depreciation and cost of the asset is written back and the asset is shown at the
revalued amount.
Dr
R
Journals
Asset at cost
Revaluation surplus
30 000
160 000

32 000
Example
Cr
R
180 000
10 000
32 000
13
If the gross replacement value of the asset is given on revaluation date (at beginning of financial
year) and the gross replacement value basis is required.
The gross replacement value of the asset on 1 January 20.3 is R240 000.
The asset must be disclosed on the gross replacement value basis.
Solution
13
Revaluation date: 1 January 20.3

Gross replacement value: R240 000
At 1 January 20.3, the beginning of the financial year, the asset is 1 year old.
(180 000/6 = 30 000; 30 000/30 000 = 1 year) or 1 January 20.2 - 31 December 20.2 = 1 year
33
ACN302-U/1

R
Gross replacement value at 1 January 20.3
Accumulated depreciation (240 000/180 000 x 30 000) or (240 000/6)
240 000
(40 000)
Net replacement value at 1 January 20.3

Carrying amount at 1 January 20.3 (180 000 - 30 000)
200 000
(150 000)
Revaluation surplus at 1 January 20.3
50 000
Journals
Dr
R
60 000
Asset (240 000 - 180 000)

Revaluation surplus
Revaluation of asset on gross replacement value basis
Cr
R
10 000
50 000

40 000
40 000
1.14 SUMMARY OF REVALUATIONS

Revalued
Initial revaluation
Deficit
Taken to the income
statement as an
expense
or
Subsequent
revaluation
Surplus
Surplus
Deficit
Which reverses previous deficit:
(a) Additional decrease in value

debited directly to income
statement
(a) Portion of surplus up to previous
deficit (recognised earlier as an
expense) credited to income (b) Deficit following surplus in
statement
previous year:
(b) Remaining portion of surplus
credited directly to NDR
Additional surplus:
Credit directly to NDR
Surplus credited directly to nondistributable reserve (NDR)
- Portion of deficit up to
previous surplus (previously
to NDR) debited to NDR
- Remaining portion of deficit
recognised as an expense
34
C DISCLOSURE - IAS 16 (AC 123).73-79
1.15 DISCLOSURE REQUIREMENTS FOR THE COST - AND REVALUATION MODEL

The financial statements shall disclose, for each class of PPE:
(a) the measurement bases used for determining the gross carrying amount;
(b) the depreciation methods used;
(c) the useful lives or the depreciation rates used;
(d) the gross carrying amount and the accumulated depreciation (aggregated with accumulated impairment
losses) at the beginning and end of the period; and
(e) a reconciliation of the carrying amount at the beginning and end of the period showing:
(i)
additions;
(ii)
disposal;
(iii)
acquisitions through business combinations;
(iv)
increases or decreases resulting from revaluations under paragraphs 31, 39 and 42 and from
impairment losses recognised or reversed directly in equity in accordance with IAS 36 (AC 128);
(v)
impairment losses recognised in profit or loss in accordance with IAS 36 (AC 128);
(vi)
impairment losses reversed in profit or loss in accordance with IAS 16 (AC 128);
(vii) depreciation;
(viii) the net exchange differences arising on the translation of the financial statements from the
functional currency into a different presentation currency, including the translation of a foreign
operation into the presentation currency of the reporting entity (translation of financial
statements and of a foreign operation do not form part of this module); and
(ix)
other changes.
1.16 FURTHER DISCLOSURE REQUIREMENTS

The financial statements shall also disclose:
(a) the existence and amounts of
- restrictions on title, and
- PPE pledged as security for liabilities;
(b) the amount of expenditures recognised in the carrying amounts of a PPE-item in the course of its
construction;
35
ACN302-U/1
(c) the amount of contractual commitments for the acquisition of PPE; and
(d) if it is not disclosed on the face of the income statement, the amount of compensation from third parties
for PPE-items that were impaired, lost or given up that is included in profit or loss.
Selection of the depreciation method and estimation of the useful life of assets are matters of judgement.
Therefore, disclosure of the methods adopted and the estimated useful lives or depreciation rates provides
users of financial statements with information that allows them to review the policies selected by
management and enables comparisons to be made with other entities. For similar reasons, it is necessary
to disclose:
(a) depreciation, whether recognised in profit or loss or as a part of the cost of other assets, during a
period; and
(b) accumulated depreciation at the end of the period.
In accordance with IAS 8 (AC 103) an enity discloses the nature and effect of a change in an accounting
estimate that has an effect in the current period or is expected to have an effect in subsequent periods.
For PPE, such disclosure may arise from changes in estimates with respect to:
(a) residual values;
(b) the estimated costs of dismantling, removing or restoring PPE-items;
(c) useful lives; and
(d) depreciation methods.
1.17 SPECIFIC DISCLOSURE REQUIREMENTS FOR THE REVALUATION MODEL

If PPE-items are stated at revalued amounts, the following shall be disclosed:
(a) the effective date of the revaluation;
(b) whether an independent valuer was involved;
(c) the methods and significant assumptions applied in estimating the items fair values;
(d) the extent to which the items fair values were determined directly by reference to observable prices
in an active market or recent market transactions on arms length terms or were estimated using other
valuation techniques;
(e) for each revalued class of PPE, the carrying amount that would have been recognised had the assets
been carried under the cost model (cost price minus accumulated depreciation and impairment losses);
and
(f) the revaluation surplus, indicating the change for the period and any restrictions on the distribution of
the balance to shareholders (i.e. whether it is considered non-distributable or not).
In accordance with IAS 36 (AC 128) an entity discloses information on impaired PPE in addition to the
information required mentioned above (1.15(e)(iv)-(vi)).
36
1.18 FURTHER RELEVANT INFORMATION FOR USERS OF FINANCIAL STATEMENTS
Users of financial statements may also find the following information relevant to their needs:
(a) the carrying amount of temporarily idle PPE;
(b) the gross carrying amount of any fully depreciated PPE that is still in use;
(c) the carrying amount of PPE retired from active use and held for disposal in accordance with IFRS 5
(refer to study unit 5); and
(d) when the cost model is used, the fair value of PPE when this is materially different form the carrying
amount.
1.19 REQUIREMENTS OF THE COMPANIES ACT

Paragraph 22(3) of the Fourth Schedule of the Companies Act, 1973 requires additional disclosure
requirements for land and buildings:
S
a description of land and buildings
the situation thereof
the date of acquisition
the purchase price
the costs of additions or improvements since the date of acquisition or valuation.
D SIC (AC 400) - INTERPRETATIONS
The SIC (AC 400) interpretations were issued to explain certain aspects of an accounting standard. The
following interpretation is relevant to IAS 16 (AC 123):
1.20 SIC-21 (AC 421) - INCOME TAXES: RECOVERY OF REVALUED NON-DEPRECIABLE ASSETS
Issue
In terms of IAS 12 (AC 102).51 the measurement of deferred tax liabilities and assets shall reflect the
tax consequences that would follow from the manner in which the entity expects, at the balance sheet
date, to recover or settle the carrying amount of those assets and liabilities that give rise to temporary
differences.
IAS 12 (AC 102).20 notes that the revaluation of an asset does not always affect taxable profit/(tax
loss) in the period of the revaluation and that the tax base of the asset may not be adjusted as a result
of the revaluation. If the future recovery of the carrying amount will be taxable, any difference between
the carrying amount of the revalued asset and its tax base is a temporary difference and gives rise
to a deferred tax liability or asset.
37
ACN302-U/1
The issue is how to interpret the term recovery in relation to an asset that is not depreciated (nondepreciable asset) and is revalued in terms of IAS 16 (AC 123).31
The interpretation also applies to investment properties that are carried at revalued amounts under
IAS 40 (AC 135).33 but would be considered non-depreciable if IAS 16 (AC 123) were to be applied.
(See study unit 2 of this module for investment properties.)
Consensus
The deferred tax liability or asset that arises from the revaluation of a non-depreciable asset shall be
measured based on the basis of the tax consequences that would follow from recovery of the carrying
amount of that asset through sale, regardless of the basis of measuring the carrying amount of that asset.
Accordingly, if the tax law specifies a tax rate applicable to the taxable amount derived from the sale of an
asset that differs from the tax rate applicable to the taxable amount derived from using an asset, the former
rate is applied in measuring the deferred tax liability or asset relating to a non-depreciable asset. (In South
Africa the tax rate applicable on the sale of such non-depreciable assets, is the capital gains tax rate which
is effectively 15% (50% x 30%) for companies - see part E for capital gains tax.)
Basis for conclusions
The Framework indicates that an entity recognises an asset if it is probable that the future economic
benefits associated with the asset will flow to the entity. Generally, those future economic benefits will be
derived (and therefore the carrying amount of an asset will be recovered) through sale, through use, or
through use and subsequent sale. Recognition of depreciation implies that the carrying amount of a
depreciable asset is expected to be recovered through use to the extent of its depreciable amount, and
through sale at its residual value. Consistent with this, the carrying amount of a non-depreciable asset,
such as land having an unlimited life, will be recovered only through sale. That is, because the asset is not
depreciated, no part of its carrying amount is expected to be recovered (that is, consumed) trough use.
Deferred taxes associated with the non-depreciable asset reflect the tax consequences of selling the asset.
The expected manner of recovery is not predicated on the basis of measuring the carrying amount of the
asset. For example, if the carrying amount of a non-depreciable asset is measured at its value in use, the
basis of measurement does not imply that the carrying amount of the asset is expected to be recovered
through use, but through its residual value upon ultimate disposal.
TAX IMPLICATIONS
1.21 CAPITAL GAINS TAX (CGT)

Introduction
All capital gains and losses made on the disposal of assets will be subject to CGT unless excluded by
specific provisions (eighth schedule - Income Tax Act). The schedule determines a taxable gain or loss
and section 26A of the principal Act provides that the taxable gain be included in taxable income. The date
from which capital gains will be taxed is 1 October 2001.
CGT will only be triggered on the disposal of an asset. The taxable gain will then form part of taxable
income and must be included in the Income Tax Return for the year of assessment in which the disposal
occurred.
38
Framework for Capital Gains Tax
Add all the individual capital gains and losses
together for current year
Deduct
Assessed capital loss brought forward from

previous year to arrive at net capital for current
year
PROFIT
Apply exclusion rate - (50% for

legal person e.g. companies)
LOSS
Carry forward loss to next

years CGT calculation
TAXABLE CAPITAL GAIN TO BE INCLUDED IN TAX RETURN

What is meant by a disposal?
A wide meaning has been given to the concept of disposal. The following are examples of events that will
be regarded as disposals:
- a sale of an asset;
- donation of an asset; or
- the loss or destruction of an asset.
Capital gain or loss
A capital gain in respect of an asset disposed of is the amount by which the proceeds exceeds the base
cost of that asset. A capital loss is equal to the amount by which the base cost of the asset exceeds the
proceeds.
Base cost
The base cost of an asset is generally the expenditure actually incurred in acquiring the asset together with
other expenditure directly related to the acquisition or disposal of an asset or to improve the asset. The
base cost does not include any amount otherwise allowed as a deduction for income tax purposes.
39
ACN302-U/1
Some of the main costs that may form part of the base cost of an asset are:
S expenditure incurred to acquire the asset;
S costs incurred directly in the acquisition, creation or disposal of the asset i.e transfer costs, stamp duties,
valuation fees, advertising costs or fees paid to a surveyor, auctioneer, accountant or legal advisor;
S cost of improvements to an asset;
S VAT paid and not claimed or refunded on an asset;
S cost of establishing, maintaining or defending a legal title or right in that asset;
S cost of moving assets from one location to another (on acquisition); and
S cost of installation of that asset, including the cost of foundations and supporting structures.
Costs that are excluded from base costs are:
S holding costs such as interest, repairs and maintenance, and insurance costs;
S all recoverable expenses and expenses deductible for income tax purposes; and
S any adjustments for inflation.
What is the base cost of assets held before 1 October 2001?
Capital gains are taxable after 1 October 2001. In order to exclude the portion of the capital gain relating
to the period before 1 October 2001 any one of the following options can be used to calculate the valuation
date value of an asset (choose the biggest amount as the valuation date value):
(a) 20% of the proceeds upon realisation can be deemed to be the base cost (if no records have been
kept);
(b) the market value of the asset as at 1 October 2001, which is called the valuation date (the valuation
must be done on or before 30 September 2004);
(c) the time apportionment method (calculated by means of specific formulae).
Basic concepts of base costs
-
The base cost of an asset purchased before 01/10/2001 and which was sold on 01/10/2001 is the
valuation date value as calculated (option (a) - (c) as discussed above) on 01/10/2001.
Thus: base cost of asset on 01/10/2001 = valuation date value
The base cost of an asset purchased before 01/10/2001 and which was sold after 01/10/2001 is the
valuation date value as calculated on 01/10/2001, plus costs capitalised after 01/10/2001.
Thus: base cost = valuation date value + costs capitalised after 01/10/2001
Base cost of an asset purchased after 01/10/2001 is the cost price af that asset.
Thus: base cost = cost price
IMPORTANT
It will not be expected of you to apply the formulas, but it is important that you understand
the basic concepts of base costs.
40
Rules applicable when capital gains tax is calculated
- The proceeds up to the cost price of an asset is taxed at 30%.
- The proceeds above the cost price up to the base cost of the asset is not taxed at all.
- 50% of the proceeds above the base cost of the asset (capital gain) is taxed at 30%. Therefore the
effective tax is 50% x 30% = 15%.
1.22 DEFERRED TAX

Revaluing an asset increases the carrying amount of the asset but since it does not affect taxable profit,
the tax base of the asset is not adjusted. IAS 12 (AC 102).20 Income taxes specifically states that the
difference between the carrying amount of a revalued asset and its tax base is a temporary difference
which gives rise to a deferred tax liability or asset. According to AC 102.20 this is true even if the entity
does not intend to dispose of the asset and explains that in such cases the revalued carrying amount of
the asset will be recovered through use and this will generate taxable income that exceeds the
depreciation (wear and tear) that will be allowed for tax purposes in future periods.
Is there an actual liability for deferred tax on the revaluation surplus in excess of historical cost if an entity
intends to dispose of an asset? As from 1 October 2001 50% of the capital gain arising on the sale of the
asset will be subject to capital gains tax at the normal tax rate (currently 29%). Therefore, any revaluation
surplus in excess of historical cost (or base cost if different, that is the greater of the two) of an asset that
will be disposed of in the near future represents a potential capital gain that will be taxed as soon as the
asset is sold. Deferred tax liabilities are defined in IAS 12 (AC 102).05 as the amounts of income taxes
payable in future periods in respect of taxable temporary differences. Therefore, this potential capital gains
tax should form part of the deferred tax liability.
In conclusion, the revaluation of PPE influences the provision for deferred tax as follows:
If land is revalued, deferred tax should be provided for on the total surplus above base cost at 15%
(50% x 30%), irrespective of whether or not there is any intention to dispose of the land, as the carrying
amount of the land (a non-depreciable asset) can only be recovered by means of sale (SIC-21 (AC 421)
- refer to discussion above in part D).
(a)
Where no decision has been made to sell a depreciable asset, deferred tax should be
provided for at 30% on the total revaluation surplus (including the amount in excess of historical
cost). This is done because the carrying amount of the asset will be realised through the use of
the asset.
(b)
If a decision has been made to sell a depreciable asset, deferred tax should be provided for
as follows: on the revaluation surplus up to the original cost at 30% and on the excess above
base cost at 15% (50% x 30%).
Deferred tax relating to the revaluation should be charged directly to equity (IAS 12 (AC 102).61).
Example
14
Bata Limited bought a machine for R1 000 000 on 1 April 20.2. The machine is depreciated on the straightline method at 20% per year. The machine was revalued at the beginning of the third year at a net
replacement value of R1 100 000. The South African Revenue Service allows wear and tear on the
machine at R250 000 per annum.
The tax rate is 30%.
41
ACN302-U/1
REQUIRED:
Calculate the deferred tax implications of the revaluation of machinery of Bata Limited and the deferred
tax balance at 31 March 20.5.
Solution
14
Carrying
amount
R
Machine
Cost
Depreciation
Tax base
R
Temporary
difference
R
Deferred
tax (asset)/
liability
R
1 000 000
(200 000)
1 000 000
(250 000)
50 000
15 000
Carrying amount - 31 March 20.3

Depreciation
800 000
(200 000)
750 000
(250 000)
50 000
50 000
15 000
15 000
Carrying amount - 31 March 20.4

Revaluation - 1 April 20.4
600 000
500 000
500 000
-
100 000
500 000
30 000
150 000
1 100 000
(366 667)
500 000
(250 000)
600 000
(116 667)
180 000
(35 000)
733 333
250 000
483 333
145 000
Depreciation (1 100 000/3)

Carrying amount at 31 March 20.5
Comment
Deferred tax is provided for on the revaluation surplus of machinery at a rate of 30%. According to
IAS 12 (AC 102).20(a) the difference between the carrying amount of a revalued asset and its tax base
is a temporary difference even if the entity does not intend to dispose of the asset. If no decision was
taken to sell the asset, the revalued carrying amount is regarded as reflecting the value of future
economic benefits to be obtained through the use of the asset. Therefore deferred tax is calculated at
a rate of 30% on the total revaluation surplus, including the portion above cost.
Example
15
Mike Limited owns an asset with a cost price and base cost of R30 000 and a carrying amount of R24 000
which was revalued to a net replacement value of R40 000. The South African Revenue Service allowed
a wear and tear allowance of R7 500 on the asset and the tax rate is 30%.
REQUIRED:
Calculate the deferred tax implications of the revaluation of the asset of Mike Limited if:
(a) the asset is used; and
(b) the entity sold / is of the intention to sell the asset.
Do the journal entries for both cases.
42
Solution
15
(a) If the asset is used:

Carrying
amount
R
Asset - carrying amount
Revaluation
Tax base
R
Temporary
difference
R
Deferred
tax (asset)/
liability
R
24 000
16 000
22 500
-
1 500
16 000
450
4 800
40 000
22 500
17 500
5 250
Comment
Carrying amount of asset > tax base of asset, therefore it results in a deferred tax liability.
The carrying amount of R40 000 will be recovered during the use of the asset. The carrying amount that
will be written off over the remaining useful life is R40 000, while only R22 500 will be deductible as wear
and tear allowances. Therefore the deferred tax liability is R5 250 [30% x (R40 000 - R22 500)].
Journals
Asset
Bank/Creditor
Acquisition of asset
Depreciation
Depreciation provided for the year
Deferred tax (I/S) [(7 500 - 6 000) x 30%]
Deferred tax (B/S)
Deferred tax on temporary differences (depreciation and wear and tear)
Asset @ cost
Asset @ revalued amount
Revaluation surplus
Revaluation surplus (16 000 x 30%)
Deferred tax (B/S)
Deferred tax on a revaluation surplus taken out
1
Dr
R
Cr
R
30 000
30 000
6 000
6 000
450
450
30 000
6 000
40 000
16 000
4 8001
4 8001
Deferred tax is provided for on the full revaluation surplus at 30%, because the company does not have
the intention to sell the asset.
43
ACN302-U/1
(b) If the asset is sold for R40 000 r if it is the companys intention to sell the asset (decision has
been made):
Carrying
amount
R
Asset - carrying amount
Revaluation
24 000
16 000
Accumulated depreciation/wear and tear

Capital gain
40 000
1
2
Tax base
R
22 500
22 500
Temporary
difference
R
Deferred
tax (asset)/
liability
R
1 500
16 000
450
3 300
6 000
10 0001
1 800
1 5002
17 500
3 750
40 000 - 30 000 = 10 000

(40 000 - 30 000) x 50% x 30% = 1 500
Comment
The carrying amount of R40 000 will be recovered when the asset is sold. The asset will generate
income of R40 000 of which R7 500 will be taxable as a recoupment of wear and tear allowances and
R10 000 is a capital gain on which capital gains tax is payable.
Journals
Asset
Bank/Creditor
Acquisition of asset
Depreciation
Depreciation for the year
Deferred tax (I/S)
Deferred tax (B/S)
Deferred tax provided for on temporary differences (depreciation and
wear and tear)
Asset @ cost
Asset @ revalued amount
Revaluation surplus
Dr
R
Cr
R
30 000
30 000
6 000
6 000
450
450
30 000
6 000
40 000
16 000
Revaluation surplus (16 000 x 30%)

Deferred tax (B/S)
Deferred tax on revaluation surplus taken out
4 8001
Deferred tax (B/S)

Revaluation surplus
Deferred tax over provided written back
1 5001
4 8001
1 5001
44
1
Writing back the deferred tax that was over provided on the full revaluation surplus. Because of the fact
that the company has the intention to sell the asset, the deferred tax should have been provided for as
follows:
R
Proceeds above carrying amount up to cost price at 30%:
(R30 000 - 22 500) x 30%
Proceeds above base cost (= cost price) up to selling price at 15%(50% x 30%):
(R40 000 - 30 000) x 15%
2 250
1 500
Less: already provided
3 750
(450)
Deferred tax that should have been provided
3 300
The difference between the amount that was provided initially (R4 800) and the amount which should have
been provided (R3 300), must be reversed (4 800 - 3 300 = 1 500).
Example
16
Integrated example on capital gains tax

City News (Pty) Ltd purchased machine A for R1 200 000.
Machine A was brought into use on 1 January 20.2. Depreciation is written off on a straight line basis over
the expected useful life of 5 years with the assumption that there would be no residual value and that this
situation will continue until derecognition of the machine despite annual review. The wear and tear
allowances for income tax purposes is 33a% per annum irrespective of the period of usage in the
accounting year under review.
The tax rate is 30%. There are no temporary differences other than those that have been mentioned in the
question.
The management of City News (Pty) Ltd decided to reflect machines at revalued amounts from
1 January 20.3. The net replacement value of machine A on 1 January 20.3 was R2 200 000. The
revaluation was performed by N Waarde, an independent sworn appraiser, with reference to recent market
transactions on arms length basis.
Due to changed market conditions, management decided to sell machine A on 31 December 20.3 for
R3 000 000 (accept a base cost of R1 200 000).
It is the policy of the company to transfer the realised revaluation surpluses to retained earnings when the
asset is sold.
45
ACN302-U/1
REQUIRED:
Disclose the above-mentioned information in the following notes to the financial statements of City News
(Pty) Limited for the year ended 31 December 20.3:
1. Profit before tax
3. Revaluation surplus
4. Tax expense
Ignore accounting policy notes and comparatives.
Solution
16
CITY NEWS (PTY) LIMITED

Depreciation on machinery (calc 1)
Profit on sale of machine (3 000 000 - 1 650 000)
R
550 000
1 350 000

20.3
Carrying amount at beginning of year
Cost
Revaluation
Depreciation
Disposal
Machinery
R
960 000
1 200 000
(240 000)
1 240 000
(550 000)
(1 650 000)
-
Machinery was revalued on 1 January 20.3 by an independent sworn appraiser, N Waarde, on a net
replacement value basis based on recent market transactions on arms length.
R
Balance at beginning of year
Revaluation
Transfer to deferred tax (1 240 000 x 30%)
Realisation of revaluation surplus
Balance end of year
1 240 000
(372 000)
(868 000)
-
46
4. Tax expense
R
SA Normal tax
(30 000)
- Current tax
- Deferred tax
390 000
(420 000)
CALCULATIONS
1. Deferred tax
Machine A
Total
R
Deferred
Histori- RevaluaTemporary tax asset/
cal cost
tion
Tax base difference (liability)
R
R
R
R
R
Cost 01/01/20.2
Depreciation/wear and tear (1)
1 200 000 1 200 000

(240 000) (240 000)

Revaluation 01/01/20.3
960 000
1 240 000
2 200 000
Depreciation (2) / wear and

tear (1)
Disposal
1 200 000
(400 000)
160 000
(48 000)
960 000
1 240 000
800 000
-
160 000
1 240 000
(48 000)
(372 000)
960 000 1 240 000
800 000
1 400 000
(420 000)
(550 000) (240 000) (310 000) (400 000)
(150 000)
45 000
1 650 000 720 000 930 000 400 000

1 250 000 (375 000)
(1 650 000) (720 000) (930 000) (400 000) (1 250 000) 375 000
-
(1) Depreciation = 1 200 000 x 20%; wear and tear = 1 200 000 x 33 a%
(2) Depreciation on historical cost = 960 000/4 = R240 000
Depreciation on revalued portion = 1 240 000/4 = R310 000
2. Tax expense
R
Profit before tax ((3 000 000 - 1 650 000) - 550 000)
Permanent differences ((3 000 000 - 1 200 000) x 50%)
Temporary differences
- Depreciation (calc 1)
- Wear and tear (calc 1)
- Recoupment of wear and tear (1 200 000 - 400 000)
- Tax on revaluation surplus reversal through the income statement
(1 650 000 - 1 200 000)
Taxable income
Current tax (1 300 000 x 30%)
Deferred tax (1 400 000 x 30%); cr to I/S
800 000
(900 000)
1 400 000
550 000
(400 000)
800 000
450 000
1 300 000
390 000
(420 000)
47
ACN302-U/1
Journals
(1)
(2)
(3)
(4)
(5)
(6)
(7)
(8)
(9)
Dr
R
Machine A
Bank/Creditor
Cr
R
1 200 000
1 200 000
Depreciation
240 000
240 000
Deferred tax (I/S) [(240 000 - 400 000) x 30%]

Deferred tax (B/S)
48 000
48 000
Machine A @ cost
Machine A at revalued amount
Revaluation surplus
1 200 000
240 000
2 200 000
1 240 000
Revaluation surplus
Deferred tax (B/S)
372 000
Depreciation
550 000
Current tax (calc 2)

SARS
390 000
Deferred tax (B/S)(calc 2)

Deferred tax (I/S)
420 000
Revaluation surplus (1 240 000 - 372 000)

Retained earnings
868 000
372 000
550 000
390 000
420 000
868 000
F COMPREHENSIVE EXAMPLES
Example
17
Noy Limited purchased machinery on 1 January 20.2 and the machinery is written off over its estimated
useful life (at that stage six years). It is the policy of the enterprise to revalue machinery every two years.
On 1 January 20.4 machinery was revalued for the first time by Mr X, an independent sworn appraiser, on
a depreciated (net) replacement value basis with reference to recent market transactions on arms length.
On that date the remaining useful life of all the machinery was estimated to be five years. The residual
value of all machinery remains Rnil despite the fact that the useful lives have changed. The following
information is available:
Machinery
A
R
Cost
Accumulated depreciation - 1 January 20.4
B
R
C
R
480 000
(160 000)
540 000
(180 000)
600 000
(200 000)
Carrying amount
320 000
360 000
400 000
Net replacement value - 1 January 20.4
500 000
330 000
450 000
48
Additional information
1. The entity realises revaluation surpluses as the assets are used.
2. The entity discloses all revalued property, plant and equipment on the net replacement value basis.
3. The reduction in the replacement value of machine B is permanent.
4. A wear and tear allowance of 20% per annum is granted on the straight-line method.
5. The income tax rate is 30%.
6. No decision has in principle been taken to sell the machinery.
7. Assume that all the dates mentioned above are after 1 October 2001.
REQUIRED:
Disclose all the notes to the financial statements of Noy Limited for the year ended 31 December 20.4
which relate to the above-mentioned information. Your answer must comply with the Companies Act,
1973 and Generally Accepted Accounting Practice.
Ignore comparative figures.
Also disclose the revaluation surplus note to the statement of recognised income and expenses.
Solution
17
NOY LIMITED
1. Accounting policy
1.1 Machinery [IAS 16 (AC 123).73(a)-(c)]
The gross carrying amount of machinery is determined by revaluation on a net (depreciated) replacement
value basis. Revaluation surpluses realise as assets are utilised. Depreciation is provided for on the
straight-line method over the estimated remaining useful life of five years.
R
Machinery [IAS 16 (AC 123).73(d)-(e)]
Carrying amount at beginning of year (320 000 + 360 000 + 400 000)
1 080 000
Gross carrying amount (480 000 + 540 000 + 600 000)

Accumulated depreciation (160 000 + 180 000 + 200 000)
1 620 000
(540 000)
Revaluation (180 000 + 50 000) (calc 1)

Devaluation (calc 1)
Depreciation (100 000 + 66 000 + 90 000) (calc 1)
230 000
(30 000)
(256 000)
Carrying amount at end of year
1 024 000
Gross carrying amount (500 000 + 330 000 + 450 000)

Accumulated depreciation (100 000 + 66 000 + 90 000)
1 280 000
(256 000)
49
ACN302-U/1
Machinery was revalued on 1 January 20.4 by Mr X, an independent sworn appraiser, on a net

replacement value basis with reference to recent arms length market transactions. If the assets had been
carried at cost less accumulated depreciation, the carrying amount would have amounted to R840 000
(256 000 + 264 000 + 320 000) (refer to comment after calculation).
[IAS 16 (AC 123).77(a)-(e) and Fourth Schedule]
3. Revaluation surplus [IAS 16 (AC 123).77(f)]
Surplus on revaluation (180 000 + 50 000)
Transferred to deferred tax (230 000 x 30%)
Transferred to retained earnings [(10 000 + 36 000) x 70%]
R
230 000
(69 000)
(32 200)
128 800
Comment
The R30 000 devaluation is recognised as an expense in the income statement, as this asset does not
have an existing revaluation surplus.
This adjustment is regarded as a downward revaluation (revaluation deficit) and not as an impairment
loss, because it was identified during the normal revaluation process of the enterprise. If the loss is
identified outside of the normal revaluation cycle (i e at a stage when other similar assets are not
revalued) it will be treated as an impairment loss.
4. Deferred tax
R
Accelerated wear and tear for tax purposes
[(256 000 - 192 000 + 264 000 - 216 000 + 320 000 - 240 000) x 30%]
Revaluation [(144 000 + 40 000) x 30%]
57 600
55 200
112 800

Depreciation of machinery [IAS 1 (AC 101).93]
R
256 000
Change in estimate
depreciation is a result of a change in useful life regarding revaluation of machinery. The cumulative effect
of the change in future periods is an increase in depreciation of R54 0001.
1
[(320 000 + 360 000 + 400 000)/5] - [(320 000 + 360 000 + 400 000)/4] = 54 000; or
[(320 000 + 360 000 + 400 000) x 3/4] - [(320 000 + 360 000 + 400 000) x 4/5] = 54 000
Comment
The change in estimate is based on the carrying amounts before revaluation, since the net replacement
values (revalued amounts) provided in the question would already have taken the revised useful lives
into consideration and would therefore not be affected by the change in useful lives.
50
6. Tax expense
R
SA normal tax
Deferred [- 4 000 (A) - 30 000 (B) + 42 000 (B) + 30 000 (C)] x 30%
11 400
CALCULATIONS
1. Deferred tax
Total
R
Revaluation
R
Historical Tax base

R
R
Temporary
difference
R
Machine A
Cost price
to 01/01/20.4
480 000
480 000
480 000
(160 000)
(160 000)
(192 000)
32 000
Revaluation
320 000
180 000
180 000
320 000
-
288 000
-
32 000
180 000
Depreciation
500 000
(100 000)
180 000
(36 000)
320 000
(64 000)
288 000
(96 000)
212 000
(4 000)
400 000
144 000
256 000
192 000
208 000
Machine B
Cost price
to 01/01/20.4
540 000
540 000
540 000
(180 000)
(180 000)
(216 000)
36 000
Devaluation
360 000
(30 000)
360 000
(30 000)1
324 000
-
36 000
(30 000)
Depreciation
330 000
(66 000)
330 000
(66 000)
324 000
(108 000)
6 000
42 000
264 000
264 000
216 000
48 000
600 000
600 000
600 000
(200 000)
(200 000)
(240 000)
40 000
400 000
-
360 000
-
40 000
50 000
50 000 400 000

(10 000) (80 000)
360 000
(120 000)
90 000
30 000
240 000
120 000
Machine C
Cost price
Accumulated depreciation to
01/01/20.4
Revaluation
400 000
50 000
Depreciation
450 000
(90 000)
360 000
Total
50 000
40 000
320 000
376 000
51
1
ACN302-U/1
Comment
Even if the company does not follow a policy of revaluation, they still have to adjust Machine B as the
decline in replacement cost is permanent. In terms of IAS 16 (AC 123).77(e) the carrying amount of
each class of asset, if the asset had been carried at cost less accumulated depreciation, have to be
disclosed. The permanent decline of R30 000 should thus be taken into account when calculating this
amount. Refer to note 2.
Journals
Dr
R
Machine @ cost
Machine A @ revalued amount
Revaluation surplus
Revaluation of machine A on 1 January 20.4
Machine B @ cost
Machine B @ revalued amount
Devaluation (to I/S)
Revaluation of machine B on 1 January 20.4
Machine C @ cost
Machine C @ revalued amount
Revaluation surplus
Revaluation of machine C on 1 January 20.4
Revaluation surplus [(180 000 + 50 000) x 30%]
Deferred tax (B/S)
Transfer to deferred tax
Depreciation A
Depreciation B
Depreciation C
Accumulated depreciation A
Accumulated depreciation B
Accumulated depreciation C
Depreciation for the year ended 31 December 20.4
Revaluation surplus [(36 000 + 10 000) x 70%]
Accumulated profits
Realisation of revaluation surplus (a portion) through the use of the asset
Example
Cr
R
480 000
160 000
500 000
180 000
540 000
180 000
330 000
30 000
600 000
200 000
450 000
50 000
69 000
69 000
100 000
66 000
90 000
100 000
66 000
90 000
32 200
32 200
18
Black Limited owns a single machine which it acquired at a cost of R384 000 and which had a carrying
amount of R268 800 on 31 December 20.7. The tax value at that date was R211 200. Depreciation is
written off on the straight-line method over the estimated remaining useful life of the machine, assuming
no residual value which will remain at Rnil until the machine is derecognised despite the annual review.
The South African Revenue Service allows the machine to be written off at 15% pa on the straight-line
method.
52
The directors decided to revalue the machine on 1 January 20.8. Mr Blue, a sworn appraiser, valued the
machine at gross replacement value (undepreciated replacement value) of R740 880 with reference to
prices in an active market for new machinery. The total life of the asset is now estimated to be 1 year less
than the original estimate.
Profit before depreciation for the financial years ended 31 December 20.7 and 31 December 20.8 were
both R280 000. There are no non-taxable/non-deductible or temporary differences other than those evident
from the above-mentioned information.
The income tax rate is 30%. Capital gains tax is in accordance with current legislation and the assets
were acquired after 1 October 2001.
The company regards a revaluation surplus as realised when the underlying asset is sold or withdrawn
from use.
It is the policy of Black Limited to disclose machinery on the net (depreciated) replacement value. No
decision was made to dispose of the machine.
REQUIRED:
By applying the principles of IAS 16 (AC 123):
(a) give the journal entries in respect of the revaluation of the asset and the other entries and
adjustments which are related thereto for the year ended 31 December 20.8; and
(b) prepare the income statement of Black Limited for the year ended 31 December 20.8 and all
applicable notes to the income statement, balance sheet and statement of recognised income and
expenses in respect of the revaluation. Confine your answer to the available information.
Solution
18
(a) Journals
01/01/20.8
Machinery at revaluation (calc 1)
Machinery at cost
Revaluation surplus - NDR (calc 1)
Revaluation of machine
Revaluation surplus
Deferred tax - balance sheet (calc 2)
Provide deferred tax on revaluation surplus
31/12/20.8
Provision for depreciation for the year
Deferred tax - balance sheet
Deferred tax - income statement
Provision for deferred tax for the year
Dr
R
Cr
R
115 200
493 920
384 000
225 120
67 536
67 536
82 320
82 320
7 416
7 416
53
ACN302-U/1
(b) BLACK LIMITED

INCOME STATEMENT FOR THE YEAR ENDED 31 DECEMBER 20.8
Notes
Profit before tax (calc 3)
Income tax expense
Profit for the period
2
3
20.8
R
197 680
(59 304)
20.7
R
241 600
(72 480)
138 376
169 120
BLACK LIMITED
1.1 Property, plant and equipment
Gross carrying amounts of machinery upon revaluation are determined with reference to net replacement
values. Revaluation surpluses only realise when the related asset is sold or withdrawn from use.
This represents a change in accounting policy since the cost model was previously applied. In terms of
Standards of Generally Accepted Accounting Practice the change in accounting policy was accounted for
as a normal revaluation.
Machinery is depreciated on the straight-line method at rates which depreciate the carrying amount of the
asset to its estimated residual value over the estimated useful life of the asset. The useful life of machinery
is 9 years (20.7 - 10 years).
Comment
If an entity has always carried its assets at historical cost and later decides to revalue the assets, it
represents a change in accounting policy, as in this question. However, if it is the policy of the entity to
revalue its assets every x-years from the start, the first revaluation performed will not constitute a
change in accounting policy (as in the previous question), even though the assets were previously
carried at cost.
Depreciation - machinery
20.8
R
20.7
R
82 320
38 400
Change in estimate
depreciation is a result of a change in useful life regarding revaluation of machinery. The cumulative effect
of the change in future periods is a decrease in depreciation of R6 4001.
1
(268 800/6) - (268 800/7) = 6 400; or

(268 800 x 6/7) - (268 800 x 5/6) = 6 400
54
3. Income tax expense
20.8
R
20.7
R
SA normal tax
59 304
72 480
- Current tax (calc 4)

- Deferred tax (calc 2, 5)
66 720
(7 416)
66 720
5 760
Surplus on revaluation of machinery
Transferred to deferred tax
225 120
(67 536)
157 584
Comment
The question implies that Black Limited makes use of a statement of recognised income and expenses.
Therefore the financial statements will have to include notes that will show all the movements in
reserves and share capital, including a note dealing with the revaluation surplus. If Black Limited made
use of a statement of changes in equity, such a note would not be disclosed since all the movements
would be disclosed on the face of the statement of changes in equity. Refer to IAS 1 (AC 101).96-101.
5. Deferred tax
20.8
R
Accelerated wear and tear for tax purposes
[(224 000 - 153 600) x 30%](calc2)
Revaluation [225 120 - 37 520 = 187 600 x 30%]
21 120
56 280
20.7
R
17 280
-
77 400
17 280
20.8
R
20.7
R

Machinery
268 000
307 200
384 000
(115 200)
384 000
(76 800)
Revaluation
Depreciation
225 120
(82 320)
(38 400)
411 600
268 800

493 920
(82 320)
384 000
(115 200)

Machinery was revalued on 01/01/20.8 by Mr Blue, an independent sworn appraiser, on a gross

replacement value basis. The gross replacement value was determined with reference to observable prices
in an active market for new assets. If the machinery had been carried at cost less accumulated
depreciation, the carrying amount would have been R224 000 (calc 2) (20.7 - R268 800).
55
ACN302-U/1
CALCULATIONS
1. Net replacement value
R
Period already in use
Original cost
Accumulated wear and tear (384 000 - 211 200)
Wear and tear per annum (15% x 384 000)
Period in use (172 800/57 600)
Depreciation on historical cost
384 000
172 800
57 600
3 years
R

Depreciation per annum (115 200/3)
115 200
38 400
Original expected life (384 000/38 400)

Remaining life : previously
: revised
10 years
7 years
6 years
Depreciation per annum on historical cost from 20.8 (268 800/6)
R44 800
Revaluation surplus
New useful life
Period lapsed
9 years
3 years
R
Gross replacement value

Depreciated replacement value (740 880 x 6/9)
Historical carrying amount
Revaluation surplus
740 880
493 920
(268 800)
225 120
Comment
The net replacement value is calculated using the most recent estimate of the useful life of the asset
in order to state the value of the asset in the balance sheet as accurately as possible.
56
2. Deferred tax
Total
R
Cost
384 000
to 31/12/20.7
(115 200)
Revaluation
R
Deferred
tax asset/
(liability)
R
Historical
R
Tax base
R
Temporary
difference
R
384 000
384 000
(115 200)
(172 800)
57 600
(17 280)
Carrying amount
01/01/20.8
Revaluation
268 800
225 120
225 120
268 800
-
211 200
-
57 600
225 120
(17 280)
(67 536)
Depreciation
493 920
(82 320)1
225 120
(37 520)
268 800
(44 800)2
211 200
(57 600)
282 720
(24 720)
(84 816)
7 416
411 600
187 600
224 000
153 600
258 000
(77 400)
1
2
493 920/6 years = 82 320

268 800/6 years = 44 800

20.8
R
Profit before depreciation - given
Depreciation (calc 2);(493 920/6);(384 000/10)
20.7
R
280 000
(82 320)
280 000
(38 400)
197 680
241 600
20.8
R
20.7
R
4. Current tax
Profit before tax and depreciation

Wear and tear allowance
280 000
(57 600)
280 000
(57 600)
Taxable income
222 400
222 400
66 720
66 720
20.8
R
20.7
R
Current tax @ 30%

5. Deferred tax
Wear and tear allowance

Depreciation
57 600
(82 320)
57 600
(38 400)
Temporary difference
(24 720)
19 200
(7 416)
5 760
Deferred tax @ 30% - debit/(credit) to I/S
57
ACN302-U/1
Comment
1. Where a company decides to revalue its PPE for the first time, this represents a change in
accounting policy, but the change in policy is not accounted for as such - IAS 8 (AC 103).17
2. If PPE is revalued and the question does not indicate which method of disclosure is required, both
the gross and the net methods for disclosure is accepted, although the net method is recommended.
In this question it was specifically indicated that disclosure is done on the depreciated replacement
value basis and consequently the gross carrying amount in note 6 at year-end amounts to R493 920
and accumulated depreciation to R82 320. If the question indicated that disclosure is done on the
gross replacement value basis, then the gross carrying amount would have been R740 880 and the
accumulated depreciation R329 280 (740 880/9 x 4) at year-end. If PPE is revalued at net
replacement values, PPE should be disclosed at net replacement values (the gross replacement
values will not be available).
Example
19
Universal Limited is a company listed on the JSE Security Exchange with a 31 March year-end.
Machinery was purchased on 1 April 20.2 for R1 200 000 and depreciation is written off on a straight-line
basis over 12 years, the estimated useful life. During the current financial year the directors decided that
because of the increase in the gross replacement value, the machinery should in the future be disclosed
at net replacement value. The net replacement value will be determined bi-annually by an independent
sworn valuer, mr Expert. On 31 March 20.5 mr Expert valued machinery at a net replacement value of
R981 000 based on prices of new assets in an active market. The remaining useful life remained
unchanged at this date. There will be no residual value until derecognition of the assets.
On revaluation the accumulated depreciation is set off against gross amounts. Depreciation is calculated
on the most recent revaluation. The revaluation surplus realises as machinery is used in the production
process.
Profit before tax for the year ended 31 March 20.5 is R200 000, including the implications of the abovementioned information.
The South African Revenue Service allows a wear and tear deduction of 20% per annum, not pro-rata for
part of the year.
The income tax rate is 30%. Deferred tax is provided for on all temporary differences by using the balance
sheet approach. There are no other temporary differences or deferred tax balances, except for those which
are evident from the question. No decision has been taken to sell the machinery. All mentioned dates are
after 1 October 2001.
REQUIRED:
Prepare all the relevant notes to the annual financial statements of Universal Limited for the year ended
31 March 20.5. Your answer must comply with the requirements of the Companies Act, 1973 and
Generally Accepted Accounting Practice.
No comparative figures are required.
58
Solution
19
UNIVERSAL LIMITED
NOTES FOR THE YEAR ENDED 31 MARCH 20.5
Gross carrying amounts of machinery is determined by revaluation on a net replacement value basis.
Revaluation surpluses are realised as the machinery are utilised in the production process.
This represents a change in accounting policy since the cost model was applied previously. In accordance
with Standards of Generally Accepted Accounting Practice the change in policy was accounted as a
normal revaluation.
Machinery is depreciated over the useful life of 12 years of the asset on a straight-line basis. The rates are
considered appropriate to reduce the carrying amounts of the assets to their residual values over their
expected useful lives.
1.2 Deferred tax
Deferred tax is provided for on all temporary differences according to the balance sheet approach.
R
Plant and machinery
1 000 000
Cost
1 200 000
(200 000)
Depreciation
Revaluation
(109 000)
90 000
981 000
1 090 000
(109 000)
The machinery was revalued on 31 March 20.5 by mr Expert, an independent sworn valuer, on the net
replacement value basis with reference to prices of new assets in an active market. If machinery had been
shown at cost less accumulated depreciation the carrying amount on 31 March 20.5 would have been
R900 000 (calc 2).
3. Deferred tax
R
Accelerated wear and tear for tax purposes (900 000 - 480 000) x 30% (calc 2)
Revaluation [(27 000/10 - 2 700)] or (calc 2: 81 000 x 30%)
126 000
24 300
Deferred tax liability
150 300
59
ACN302-U/1
R
Revaluation during the year
Transfer to deferred tax (90 000 x 30%)
Transfer to retained earnings [(90 000 - 27 000)/10 years)] or (9 000 x 70%)
Balance end of year
90 000
(27 000)
(6 300)
56 700

Included in profit before tax is the following item:
R
Depreciation on machinery
109 000
6. Tax expense
R
SA normal tax
60 000

- Deferred tax (calc 3)
20 700
39 300
CALCULATIONS
1. Revaluation of machinery
R
Cost of machinery
Accumulated depreciation at 31 March 20.4 (1 200 000/12 x 2)
1 200 000
(200 000)
1 000 000
Remaining useful life

Net replacement value at 1 April 20.4 (981 000/9 x 10)
Revaluation surplus (1 090 000 - 1 000 000)
Depreciation -
on historical cost
on revaluation (90 000/10)
Total depreciation
10 years
1 090 000
90 000
100 000
9 000
109 000
60
2. Deferred tax
Tax
base
R
Temporary
difference
R
Deferred
tax asset/
(liability)
R
Total
R
Revaluation
R
Cost
Accumulated depreciation/
wear and tear till 31/03/20.4
1 200 000
1 200 000 1 200 000
(200 000)
(200 000)
(480 000)
280 000
(84 000)

Revaluation
1000 000
90 000
1 000 000
90 000
-
720 000
-
280 000
90 000
(84 000)
(27 000)
Depreciation/wear and tear
1 090 000
(109 000)
90 000 1 000 000

(9 000) (100 000)
720 000
(240 000)
370 000
131 000
(111 000)
(39 300)
480 000
501 000
(150 300)
981 000
81 000
Historic
R
900 000
3. Tax expense
Profit before tax (given)
R
200 000
(131 000)
Depreciation
Wear and tear
109 000
(240 000)
Taxable income
69 000
Current tax (69 000 x 30%)

Deferred tax (131 000 x 30%
20 700
39 300
SA normal tax (200 000 x 30%)
60 000
Journals
Machinery
Machinery @ revalued amount
Revaluation surplus
Revaluation of machine
Revaluation surplus
Deferred tax (B/S)
Transfer to deferred tax
Depreciation
Provide depreciation for the year
Revaluation surplus [(90 000 - 27 000)/10]
Retained earnings
Realisation of revaluation surplus by utilisation
Deferred tax (I/S) (calc 2)
Deferred tax (B/S) (calc 2)
Provide deferred tax on temporary difference - depreciation
Dr
R
200 000
Cr
R
1 200 000
1 090 000
90 000
27 000
27 000
109 000
109 000
6 300
6 300
39 300
39 300
61
ACN302-U/1
ASSESSMENT CRITERIA
After having studied this study unit you should be able to:
define property, plant and equipment.
define the carrying amount of an asset.
name and apply the criteria for the recognition of an item as property, plant and equipment.
describe the rules applying to different situations for measuring the cost and residual values of assets
and apply those rules in calculations.
apply and calculate different methods of depreciation.
properly account for property, plant and equipment and depreciation.
name and apply the disclosure requirements for property, plant and equipment in accordance with
Generally Accepted Accounting Practice and Schedule 4 of the Companies Act, 1973.
describe and apply the accounting concepts relating to the revaluation of property, plant and
equipment.
accurately calculate and record revaluations.
properly disclose revaluations in the financial statements of an entity in accordance with Generally
Accepted Accounting Practice.
accurately calculate, account for and disclose the tax implications of property, plant and equipment
in accordance with the ruling tax acts and Generally Accepted Accounting Practice.
62
STUDY
UNIT
2
INVESTMENT PROPERTY - IAS 40 (AC 135)
LEARNING OUTCOME 2
Once you have studied this course material, you should be able to:
account for investment property in the financial statements of an entity in terms of the requirements
of the Companies Act, 1973 and Generally Accepted Accounting Practice.
A
ACCOUNTING TREATMENT
2.1
2.2
2.3
2.3.1
2.3.2
2.3.3
2.4
2.5
2.6
2.6.1
2.6.2
2.7
2.7.1
2.7.2
2.7.3
2.8
2.9
2.9.1
2.9.2
2.9.3
2.10
2.10.1
2.10.2
2.10.3
Objective
Scope
Definitions
Terms
Property interest held under an operating lease (not part of the module)
Difference between investment property and owner-occupied property
Recognition
Measurement at recognition
Accounting policy: fair value model or cost model
Determining of fair value of investment property is a requirement
Fair value model
Fair value
Fair value reflects market conditions at balance sheet date
Inability to determine fair value reliably
Cost model
Transfers
Transfer when the cost model is applied
Transfer when the fair value model is applied
Summary of transfers
Disposals
Derecognition
Gains or losses on disposal
Compensation from third parties
63
B
DISCLOSURE
2.11
2.12
2.13
2.14
2.14.1
2.14.2
2.14.3
Fair value model and cost model

Fair value model
Cost model
Transitional provisions
Fair value model
Cost model
Decision diagram
TAX IMPLICATIONS
2.15
2.16
Deferred tax and capital gains tax implications

Schematic diagram of tax implications
ACN302-U/1
STUDY:
1. International Financial Reporting Standards (IFRS) - SAICA Handbook
IAS 40 (AC 135) - Investment Property (issued 31 March 2004).
The chapter dealing with IAS 40 (AC 135).
A ACCOUNTING TREATMENT
2.1 OBJECTIVE - IAS 40 (AC 135).1
IAS 40 (AC 135) prescribes the accounting treatment (recognition and measurement) for investment
property and related disclosure requirements.
2.2
SCOPE - IAS 40 (AC 135).2-4
The Standard shall be applied in the recognition, measurement and disclosure of investment property.
This Standard deals, inter alia, with the measurement in a lessees financial statements of investment
property interests held under a finance lease and with the measurement in a lessors financial statements
of investment property leased out to a lessee under an operating lease. This Standard does not deal with
other matters covered in IAS 17 (AC 105) Leases.
This Standard does not apply to:
(a)
biological assets related to agricultural activity (see IAS 41 (AC 137) Agriculture); and
(b)
mineral rights and mineral reserves such as oil, natural gas and similar non-regenerative
resources.
64
2.3
DEFINITIONS - IAS 40 (AC 135).05
2.3.1 Terms
The following terms are used in the Standard with the meanings specified:
Carrying amount
It is the amount at which an asset is recognised in the balance sheet.
Cost
It is the amount of cash or cash equivalents paid or the fair value of other consideration given to acquire
an asset at the time of its acquisition or construction.
Fair value
It is the amount for which an asset could be exchanged between knowledgeable, willing parties in an arms
length transaction.
Property
Land or a building - or part of a building - or both.
Investment property
Property held (by the owner or by the lessee under a finance lease) to earn rentals or for capital
appreciation or both, rather than for:
(a)
use in the production or supply of goods or services or for administrative purposes; or
(b)
sale in the ordinary course of business.
Owner-occupied property
Property held (by the owner or by the lessee under a finance lease) for use in the production or supply of
goods or services or for administrative purposes.
2.3.2 A property interest held under an operating lease (note: this paragraph is not part of the module)
A property interest that is held by a lessee under an operating lease may be classified and accounted for
as investment property if, and only if, the property would otherwise meet the definition of an investment
property and the lessee uses the fair value model for the asset recognised (see below under 2.7 for fair
value model). This classification alternative is available on a property-by-property basis. However, once
this classification alternative is selected for one such property interest held under an operating lease, all
property classified as investment property shall be accounted for using the fair value model. When this
classification alternative is selected, any interest so classified is included in the required disclosures (refer
to part B for disclosure).
2.3.3 Difference between investment property and owner-occupied property- IAS 40 (AC 135).7-15
Investment property is held to earn rentals or for capital appreciation or both. Therefore, an investment
property generates cash flows largely independently of the other assets held by an entity. This
distinguishes investment property from owner-occupied property. The production or supply of goods or
services (or the use of property for administrative purposes) generates cash flows that are attributable not
only to property, but also to other assets used in the production or supply process. IAS 16 (AC 123)
Property, Plant and Equipment (see study unit 1) applies to owner-occupied property.
65
ACN302-U/1
Examples of investment properties:

(a)
land held for long-term capital appreciation rather than for short-term sale in the ordinary course of
business.
(b)
land held for a currently undetermined future use. (If an entity has not determined that it will use the
land as owner-occupied property or for short-term sale in the ordinary course of business, the land
is regarded as held for capital appreciation.)
(c)
a building owned by the entity (or held by the entity under a finance lease) and leased out under one
or more operating leases.
(d)
a building that is vacant but is held to be leased out under one or more operating leases.
Examples of items that are not investment property and therefore not in the scope of this Standard:
(a)
property intended for sale in the ordinary course of business or in the process of construction or
development for such sale (see IAS 2 (AC 108) Inventories), for example, property acquired
exclusively with a view to subsequent disposal in the near future or for development and resale.
(b)
property being constructed or developed on behalf of third parties (see IAS 11 (AC 109) Construction
Contracts).
(c)
owner-occupied property (IAS 16 (AC 123)), including:

(i) property held for future use as owner-occupied property,
(ii) property held for future development and subsequent use as owner-occupied property,
(iii) property occupied by employees (whether or not the employees pay rent at market rates), and
(iv) owner-occupied property awaiting disposal.
(d)
property that is being constructed or developed for future use as investment property. IAS 16
(AC 123) Property, Plant and Equipment applies to such a property until the construction or
development is complete, at which time the property becomes an investment property and this
Standard applies. However, this Standard applies to existing investment property that is being
redeveloped for continued future use as investment property (see 2.9 below for transfers.)
(e)
property that is leased to another entity under a finance lease.
Some properties comprise a portion that is held as investment property and another portion that is held
as owner-occupied property. If these portions could be sold separately (or leased out separately under a
finance lease), an entity accounts for the portions separately. If the portions could not be sold separately,
the property is investment property only if an insignificant portion is held for use in production or supply
of goods or services or for administrative purposes.
In some cases, an entity provides ancillary services to the occupants of a property it holds, for example
security and maintenance services. An entity treats such a property as investment property if the services
are insignificant to the arrangement as a whole.
In other cases, the services provided are significant. For example, if an entity owns and manages a hotel,
services provided to guests are significant to the arrangement as a whole. Therefore, an owner-managed
hotel is owner-occupied property, rather than investment property.
Judgement is needed to determine whether a property qualifies as investment property. An entity develops
criteria by which it can consistently judge in accordance with this Standard whether a property is
investment property. These criteria must be disclosed when classification is difficult.
66
In some cases, an entity owns property that is leased to, and occupied by, its parent or another subsidiary.
The property does not qualify as investment property in the consolidated financial statements, because
it is owner-occupied from the perspective of the group, but in its individual financial statements it would be
shown as investment property.
Example
Tinta Limited is a holding company which is rapidly expanding. The company owns several properties that
are occupied in different manners. The details are:
Property 1
Tinta Limited expanded its business to a small rural town and has bought an old house that was converted
to offices. The business operated by Tinta Limited in this town is still growing and the house is therefore
not fully occupied by the company. The house has a small flatlet attached to it that is currently being rented
out. This part of the house will eventually also be occupied by the business.
Property 2
Tinta Limited owns a piece of land in Johannesburg. There is the possibility that this piece of land will be
expropriated by the local council for the construction of a new road. Tinta Limiteds original intention with
buying this land was to develop its head offices there. Tinta Limited has decided to wait for the final
decision of the local council before erecting the new offices on this land.
Property 3
Tinta Limited and all of its subsidiaries are occupying a building that Tinta Limited owns. The subsidiaries
pay market-related rental to Tinta Limited. The building is occupied in the ratio of 30% to 70% by Tinta
Limited and its subsidiaries respectively. The intention is that Tinta Limited and its subsidiaries will move
to the new head offices once they have been erected and that the existing building will then be held until
it can be sold for a good price.
REQUIRED:
Classify the properties as either investment properties or owner-occupied properties in the accounting
records of Tinta Limited.
Solution
Property 1 will be classified as an owner-occupied property used in the supply of services. The supply of
these services generates cash flow that is attributable not merely to this property, but also to other assets
used in the business of Tinta Limited. The services supplied from this home office are the significant
component of the whole arrangement. The letting out of the flat to tenants is an ancillary service and does
not change the classification of this building as an owner-occupied property.
Property 2 will be classified as an owner-occupied property. Paragraph .09 of the Standard states that
property held for future development and subsequent use as owner-occupied property is not investment
property but must be classified as owner-occupied property. The fact that there is uncertainty as to the
ultimate use of this land because of the outstanding decision of the local council does not change the
intention of Tinta Limited to build its head offices on this piece of land.
67
ACN302-U/1
It will be difficult to classify Property 3. Judgement must be used when determining whether this property
qualifies as investment property in the records of Tinta Limited. Tinta Limited must develop criteria in order
to exercise judgement in accordance with the definition of investment property. The criteria applied must
be disclosed when the classification is difficult. The fact that less than 50% of the building is occupied by
Tinta Limited itself and therefore used in the production of goods or the supply of services or for
administration purposes means that the majority of the building is occupied by tenants. The building can
therefore be classified as investment property (depending on the criteria used by Tinta Limited). The
possible change in use in the future does not influence the classification of the property at this stage.
In the consolidated financial statements of Tinta Limited and its subsidiaries, however, the property does
not qualify as investment property, but is owner-occupied from the perspective of the group.
2.4 RECOGNITION - IAS 40 (AC 135).16-19
Investment property shall be recognised as an asset when, and only when:
(a)
it is probable that the future economic benefits that are associated with the investment property will
flow to the entity; and
(b)
the cost of the investment property can be measured reliably.
An entity evaluates under this recognition principle all its investment property costs at the time they are
incurred. These costs include:
costs incurred initially to acquire an investment property and
costs incurred subsequently to add to, replace part of, or service a property.
Under this recognition principle, an entity does not recognise in the carrying amount of an investment
property the costs of the day-to-day servicing of such a property. Rather, these costs are recognised in
profit or loss as incurred. Examples of such costs include cost of labour and consumables, and may
include the cost of minor parts. The purpose of these expenditures is often described as for the repairs
and maintenance of the property.
Parts of investment properties may have been acquired through replacement. For example, the interior
walls may be replacements of original walls. Under the recognition principle, an entity recognises in the
carrying amount of an investment property the cost of replacing part of an existing investment property at
the time that cost is incurred if the recognition criteria are met. The carrying amount of those parts that are
replaced is derecognised in accordance with the derecognition provisions of this Standard.
2.5 MEASUREMENT AT RECOGNITION - IAS 40 (AC 135).20-29
An investment property shall be measured initially at its cost. Transaction costs should be included in the
initial measurement.
The cost of a purchased investment property comprises its purchase price and any directly attributable
expenditure such as professional fees for legal services, property transfer taxes (duties) and other
transaction costs. The transfer duties or Value Added Tax (VAT) implications of the purchase of a property
can be one of the following:
The property is bought from an entity that is registered for VAT. The purchase price will include VAT
and if the company is registered for VAT, then the VAT can be claimed back from the SA Revenue
Service.
The property is bought from an entity that is not registered for VAT. It will have to pay transfer duty at
prescribed rate (currently 10%) on the property value. If it is registered for VAT, then it will be able to
claim the transfer duty back as VAT from the SA Revenue Service.
68
The cost of a self-constructed investment property is its cost at the date when the construction or
development is complete. Until that date, an entity applies IAS 16 (AC 123) Property, Plant and Equipment.
At that date, the property becomes investment property and this Standard applies.
The cost of investment property is not increased by:
(a)
start-up costs (unless they are necessary to bring the property to the condition necessary for it to be
capable of operating in the manner intended by management),
(b)
operating losses incurred before the investment property achieves the planned level of occupancy,
or
(c)
abnormal amounts of wasted material, labour or other resources incurred in constructing or

developing the property.
Abnormal credit terms

If payment for an investment property is deferred, its cost is the cash price equivalent (i.e. the present
value of future cash flows). The difference between this amount and the total payments is recognised as
interest expense over the period of credit.
R
Total instalments payable
Less: present value of future cash flows
Interest payable
Example
xxx
(xxx)
xx
Peregrine Limited has bought a property, from a registered VAT vendor, of which the details are as follows:
R
Cost price (including VAT)
Agents commission
Legal fees
Expenditure incurred to upgrade the property before occupying it
695 400
36 600
8 300
73 000
Peregrine Limited is registered for VAT and the current VAT rate is 14%. The expenditure incurred was
necessary because of the neglected state the property was in at the date of acquisition.
The intention of Peregrine Limited is to rent this property out and earn rental income from it. Peregrine
Limited incurred costs to the amount of R18 000 to secure tenants.
REQUIRED:
Calculate the initial price that the investment property must be recorded at.
69
Solution
ACN302-U/1
Initial cost price of the investment property

R
Cost price
VAT claimed back (695 400 x 14/114)
Agents commission
Legal fees
Expenditure incurred to upgrade the property
695 400
(85 400)
36 600
8 300
73 000
727 900
Exchange (swap) of investment properties

One or more investment properties may be acquired in exchange for monetary or non-monetary asset(s)
or a combination of both. The cost of the acquired investment property is measured at fair value unless:
(a)
the exchange transaction lacks commercial substance, or
(b)
the fair value of neither the asset received nor the asset given up is reliably measurable.
In both cases the asset that is acquired, is measured at the carrying value of the asset given up.
An entity determines whether an exchange transaction has commercial substance by considering the
extent to which its future cash flows (after tax) are expected to change as a result of the transaction. An
exchange transaction has commercial substance if:
(a)
the configuration (risk, timing and amount) of the cash flows of the asset received differs from the
configuration of the cash flows of the asset transferred, or
(b)
the entity-specific value of the portion of the enitys operations affected by the transaction (after tax
cash flows) changes as a result of the exchange, and
(c)
the difference in (a) or (b) is significant relative to the fair value of the assets exchanged.
When the fair values of both the acquired asset and the asset given up can be measured reliably, then the
fair value of the asset given up is used to measure the cost of the asset received unless the fair value of
the asset received is more evident, in which case it can be used.
2.6 MEASUREMENT AFTER RECOGNITION - IAS 40 (AC 135).30-65
2.6.1 Accounting policy - IAS 40 (AC 135).30-32
An entity shall choose either
S the fair value model or
S the cost model
as its accounting policy and shall apply that policy to all of its investment property.
IAS 8 (AC 103) Accounting Policies, Changes in Accounting Estimates and Errors states that a voluntary
change in accounting policy shall be made only if the change will result in a more appropriate presentation
of transactions, other events or conditions in the entitys financial statements. It is highly unlikely that a
change from the fair value model to the cost model will result in a more appropriate presentation.
70
2.6.2 Determining of fair value of investment property is a requirement
The fair value of investment property must be determined, whether the fair value model or the cost model
is used. The Standard requires all entities to determine the fair value of investment property, for the
purpose of either measurement (if the entity uses the fair value model) or disclosure (if it uses the cost
model). An entity is encouraged, but not required, to determine the fair value of investment property on the
basis of a valuation by an independent valuer who holds a recognised and relevant professional
qualification and has recent experience in the location and category of the investment property being
valued.
2.7 FAIR VALUE MODEL - IAS 40 (AC 135).33-55
After initial recognition, an entity that chooses the fair value model shall measure all of its investment
property at fair value, except when there is clear evidence when an entity first acquires an investment
property that the entity will not be able to determine the fair value of the investment property reliably on
a continuing basis (see 2.7.3 below for inability to determine fair value reliably).
When a property interest held by a lessee under an operating lease is classified as an investment property,
the fair value model shall be applied. (Note: investment property held under an operating lease does
not form part of this module.)
A gain or loss arising from a change in the fair value of investment property shall be recognised in profit
or loss for the period in which it arises.
2.7.1 Fair value
The fair value of investment property is the price at which the property could be exchanged between
knowledgeable, willing parties in an arms length transaction. Fair value specifically excludes an estimated
price inflated or deflated by special terms or circumstances such as atypical financing, sale and leaseback
arrangements, special considerations or concessions granted by anyone associated with the sale.
An entity determines fair value without any deduction for transaction costs it may incur on sale or other
disposal.
2.7.2 Fair value reflects market conditions at balance sheet date
The fair value of investment property shall reflect market conditions at the balance sheet date.
Time-specific
Fair value is time-specific at a given date. Because market conditions may change, the amount reported
as fair value may be incorrect or inappropriate if estimated as of another time. The definition of fair value
also assumes simultaneous exchange and completion of the contract for sale without any variation in price
that might be made in an arms length transaction between knowledgeable, willing parties if exchange and
completion are not simultaneous.
The fair value reflects:
the rental income from current leases,
reasonable and supportable assumptions that represent what knowledgeable, willing parties would
assume about rental income from future leases in the light of current market conditions, and
any cash outflows (including rental payments and other outflows) that could be expected in respect of
the property.
71
ACN302-U/1
Knowledgeable, willing parties in an arms length transaction

The definition of fair value refers to knowledgeable, willing parties in an arms length transaction. The
term knowledgeable means that both the willing buyer and the willing seller are reasonably informed
about the nature and characteristics of the investment property, its actual and potential uses, and market
conditions at the balance sheet date.
A willing buyer is motivated, but not compelled, to buy. This buyer is neither over-eager nor determined
to buy at any price. The assumed buyer would not pay a higher price than a market comprising
knowledgeable, willing buyers and sellers would require.
A willing seller is neither an over-eager nor a forced seller, prepared to sell at any price, nor one
prepared to hold out for a price not considered reasonable in current market conditions. The willing seller
is motivated to sell the investment property at market terms for the best price obtainable.
The term arms length transaction means that the transaction is one between parties that do not have
a particular or special relationship that makes prices of transactions uncharacteristic of market conditions.
The transaction is presumed to be between unrelated parties, each acting independently.
Current prices in an active market
The best evidence of fair value is given by current prices in an active market for similar property in the
same location and condition and subject to similar lease and other contracts. An entity takes care to
identify any differences in the nature, location or condition of the property, or in the contractual terms of
the leases and other contracts relating to the property.
Other sources to consider in the absence of current prices in an active market
In the absence of current prices in an active market of the kind described in the previous paragraph, an
entity considers information from a variety of sources, including:
(a)
current prices in an active market for properties of different nature, condition or location (or subject
to different lease or other contracts), adjusted to reflect those differences;
(b)
recent prices of similar properties on less active markets, with adjustments to reflect any changes
in economic conditions since the date of the transactions that occurred at those prices; and
(c)
discounted cash flow projections based on reliable estimates of future cash flows, supported by the
terms of any existing lease and other contracts and (when possible) by external evidence such as
current market rents for similar properties in the same location and condition, and using discount
rates that reflect current market assessments of the uncertainty in the amount and timing of the cash
flows.
In some cases, the various sources listed above may suggest different conclusions about the fair value
of an investment property. An entity considers the reasons for those differences, in order to arrive at the
most reliable estimate of fair value within a range of reasonable fair value estimates.
In exceptional cases there is clear evidence that the fair value of the property will not be reliably
determinable on a continuing basis (see 2.7.3 below).
Fair value differs from value in use
Fair value differs from value in use, as defined in IAS 36 (AC 128) Impairment of Assets (refer to study
unit 4). Fair value reflects the knowledge and estimates of knowledgeable, willing buyers and sellers. In
contrast, value in use reflects the entitys estimates, including the effects of factors that may be specific
to the entity and not applicable to entities in general. For example, fair value does not reflect any of the
following factors to the extent that they would not be generally available to knowledgeable, willing buyers
and sellers:
(a)
additional value derived from the creation of a portfolio of properties in different locations;
72
(b)
synergies between investment properties and other assets;
(c)
legal rights or legal restrictions that are specific only to the current owner; and
(d)
tax benefits or tax burdens that are specific to the current owner.
Separately recognised assets or liabilities should not be included in the fair value
In determining the fair value of investment property, an entity does not double-count assets or liabilities
that are recognised as separate assets or liabilities. For example:
(a)
equipment such as lifts or air-conditioning is often an integral part of a building and is generally
included in the fair value of the investment property, rather than recognised separately as property,
plant and equipment;
(b)
if an office is leased on a furnished basis, the fair value of the office generally includes the fair value
of the furniture, because the rental income relates to the furnished office. The furniture would
therefore not be recognised as a separate asset;
(c)
the fair value of investment property excludes prepaid or accrued operating lease income, because
the entity recognises it as a separate liability or asset.
The fair value of investment property does not reflect future capital expenditure that will improve or
enhance the property and does not reflect the related future benefits from this future expenditure.
In some cases, an entity expects that the present value of its payments relating to an investment property
(other than payments relating to recognised liabilities) will exceed the present value of the related cash
receipts. An entity applies IAS 37 (AC 130) Provisions, Contingent Liabilities and Contingent Assets to
determine whether to recognise a liability and, if so, how to measure it.
2.7.3 Inability to determine fair value reliably
There is a rebuttable presumption that an entity can reliably determine the fair value of an investment
property on a continuing basis. However, in exceptional cases, there is clear evidence when an entity first
acquires an investment property (or when an existing property first becomes investment property following
the completion of construction or development, or after a change in use) that the fair value of the
investment property is not reliably determinable on a continuing basis. This arises when, and only when,
comparable market transactions are infrequent and alternative reliable estimates of fair value (for example,
based on discounted cash flow projections) are not available. In such cases, an entity shall measure that
investment property using the cost model in IAS 16 (AC 123) Property, Plant and Equipment. The residual
value of the investment property shall be assumed to be zero. The entity shall apply IAS 16 (AC 123) until
disposal of the investment property.
In the exceptional cases when an entity is compelled (for the reason given in the previous paragraph) to
measure an investment property using the cost model, it measures all its other investment property at fair
value (since this was the model chosen to measure its investment property).
If an entity has previously measured an investment property at fair value, it shall continue to measure the
property at fair value until disposal (or until the property becomes owner-occupied property or the entity
begins to develop the property for subsequent sale in the ordinary course of business) even if comparable
market transactions become less frequent or market prices become less readily available.
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ACN302-U/1
2.8 COST MODEL - IAS 40 (AC 135).56

After initial recognition, an entity that chooses the cost model shall measure all of its investment property
at cost less accumulated depreciation and accumulated impairment losses, according to IAS 16 (AC 123)
Property, plant and equipment. This does not apply to those investment property that meet the criteria to
be classified as held for sale (or are included in a disposal group that is classified as held for sale) in
accordance with IFRS 5 Non-current Assets Held for Sale and Discontinued Operations (refer to study
unit 5). Investment properties that meet the criteria to be classified as held for sale (or are included in a
disposal group that is classified as held for sale) shall be measured in accordance with IFRS 5.
2.9 TRANSFERS - IAS 40 (AC 135).57-65
Transfers to, or from, investment property shall be made when, and only when, there is a change in use,
evidenced by:
(a)
commencement of owner-occupation - transfer from investment property to owner-occupied property;
(b)
commencement of development with a view to sale - transfer from investment property to

inventories;
(c)
end of owner-occupation - transfer from owner-occupied property to investment property;
(d)
commencement of an operating lease to another party - transfer from inventories to investment

property; or
(e)
end of construction or development - transfer from property in the course of construction or

development (covered by IAS 16 (AC 123)) to investment property.
Number (b) above requires an entity to transfer a property from investment property to inventories when,
and only when, there is a change in use, evidenced by commencement of development with a view to sale.
When an entity decides to dispose of an investment property without development, it continues to treat the
property as an investment property until it is derecognised (eliminated from the balance sheet) and does
not treat it as inventory.
Similarly, if an entity begins to redevelop an existing investment property for continued future use as
investment property, the property remains an investment property and is not reclassified as owneroccupied property during the redevelopment.
2.9.1 Transfer when the cost model is applied
When an entity uses the cost model, transfers between investment property, owner-occupied property and
inventories do not change the carrying amount of the property transferred or the cost of that property for
measurement or disclosure purposes.
2.9.2 Transfer when the fair value model is applied
(a) Background
IAS 16 (AC 123) Property, Plant and Equipment is part of the study material for this module and covers
the recording and disclosure of property, plant and equipment. A general understanding of the principle
of revaluation of property, plant and equipment is needed to fully understand IAS 40 (AC 135) Investment
Property.
74
According to IAS 16 (AC 123) the initial recording of property, plant and equipment is at cost. Subsequent
to the initial recognition of an asset at cost, an item of property, plant and equipment should be carried at
its cost less accumulated depreciation and accumulated impairment losses.
The revaluation of property, plant and equipment is the allowed alternative in terms of IAS 16 (AC 123).
The Standard allows that subsequent to the initial recognition of an asset at cost, an item of property, plant
and equipment can be carried at a revalued amount less subsequesnt accumulated depreciation and
subsequent accumulated impairment losses.
Example
Company A follows the alternative method of recording property, plant and equipment. The plant was
revalued to R75 000 on the net replacement value basis in the current year. At the date of the revaluation,
the details of its plant were as follows:
R
Plant - original cost
100 000
40 000
75 000
REQUIRED:
Journalise the revaluation. Ignore tax and depreciation on the revalued gross carrying amount.
Solution
The recording of the revaluation will be as follows:

Dr
R
Plant revalued
Plant at cost
Revaluation surplus (credit to equity, not to the income statement).
Being recording of revaluation
Cr
R
75 000
40 000
100 000
15 000
The plant will now be disclosed at its revalued amount of R75 000.
(b) Transfers
For a transfer from investment property carried at fair value to owner-occupied property or
inventories, the propertys deemed cost for subsequent accounting in accordance with IAS 16 (AC 123)
Property, Plant and Equipment or IAS 2 (AC 108) Inventories, shall be its fair value at the date of change
in use.
If an owner-occupied property becomes an investment property that will be carried at fair value, an
entity shall apply IAS 16 (AC 123) up to the date of change in use (transfer date). The entity shall treat any
difference at that date between the carrying amount of the property in accordance with IAS 16 (AC 123)
and its fair value in the same way as a revaluation in accordance with IAS 16 (AC 123).
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ACN302-U/1
Up to the date when an owner-occupied property becomes an investment property carried at fair value,
an entity depreciates the property and recognises any impairment losses that have occurred. The entity
treats any difference at that date between the carrying amount of the property in accordance with IAS 16
(AC 123) and its fair value in the same way as a revaluation in accordance with IAS 16 (AC 123). In other
words:
(a) any resulting decrease in the carrying amount of the property is recognised in profit or loss. However,
to the extent that an amount is included in revaluation surplus for that property, the decrease is
charged against that revaluation surplus.
(b) any resulting increase in the carrying amount is treated as follows:
(i)
to the extent that the increase reverses a previous impairment loss for that property, the increase
is recognised in profit or loss. The amount recognised in profit or loss does not exceed the amount
needed to restore the carrying amount to the carrying amount that would have been determined
(net of depreciation) had no impairment loss been recognised.
(ii) any remaining part of the increase is credited directly to equity under the heading revaluation
surplus. On subsequent disposal of the investment property, the revaluation surplus included in
equity may be transferred to retained earnings. The transfer form revaluation surplus to retained
earnings is not made through profit or loss (i.e. the income statement).
For a transfer from inventories to investment property that will be carried at fair value, any difference
between the fair value of the property at that date and its previous carrying amount shall be recognised
in profit or loss. (This treatment of transfers from inventories to investment property that will be carried
at fair value is consistent with the treatment of sales of inventories.)
When an entity completes the construction or development of a self-constructed investment
property that will be carried at fair value, any difference between the fair value of the property at that date
and its previous carrying amount shall be recognised in profit or loss.
2.9.3 Summary of transfers
(a) Transfer of investment property to owner-occupied property or inventory
Investment property
Measured at
Fair value
or
Cost in terms of IAS 16

(AC 123)
If transferred to owner-occupied properties or inventories

Measurement of owner-occupied property or inventories after transfer
Measured at cost which is the fair value at date of transfer
Measured at cost in terms of IAS 16

(AC 123)
76
(b) Transfer of owner-occupied property to investment property
Owner-occupied property
IAS 16 (AC 123)
Measured at

(AC 123)
or
Revalued carrying amount in

terms of IAS 16 (AC 123)
If transferred to investment property
Measurement of investment property after transfer
Measured at fair value
Measured at cost
Cost or revalued cost in terms
of IAS 16 (AC 123)
Carrying amount at date of

transfer > fair value at that date
Recognise difference in
profit/(loss) unless it is a
reversal of a previous
revaluation
Carrying amount at date of transfer < fair value at

that date
a) If it is a reversal of a previous impairment loss, recognise
reversal in profit/(loss), and
b) any remaining portion of the increase will be treated as a
revaluation surplus credited to equity
77
(c)
ACN302-U/1
Transfer from inventory to investment property

Inventories - IAS 2 (AC 108)
Measured at the lower of

(AC 108)
or
Net realisable value in terms of IAS 2

(AC 108)
If transferred to investment property
Measurement of investment property after transfer
Measured at fair value
Difference between carrying amount of

inventories at that date and fair value
Measured at cost
Cost as currently shown
Recognise difference in profit or loss
2.10 DISPOSALS - IAS 40 (AC 135).66-73

2.10.1 Derecognition
An investment property shall be derecognised (eliminated from the balance sheet) on disposal or when
the investment property is permanently withdrawn from use and no future economic benefits are expected
from its disposal.
The disposal of an investment property may be achieved by sale or by entering into a finance lease. In
determining the date of disposal for an investment property, an entity applies the criteria in IAS 18
(AC 111) Revenue for recognising revenue from the sale of goods and considers the related guidance in
the Appendix to that Standard. (IAS 17 (AC 105) Leases applies to a disposal effected by entering into a
finance lease and to a sale and leaseback. Leases does not form part of this module.)
78
If, in accordance with the recognition principle (refer to 2.4 above), an entity recognises in the carrying
amount of an asset the cost of a replacement for part of an investment property, it derecognises the
carrying amount of the replaced part.
For investment property accounted for using the cost model, a replaced part may not be a part that
was depreciated separately. If it is not practicable for an entity to determine the carrying amount of
the replaced part, it may use the cost of the replacement as an indication of what the cost of the
replaced part was at the time it was acquired or constructed.
Under the fair value model, the fair value of the investment property may already reflect that the
part to be replaced has lost its value. In other cases it may be difficult to discern how much fair value
should be reduced for the part being replaced. An alternative to reducing fair value for the replaced
part, when it is not practical to do so, is to include the cost of the replacement in the carrying amount
of the asset and then to reassess the fair value, as would be required for additions not involving
replacement.
2.10.2 Gains or losses on disposal

Gains or losses arising from the retirement or disposal of investment property shall be determined as the
difference between the net disposal proceeds and the carrying amount of the asset and shall be
recognised in profit or loss in the period of the retirement or disposal.
The consideration receivable on disposal of an investment property is recognised initially at fair value. In
particular, if payment for an investment property is deferred, the consideration received is recognised
initially at the cash price equivalent (i.e. the present value of future cash flows). The difference between
the nominal amount of the consideration and the cash price equivalent is recognised as interest revenue
in accordance with IAS 18 (AC 111) Revenue using the effective interest method.
An entity applies IAS 37 (AC 130) Provisions, Contingent Liabilities and Contingent Assets or other
Standards, as appropriate, to any liabilities that it retains after disposal of an investment property.
2.10.3 Compensation from third parties for impaired investment property
Compensation from third parties for investment property that was impaired, lost or given up shall be
recognised in profit or loss when the compensation becomes receivable.
Impairments or losses of investment property, related claims for or payments of compensation from third
parties and any subsequent purchase or construction of replacement assets are separate economic events
and are accounted for separately as follows:
(a) impairments of investment property are recognised in accordance with IAS 36 (AC 128);
(b) retirements or disposals of investment property are recognised in accordance with this Standard
(see 2.10.1-2 above);
(c) compensation from third parties for investment property that was impaired, lost or given up is
recognised in profit or loss when it becomes receivable; and
(d) The cost of assets restored, purchased or constructed as replacements is determined in accordance
with this Standard (see 2.5 above).
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ACN302-U/1
B. DISCLOSURE
2.11 FAIR VALUE MODEL AND COST MODEL - IAS 40 (AC 135).74-75
An entity shall disclose:
(a) whether it applies the fair value model or the cost model.
(b) if it applies the fair value model, whether, and in what circumstances, property interests held under
operating leases are classified and accounted for as investment property (not part of this model).
(c) when classification is difficult (see 2.3.3 above), the criteria it uses to distinguish investment property
from owner-occupied property and from property held for sale in the ordinary course of business.
(d) the methods and significant assumptions applied in determining the fair value of investment property,
including a statement whether the determination of fair value was supported by market evidence or
was more heavily based on other factors (which the entity shall disclose) because of the nature of the
property and lack of comparable market data.
(e) the extent to which the fair value of investment property (as measured or disclosed in the financial
statements) is based on a valuation by an independent qualified valuer who holds a recognised and
relevant professional qualification and has recent experience in the location and category of the
investment property being valued. If there has been no such valuation, that fact shall be disclosed.
(f) the amounts recognised in profit or loss for:
(i) rental income from investment property;
(ii) direct operating expenses (including repairs and maintenance) arising from investment property
that generated rental income during the period; and
(iii) direct operating expenses (including repairs and maintenance) arising from investment property
that did not generate rental income during the period.
(g) the existence and amount of restrictions on the realisability of investment property or the remittance
of income and proceeds of disposal.
(h) contractual obligations to purchase, construct or develop investment property or for repairs,
maintenance or enhancements.
2.12 FAIR VALUE MODEL - IAS 40 (AC 135).76- 78
In addition to the disclosures required above, an entity that applies the fair value model shall disclose a
reconciliation between the carrying amounts of investment property at the beginning and end of the
period, showing the following:
(a) additions, disclosing separately those additions resulting from acquisitions and those resulting from
subsequent expenditure recognised in the carrying amount of an asset;
(b) additions resulting from acquisitions through business combinations (not applicable to this module);
(c) assets classified as held for sale or included in a disposal group classified as held for sale in
accordance with IFRS 5 and other disposals;
80
(d) net gains or losses from fair value adjustments;
(e) the net exchange differences arising on the translation of the financial statements into a different
presentation currency, and on translation of a foreign operation into the presentation currency of the
reporting entity (not applicable to this module);
(f) transfers to and from inventories and owner-occupied property; and
(g) other changes.
When a valuation obtained for investment property is adjusted significantly for the purpose of the financial
statements, for example to avoid double-counting of assets or liabilities that are recognised as separate
assets and liabilities (as described in 2.7.2 above), the entity shall disclose a reconciliation between the
valuation obtained and the adjusted valuation included in the financial statements. It shall show separately
the aggregate amount of any recognised lease obligations that have been added back, and any other
significant adjustments.
In the exceptional cases (referred to in 2.7.3 above) when an entity measures investment property using
the cost model in IAS 16 (AC 123) Property, Plant and Equipment (because of the lack of a reliable fair
value), the reconciliation required above shall disclose amounts relating to that investment property
separately from amounts relating to other investment property. In addition, an entity shall disclose:
(a) a description of the investment property;
(b) an explanation of why fair value cannot be determined reliably;
(c) if possible, the range of estimates within which fair value is highly likely to lie; and
(d) on disposal of investment property not carried at fair value:
(i) the fact that the entity has disposed of investment property not carried at fair value;
(ii) the carrying amount of that investment property at the time of sale; and
(iii) the amount of gain or loss recognised.
2.13 COST MODEL - IAS 40 (AC 135).79
In addition to the disclosures required for the fair value model and the cost model (as described above in
2.11), an entity that applies the cost model shall disclose:
(a) the depreciation methods used;
(b) the useful lives or the depreciation rates used;
(c) the gross carrying amount and the accumulated depreciation (aggregated with accumulated
impairment losses) at the beginning and end of the period;
(d) a reconciliation of the carrying amount of investment property at the beginning and end of the period,
showing the following:
(i)
additions, disclosing separately those additions resulting from acquisitions and those resulting
from subsequent expenditure recognised as an asset;
(ii)
additions resulting from acquisitions through business combinations (not applicable to this
module);
81
ACN302-U/1
(iii) assets classified as held for sale or included in a disposal group classified as held for sale in
accordance with IFRS 5 and other disposals;
(iv) depreciation;
(v)
the amount of impairment losses recognised, and the amount of impairment losses reversed,
during the period in accordance with IAS 36 (AC 128) Impairment of Assets;
(vi) the net exchange differences arising on the translation of the financial statements into a different
presentation currency, and on translation of a foreign operation into the presentation currency
of the reporting entity(not applicable to this module);
(vii) transfers to and from inventories and owner-occupied property; and
(viii) other changes; and
(e) the fair value of investment property. In the exceptional cases when an entity cannot determine the
fair value of investment property reliably, the entity shall disclose:
(i)
a description of the investment property;
(ii)
an explanation of why fair value cannot be determined reliably; and
(iii) if possible, the range of estimates within which fair value is highly likely to lie.
82
2.14 DECISION DIAGRAM
The purpose of the following decision diagram is to summarise which Standards of Generally
Accepted Accounting Practice apply to the different types of property.
Is the property held for sale in the
ordinary course of business?
No
Yes
Use the Standard on property, plant and

equipment (cost or revaluation model)
Is the property being constructed or

developed?
No
Use the Standard on inventories
Is the property owner-occupied?
No
Yes
Yes

equipment (cost or revaluation model) until
completion
Cost model

equipment (cost model) with disclosure
from the Standard on investment property
The property is an investment property
Which model is chosen for all

investment properties?
Fair value model
Use the Standard on investment property
C TAX IMPLICATIONS
2.15 DEFERRED TAX AND CAPITAL GAINS TAX

Please note that this discussion follows from the assumption that students have already studied deferred
tax in the applicable study unit of the ACN311-V/ACN301-T module.
Refer to study unit 1, Part E: TAX IMPLICATIONS for a discussion on the implications of capital
gains tax and deferred tax on revaluations.
If the cost model is applied on investment property, the tax implications are exactly the same as for
property, plant and equipment under the cost model in accordance with IAS 16 (AC 123).
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ACN302-U/1
If the fair value model is applied on investment property, the deferred tax implications of fair value
adjustments are the same as for revaluations on property, plant and equipment under the revaluation
model in accordance with IAS 16 (AC 123). (However, remember that according to the fair value model
there will be no depreciation on investment property, which is different from the revaluation model where
a PPE-item shall be depreciated.)
The South African Revenue Service (SARS) does not distinguish between owner-occupied properties or
investment property. SARS only gives capital allowances on properties if they are utilised in a
manufacturing process or if the building is a hotel building or a residential building where the tenants are
also employees of the owner entity. There are no capital allowances on land or administration buildings
or any other residential buildings.
According to IAS 16 (AC 123) Property, Plant and Equipment all assets are depreciable, except for land.
The tax implications for land is governed by SIC-21 (AC 421) (refer to study unit 1) and is the only nondepreciable asset of which an increase in the accounting carrying amount (by way of revaluation or fair
value adjustment) will result in an exempt tax difference, namely 50% of the adjustment above cost/base
cost. The other 50% will be treated as a temporary difference. This means that adjustments above
cost/base cost on buildings that are non-depreciable for tax purposes but depreciable for accounting
purposes, for example, administrative and residential buildings, will be fully treated as temporary
differences.
The deferred tax implications of investment property are as follows:
COST MODEL
Land
No deferred tax - IAS 12

(AC 102).15 (c) (ii)
Administration building No deferred tax - IAS 12

(AC102).15 (c) (ii)
FAIR VALUE MODEL

15% (50% x 30%) on the fair value
adjustment - SIC-21 (AC 421)
(1) No intention to sell
30% on the fair value
adjustment
(2) Intention to sell
adjustment above base cost
adjustment up to cost price
84
COST MODEL
FAIR VALUE MODEL
(1) No intention to sell

Manufacturing building Deferred tax provided for on the
temporary difference between the tax
base and the carrying amount of asset
adjustment
@ 30%.
(2) Intention to sell
adjustment above base cost
adjustment up to cost price
2.16 SUMMARY OF TAX IMPLICATIONS

The following schematic diagram explains the tax implications in respect of investment properties which
are disclosed on the fair value model:
NON-DEPRECIABLE ASSET
Only land is non-depreciable - SIC-21(AC 421)
Realise only with the sale of the land
Provide for deferred tax at 15% (50% x 30%) on the fair value
adjustment above the base cost
85
ACN302-U/1
86
D
Example
Barocca Limited is a manufacturing company and its year-end is 30 June. The following details are
available relating to its fixed property:
1. Land situated at stand 88, Mayfair, with an original cost of R100 000, was originally bought on
1 April 20.3 without any specific future use. The intention was that the land will be sold if a quick profit
could be realised on it. The area in which the land is situated has become very popular and on
1 May 20.4 a property developer approached Barocca Limited to buy the land from it. The developer
offered Barocca Limited R280 000 for the piece of land. The fair value of this land on 30 June 20.3 was
R145 000. Barocca Limited has decided to accept the property developers offer.
2. Barocca Limited owns property in Sandton, situated at stand 33, which was originally purchased on
1 July 20.3 for R1 800 000. The value of the land at that date was R500 000 and the office building
R1 300 000. This property is rented out in full under a four year operating lease agreement since the
date of acquisition. There are two tenants occupying the building and the monthly rental receivable
from them is R10 000 and R18 000 respectively. Barocca Limited repainted the building during the
current year as part of its general maintenance programme for the building. The cost of repainting the
building amounted to R42 000. At year-end the fair value of this property was to be R2 010 000
(land R600 000 and building R1 410 000).
3. Barocca Limited owns property in Alberton, situated at stand 55, that is being constructed for future
use as an investment property. The cost of the land on 1 January 20.3 was R400 000. At
30 June 20.3, the construction costs to date amounted to R1 420 000. The construction of the office
building was completed on 30 November 20.3 and the total cost of constructing this building amounted
to R1 790 000 (this is also the fair value of the building). The fair value of the land on
30 November 20.3 was R450 000.
There was no abnormal wastage of materials. No depreciation is written off on the asset. Barocca
Limited was able to secure only one tenant for the new building by 30 June 20.4. Additional capital
expenditure of R38 000 was incurred during May 20.4 in order to secure this tenant. The office building
is leased out in terms of an operating lease agreement since 1 June 20.4 for the next five years. On
30 June 20.4 the fair value of the building was determined at R1 840 000 and that of the land at
R480 000.
4. Barocca Limited owns an office building in Randburg, situated at stand 11, that it occupies for its own
business purposes. The original cost (date of acquisition 1 July 20.1) of the property was R1 200 000,
of which R180 000 of the cost can be allocated to the land. The building is depreciated over 20 years.
There is no impairment of value applicable to this land and building. The residual value of the building
will remain at Rnil.
5. Barocca Limited applies the fair value model to its investment property and the cost model to its
property, plant and equipment.
6. All valuations were performed by P Taks of Val a Prop, a firm of independent sworn appraisers.
Mr Taks holds a recognised and relevant professional qualification and has recent experience in the
location and category of the investment property being valued. The fair values were determined by
reference to current market evidence. The most recent valuations were performed at year-end.
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ACN302-U/1
7. Profit before tax for the year ended 30 June 20.4, after taking into account the effect of all of the above
information, amounted to R500 000 (20.3 - R400 000).
8. The applicable tax rate is 30% (20.3 - 30%).
9. Deferred tax is provided on all temporary differences by using the balance sheet method. Only the
above information will have deferred tax implications for both years. All assets were acquired after
1 October 2001.
REQUIRED:
Disclose the above-mentioned information in the balance sheet of Barocca Limited on 30 June 20.4 and
in the notes for the year that ended on that date. Also disclose the note on revaluation surplus in the state
of recognised income and expenditure. Your answer must comply with the requirements of the Companys
Act, 1973 and Generally Accepted Accounting Practice.
Solution
BAROCCA LIMITED
BALANCE SHEET AT 30 JUNE 20.4.
Notes
20.4
R
20.3
R
1 047 000
2 918 000
4 330 000
145 000
ASSETS
Non-current assets
(867 000 + 180 000);(2 338 000 + 580 000)
Investment property
BAROCCA LIMITED
1. Accounting policies
The financial statements have been prepared on the historical cost basis, except for investment property
which are accounted at fair value. This comply with the requirements of Generally Accepted Accounting
Practice and the Companies Act, 1973. The principal accounting policies which are followed by the
company and which are consistent with those of the previous year are set out below.
Property, plant and equipment is shown at cost less accumulated depreciation and accumulated
impairment losses.
Land is not depreciated, but buildings are depreciated over their expected useful lives according to
the straight-line method at 5% per annum.
88
The rates are considered appropriate to reduce the carrying amounts of the assets to their estimated
residual values over their expected useful lives.
1.2 Investment property
Investment property is accounted for by using the fair value model. All property held to earn rentals
or for capital appreciation or both are classified as investment property.
1.3 Deferred tax
Deferred tax is provided on all temporary differences according to the balance sheet approach.
20.4
R
20.3
R
Profit before tax includes the following disclosable items:

Income
Profit on disposal of land (280 000 - 145 000)1
Rent received from investment property [(10 000 + 18 000) x 12]
135 000
336 000
Expenses
Direct operating expenses of investment property that generate rental
income - repairs and maintenance
Depreciation - buildings [(1 200 000 - 180 000) x 5%]
(42 000)
(51 000)
(51 000)
125 550
128 550
76 200
49 350
121 800
6 750
Accounting profit (given)
500 000
400 000
Tax at applicable rate at 30%

Non-taxable profits:
Capital gain on disposal of land [(90 000 - 22 500) x 30%]1
Fair value adjustment of investment property
Non-deductible expense:
Depreciation (calc 7)
150 000
120 000
(20 250)
(19 500)
(6 750)
15 300
15 300
Tax expense
125 550
128 550
20.4
R
20.3
R
Fair value adjustment (calc 2, 3, 4, 5);(calc 1)

Revaluation (calc 4)
(56 100)
(7 500)
(6 750)
-
Deferred tax asset/(liability)
(63 600)
(6 750)
3. Tax expense
SA normal tax
- Deferred tax (calc 8)
Tax reconciliation
4. Deferred tax
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ACN302-U/1

Land
Additions
Revaluation (property 3)
Transfer to investment property (property 3)
20.4
R
20.3
R
580 000
50 000
(450 000)
180 000
400 000
-
180 000
580 000
At 30 June 20.4 freehold land consist of:
Stand 11, Randburg with an administration building theron. Land was purchased on 1 July 20.1 for
R180 000. The revaluation, performed by an independent sworn appraiser, P Taks, was based on
current market prices and occurred on 30 November 20.3 prior to the transfer of the land to investment
property.
Buildings
20.4
R
20.3
R
2 338 000
969 000
Gross carrying amount (property 3 and 4); (property 4)

Accumulated depreciation (property 4)
2 440 000
(102 000)
1 020 000
(51 000)
370 000
(51 000)
(1 790 000)
1 420 000
(51 000)
-
867 000
2 338 000
1 020 000
(153 000)
2 440 000
(102 000)
Additions (1 790 000 - 1 420 000) (property 3)

Depreciation for the year
Transfer to investment properties (property 3)
At 30 June 20.4 buildings consist of:
Administration building on stand 11, Randburg. Cost price on 1 July 20.1 was R1 020 000.
6. Investment property
Land and buildings
20.4
R
20.3
R
Carrying amount at beginning of year (property 1)

Additions resulting from acquisitions (property 2); (property 1)
Transfer from property, plant and equipment (property 3)
Additions resulting from recognised subsequent expenditure (property 3)
Fair value adjustments (calc 2, 3, 4, 5); (calc 1)
Disposal (property 1) (calc 1)
145 000
1 800 000
2 240 000
38 000
252 000
(145 000)
100 000
45 000
-
4 330 000
145 000
At 30 June 20.4 investment property consist of:
Land situated at stand 33, Sandton, with an office building. Purchased on 1 July 20.3 for R1 800 000.
The office building is leased out in terms of a four year operating lease since 1 July 20.3.
90
Land situated at stand 55, Alberton, with an office building. Cost of land on 1 January 20.3 was
R400 000 and building construction completed on 30 November 20.3 for R1 790 000. Additional capital
expenditure in May 20.4 was incurred for R38 000. The office building is leased out in terms of a five
year operating lease since 1 June 20.4.
The investment property were valued by P Taks, an independent sworn appraiser who has recent
experience in the location and category of the property valued. The fair values were determined by
reference to current market evidence. The most recent valuation was performed on 30 June 20.4.
20.4
R
Revaluation of land (property 3 on transfer to investment property)
Deferred tax on revaluation (calc 4)
20.3
R
50 000
(7 500)
42 500
CALCULATIONS
1. Property 1 - Land
Fair
value
adjustment
R
Tax
base
R
R
Deferred
tax asset/
(liability)
R
Total
R
Cost
R
Cost 1 April 20.3

Fair value adjustment
100 000
45 000
100 000
-
45 000
100 000
-
45 000
(6 750)
Carrying amount 30 June 20.3
145 000
100 000
45 000
100 000
45 000
(6 750)
(145 000)
(100 000)
(45 000)
(100 000)
(45 000)
6 750
Disposal
Tax
base
R
R
Deferred
tax asset/
(liability)
R
Total
R
Cost
R
Fair
value
R
Cost 1 July 20.3

500 000
100 000
500 000
-
100 000
500 000
-
100 000
(15 000)
600 000
500 000
100 000
500 000
100 000
(15 000)
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3. Property 2 - Office building

Fair
value
R
Tax
base
R
R
Deferred
tax asset/
(liability)
R
Total
R
Cost
R
Cost 1 July 20.3

1 300 000
110 000
1 300 000
-
110 000
1 300 000
-
110 000
(33 000)
1 410 000
1 300 000
110 000
1 300 000
110 000
(33 000)
Tax
base
R
R
Deferred
tax asset/
(liability)
R
Total
R
Cost
R
Revaluation /
Fair value
R

Revaluation 30 November 20.3
400 000
50 000
400 000
-
50 000
400 000
-
50 000
(7 500)
Carrying amount transferred

450 000
30 000
400 000
-
50 000
30 000
400 000
-
50 000
30 000
(7 500)
(4 500)
480 000
400 000
80 000
400 000
80 000
(12 000)
5. Property 3 - Building
Tax
base
R
R
Deferred
tax asset/
(liability)
R
1 420 000
370 000
Total
R
Cost
R
Fair
value
R

Additions
1 420 000
370 000
1 420 000
370 000
Carrying amount transferred

Additions
1 790 000
38 000
12 000
1 790 000
38 000
-
12 000
1 790 000
38 000
-
12 000
(3 600)
1 840 000
1 828 000
12 000
1 828 000
12 000
(3 600)
Total
R
Cost
R
Fair
value
R
Tax
base
R
R
Deferred
tax asset/
(liability)
R
180 000
180 000
180 000
180 000
180 000
180 000
92
7. Property 4 - Building
Total
R
Cost
R
Fair
value
R
Tax
base
R
Exempt
difference
R
Deferred
tax asset/
(liability)
R

Depreciation
918 000
(51 000)
918 000
(51 000)
102 000
51 000
867 000
867 000
153 000
8. Deferred tax balance

20.4
R
dr/(cr)
20.3
R
dr/(cr)
Property 1 - Land
Property 2 - Land
Property 2 - Building
Property 3 - Land
Property 4 - Land
(15 000)
(33 000)
(12 000)
(3 600)
-
(6 750)
-
(63 600)
(6 750)
9. Tax expense
20.4
R
20.3
R
500 000
51 000
400 000
51 000
(65 000)
(67 500)
(22 500)
-
418 500
(164 500)
428 500
(22 500)
(164 500)
(22 500)
- Property 1 reversal (with sale) and originating (45 000 x 50%) 2

- Property 2 and 3 - land [(100 000 + 30 000) x 50%]
- Property 2 and 3 - buildings (110 000 + 12 000)
22 500
(65 000)
(122 000)
(22 500)
-
254 000
406 000
Current tax at 30%
76 200
121 800
Deferred tax at 30% on temporary differences - dr to I/S
49 350
6 750

Non-deductible expense: depreciation - Property 4
Non-taxable profits:
Fair value adjustments: land
- Property 1 (45 000 x 50%)
- Property 2 and 3 [(100 000 + 30 000) x 50%]
Profit on disposal - Property 1
[(280 000 - 145 000 (carrying amount)) x 50%] 1
Taxable income
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Test for deferred tax calculation

R
Total deferred tax movement (calc 8) (63 600 - 6 750)

Less: deferred tax movement in balance sheet (calc 4 revaluation)
56 850
(7 500)
6 750
-
Deferred tax movement (dr to I/S)
49 350
6 750
Comment
1
Property 1 was sold during the year. The profit on disposal of R135 000 (280 000 -145 000 (carrying
amount)) is included in the given accounting profit. Since only 50% of capital gains are taxed, it
follows that 50% should be deducted from the accounting profit (i.e. 50% of the capital gain is
included in taxable income). The total capital gain is R280 000 (selling price) less R100 000 (base
cost) = R180 000. R90 000 (180 000 x 50%) is included in taxable income on which tax of R27 000
(90 000 x 30%) is payable. R22 500 of the R90 000 (fair value adjustment of 45 000 x 50%) was
deducted in 20.3 as an exempt difference (i.e. the 50% portion of the capital gain that is not taxed).
To prevent a double deduction of the R22 500, only R67 500 (90 000 - 22 500) can be deducted
in 20.4 as an exempt difference.
In 20.3 only 50% of the capital gain was included as an originating temporary difference in the
calculation of deferred tax. Since the asset was sold during 20.4 there could no longer be a deffered
tax balance in respect of this asset in the records of the enity at the end of 20.4. The R22 500
created in 20.3 should therefore be reversed in 20.4.
Example
The following information refers to the fixed assets of Investors Limited for the year ended
31 December 20.3:
R
Land, stand 181 Walkerville (purchased on 1 January 20.3)
Office building thereon (purchased on 1 January 20.3)
Improvements to the building (up to 28 February 20.3)
Rental income received
Repairs and maintenance
800 000
2 100 000
400 000
200 000
50 000
The building is used as Investors Limiteds administration building. The company occupies only 5% of the
floor space. The remainder of the building is leased out under an operating lease for R20 000 per month
from 1 March 20.3.
On 31 December 20.3, the financial year-end of Investors Limited, Mr Worthy, an independent sworn
appraiser who holds a recognised and relevant professional qualification and has recent experience in the
location and category of the property being valued, valued the property at the following fair values:
R
Land
Building
1 000 000
2 600 000
The valuation is based on current market prices for similar property in the Walkerville area in the same
condition and subject to similar lease and other contracts.
94
Investors Limited applies IAS 40 (AC 135) Investment Property on its investment property according to the
fair value model.
The company shows a profit before tax of R450 000, including all the above information, for the year ended
31 December 20.3. Deferred tax is provided for on all temporary differences according to the balance sheet
approach. There are no other items to be considered for deferred tax. The current income tax rate is 30%.
Accept that the cost price of the property is equal to the base cost.
REQUIRED:
Disclose the following notes to the financial statements of Investors Limited for the year ended
31 December 20.3. Your answer must comply with the requirements of the Companies Act, 1973 and
Generally Accepted Accounting Practice:
1.
2.
3.
4.
5.
Accounting policy note on investment property

Profit before tax
Income tax expense, including the tax reconciliation
Deferred tax
Investment property
Solution
INVESTORS LIMITED
1.1 Investment property
Investment property is accounted for by using the fair value model. All properties held to earn rental
income are classified as investment property.
Profit before tax includes the following items:
20.3
R
Income
Rent received from investment property (R20 000 x 10 months)
Expenses
Direct operating expenses of investment property that generates rental income (repairs and
maintenance)
200 000
50 000
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3. Tax expense
SA normal tax expense

- Current tax expense (calc 1)
- Deferred tax expense (calc 1, 2)
20.3
R
105 000
45 000
60 000
Tax reconciliation:
Accounting profit
450 000
Tax at standard rate of 30% (450 000 x 30%)

Tax effect of non-taxable profit:
Capital gain on fair value adjustment of land (100 000 x 30%)
135 000
Tax expense
105 000
(30 000)
4. Deferred tax
20.3
R
Land - fair value adjustment (calc 2)
Building - fair value adjustment (calc 2)
30 000
30 000
60 000
5. Investment property
20.3
R
Additions from acquisitions (800 000 + 2 100 000)
Additions from subsequent expenditure recognised (given)
Net gains from fair value adjustment (1 000 000 + 2 600 000 - 2 900 000 - 400 000)
2 900 000
400 000
300 000
3 600 000
Investment property consists of:
Land situated at stand 181, Walkerville with an office building thereon. The property is leased out in
terms of an operating lease.
The fair value of the investment property as disclosed in the financial statements was based on a valuation
by an independent valuer, mr Worthy, who holds a recognised and relevant professional qualification and
has recent experience in the location and category of the valued investment property.
The fair value was determined based on current prices in an active market for similar property in the same
location and condition and subject to similar lease and other contracts.
96
CALCULATIONS
1. Tax expense
20.3
R
Profit before tax
Exempt/permanent differences
450 000
(100 000)
- Fair value adjustment (land) [50% x (1 000 000 - 800 000)]
(100 000)1
(200 000)
- Fair value adjustments (building) (2 600 000 - 2 500 000)

- Building allowance
- Fair value adjustment (land) [50% x (1 000 000 - 800 000)]
(100 000)
(100 000)1
Taxable income
150 000
Current tax @ 30%
45 000
Deferred tax movement @ 30% (200 000 x 30%) - dr to I/S
60 000
Comment
50% of the fair value adjustment of land above base cost is not taxable. It is therefore an
exempt/permanent difference.
2. Deferred tax
Land (stand 181)

Building (investment)
Tax base
R
Exempt/
permanent
difference
R
Temporary
differences
R
Deferred
tax asset/
(liability)
R
1 000 000
2 600 000
800 000
2 500 000
100 0001
-
100 0001
100 000
(30 000)
(30 000)
3 600 000
3 300 000
100 000
200 000
(60 000)
Carrying
amount
R
Deferred tax balance beginning of year

Deferred tax liability end of year
60 000
Deferred tax movement (dr to I/S)
60 000
97
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Comment
If there is an upward fair value adjustment of land, deferred tax is provided for at 15% (50% x 30%)
on the surplus above base cost. This happens irrespective of whether or not there is any intension to
dispose of the land or not, as the carrying amount of the land (a non-depreciable asset) can only be
recovered by means of a sale.
ASSESSMENT CRITERIA
define an investment property and differentiate it from owner-occupied property or property held as
inventory;
describe and apply the accounting treatment specific to an investment property;
accurately account for the transfer of property between the different categories;
accurately calculate and apply the tax and deferred tax implications of investment property;
properly disclose investment property and its tax implications in the financial statements of a
company in accordance with Generally Accepted Accounting Practice.
98
STUDY
UNIT
3
IMPAIRMENT OF ASSETS (EXCLUDING CASH GENERATING UNITS) - IAS 36 (AC 128)
LEARNING OUTCOME 3
Once you have studied and completed this study unit, you should be able to:
identify and calculate the impairment of assets and business units
properly disclose such impairment in the financial statements of the company in terms of the
requirements of Generally Accepted Accounting Practice.

3.1
3.2
3.2.1
3.2.2
3.2.3
3.3
3.4
3.5
3.6
3.6.1
3.6.2
3.7
3.8
3.9
3.10
3.10.1
3.10.2
3.11
What is impairment?
When does impairment take place?
External sources of information
Internal sources of information
Evidence from internal reporting indicating that an asset may be impaired
When should impairment be applied?
How to calculate an impairment loss
What about goodwill?
What happens if the asset was impaired in prior years, but it is now worth much more?
External sources of information
Internal sources of information
Reversal of an impairment loss - individual assets
Reversal of an impairment loss for goodwill
What is the tax implications?
Disclosure
Financial statement detail
Additional disclosure required
Comprehensive examples
STUDY:
1. International Financial Reporting Standards (IFRSs)
IAS 36 - Impairment of Assets (issued 31 March 2004).
99
ACN302-U/1
3.1 WHAT IS IMPAIRMENT?

Impairment will occur when the carrying amount of the asset in the books of the entity exceeds the assets
recoverable amount. This will lead to an impairment loss.
The impairment loss may be reversed if there is any indication that an impairment loss recognised for an
asset in prior years may no longer exist or may have decreased. (Refer to 3.6.)
3.2 WHEN DOES IMPAIRMENT TAKE PLACE?

An asset is impaired when the carrying amount of the asset exceeds its recoverable amount. An entity
should assess at each reporting date (balance sheet date) whether or not there is any indication that an
asset may be impaired. If any such indication exists, the entity should estimate the recoverable amount
of the asset. (IAS 36 (AC 128).08 - .09)
If there is no indication of a potential impairment loss then the statement does not require an entity to make
a formal estimate of the recoverable amount.
Irrespective of whether there is any indication of impairment, an entity shall also:
test an intangible asset with an indefinite useful life or intangible asset not yet available for use for
impairment annually by comparing its carrying amount with its recoverable amount;
test goodwill acquired in a business combination for impairment annually.
In assessing whether or not there is any indication that an asset may be impaired, an entity should
consider, as a minimum, the following indications:
3.2.1 External sources of information (IAS 36 (AC 128).12)
During the period, an asset's market value has declined significantly more than would be expected as
a result of the passage of time or normal use.
Significant changes with an adverse effect on the entity have taken place during the period, or will take
place in the near future, in the technological, market, economic or legal environment in which the entity
operates or in the market to which an asset is dedicated.
Market interest rates or other market rates of return on investments have increased during the period,
and those increases are likely to affect the discount rate used in calculating an asset's value in use and
decrease the asset's recoverable amount materially.
The carrying amount of the net assets of the reporting entity is more than its market capitalisation.
3.2.2 Internal sources of information (IAS 36 (AC 128).12)
Evidence is available of obsolescence or physical damage of an asset.
Significant changes with an adverse effect on the entity have taken place during the period, or are
expected to take place in the near future, in the extent to which, or manner in which, an asset is used
or is expected to be used. These changes include the asset becoming idle, plans to discontinue or
restructure the operation to which an asset belongs, plans to dispose of an asset before the previously
expected date, and reassessing the useful life of an asset as finite rather than indefinite.
100
Evidence is available from internal reporting that indicates that the economic performance of an asset
is, or will be, worse than expected.
3.2.3 Evidence from internal reporting indicating that an asset may be impaired (IAS 36
(AC 128).14)
Evidence from internal reporting indicating that an asset may be impaired includes the existence of:
cash flows for acquiring the asset or subsequent cash needs for operating or maintaining it, that are
significantly higher than those originally budgeted;
actual cash flows or operating profit or loss flowing from the asset that are significantly worse than those
budgeted;
a significant decline in budgeted net cash flows or operating profit or a significant increase in budgeted
loss, flowing from the assets; or
operating losses or net cash outflows for the asset, when current period figures are aggregated with
budgeted figures for the future.
The list is not comprehensive.
The concept of materiality applies in identifying whether or not the recoverable amount of an asset needs
to be estimated. For example, if previous calculations show that an assets recoverable amount is
significantly greater than its carrying amount, the entity need not re-estimate the assets recoverable
amount if no events have occurred that would eliminate that difference. Similarly, previous analysis may
show that an assets recoverable amount is not sensitive to one or more of the indicators of possible
impairments. (IAS 36 (AC 128).15)
As an illustration of the above, if market interest rates or other market rates of return on investment have
increased during the period, an entity is not required to make a formal estimate of an assets recoverable
amount in the following cases:
if the discount rate used in calculating the assets value in use is unlikely to be affected by the increase
in these market rates. For example, increase in short-term interest rates may not have a material effect
on the discount rate used for an asset that has a long remaining useful life.
if the discount rate used in calculating the assets value in use is likely to be affected by the increase in
these market rates but previous sensitivity analysis of recoverable amount shows that:
S it is unlikely that there will be a material decrease in recoverable amount because future cash
flows are also likely to increase (eg in some cases, an entity may be able to demonstrate that it
adjusts its revenues to compensate for any increase in market rates; or
S the decrease in recoverable amount is unlikely to result in a material impairment loss.
(IAS 36 (AC 128).16)
If there is an indication that an asset may be impaired, this may indicate that the remaining useful life, the
depreciation (amortisation) method or the residual value for the asset needs to be reviewed and adjusted
in accordance with the Standard applicable to the asset, even if no impairment loss is recognised for the
asset. (IAS 36 (AC 128).17)
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3.3 WHEN SHOULD IMPAIRMENT BE APPLIED?

This Standard shall be applied in accounting for the impairment of all assets other than:
S inventories,
S construction contracts,
S deferred tax assets,
S assets arising from employee benefits,
S financial assets that are included in the scope of the statement on financial instruments: disclosure and
presentation,
S investment property that is measured at fair value,
S biological assets related to agricultural activity that are measured at fair value less estimated point-ofsale costs,
S deferred acquisition costs, and intangible assets, arising from an insurers contractual rights under
insurance contracts, and
S non-current assets (or disposal groups) classified as held for sale. (IAS 36 (AC 128).02)
The recognition and measurement of these assets are dealt with by specific applicable Standards.
This Standard applies to financial assets classified as:
investments in subsidiaries, associates and joint ventures as they are excluded from the scope of the
Standard on financial instruments: disclosure and presentation; (IAS 36 (AC 128).04)
assets that are carried at revalued amounts in accordance with other Standards such as the revaluation
model in IAS 16 Property, Plant and Equipment. (IAS 36 (AC 128).05)
A cash-generating unit (not part of this module)
The smallest identifiable group of assets that generates cash inflows from continuing use that are largely
independent of the cash inflows from other assets or groups of assets. (IAS 36 (AC 128).06)
Corporate assets (not part of this module)
Assets other than goodwill that contribute to future cash flows of both the cash-generating unit under review and other cash generating units. It includes group or divisional assets such as a building of a
headquarter or a division of the entity, EDP equipment or a research centre. Corporate assets do not
generate cash inflows independently from other assets or group of assets. (IAS 36 (AC 128).06)
102
3.4 HOW TO CALCULATE AN IMPAIRMENT LOSS
Step 1: Understand the basic principal
After identifying an asset that may be impaired at balance sheet date (refer to 3.2), the impairment loss
must be calculated.
Definitions:
Impairment loss
Carrying amount
Less
Recoverable amount
The higher of an assets fair value less
costs to sell4 and its value in use.5
The amount at which an asset is

recognised in the balance sheet after
deducting any accumulated
depreciation (amortisation) 1 and
accumulated impairment losses
thereon. (IAS 36 (AC 128).06)
1
Depreciation (amortisation)
The systematic allocation of the depreciable

amount2 of an asset over its useful life3. Note:
in the case of an intangible asset, the term
amortisation is generally used instead of
depreciation. Both terms have the same
meaning.
2
Depreciable amount
The amount obtainable from the sale of an

asset in an arms length transaction
between acknowledgeable, willing parties,
less the costs of disposal.6
The cost of an asset, or other amount

substituted for cost in the financial
statements, less its residual value.
3
Useful life is either:
the period of time over which an asset is

expected to be used by the entity; or
the number of production or similar units

expected to be obtained for the asset by
the entity.
Fair value less costs to sell
Value in use
The present value of future cash flows
expected to be derived from an asset.
Costs of disposal
Incremental costs directly attributable to
the disposal of an asset, excluding finance
costs and income tax expense. Examples
of costs are legal costs, stamp duty,
transaction taxes, costs of removing the
asset and direct incremental costs to bring
an asset into condition for sale.
Step 2: Calculate the assets carrying amount

Refer to Study unit 1 of your study material where the calculation of carrying amounts is discussed in
detail.
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Step 3: Calculate the assets recoverable amount

The recoverable amount is the higher of an assets fair value less costs to sell and its value in use. (IAS 36
(AC 128).18)
It is not always necessary to determine both an assets fair value less costs to sell and its value in use. For
example, if either of these amounts exceeds the assets carrying amount, the asset is not impaired. (IAS 36
(AC 128).19)
If there is no reason to believe that an assets value in use materially exceeds its fair value less costs to
sell, the assets recoverable amount may be taken to be its fair value less costs to sell. This will often be
the case for an asset that is held for disposal. This is because the value in use of an asset held for disposal
will consists mainly of the net disposal proceeds as the future cash flows from continuing use of the asset
until its disposal are likely to be negligible. (IAS 36 (AC 128).21)
A. Fair value less costs to sell is determined by:
a binding sale agreement in an arms length transaction adjusted for incremental costs of disposal.
(IAS 36 (AC 128).25); or
if the asset is traded in an active market, the current market price less the costs of disposal
(IAS 36 (AC 128).26); or
based on the best available information of the most recent transaction(s) for similar assets within the
same industry. Please note that fair value less costs to sell does not reflect a forced sale unless
management is compelled to sell immediately. (IAS 36 (AC 128).27)
B. Value in use
The following elements shall be reflected in the calculation of an assets value in use:
an estimate of the future cash flows the entity expects to derive from the asset;
expectations about possible variations in the amount or timing of those future cash flows;
the time value of money, represented by the current market risk-free rate of interest;
the price for bearing the uncertainty inherent in the asset; and
other factors, such as illiquidity, that market participants would reflect in pricing the future cash flows
the entity expects to derive from the asset. (IAS 36 (AC 128).30)
Estimating the value in use of an asset involves the following steps:
estimating the future cash inflows and outflows to be derived from the continuing use of the asset and
from its ultimate disposal; and
applying the appropriate discount rate to these future cash flows. (IAS 36 (AC 128).31)
The elements identified above can be reflected either as adjustments to the future cash flows or as
adjustments to the discount rate. (IAS 36 (AC 128).32)
104
The basis for estimates of future cash flows in measuring value in use:
cash flow projections shall be based on reasonable and supportable assumptions that represent
management's best estimate of the set of economic conditions that will exist over the remaining useful
life of the asset. Greater weight should be given to external evidence;
cash flow projections shall be based on the most recent financial budgets/forecasts that have been
approved by management, but shall exclude any estimated future cash inflows or outflows expected
to arise from future restructurings or from improving or enhancing the assets performance. Projections
based on these budgets/forecasts shall cover a maximum period of five years, unless a longer period
can be justified.
cash flow projections beyond the period covered by the most recent budgets/forecasts shall be
estimated by extrapolating the projections based on the budgets/forecasts using a steady or declining
growth rate for subsequent years unless an increasing rate can be justified. (IAS 36 (AC 128).33)
Management must assess the reasonableness of the assumptions on which its current cash flow
projections are based by examining the causes of differences between past cash flow projections and
actual cash flows.
In using information from financial budgets/forecasts, an entity considers whether or not the information
reflects reasonable and supportable assumptions, and represents managements best estimates of the
set of economic conditions that will exist over the remaining useful life of the asset. (IAS 36 (AC 128).38)
Estimates of future cash flows shall include:
projections of cash inflows from the continuing use of the asset;
projections of cash outflows that are necessarily incurred to generate the cash inflows from continuing
use of the asset and that can be directly attributed, or allocated on a reasonable and consistent basis
to the asset; and
net cash flows, if any, to be received (or paid) for the disposal of the asset at the end of its useful life.
(IAS 36 (AC 128).39)
To avoid double counting, estimates of future cash flows do not include:
cash inflows from assets that generate cash inflows from continuing use that are largely independent
of cash inflows from the asset under review (for example receivables);
cash outflows that relate to obligations that have already been recognised as liabilities (for example
payables, pensions and provisions). (IAS 36 (AC 128).43)
Future cash flows shall be estimated for the asset in its current condition. Estimates of future cash flows
shall not include estimated cash inflows or outflows that are expected to arise from:
a future restructuring to which an entity is not yet committed; or
improving or enhancing the assets performance. (IAS 36 (AC 128).44)
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Estimates of future cash flows shall not include:
cash inflows or outflows from financing activities; or
income tax receipts or payments. (IAS 36 (AC 128).50)
The estimate of net cash flows to be received (or paid) for the disposal of an asset at the end of its useful
life shall be the amount that the entity expects to obtain from the disposal of the asset in an arms length
transaction between knowledgeable willing parties after deducting the estimated costs of disposal. (IAS 36
(AC128).52)
C. Discount rate
The discount rate (or rates) shall be a pre-tax rate (or rates) that reflect(s) current market assessments
of:
the time value of money and
the risk specific to the asset for which future cash flow estimates have not been adjusted. (IAS 36
(AC 128).55)
A rate that reflects current market assessments of the time value of money and the risks specific to the
asset is the return that investors would require if they were to choose an investment that would generate
cash flows of amounts, timing and risk profile equivalent to those that the entity expects to derive from the
asset. This rate is estimated from the rate implicit in current market transactions for similar assets or from
the weighted average cost of capital of a listed entity that has a single asset (or a portfolio of assets)
similar in terms of service potential and risks to the asset under review. However, the discount rate(s) used
to measure an assets value in use shall not reflect risks for which the future cash flows estimates have
been adjusted. (IAS 36 (AC 128).56)
When an asset-specific rate is not directly available from the market, an entity uses surrogates to estimate
the discount rate. (IAS 36.57)
As a starting point in making such an estimate, the entity might take the following into account:
the entitys weighted average cost of capital determined using techniques such as the Capital Asset
Pricing Model;
the entitys incremental borrowing rate; and
other market borrowing rates. (IAS 36 Appendix A.A17)
These rates are adjusted:
to reflect the way that the market would assess the specific risks associated with the projected cash
flows; and
to exclude risks that are not relevant to the projected cash flow.
Consideration is given to risks such as country risk, currency risk, price risk and cash flow risk. (IAS 36
(AC 128) Appendix A.A18)
The discount rate is independent of the entitys capital structure and the way the entity financed the
purchase of the asset. (IAS 36 (AC 128) Appendix A.A19)
106
An entity normally uses a single discount rate for the estimate of an assets value in use. However, an
entity uses separate discount rates for different future periods where value in use is sensitive to a
difference in risk for different periods or to the term structure of interest rates. (IAS 36 (AC 128)
Appendix A.A21)
Step 4: Recognise the impairment loss in the financial statements
If, and only if, the recoverable amount of an asset is less than its carrying amount, the carrying amount of
the asset shall be reduced to its recoverable amount. That reduction is referred to as an impairment loss.
(IAS 36 (AC 128).59)
An impairment loss shall be recognised immediately in profit or loss, unless the asset is carried at revalued
amount under another Standard (for example, in accordance with the revaluation model in IAS 16 (AC 123)
Property, Plant and Equipment). Any impairment loss of a revalued asset shall be treated as a revaluation
decrease under that other Standard. (IAS 36 (AC 128).60)
An impairment loss on a non-revalued asset is recognised in profit or loss. However, an impairment loss
on a revalued asset is recognised directly against any revaluation surplus for the asset to the extent that
the impairment loss does not exceed the amount held in the revaluation surplus for that same asset.
(IAS 36 (AC 128).61)
When the amount estimated for an impairment loss is greater than the carrying amount of the asset to
which it relates, an entity shall recognise a liability if and only if, it is required by another Standard. (IAS 36
(AC 128).62). This, however, falls outside the scope of this module.
After the recognition of an impairment loss, the depreciation (amortisation) charge for the asset shall be
adjusted in future periods to allocate the assets revised carrying amount, less its residual value (if any),
on a systematic basis over its remaining useful life. (IAS 36 (AC 128).63)
If an impairment loss is recognised, any related deferred tax assets or liabilities are determined in
accordance with IAS 12 (AC 102) Income Taxes, by comparing the revised carrying amount of the asset
with its tax base. (IAS 36 (AC 128).64).
Journal entry for asset that is carried at cost less accumulated depreciation:
Date
Description
Impairment loss (I/S)
Accumulated impairment loss (B/S)
Dr
Cr
XXXXX
XXXXX
Recording of impairment loss of asset where no revaluation

was done on asset
Journal entry for asset that is carried at revalued amount:
Revaluation surplus
Accumulated impairment loss
Impairment following a revaluation from previous year. The
impairment will first reduce the revaluation surplus to the
extent that the impairment loss does not exceed the amount
held in the revaluation surplus. The rest is an impairment loss
recognised in profit or loss.
XXXXX
XXXXX
XXXXX
107
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3.5 WHAT ABOUT GOODWILL?

For the purpose of impairment testing, goodwill acquired in a business combination shall from the
acquisition date, be allocated to each of the acquirers cash-generating units, or groups of cash-generating
units that are expected to benefit from the synergies of the combination, irrespective of whether other
assets or liabilities of the acquiree are assigned to those units or groups of units. Each unit or group of
units to which the goodwill is so allocated shall:
represent the lowest level within the entity at which the goodwill is monitored for internal management
purposes; and
not be larger than a segment based on either the entitys primary or the entitys secondary reporting
format determined in accordance with IAS 14 (AC 117) Segment Reporting. (IAS 36 (AC 128).80).
Goodwill acquired in a business combination represents a payment made by an acquirer in anticipation

of future economic benefits from assets that are not capable of being individually identified and separately
recognised. Goodwill does not generate cash flows independently of other assets or groups of assets, and
often contributes to the cash flows of multiple cash-generating units1. Goodwill sometimes cannot be
allocated on a non-arbitrary basis to individual cash-generating units, but only to groups of cash-generating
units. As a result, the lowest level within the entity at which the goodwill is monitored for internal
management purposes sometimes comprises a number of cash-generating units to which the goodwill
relates, but to which it cannot be allocated. (IAS 36 (AC 128).81)
Although cash-generating units fall outside the scope of this module it is important that you take note of
the following basic concepts:
goodwill shall be allocated to each of the acquirers cash-generating units or group of cash-generating
units that are expected to benefit from the synergies of the business combination (IAS 36
(AC 129).80), and
goodwill shall be tested for impairment annually and an impairment loss recognised accordingly.
(IAS 36 (AC 128).10(b))
3.6 WHAT HAPPENS IF THE ASSET WAS IMPAIRED IN PRIOR YEARS, BUT IS NOW WORTH
MUCH MORE?
This may lead to a reversal of an impairment loss
An entity shall assess at each reporting date whether or not there is any indication that an impairment loss
recognised for an asset in prior years may no longer exist or may have decreased. If any such indication
exists, the entity shall estimate the recoverable amount of that asset. (IAS 36 (AC 128).110)
In assessing whether or not there is any indication that an impairment loss recognised for an asset in prior
years may no longer exist or may have decreased, an entity shall consider, at a minimum, the following
indications:
3.6.1 External sources of information
The asset's market value has increased significantly during the period.
Significant changes with a favourable effect on the entity have taken place during the period, or will
take place in the near future, in the technological, market, economic or legal environment in which the
entity operates or in the market to which the asset is dedicated.
Market interest rates or other market rates of return on investments have decreased during the period,
and those decreases are likely to affect the discount rate used in calculating the asset's value in use
and increase the asset's recoverable amount materially.
108
3.6.2 Internal sources of information
Significant changes with a favourable effect on the entity have taken place during the period, or are
expected to take place in the near future, in the extent to which, or manner in which, the asset is used
or is expected to be used. These changes include capital expenditure that has been incurred during
the period to improve or enhance an asset in excess of its originally assessed standard of performance
or a commitment to discontinue or restructure the operation to which the asset belongs.
Evidence is available from internal reporting that indicates that the economic performance of the asset
is, or will be, better than expected. (IAS 36 (AC 128).111)
If there is an indication that an impairment loss recognised for an asset other than goodwill may no longer
exist or may have decreased, this may indicate that the remaining useful life, the depreciation
(amortisation) method or the residual value may need to be reviewed and adjusted in accordance with the
Standard applicable to the asset, even if no impairment loss is reversed for the asset. (IAS 36
(AC 128).113)
3.7 REVERSAL OF AN IMPAIRMENT LOSS - INDIVIDUAL ASSETS
An impairment loss recognised for an asset in prior years shall be reversed if, and only if, there has been
a change in the estimates used to determine the asset's recoverable amount since the last impairment loss
was recognised. If this is the case, the carrying amount of the asset shall be increased to its recoverable
amount. That increase is a reversal of an impairment loss. (IAS 36 (AC 128).114)
A reversal of an impairment loss reflects an increase in the estimated service potential of an asset, either
from use or from sale, since the date when an entity last recognised an impairment loss for the asset.
Please remember to distinguish a change in estimate from other reasons for the increase in the assets
value. Examples of changes in estimates are:
a change in the basis of the recoverable amount (i.e. whether the recoverable amount is based on fair
value less costs to sell or value in use);
a change in the amount or timing of estimated future cash flows or in discount rate if the recoverable
amount was based on value in use;
a change in estimate of the components of fair value less costs to sell, if the recoverable amount was
based on the fair value less costs to sell. (IAS 36(AC 128).115)
An assets value in use may become greater than the carrying amount simply because the present value
of future cash inflows increases as they become closer. However, the service potential of the asset has
not increased. The impairment loss should not be reversed just because of the passage of time. (IAS 36
(AC 128).116)
The increased carrying amount of an asset other than goodwill due to a reversal of an impairment
loss shall not exceed the carrying amount that would have been determined (net of amortisation
or depreciation) had no impairment loss been recognised for the asset in prior years. The amount
in excess of what the original carrying amount would have been, is a revaluation. In accounting for such
a revaluation, an entity applies the Standard applicable to the asset. (IAS 36 (AC 128).117 - .118)
A reversal of an impairment loss for an asset shall be recognised immediately in profit or loss, unless the
asset is carried at a revalued amount. Any reversal of an impairment loss on a revalued asset shall be
treated as a revaluation increase in accordance with the other Standard (IAS 36 (AC 128).119)
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ACN302-U/1
A reversal of an impairment loss on a revalued asset is credited directly to equity under the heading
revaluation surplus. However, to the extent that an impairment loss on the same revalued asset was
previously recognised in profit or loss, a reversal of that impairment loss is also recognised in profit or loss.
(IAS 36 (AC 128).120)
After a reversal of an impairment loss is recognised, the depreciation (amortisation) charge for the asset
shall be adjusted in future periods to allocate the asset's revised carrying amount, less its residual value
(if any), on a systematic basis over its remaining useful life. (IAS 36 (AC 128).121)
Journal entry for asset that is carried at cost less accumulated depreciation:
Date
Description
Reversal of impairment loss (I/S)
Dr
Cr
XXXXX
XXXXX
Reversal of impairment loss of asset. The reversal of

impairment loss is limited to what the carrying amount of
the asset would have been had there been no impairment
previously.
Journal entry for asset carried at revalued amount:
Date
Description
NDR (Revaluation surplus)
Dr
Cr
XXXXX
XXXXX
XXXXX
Reversal of impairment loss of revalued asset. To the extent

that an impairment loss was previously recognised in profit or
loss the reversal of an impairment loss is also recognised in
profit or loss. If the reversal is more than that, the remainder
will be credited to equity (revaluation surplus).
3.8 REVERSAL OF AN IMPAIRMENT LOSS FOR GOODWILL

An impairment loss recognised for goodwill shall not be reversed in a subsequent period. (IAS 36
(AC 128).124)
IAS 38 (AC 129) Intangible Assets prohibits the recognition of internally generated goodwill. Any increase
in the recoverable amount of goodwill in the periods following the recognition of an impairment loss for that
goodwill, is likely to be an increase in internally generated goodwill, rather than a reversal of the
impairment loss recognised for the acquired goodwill.
3.9 WHAT ARE THE TAX IMPLICATIONS?
Impairment losses and the reversal thereof are not recognised as tax deductions in terms of the Income
Tax Act. Consequently temporary differences and therefore deferred tax arises. Refer to IAS 12 (AC 102)
regarding the disclosure requirements.
110
Model for tax calculation
Profit before tax
Permanent differences
XXXX
XXXX
XXX

Depreciation
Tax allowance (wear and tear)
(XXX)
XXX
XXX
(XXX)
Taxable income
XXX
3.10 DISCLOSURE
3.10.1
Disclosure requirements
(a) An entity shall disclose the following for each class of assets:
the amount of impairment losses recognised in profit or loss during the period and the line item(s) of
the income statement in which those impairment losses are included.
the amount of reversals of impairment losses recognised in profit or loss during the period and the line
item(s) of the income statement in which those impairment losses are reversed.
the amount of impairment losses on revalued assets recognised directly in equity during the period.
the amount of reversals of impairment losses on revalued assets recognised directly in equity during
the period.
A class of assets is a grouping of assets of similar nature and use in an entitys operations.
The information required above may be presented with the other information disclosed for the class of
assets. For example, this information may be included in a reconciliation of the carrying amount of
property, plant and equipment, at the beginning and end of the period, as required by IAS 16 Property,
Plant and Equipment.
(b) An entity that reports segment information in accordance with IAS 14 Segment Reporting shall
disclose the following for each reportable segment based on an entitys primary reporting format:
the amount of impairment losses recognised in profit or loss and directly in equity during the period.
the amount of reversals of impairment losses recognised in profit or loss and directly in equity during
the period.
(Note: Segment reporting does not form part of this module.)

(c) If the impairment loss for an individual asset recognised or reversed during the period is material
an entity shall disclose the following information in the note:
the events and circumstances that led to the recognition or reversal of the impairment loss;
the amount of the impairment loss recognised or reversed;
111
ACN302-U/1
for an individual asset:

- the nature of the asset; and
- if the entity report segment information in accordance with IAS 14 (AC 117) Segment Reporting,
it shall disclose the reportable segment to which the asset belongs, based on the entitys primary
format. (IAS 36 (AC 128).130 (a)-(c));
whether the recoverable amount of the asset is its fair value less costs to sell or its value in use;
(IAS 36 (AC 128).130(e))
if the recoverable amount of the asset is its fair value less costs to sell, the basis used to determine
fair value less costs to sell (such as whether selling price was determined by reference to an active
market or in some other way); (IAS 36 (AC 128).130(f))
if the recoverable amount of the asset is its value in use, the discount rate(s) used in the current
estimate and previous estimate (if any) of value in use. (IAS 36 (AC 128).130(g))
(d) If impairment losses recognised/reversed during the period are material in aggregate to the financial
statements of the reporting entity as a whole, an entity shall disclose a brief description of the
following:
the main classes of assets affected by impairment losses (reversals of impairment losses) for which
no information is disclosed under the above-mentioned paragraphs.
the main events and circumstances that led to the recognition/reversal of these impairment losses for
which no information is disclosed under the above-mentioned paragraphs. (IAS 36(AC 128).131)
3.10.2 Model for disclosure

If an asset is impaired, the financial statements should disclose the following:
X LIMITED
INCOME STATEMENT FOR THE YEAR ENDED 31 MARCH 20.X
R
Revenue
Cost of sales
Gross profit
Other income (xx + impairment loss reversal) 1
Other expenses (xx + impairment loss)2
XXX
(XXX)
Investment income received

Finance charges
Profit before tax
Income tax expense
Refer IAS 36 (AC 128).126(b))
Refer IAS 36 (AC 128).126(a))
XXX
112
X LIMITED
STATEMENT OF CHANGES IN EQUITY FOR THE YEAR ENDED 31 MARCH 20.X
Share
capital
R
Impairment loss 3
Reversal of impairment loss 4
XXX
Balance at end of year
XXX
Nondistributable Accumulated
reserve
profits
R
R
XXX
Total
R
XXX
XXX
XXX
XXX
XXX
(XXX)
XXX
XXX
X LIMITED
NOTES FOR THE YEAR ENDED 31 MARCH 20.X
R
Depreciation
Reversal of impairment loss (included in other income)1
Impairment loss1
XXX
(XXX)
Included in other expenses

Recognised directly in equity during the year
(XXX)
(XXX)

Accumulated depreciation and impairment losses
R
Profit before tax is arrived at after taking into account the following:
Reversal of impairment loss - Machine A 2
Impairment loss recognised - Machine B 3
Refer IAS 36 (AC 128).126(c)) - impairment loss on revalued assets
Refer IAS 36 (AC 128).126(d)) - reversal of impairment loss on revalued assets
Refer IAS 36 (AC 128).126(a) and (b)/IAS 36 (AC 128).128
Refer IAS 36 (AC 128).126(b)
Refer IAS 36 (AC 128).126(a)
XXX
(XXX)
113
ACN302-U/1
Machine A is a manufacturing machine that is used in the manufacturing segment.4 The recoverable
amount is its fair value less costs to sell and is based on an arms length transaction.5 The reversal of the
impairment loss of the machine of Rxxx was caused by a significant increase in the market value of the
asset during the period 6.
Machine B is a manufacturing machine that is used in the manufacturing segment.4 The recoverable
amount is its fair value less cost to sell and is based on an arms length transaction.5 The impairment of
the machine of Rxxx was caused by the occurrence of technological advances that affected this specific
machine.6
3.11 COMPREHENSIVE EXAMPLES

Example
Toys For You Limited is a company listed on the JSE Security Exchange. The company has a 31 March
year-end. The primary segments of the business operations are the manufacturing and selling of toys and
infant clothing.
On 1 April 20.0 Toys For You Limited obtained a licence to sell Bogus Toys for 25 years. The total cost
of the licence amounted to R2 500 000. The licence is amortised on the straight-line basis over a period
of 25 years, as it is expected that economic benefits relating to the licence will flow to the entity over this
period.
On 31 March 20.2 it is estimated that the licence will generate cash inflows amounting to R750 000 per
annum. The annual cash outflow required to generate the inflow amounts to R325 000. Assume that all
cash flows occur annually at 31 March. An after-tax discount rate of 14% is regarded as appropriate.
However, the expected future cash flow is now less than the original estimate because a second licence
to sell Bogus Toys was awarded to a major competitor on 30 September 20.1. The original estimated
useful life, however, remains unchanged. The licence can be sold for R2 000 000 on 31 March 20.2. For
the year ended 31 March 20.1 the recoverable amount exceeded the carrying amount of the licence.
Deferred tax is provided for on all temporary differences by using the balance sheet approach. There are
no other temporary differences other than those identified in the question.
The company regards all impairment losses or the reversal thereof above R100 000 as material.
The tax rate has remained unchanged at 30%.
The SA Revenue Service allows a deduction of 5% per year straight line. Toys For You Limited had a profit
before tax of R269 080, before the impairment was taken into account, for the year ended 31 March 20.2.
Refer IAS 36 (AC 128).130(c) (for each material impairment loss recognised or reversed during the
period)
Refer IAS 36 (AC 128).130(e) and (f) (for each material impairment loss recognised or reversed
during the period)
Refer IAS 36 (AC 128).130(a) (for each material impairment loss recognised or reversed during the
period)
114
REQUIRED:
Prepare the notes of Toys for You Limited for the year ended 31 March 20.2. Your answer must comply
with the requirements of the Companies Act, 1973 and Generally Accepted Accounting Practice.
Comparative figures are not required.
Solution
TOYS FOR YOU LIMITED

1.1 Intangible assets
Licences are disclosed at cost less accumulated amortisation and impairment losses, and are
amortised on the straight-line basis over the expected useful life of 25 years.
1.2 Deferred tax
Deferred tax are provided for on all temporary differences using the balance sheet approach.
2. Intangible assets
Licences
R
2 400 000

Accumulated amortisation
2 500 000
(100 000)
Amortisation (2 500 000/25)

Impairment loss (included in other expenses)1 (calc.3)
(100 000)
(207 077)
Carrying amount at end of year (calc.1)
2 092 923

Accumulated amortisation and impairment loss
2 500 000
(407 077)
3. Impairment of assets2
The intangible asset, a licence for the selling of Bogus Toys, was impaired during the year due to a licence
also being awarded to a major competitor of Toys For You Limited. The impairment amounted to R207 077
and is part of the toys segment of the primary business operations of the company.
The recoverable amount of the asset is based on the value in use and a before tax discount rate of 20%.
There was no impairment of the asset in the previous year.
The information may also be disclosed as part of the profit before tax note. (IAS 36(AC128).128)
This note is only required if the impairment loss recognised or reversed was material.
115
ACN302-U/1

Included in profit before tax are the following items:
R
Amortisation of intangible asset (licence) - included in line item other experiences (calc. 1)
Impairment of licence (calc. 3) - included in other expenses
100 000
207 077

R
SA Normal tax
18 601
Current tax expense (calc. 4)

Deferred tax expense (calc. 5)
73 224
(54 623)
6. Deferred tax
R
Amortisation and impairment of intangible asset
47 123
Deferred tax asset (calc. 5)
47 123
CALCULATIONS
1. Carrying amount and tax base
Historical
R
Adjusted
for
impairment
R
Tax base
R
Cost price 1 April 20.0

Amortisation/Wear and tear (2 500 000/25);(2 500 000/20)
2 500 000
(100 000)
2 500 000
(100 000)
2 500 000
(125 000)
Carrying amount 31 March 20.1

Amortisation/Wear and tear (2 500 000/25);(2 500 000 x 5%)
Impairment of asset (calc. 3)
2 400 000
(100 000)
-
2 400 000
(100 000)
(207 077)
2 375 000
(125 000)
-
2 300 000
2 092 923
2 250 000
2. Recoverable amount
R
Fair value less costs to sell (given)
2 000 000
Value in use
i = 20% [or 14%/(100% - 30%)]
n = 23 years remaining
PMT = 425 000 (R750 000 - R325 000)
PV = 2 092 923
Recoverable amount is therefore
2 092 923
116
3. Impairment loss
R
2 300 000
(2 092 923)
Carrying amount on 31 March 20.2 [2 500 000 - (2 500 000/25 x 2)] (calc. 1)
Recoverable amount (calc. 2)
Impairment loss
207 077
4. Current tax expense

R
269 080
(207 077)

Impairment loss (not taken into account)
Profit before tax
Temporary differences*
62 003
182 077
100 000
207 077
(125 000)
Amortisation
Impairment loss
Wear and tear
Taxable profit
244 080
Current tax expense (244 080 x 30%)
73 224
5. Deferred tax expense

Deferred tax
asset/
(liability)
R
Licence:
Carrying
amount
R
Temporary
Tax base difference
R
R
Beginning of the year 1 April 20.1
2 400 000
2 375 000
(25 000)
(7 500)
End of the year 31 March 20.2
2 092 923
2 250 000
157 077
47 123
Movement for the year:

Liability at beginning of the year
Asset at the end of the year
7 500
47 123
Movement for the year (7 500 + 47 123)(cr to I/S)
54 623
*Check:
Deferred tax expense (182 077 x 30%)
54 623
Example
The same information as for example 1 applies.

The following details relate to the licence:
Date
31/03/20.3 (calc. 1)
31/03/20.4 (calc. 1)
Carrying amount
(based on
carrying amount
on 31/03/20.2)
R
2 001 926
1 910 929
Value in use
R
2 001 926
2 200 000
Selling
price
R
1 900 000
1 850 000
117
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During 20.3 the competitor to whom the licence was also awarded ran into financial difficulties and had to
be liquidated. This had a positive effect on the cash inflows of Toys For You Limited which resulted in the
value in use to be R2 200 000 on 31 March 20.4.
Profit before tax before any impairment losses or the reversal thereof was R40 929 for the year ended
30 March 20.4.
It is not the policy of the company to revalue its assets.
REQUIRED:
Prepare the notes to the annual financial statements of Toys For You Limited for the year ended
31 March 20.4. Your answer must comply with the requirements of the Companies Act, 1973 and
Comparative figures are not required.
Solution
TOYS FOR YOU LIMITED

1.1 Intangible assets
Licences are disclosed at cost less accumulated amortisation and impairment losses, and are
amortised on the straight-line basis over the expected useful life of 25 years.
1.2 Deferred tax
Deferred tax is provided for on all temporary differences using the balance sheet approach.
2. Intangible assets
Licences
R
2 001 926

Accumulated amortisation and impairment loss (calc. 3)
2 500 000
(498 074)
Amortisation (calc. 2)
Reversal of previous impairment loss (included in other income) (calc. 4)
(90 997)
189 071
2 100 000

2 500 000
(400 000)
118
3. Reversal of previous impairment loss of intangibles
The previous impairment of the licence has been reversed due to the liquidation of the major competitor
to whom the licence to sell Bogus Toys had also been awarded. The reversal of the impairment loss
amounted to R189 071. The reversal was limited to the carrying amount that would have been determined
had no impairment loss been recognised for the asset in prior years. It forms part of the toys segment of
the primary business operations.
R
Amortisation of intangible asset (licence) - included in line item other expenses (calc. 2)
Reversal of previous impairment loss of licence (calc. 4) (included in other income)
90 997
189 071

R
SA Normal tax
69 000
Current tax expense (calc. 5)

Deferred tax expense (calc. 6)
2 078
66 922
6. Deferred tax
Intangible asset (accelerated amortisation)
R
30 000
Deferred tax liability (calc. 6)
30 000
CALCULATIONS
1. Carrying amount and tax base
Historical
R
Adjusted for
impairment
R
Tax base
R

Amortisation/ Wear and tear (calc. 2)
2 300 000
(100 000)
2 092 923
(90 997)
2 250 000
(125 000)

Amortisation/ Wear and tear
2 200 000
(100 000)
2 001 926
(90 997)
2 125 000
(125 000)
Carrying amount 31 March 20.4 before impairment

Impairment reversed (calc. 4)
2 100 000
-
1 910 929
189 071
2 000 000
-
2 100 000
2 100 000
2 000 000
2. Amortisation for the year

Carrying amount at 31 March 20.2 (given)
Amortisation is therefore [2 092 923/23 (given)]
R
2 092 923
90 997
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3. Accumulated amortisation on 31 March 20.3

Accumulated amortisation on 31 March 20.2 (given)
Amortisation for 20.3 (calc. 2)
R
407 077
90 997
498 074
4. The amount of impairment loss to be reversed

R
20.3
Carrying amount
2 001 926
Recoverable amount
2 001 926
Therefore no impairment loss or reversal thereof.

20.4
Carrying amount
Recoverable amount
1 910 929
2 200 000
Reversal of previously accounted for impairment loss

Limited to the historical carrying amount
Therefore the impairment loss to be reversed (2 100 000 - 1 910 929)
289 071
2 100 000
189 071
5. Current tax expense

R
Reversal of impairment loss
40 929
189 071
Profit before tax

Temporary differences*
230 000
(223 074)
Amortisation
Wear and tear
Reversal of impairment loss
90 997
(125 000)
(189 071)
Taxable profit
6 926
Current tax expense (6 926 x 30%)
2 078
120
6. Calculation of deferred tax
Temporary
difference
R
Deferred tax
asset/
(liability)
R
Accounting
R
Tax base
R
Beginning of the year 1 April 20.3 (calc. 1)
2 001 926
2 125 000
123 074
36 922
End of the year 31 March 20.4 (calc. 1)
2 100 000
2 000 000
100 000
30 000
Licence:
Movement for the year:

Asset at beginning of the year
Liability at the end of the year
36 922
30 000
Movement for the year (36 922 + 30 000) (debit to the I/S)
66 922
*Check:
Deferred tax expense (223 074 x 30%)
66 922
ASSESSMENT CRITERIA
apply the definitions contained in the statement on impairment of assets;
state the procedures that an entity applies to ensure that its assets are not overstated i.e. the
comparison of the assets carrying amount to the recoverable amount of the asset;
calculate and account for an identified impairment loss as well as a reversal of an impairment loss;
properly disclose impairment of assets in the financial statements of an entity in accordance with
the Companies Act, 1973 and Generally Accepted Accounting Practice.
121
STUDY
UNIT
4
INTANGIBLE ASSETS - IAS 38 (AC 129)
LEARNING OUTCOME 4
correctly account for intangible assets;
identify intangible assets on the basis of certain required criteria;
measure the carrying amount of intangible assets; and
disclose intangible assets in terms of Generally Accepted Accounting Practice.

4.1
4.2
4.3
4.3.1
4.3.2
4.4
4.4.1
4.4.2
4.4.3
4.4.4
4.4.5
4.4.6
4.4.7
4.5
4.6
4.7
4.7.1
4.7.2
4.8
4.9
4.9.1
4.9.2
4.9.3
4.10
4.10.1
4.11
4.12
Objective of the statement

Scope
Terminology
Definitions
Intangible assets
Recognition and initial measurement of an intangible asset
Separate acquisition
Acquisition as part of a business combination
Acquisition by way of a government grant
Exchange of assets
Internally generated goodwill
Internally generated intangible assets
Summary of intangible assets
Cost of an internally generated intangible asset
Recognition of an expense
Cost model
Revaluation model
Useful life
Intangible assets with finite useful lives
Amortisation period and amortisation method
Residual value
Review of amortisation period and amortisation method
Intangible assets with indefinite useful lives
Review of useful life assessment
Recoverability of the carrying amount - impairment losses
Retirements and disposals
ACN302-U/1
122
4.13
Disclosure
4.13.1
General
4.13.2
Intangible assets measured after recognition using the revaluation model
4.13.3
Research and development expenditure
4.14
Tax implications
4.14.1
Patents, designs, copyrights and knowledge connected with the use of such assets
(section 11(gC)
4.14.2
Deductions in respect of research and development (section 11(B))
4.14.3
Model tax calculation
4.15
Comprehensive example
STUDY:
1. International Financial Reporting Standards (IFRSs)
IAS 38 (AC 129) - Intangible Assets
The chapters dealing with IAS 38 (AC 129)
4.1
OBJECTIVE OF THE STATEMENT
The objective of this statement is to:
prescribe the accounting treatment for intangible assets that is not dealt with specifically in another
Standard;
specify that an entity can only recognise an intangible asset if certain criteria are met;
specify how to measure the carrying amount of intangible assets; and
specify the disclosure requirements of intangible assets. (IAS 38 (AC 129).01)
4.2
SCOPE
The Standard shall be applied by all entities in accounting for intangible assets. The Standard is not
applicable to:
intangible assets that are within the scope of another Standard of Generally Accepted Accounting
Practice;
financial assets as defined in IAS 39 Financial Instruments: Recognition and Measurement; and
mineral rights and expenditure on the exploration for, or development and extraction of, minerals, oil,
natural gas and similar non-regenerative resources. (IAS 38 (AC 129).02)
If another Standard prescribes the accounting for a specific type of intangible asset, an entity applies that
standard instead of this Standard. This Standard does not apply to:
S intangible assets held by an entity for sale in the ordinary course of business;
S deferred tax assets;
123
ACN302-U/1
leases;
assets arising from employee benefits;
financial assets;
goodwill acquired in a business combination;
deferred acquisition costs and intangible assets, arising from an insurers contractual rights under
insurance contracts;
S non-current intangible assets classified as held for sale.
S
S
S
S
S
In determining whether an asset that incorporates both intangible and tangible elements should be treated
under the Standard on property, plant and equipment or as an intangible asset under this Standard,
judgement is required to assess which element is more significant. In general, computer software which
is not an integrated part of the related hardware, is treated as an intangible asset. A computer controlled
machine tool that cannot operate without that specific software is an integral part of the related hardware
and it is treated as property, plant and equipment. (IAS 38 (AC 129).04)
This Standard applies to expenditure on advertising, training, start-up, research and development activities.
Research and development activities are directed to the development of knowledge. (IAS 38 (AC 129).05)
In the case of a finance lease, the underlying asset may be either tangible or intangible. If it is an intangible
asset, it is treated in terms of IAS 38 (AC 129). Rights under licensing agreements for items such as
motion picture films, video recordings, plays, manuscripts, patents and copyrights are excluded from the
scope of the standard on leases IAS 17 (AC 105) and fall within the scope of this Standard. (IAS 38
(AC 129).06)
4.3
TERMINOLOGY
4.3.1
Definitions
The following terms are used in IAS 38 (AC 129).08 with the meanings specified:
An intangible asset
S is an identifiable non-monetary asset
S without physical substance.
An asset is a resource
S controlled by an entity as a result of past events, and
S from which future economic benefits are expected to flow to the entity.
Monetary assets are money held and assets to be received in fixed or determinable amounts of
money.
Research is original and planned investigation undertaken with the prospect of gaining new scientific
or technical knowledge and understanding.
Development is the application of research findings or other knowledge to a plan or design for the
production of new or substantially improved materials, devices, products, processes, systems or
services prior to the commencement of commercial production or use.
Amortisation is the systematic allocation of the depreciable amount of an intangible asset over its
useful life.
124
Depreciable amount is the cost of an asset, or other amount substituted for cost, less its residual
value.
Useful life is:

S the period over which an asset is expected to be available for use by an entity, or
S the number of production or similar units expected to be obtained from the asset by the entity.
Cost is the amount of cash or cash equivalents paid or the fair value of the other consideration given
to acquire an asset at the time of its acquisition or construction or, when applicable the amount
attributed to that asset when initially recognised in accordance with the specific requirements of other
IFRSs.
Residual value of an intangible asset is the estimated amount that an entity would currently obtain
from disposal of the asset, after deducting the estimated costs of disposal, if the asset was already
at the age and the condition expected at the end of its useful life.
Fair value of an asset is the amount for which the asset could be exchanged between knowledgeable,
willing parties in an arm's length transaction.
An active market is a market where all the following conditions exist:

S the items traded within the market are homogenous;
S willing buyers and sellers can normally be found at any time; and
S prices are available to the public.
amount.
Carrying amount is the amount at which an asset is recognised in the balance sheet after deducting
any accumulated amortisation and accumulated impairment losses thereon. (IAS 38 (AC 129).08)
4.3.2 Intangible assets

The components of the definition of an intangible asset are:
S identifiable,
S non-monetary asset,
S without physical substance,
S controlled as a result of past events, and
S expected inflow of future economic benefits. (IAS 38(AC 129).08)
If an item covered by this Standard does not meet the definition of an intangible asset, expenditure to
acquire it or generate it internally is recognised as an expense in the income statement when it is incurred.
However, if the item is acquired in a business combination, it forms part of the goodwill recognised at the
date of acquisition. (IAS 38 (AC 129).10)
(a) Identifiability
An intangible asset shall be identifiable in order to distinguish it clearly from goodwill. (IAS 38 (AC 129).11)
Goodwill acquired in a business combination represents a payment made by the acquirer in anticipation
of future economic benefits from assets that are not capable of being individually identified and separately
recognised.
The future economic benefits may result from synergy between the identifiable assets acquired or from
assets that, individually, do not qualify for recognition in the financial statements, but for which the acquirer
is prepared to make a payment in a business combination. (IAS 38 (AC 129).11)
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ACN302-U/1
An asset meets the criterion in the definition of an intangible asset when it:
is separable, ie capable of being separated or divided from the entity and sold, transferred, licensed,
rented or exchanged, either individually or together with a related contract, asset or liability; or
arises from contractual or other legal rights, regardless of whether those rights are transferable or
separable from the entity or from other rights and obligations. (IAS 38 (AC 129).12)
(b) Control
An entity controls an asset if the entity has the power to obtain the future economic benefits flowing from
it and to restrict the access of others to those benefits. Control exists because of enforceable legal rights.
However, legal enforceability is not a necessary condition for control since the future economic benefits
may be controlled in some other way. (IAS 38 (AC 129).13)
(c) Future economic benefits
The future economic benefits flowing from an intangible asset may include revenue from the sale of
products or services, cost savings, or other benefits resulting from the use of the asset by the entity.
(IAS 38 (AC 129).17)
4.4 RECOGNITION AND INITIAL MEASUREMENT OF AN INTANGIBLE ASSET
The recognition of an item as an intangible asset requires an entity to demonstrate that the item meets:
the definition of an intangible asset as per paragraph 4.3.2; and

the recognition criteria.
This requirement applies to costs incurred initially to acquire or internally generate an intangible asset and
those incurred subsequently to add, replace part of, or service it.
An intangible asset shall be recognised if, and only if:
it is probable that the expected future economic benefits that are attributable to the asset will flow to
the entity; and
the cost of the asset can be measured reliably. (IAS 38 (AC 129).21)
An entity shall assess the probability of future economic benefits using reasonable and supportable
assumptions that represent management's best estimate of the economic conditions that will exist over
the useful life of the asset. (IAS 38 (AC 129).22)
An intangible asset shall be measured initially at cost. (IAS 38 (AC 129).24)
4.4.1 Separate acquisition
If an intangible asset is acquired separately, the cost of the asset can usually be measured reliably,
particularly so when the purchase consideration is in the form of cash or other monetary assets. (IAS 38
(AC 129).26)
The cost of an intangible asset comprises:
its purchase price, including import duties and other non-refundable purchase taxes after deducting
trade discounts and rebates; and
any directly attributable costs of preparing the asset for its intended use. (IAS 38 (AC 129).27)
126
Examples of directly attributable costs are:
costs of employee benefits (defined in IAS 19 (AC 116)) arising directly from bringing the asset to its
working condition;
professional fees arising directly from bringing the asset to its working condition; and
costs of testing whether the asset is functioning properly. (IAS 38 (AC 129).28)
Examples of expenditures that are not part of the cost of an intangible asset are:
costs of introducing a new product or service (including advertising and promotional costs);
costs of conducting business in a new location or with a new class of customer (including staff training
costs); and
administration and other general overhead costs. (IAS 38 (AC 129).29)
Some operations occur in connection with the development of an intangible asset, but are not necessary
to bring the asset to the condition necessary for it to be capable of operating in the manner intended by
management. Because incidental operations are not necessary to bring an asset to the condition
necessary for it to be capable in operating in the manner intended by management, the income and related
expenses of incidental operations are recognised in profit or loss. (IAS 38 (AC 129).31)
4.4.2 Acquisition as part of a business combination
The cost of an intangible asset acquired in a business combination in accordance with IFRS 3, is its fair
value at the date of acquisition. (IAS 38 (AC 129).33)
The acquirer in a business combination recognises as an asset separately from goodwill, an in-process
research and development project of the acquiree if the project meets the definition of an intangible asset
and its fair value can be measured reliably. (IAS 38 (AC 129).35)
An acquirees in-process research and development project meets the definition of an intangible asset
when it:
meets the definition of an asset; and
is identifiable, ie is separable or arises from contractual or other legal rights. (IAS 38 (AC 129).34)
If an intangible asset acquired in a business combination has a finite useful life, there is a rebuttable
presumption that its fair value can be measured reliably. (IAS 38 (AC 129).35)
Where an active market exists for a specific type of intangible asset, quoted market prices provide the most
reliable estimate of the fair value. If current market prices are unavailable, the price of the most recent
similar transaction may provide a basis to estimate the fair value. (IAS 38 (AC 129).39)
If no active market exists for an intangible asset, its fair value is the amount that the entity would have paid
for the asset, at the acquisition date, in an arms length transaction between knowledgeable and willing
parties on the basis of the best information available. (IAS 38 (AC 129).40)
Entities that are regularly involved in the purchase and sale of unique intangible assets may have
developed techniques for estimating their fair values indirectly. (IAS 38 (AC 129).41)
4.4.3 Acquisition by way of a government grant
Under the Standard on accounting for government grants and disclosure of government assistance (not
part of this module), an entity may choose to recognise both the intangible asset and the grant initially at
fair value. The alternative treatment for the entity is to recognise the asset initially at a nominal amount plus
any expenditure that is directly attributable to preparing the asset for its intended use. (IAS 38 (AC 129).44)
127
ACN302-U/1
4.4.4 Exchange of assets

One or more intangible assets may be acquired in exchange for a non-monetary asset or assets.
The cost of an intangible asset in this case is measured at fair value unless the exchange transaction
lacks commercial substance or the fair value of neither the asset received nor the asset given up is reliably
measurable. If the acquired asset is not measured at fair value, the cost is measured at the carrying
amount of the asset given up. (IAS 38 (AC 129).45)
An exchange transaction lacks commercial substance if:
(a) the risk, timing and amount of the cash flows of the asset received differs from the risk, timing and
amount of the cash flows of the asset transferred; or
(b) the entity-specific value (calculated by using post tax cash flows) of the portion of the entitys
operations affected by the transaction, changes as a result of the exchange; and
(c) the difference in (a) or (b) is significant relative to the fair value of the assets exchanged. (IAS 38
(AC 129).46)
Example
A company acquires the right to a certain patent.

R
Fees of professional consultant (including VAT)
Legal fees (including VAT)
Apportionment of management fees
17 100
22 800
35 000
The cost price will be settled by the issue of 150 000 shares at R2,00 each. The shares are trading at
R2,50 on settlement date.
REQUIRED:
Determine the total cost price of the patent.
Solution
1
R
Fair value of shares on settlement date (150 000 x 2,50)

Professional fees (17 100 x 100/114)
Legal fees (22 800 x 100/114)
Management fees
375 000
15 000
20 000
35 000
445 000
128
Example
A company exchanges computer program A with a carrying amount of R850 000, for computer program
B with a fair value of R950 000.
Computer program B will be accounted for at R950 000 in the companys records and R100 000 will be
recognised as a profit.
If the fair value for computer program B was R800 000, it indicates an impairment loss of computer
program A of R50 000 that will first be recognised before computer program B is accounted for at
R800 000.
4.4.5 Internally generated goodwill
Internally generated goodwill shall not be recognised as an asset. (IAS 38 (AC 129).48)
Internally generated goodwill is not recognised as an asset because it is not an identifiable resource
controlled by the entity that can be measured reliably at cost. (IAS 38 (AC 129).49)
4.4.6 Internally generated intangible assets
It is sometimes difficult to assess whether or not an internally generated intangible asset qualifies for
recognition. It is often difficult to determine:
S if there is an identifiable asset that will generate probable future economic benefits, and
S the cost of the asset reliably. (IAS 38 (AC 129).51)
To assess whether an internally generated intangible asset meets the recognition criteria, the generation
of an asset is classified in:
S a research phase, and
S a development phase. (IAS 38 (AC 129).52)
If an entity cannot distinguish the research phase from the development phase of an internal project to
create an intangible asset, the entity treats the expenditure as if it were incurred in the research phase
only. (IAS 38 (AC 129).53)
(a) The research phase
No intangible asset arising from research shall be recognised. Expenditure on research shall be
recognised as an expense when it is incurred. (IAS 38 (AC 129).54)
The reason for this is that, in the research phase of a project, an entity cannot demonstrate that an
intangible asset exists that will generate probable future economic benefits. (IAS 38 (AC 129).55)
Examples of research activities are:
S activities aimed at obtaining new knowledge;
S the search for, evaluation and final selection of, applications of research findings or other knowledge;
S the search for alternatives for materials, devices, products, processes, systems or services; and
S the formulation, design, evaluation and final selection of possible alternatives for new or improved
materials, devices, products, processes, systems or services. (IAS 38 (AC 129).56)
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ACN302-U/1
(b) The development phase

An intangible asset arising from development shall be recognised if, and only if, an entity can demonstrate
all of the following:
The technical feasibility of completing the intangible asset so that it will be available for use or sale.
Its intention to complete the intangible asset, to use or sell it.
Its ability to use or sell the intangible asset.
How the intangible asset will generate probable future economic benefits. Among other things, the
entity shall demonstrate the existence of a market for the output of the intangible asset or the
intangible asset itself or, if it is to be used internally, the usefulness of the intangible asset.
The availability of adequate technical, financial and other resources to complete the development, and
to use or sell the intangible asset.
Its ability to measure the expenditure attributable to the intangible asset during its development
reliably. (IAS 38 (AC 129).57)
Examples of development activities are:

S the design, construction and testing of pre-production or pre-use prototypes and models,
S the design of tools, jigs, moulds and dies involving new technology,
S the design, construction and operation of a pilot plant that is not of a scale economically feasible for
commercial production, and
S the design, construction and testing of a chosen alternative for new or improved materials, devices,
products, processes, systems or services. (IAS 38 (AC 129).59)
Internally generated brands, newspaper mastheads, publishing titles, customer lists and items similar in
substance shall not be recognised as intangible assets, because it cannot be distinguished from the cost
of developing the business as a whole. (IAS 38 (AC 129).63-64)
130
4.4.7 Summary of intangible assets
Intangible asset
Acquired through
exchange
Acquire intangible
asset in exchange for
other assets (nonmonetary
or
combination of nonmonetary
and
monetary):
Recognise at fair
value of acquired
item.
If not able to
measure at fair
value, measure at
carrying amount of
asset given up.
Acquisition by way of
government grant.
Choose between fair
value or nominal
amount. Apply
IAS 38 (AC 129)
Similar asset acquired.

Account for at carrying
amount of asset
forfeited. Apply IAS 38
(AC 129)
Internally
generated
Separate
acquisition
Accounted for
at cost. Apply
IAS 38
(AC 129).
Acquired as part of a
business combination. Account for
at fair value. Apply
IAS 38 (AC 129).
Does the
recognition criteria
of an intangible
asset apply?
Type of cost
Research
Recognise as an
expense
Development
No
Does the cost comply with all the criteria of

IAS 38 (AC 129).57?
Yes
Capitalise the development costs #

recoverable amount
Amortise over expected useful life
Review carrying amount yearly
Disclose in terms of IAS 38 (AC 129)
131
4.5
ACN302-U/1
COST OF AN INTERNALLY GENERATED INTANGIBLE ASSET
The cost of an internally generated intangible asset is the sum of expenditure incurred from the date when
the intangible asset first meets the recognition criteria. The reinstatement of expenditure recognised as
an expense in previous annual financial statements or interim financial reports is prohibited. (IAS 38
(AC 129).65)
The cost of an internally generated intangible asset comprises all directly attributable costs necessary to
create, produce and prepare the asset to be capable of operating in the manner intended by management.
The examples of directly attributable costs are:
S costs of materials and services used in generating the intangible asset;
S costs of employee benefits (salaries and wages) arising from the generation of the intangible asset;
S fees to register a legal right; and
S amortisation of patents and licences that are used to generate the intangible asset. (IAS 38
(AC 129).66)
Specifically excluded from the cost is:
S selling, administration and other general overhead expenditure unless this expenditure can be directly
attributed to preparing the asset for use;
S clearly identified inefficiencies and initial operating losses incurred before an asset achieves planned
performance;
S expenditure on training staff to operate the asset. (IAS 38 (AC 129).67)
Example
An entity, Lancelot Limited, developed a new computer software package for internal use. The following
expenditure was incurred relating to this package:
R
1 January 19.5 to 30 November 19.5
90 000
1 December 19.5 to 31 December 19.5
10 000
1 January 19.6 to 31 December 19.6
200 000
You established the following:
1. On 1 December 19.5 proof was provided that the software package met the criteria for recognition as
an intangible asset.
2. The recoverable amount of the package, including future cash outflows to complete the package before
it is available for use, is estimated to be R50 000 on 31 December 19.5 and R190 000 on
31 December 19.6.
REQUIRED:
Explain the accounting treatment of the cost of the software package in the records of Lancelot Limited
at 31 December 19.5 and 19.6 applying the requirements of IAS 38 (AC 129).
Ignore the amortisation of the software package.
132
Solution
On 31 December 19.5:
The computer software package is recognised as an intangible asset at a cost of R10 000 in the records
of the entity on 31 December 19.5. (That is the expenditure incurred since the date when the recognition
criteria for an intangible asset were met.)
Expenditure of R90 000 incurred before 1 December 19.5 is recognised as research expenses in the
income statement and will never form part of the cost of the software package recognised in the balance
sheet.
On 31 December 19.6:
The computer software package is recognised as an intangible asset at a cost of R190 000 (R200 000 +
R10 000(19.5) - R20 000 (impairment loss)). This impairment loss can be reversed in a subsequent period
if the requirements for the reversal of an impairment loss are met. (See IAS 36 (AC 128))
4.6 RECOGNITION OF AN EXPENSE

Expenditure on an intangible item shall be recognised as an expense when it is incurred, unless:
S it forms part of the cost of an intangible asset that meets the recognition criteria; or
S the item is acquired in a business combination and cannot be recognised as an intangible asset, and
thus forms part of goodwill. (IAS 38 (AC 129).68)
The following items are recognised as expenses:
S research costs
S expenditure on start-up activities unless the expenditure is included in the cost of an item of property,
plant and equipment (IAS 16 (AC 123)). Start-up costs may consist of:
establishment costs (legal and secretarial costs in establishing a legal entity;
pre-opening costs (expenditure to open a new facility or business); and
pre-operating costs (expenditure for starting new operations or launching new products or
processes).
S training costs
S advertising and promotional costs
S relocating or re-organising costs. (IAS 38 (AC 129).69)
Expenditure on an intangible item that was initially recognised as an expense shall not be
recognised as part of the cost of an intangible asset at a later date. (IAS 38 (AC 129).71)
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4.7 MEASUREMENT AFTER RECOGNITION

An entity shall choose either the cost model or the revaluation model as its accounting policy. If an
intangible is accounted for using the revaluation model, all the other assets in its class shall also be
accounted for using the same model, unless there is no market for those assets. (IAS 38 (AC 129).72)
4.7.1 Cost model
After initial recognition, an intangible asset shall be carried at its cost less any accumulated amortisation
and any accumulated impairment losses. (IAS 38 (AC 129).74)
4.7.2 Revaluation model
After initial recognition, an intangible asset shall be carried at a revalued amount, being its fair value at the
date of the revaluation less any subsequent accumulated amortisation and impairment losses. Fair value
shall be determined by reference to an active market. Revaluations shall be made with such regularity that
at the balance sheet date the carrying amount of the asset does not materially differ from its fair value.
(IAS 38 (AC 129).75)
The revaluation model does not allow:
S the revaluation of intangible assets that have not previously been recognised as assets, or
S the initial recognition of intangible assets at amounts other than their cost. (IAS 38 (AC 129).76)
The revaluation model is applied after an asset has been initially recognised at cost. However, if only part
of the cost of an intangible asset is recognised as an asset because the asset did not meet the criteria for
recognition until part of the way through the process, the revaluation model may be applied to the whole
of that asset. Also, the revaluation model may be applied to an intangible asset that was received by way
of a government grant and recognised at a nominal amount. (IAS 38 (AC 129).77)
The frequency of revaluations depends on the volatility of the fair values of the intangible assets being
revalued. (IAS 38 (AC 129).79)
If an intangible asset is revalued, any accumulated amortisation at the date of the revaluation is either:
restated proportionately with the change in the gross carrying amount of the asset so that the carrying
amount of the asset after revaluation equals its revalued amount, or
eliminated against the gross carrying amount of the asset, and the net amount restated to the revalued
amount of the asset. (IAS 38 (AC 129).80)
Example
Cost price of asset

Accumulated amortisation at 31/12/20.2
Total useful life
Net replacement value at 31/12/20.3
REQUIRED:
Apply the revaluation model for the determination of fair value to the above scenario.
R300 000
R50 000
12 years
R350 000
134
Solution
Alternative 1: Proportional increase in accumulated amortisation

R
250 000
388 889
138 889
466 667
Carrying amount 31/12/20.2 (300 000 - 50 000)

Net replacement value 01/01/20.3 [350 000 + (350 000/9)]
Revaluation surplus (388 889 - 250 000)
Gross replacement value (388 889 x 12/10)
Revalued
amount
R
Carrying
amount
R
Revaluation
R
Cost
466 667
(77 778)
300 000
(50 000)
166 667
(27 778)
Carrying amount
388 889
250 000
138 889
Journal entry
Dr
R
Cost price
Revaluation surplus
Cr
R
166 667
27 778
138 889
Alternative 2: Elimination of amortisation

R
Carrying value 31/12/20.2
Net replacement value 01/01/20.3
250 000
388 889
Journal entry
Dr
R
Cost price
Asset at revalued amount
Revaluation surplus
Cr
R
50 000
300 000
388 889
138 889
If an intangible asset is revalued, all the other assets in its class shall also be revalued, unless there is no
active market for those assets. In that case, the asset is carried at cost less accumulated amortisation and
impairment losses. (IAS 38 (AC 129).81) If the fair value of a revalued intangible asset can no longer be
determined by reference to an active market, the carrying amount of the asset shall be its revalued amount
at the date of the last revaluation by reference to the active market less any subsequent accumulated
amortisation and any subsequent accumulated impairment losses. (IAS 38 (AC 129).82) The fact that an
active market no longer exists may indicate that the asset may be impaired. If the fair value of the asset
can again be determined by reference to an active market at a subsequent measurement date, the
revaluation model is applied from that date. (IAS 38 (AC 129).83-84)
If an intangible assets carrying amount is increased as a result of a revaluation, the increase shall be
credited directly to equity (revaluation surplus). A revaluation increase shall be recognised in profit or loss
to the extent that it reverses a revaluation decrease (impairment loss) of the same asset previously
recognised in profit or loss. (IAS 38 (AC 129).85)
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If an assets carrying amount is decreased as a result of a revaluation, the decrease shall be recognised
in profit or loss. A revaluation decrease shall be debited directly to equity (revaluation surplus) to the extent
of any credit balance in the revaluation surplus in respect of that asset. (IAS 38 (AC 129).86)
The cumulative revaluation surplus included in equity, may be transferred directly to retained earnings
when the surplus is realised. The whole surplus may be realised on the retirement or disposal of the asset.
Some of the surplus may be realised as the asset is used by the entity. The amount realised is the
difference between amortisation based on the revalued carrying amount of the asset and amortisation that
would have been recognised based on the assets historical cost. The transfer from revaluation surplus
to retained earnings is not made through the income statement. (IAS 38 (AC 129).87)
4.8 USEFUL LIFE

An entity shall assess whether the useful life of an intangible asset is finite or indefinite and, if finite, the
length of, or number of production or similar units constituting, that useful life. An intangible asset shall be
regarded by the entity as having an indefinite useful life when, based on an analysis of all of the relevant
factors, there is no foreseeable limit to the period over which the asset is expected to generate net cash
inflows for the entity. (IAS 38 (AC 129).88)
The accounting for an intangible asset is based on its useful life. An intangible asset with a finite useful
life is amortised, and an intangible asset with an indefinite useful life is not. (IAS 38 (AC 129).89)
Many factors are considered in determining the useful life of an intangible asset, including:
the expected usage of the asset;

typical product life cycles for the asset and public information on estimates of useful lives of similar
assets that are used in a similar way;
technical, technological, commercial or other types of obsolescence;
the stability of the industry in which the asset operates and changes in the market demand for the
products or services output from the asset;
expected actions by competitors or potential competitors;
maintenance expenditure required to obtain the expected future economic benefits from the asset;
the period of control over the asset and legal or similar limits on the use of the asset; and
whether the useful life of the asset is dependent on the useful life of other assets of the entity.
(IAS 38 (AC 129).90)
The term indefinite does not mean infinite. The useful life of an intangible asset reflects only that level
of future maintenance expenditure required to maintain the asset at its standard of performance assessed
at the time of estimating the assets useful life, and an entitys ability and intention to reach such a level.
(IAS 38 (AC 129).91)
Given the history of rapid changes in technology, computer software and many other intangible assets are
susceptible to technological obsolescence. Therefore, it is likely that their useful life is short. (IAS 38
(AC 129).92)
The useful life of an intangible asset that arises from contractual or other legal rights shall not exceed the
period of the contractual or other legal rights, but may be shorter depending on the period over which the
entity expects to use the asset. If the contractual or other legal rights are conveyed for a limited term that
can be renewed, the useful life of the intangible asset shall include the renewal period(s) only if there is
evidence to support renewal by the entity without significant cost. (IAS 38 (AC 129).94)
Existence of the following factors, among others, indicates that an entity would be able to renew the
contractual or other legal rights without significant cost:
there is evidence, possibly based on experience, that the contractual or other legal rights will be
renewed;
136
there is evidence that any conditions necessary to obtain renewal will be satisfied; and
the cost to the entity of renewal is not significant when compared with the future economic benefits
expected to flow to the entity from renewal.
4.9 INTANGIBLE ASSETS WITH FINITE USEFUL LIVES

4.9.1 Amortisation Period and Amortisation Method
The depreciable amount of an intangible asset with a finite useful life shall be allocated on a systematic
basis over its useful life. Amortisation shall begin when the asset is available for use, ie when it is in
the location and condition necessary for it to be capable of operating in the manner intended by
management.
Amortisation shall cease at the earlier of the date that the asset is classified as held for sale (or included
in a disposal group that is classified as held for sale) in accordance with IFRS 5 Non-current Assets Held
for Sale and Discontinued Operations (refer study unit 5) and the date that the asset is derecognised.
The amortisation method used shall reflect the pattern in which the assets future economic benefits are
expected to be consumed by the entity. If that pattern cannot be determined reliably, the straight-line
method shall be used. The amortisation charge for each period shall be recognised in profit or loss unless
this or another Standard permits or requires it to be included in the carrying amount of another asset.
(IAS 38 (AC 129).97)
A variety of amortisation methods can be used to allocate the depreciable amount of an asset on a
systematic basis over its useful life. These methods include the straight-line method, the diminishing
balance method and the unit of production method as discussed in study unit 1. (IAS 38 (AC 129).98)
Example
1.
An entity has purchased an exclusive right to generate hydroelectric power for sixty years. The costs
of generating hydroelectric power are much lower than the costs of obtaining power from alternative
sources. It is expected that the geographical area surrounding the power station will demand a
significant amount of power from the power station for at least sixty years.
The entity amortises the right to generate power over sixty years, unless there is evidence that its
useful life is shorter.
2.
An entity has purchased an exclusive right to operate a toll motorway for thirty years. There is no
plan to construct alternative routes in the area served by the motorway. It is expected that this
motorway will be in use for at least thirty years.
The entity amortises the right to operate the motorway over thirty years, unless there is evidence that
its useful life is shorter.
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4.9.2 Residual value

The residual value of an intangible asset with a finite useful life shall be assumed to be zero unless:
there is a commitment by a third party to purchase the asset at the end of its useful life; or
there is an active market for the asset and:
S the residual value can be determined by reference to that market; and
S it is probable that such a market will exist at the end of the assets useful life.
(IAS 38(AC 129).100)
The depreciable amount of an asset with a finite useful life is determined after deducting its residual value.
A residual value other than zero implies that an entity expects to dispose of the intangible asset before the
end of its economic life. (IAS 38 (AC 129).101)
The residual value is reviewed at least at each financial year-end. A change in the assets residual value
is accounted for as a change in an accounting estimate in accordance with IAS 8 (AC 103).
The residual value of an intangible asset may increase to an amount equal to or greater than the assets
carrying amount. If it does, the assets amortisation charge is zero unless and until its residual value
subsequently decreases to an amount below the assets carrying amount. (IAS 38 (AC 129).103)
4.9.3 Review of Amortisation Period and Amortisation Method
The amortisation period and amortisation method of an intangible asset with a finite useful life shall be
reviewed at least at each financial year-end. If the expected useful life of the asset is different from
previous estimates, the amortisation period shall be changed accordingly. If there has been a change in
the expected pattern of consumption of the future economic benefits embodied in the asset, the
amortisation method shall be changed to reflect the changed pattern. Such changes shall be accounted
for as changes in accounting estimates in accordance with IAS 8 (AC 103). (IAS 38(AC 129).104)
4.10 INTANGIBLE ASSETS WITH INDEFINITE USEFUL LIVES

An intangible asset with an indefinite useful life shall not be amortised. (IAS 38 (AC 129).107)
In accordance with IAS 36 (AC 128) Impairment of Assets, an entity is required to test an intangible asset
with an indefinite useful life for impairment by comparing its recoverable amount with its carrying amount
(a)
(b)
annually, and
whenever there is an indication that the intangible asset may be impaired. (IAS 38 (AC 129).108)
4.10.1
Review of Useful Life Assessment
The useful life of an intangible asset that is not being amortised shall be reviewed each period to determine
whether events and circumstances continue to support an indefinite useful life assessment for that asset.
If they do not, the change in the useful life assessment from indefinite to finite shall be accounted for as
a change in accounting estimate in accordance with IAS 8 (AC 103) Accounting Policies, Changes in
Accounting Estimates and Errors. (IAS 38 (AC 129).109)
In accordance with IAS 36 (AC 128), reassessing the useful life of an intangible asset as finite rather than
indefinite is an indicator that the asset may be impaired. As a result, the entity tests the asset for
impairment. (IAS 38 (AC 129).110)
138
4.11 RECOVERABILITY OF THE CARRYING AMOUNT - IMPAIRMENT LOSSES
The Standard on impairment of assets shall be applied in establishing whether or not an intangible asset
is impaired. The recoverable amount must be determined and the resulting impairment losses recognised.
(IAS 38 (AC 129).111)
4.12 RETIREMENTS AND DISPOSALS
An intangible asset shall be derecognised (eliminated from the balance sheet):
on disposal; or
when no future economic benefits are expected from its use or disposal. (IAS 38 (AC 129).112)
The gain or loss arising from the derecognition of an intangible asset shall be determined as the difference
between the net disposal proceeds and the carrying amount of the asset, and shall be recognised in profit
or loss. Gains shall not be classified as revenue. (IAS 38 (AC 129).113)
Example
Cost price
Accumulated amortisation 31/12/20.3
Total useful life
Retired from use on 30/06/20.4
Value on disposal 31/12/20.4
Disposal costs 31/12/20.4
R3 000 000
R1 200 000
10 years
R1 400 000
R200 000
REQUIRED:
Calculate the profit/loss on disposal at 31/12/20.4.
Solution
6
R
Carrying value 31/12/20.4

Cost price
Accumulated amortisation 31/12/20.3
Amortisation up to 30/06/20.4 (3 000 000/10 x 6/12)
3 000 000
(1 200 000)
(150 000)
Carrying amount
Proceeds on disposal 31/12/20.4 (1 400 000 - 200 000)
1 650 000
(1 200 000)
Loss on disposal on 31/12/20.4
450 000
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4.13 DISCLOSURE
4.13.1
General
An entity shall disclose the following for each class of intangible assets, distinguishing between internally
generated intangible assets and other intangible assets:
whether the useful lives are indefinite or finite and, if finite, the useful lives or the amortisation rates
used;
the amortisation methods used for intangible assets with finite useful lives;
the gross carrying amount and any accumulated amortisation (and accumulated impairment losses)
at the beginning and end of the period;
the line item(s) of the income statement in which any amortisation of intangible assets is included;
a reconciliation of the carrying amount at the beginning and end of the period showing:
S additions, indicating separately those from internal development, those acquired separately, and
those acquired through business combinations;
S assets classified as held for sale or included in a disposal group in accordance with IFRS 5 and
other disposals;
S increases or decreases during the period resulting from revaluations and from impairment losses
recognised or reversed directly in equity in accordance with IAS 36 (AC 128) Impairment of
Assets (if any);
S impairment losses recognised in profit or loss during the period in accordance with IAS 36
(AC 128) (if any);
S impairment losses reversed in profit or loss during the period in accordance with IAS 36 (AC 128)
(if any);
S any amortisation recognised during the period;
S net exchange differences arising on the translation of the financial statements into the
presentation currency, and on the translation of a foreign operation into the presentation currency
of the entity; and
S other changes in the carrying amount during the period. (IAS 38 (AC 129).118)
A class of intangible assets is a grouping of assets of a similar nature and use in an entitys operations.
Examples of separate classes may include:
brand names;
mastheads and publishing titles;
computer software;
licences and franchises;
copyrights, patents and other industrial property rights, service and operating rights;
recipes, formulae, models, designs and prototypes; and
intangibles assets under development.
The classes mentioned above are disaggregated (aggregated) into smaller (larger) classes if this results
in more relevant information for the users of the financial statements. (IAS 38(AC 129).119)
An entity discloses information on impaired intangible assets in accordance with IAS 36 (IAS 38
(AC 129).120).
IAS 8 (AC 103) requires an entity to disclose the nature and amount of a change in an accounting estimate
that has a material effect in the current period or is expected to have a material effect in subsequent
periods. Such disclosure may arise from changes in:
the assessment of an intangible assets useful life;

the amortisation method; or
residual values. (IAS 38 (AC 129).121)
140
An entity shall also disclose:
for an intangible asset assessed as having an indefinite useful life, the carrying amount of that asset
and the reasons supporting the assessment of an indefinite useful life. In giving these reasons, the
entity shall describe the factor(s) that played a significant role in determining that the asset has an
indefinite useful life.
a description, the carrying amount and remaining amortisation period of any individual intangible
asset that is material to the entitys financial statements.
for intangible assets required by way of a government grant and initially recognised at fair value:
- the fair value initially recognised for these assets;
- their carrying amount; and
- whether they are measured after recognition under the cost model or the revaluation model.
the existence and carrying amounts of intangible assets whose title is restricted and the carrying
amounts of intangible assets pledged as security for liabilities.
the amount of contractual commitments for the acquisition of intangible assets (IAS 38 (AC 129).122)
4.13.2 Intangible Assets Measured after Recognition using the Revaluation Model
If intangible assets are accounted for at revalued amounts, an entity shall disclose the following:
by class of intangible assets:

S the effective date of the revaluation;
S the carrying amount of revalued intangible assets; and
S the carrying amount that would have been recognised had the revalued class of intangible assets
been measured after recognition using the cost model;
the amount of the revaluation surplus that relates to intangible assets at the beginning and end of
the period, indicating the changes during the period and any restrictions on the distribution of the
balance to shareholders; and
the methods and significant assumptions applied in estimating the assets fair values.
(IAS 38 (AC 129).124)
4.13.3 Research and Development Expenditure

An entity shall disclose the aggregate amount of research and development expenditure recognised as
an expense during the period. (IAS 38 (AC 129).126)
4.14 TAX IMPLICATIONS

4.14.1 Patents, designs, copyrights, and knowledge connected with the use of such assets
(section 11(gC))
Under section 11(gC) the taxpayer is allowed a deduction of:
Expenditure actually incurred by the taxpayer on or after 1 January 2004:
in acquiring an invention or patent as defined in the Patents Act, 1978; or
in acquiring a design as defined in the Designs Act, 1993; or
in acquiring a copyright as defined in the Copyright Act, 1978; or
in acquiring other property which is of a similar nature (other than trade marks); or
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ACN302-U/1
in acquiring any knowledge in respect of any of the above property.
The expenditure actually incurred is deductable as follows:
expenses under R5 000 are deducted immediately.
if the expenditure exceeds R5 000, the following deduction will be allowed each year:
5% of the amount of the cost in respect of any invention, patent, copyright or other property of a
similar nature or any knowledge connected with the use of such asset or the right to impart such
knowledge.
10% of the amount of the cost of any design or other property of a similar nature or any knowledge
connected with the use of the relevant asset or the right to impart such knowledge.
Where any such invention, patent, design, copyright or other property or knowledge was acquired from any
person who is a connected person in relation to the taxpayer, the allowance under this paragraph (section
11(gC)) shall be calculated on an amount not exceeding the lesser of the cost to that connected person
or the market value of that acquired asset on the date upon which it was acquired by the taxpayer.
4.14.2 Deductions in respect of research and development (section 11B)
For the purposes of the section, research and development means research and development
conducted in the Republic that will result or potentially may result in an identifiable intangible asset as
contemplated under generally accepted accounting practice, but does not include research and
development relating to:
the social sciences, arts, humanities or management; or
market research, sales or marketing promotion.

The deduction allowed during any year of assessment commencing on or after 1 January 2004, is as
follows:
(a) any expenditure actually incurred by a taxpayer in that year of assessment
in respect of research and development undertaken directly by that taxpayer; or
by way of payment to any other person for research and development undertaken by that other
person on behalf of that taxpayer.
for the purpose of devising, developing or creating any invention, patent, design, copyright or other
property which is of a similar nature;
(b)
any expenditure actually incurred by a taxpayer in that year of assessment for the purposes of:
registration of any invention, patent, design, copyright or other property; and
obtaining the extension of the period of a legal protection, the extension of the registration period,
or the renewal of the registration of any such invention, patent, design, copyright or other property.
The deduction allowed in respect of any building, machinery, plant, implement, utensil and article of a
capital nature used by that taxpayer for purposes of research and development, is as follows:
an allowance of 40% of the cost of that asset in the year of assessment that it is brought into use for
the first time by the taxpayer; and
an allowance of 20% in each of the three immediately succeeding years of assessment.

No allowance shall be allowed in terms of this section in respect of any machinery, plant, implement,
utensil and article which was used during the year of assessment for purposes other than research and
development.
142
4.14.3 Model for tax calculation
Profit before tax
X XXX
XXX
XXX
Amortisation
Impairment loss
Tax allowance on intangible asset
Taxable income
XXX
XXX
(XXX)
XXX
4.15 COMPREHENSIVE EXAMPLES

Example
Hegco Ltd is a researcher and manufacturer of electronic components. On 1 January 20.5 Hegco Ltd
commenced with research on a new electronic component which will improve the working performance
of motor engines.
On 1 March 20.5 the head of research submitted a report to the board of directors for the research of the
new motor engine electronic component. The board of directors were very positive about the potential of
the component and approved further development which commenced on 1 March 20.5.
The accountant of Hegco Ltd found that the development costs of the motor engine electronic component
satisfied all the criteria for intangible asset recognition.
On 1 June 20.5 Hegco Ltd commenced with research on a component which will improve the working
performance of swimming pool pumps. The research on the swimming pool component progressed very
well and at the end of December 20.5 the directors were very optimistic that this project would be a
material asset to Hegco Ltd.
Of the four engineers employed by Hegco Ltd, two worked full-time on the research and development of
the motor engine electronic component, until commercial production commenced on 1 September 20.5.
Originally only one engineer worked on the swimming pool component. After production on the motor
engine electronic component commenced on 1 September 20.5, another engineer started to work on the
swimming pool component.
Two laboratory technicians worked on the motor engine electronic component until 31 August 20.5 and
three technicians worked on the swimming pool component.
The cost of consumables is allocated to the projects based on actual usage and amounted to R42 000 and
R25 000 for the motor engine electronic component and swimming pool component respectively. The cost
of consumables were evenly incurred throughout the time period worked on the projects.
Depreciation is allocated on the basis of the time that assets were utilised on a project.
All other applicable costs are allocated based on the time engineers spent on a project. (Ignore leave and
bonuses.)
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ACN302-U/1
Costs incurred during 20.5 were as follows:

R000
Salaries engineers (4 persons)
Salaries laboratory technicians (6 persons)
Salaries administrative personnel (5 persons)
Laboratory maintenance
Consumables
Water, electricity and services
780
630
500
90
74
30
Research and development equipment with a cost of R3 000 000 (purchased on 1 January 20.5) is written
off at 20% per annum on a straight-line basis.
The research and development equipment is utilised as follows:
Research activities (motor engine electronic component)

Development activities (motor engine electronic
component)
Research activities (swimming pool component)
01/01/20.5
to
01/03/20.5
01/03/20.5
to
31/08/20.5
01/06/20.5
to
31/12/20.5
50%
50%
-
50%
For the commercial production of the motor engine electronic component, Hegco Ltd bought specialised
plant and machinery at a cost of R1 050 000 on 1 September 20.5. The specialised plant and machinery
is expected to be sold for R150 000 after three years, and are therefore amortised on the straight line
method over three years. Upon review of the residual value and useful life of the specialised plant and
machinery at 31 December 20.5, expectations in respect thereof did not differ from previous estimates.
Projections (20.5 actual) for the sale of the motor engine electronic component are as follows:
Unit sales
20.5
20.6
20.7
100 000
350 000
150 000
At 31 December 20.5 the company had no inventories of the motor engine electronic component on hand.
With the preparation of the financial statements on 31 December 20.5 there were indications that the
recoverable amount of the development costs was materially impaired. A competitor introduced a similar
product to the market at a drastically reduced price. On 31 December 20.5 new calculations and estimates
showed that the value in use based on the discounted net profits, amounted to R400 000. The cost of
capital (16%) of Hegco Ltd was used as the discount rate to calculate the value in use.
It is the policy of the company to amortise development costs on the basis of units sold to total marketable
units. Past experience provided persuasive evidence that this method best reflects the pattern in which
the assets economic benefits are consumed.
Assume all amounts to be material and ignore taxation.
144
REQUIRED
Disclose the above mentioned information in the notes to the financial statements of Hegco Ltd for the
year ended 31 December 20.5. Notes as required by the Standards on Revenue and Inventory are not
required.
Your answer should comply with Standards of Generally Accepted Accounting Practice. Ignore
comparative amounts.
Solution
HEGCO LTD
1.
Accounting policy
1.1
Internal generated intangible assets - Development costs

Development costs are written off in the year in which they are incurred, unless they comply with the
asset recognition criteria in which case it is capitalised and amortised on a systematic basis which
reflects the pattern whereby expected economic benefits are recognised, being the units sold during
the year as a percentage of the total marketable units.
Amortisation rate of motor engine component - 600 000 estimated saleable units.
1.2
Research costs
Research costs are recognised as an expense in the year in which it is incurred.
1.3

Plant and equipment are shown at the historical cost less accumulated depreciation. Plant and
equipment are depreciated using the straight-line method.
The depreciation rates used are as follows:
Research and development equipment
Specialised plant and machinery
1.4
- 20% per annum

- 33a% per annum
Impairment of assets
At each balance sheet date the company assesses whether there is an indication that an asset may
be impaired or that a previous impairment loss may have been reversed. If any such indication exists
the recoverable amount of the asset is estimated. Impairment losses are taken directly to the income
statement and reversals are recouped through the income statement.
145
2.
ACN302-U/1
Profit before tax

Profit before tax includes the following items:
R
Employee benefit costs
1 147 500
Provided for the year (calc 8)

Less: Allocated to research costs
(65 000 + 35 000 + 113 750 + 65 000 + 183 750) (calc 2)
Allocated to development costs (195 000 + 105 000) (calc 2)
1 910 000
(462 500)
(300 000)
Research costs (170 500 + 590 000) (calc 2)

Impairment loss - development costs included in Cost of Sales (calc 3)
Amortisation of development costs (calc 4)
- included in the line item for Cost of Sales
Depreciation (100 000 (calc 5) + 225 000 (calc 6))
Provided for the year (100 000 (calc 5) + 600 000 (calc 6))
Less: Allocated to research costs (50 000 + 175 000) (calc 2)
Less: Capitalised as development costs (calc 2)
760 500
26 250
85 250
325 000
700 000
(225 000)
(150 000)
COMMENT
3.
1.
It is not necessary to disclose amortisation per class of intangible asset and consequently
it would normally be sufficient to only disclose total amortisation, without reference to the
type of asset it relates to. However, IAS 38 (AC 129).126 requires disclosure of the total
research and development expenses recognised during the period, and consequently it
would be necessary to disclose here that amortisation relates to development costs.
2.
IAS 38 (AC 129).118(d) requires disclosure of the line-item in which the amortisation is
included - in this case it is cost of sales.
Carrying amount at the beginning of the year

Acquisition
Depreciation (calc 5; calc 6)
Carrying amount at the end of the year
Specialised
plant and
machinery
R
Research
and development
equipment
R
1 050 000
(100 000)
3 000 000
(600 000)
950 000
2 400 000
1 050 000
(100 000)
3 000 000
(600 000)
146
4.
Internal generated intangible assets

Development
costs
R
Capitalised during the year (calc 2)
Impairment loss recognised in income statement
Amortisation (calc 4)
511 500
(26 250)
(85 250)
Carrying amount at the end of the year
400 000

Accumulated amortisation and impairment losses
511 500
(111 500)
The remaining useful life of development costs related to the motor engine electronic component with
a carrying amount of R400 000, is estimated on 500 000 marketable units of the product.1
COMMENTS
1
The description, carrying amount and remaining useful life of development costs should be
disclosed if the item involved is material to the financial statements - see IAS 38
(AC 129).122(b).
5. Impairment of intangible asset

The carrying amount of development costs related to the motor engine electronic component has
decreased in value due to a drastic reduction in the selling price of similar products introduced to the
market by a competitor. The impairment loss amounted to R26 250.
The recoverable amount of the development costs is determined by calculating the value in use using
a discount rate of 16%.
CALCULATIONS
1. Costs that can be allocated
R
Laboratory maintenance
Water, electricity and services
90 000
30 000
120 000
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2. Allocation of costs to research and development

Motor engine electronic
component
Swimming pool
component
Research
R
Development
R
Research
R
65 000
-
195 000
-
113 750
65 000
Laboratory technicians:
630 000/6 x 2/12 x 2
630 000/6 x 6/12 x 2
630 000/6 x 7/12 x 3
35 000
-
105 000
-
183 750
Consumables: (calc 7)
42 000 x 2/8
42 000 x 6/8
25 000
10 500
-
31 500
-
25 000
Costs that can be allocated: (calc 1)

120 000/4 x 2/12 x 2
120 000/4 x 6/12 x 2
120 000/4 x 7/12 x 1
120 000/4 x 4/12 x 1
10 000
-
30 000
-
17 500
10 000
Depreciation:
3 000 000 x 20% x 2/12 x 50%
3 000 000 x 20% x 6/12 x 50%
3 000 000 x 20% x 7/12 x 50%
50 000
-
150 000
-
175 000
170 500
511 500
590 000
Engineers:
780 000/4 x
780 000/4 x
780 000/4 x
780 000/4 x
2/12
6/12
7/12
4/12
x
x
x
x
2
2
1
1
3. Impairment loss of development costs

Recoverable amount (value in use - given)
Carrying amount of development costs on 31 December 20.5
(511 500 - 85 250 (calc 4))
Impairment loss
400 000
426 250
26 250
4. Amortisation of development costs

511 500(calc 2)/600 000 units x 100 000 units = 85 250
5. Depreciation: plant and machinery
(1 050 000 - 150 000)/3 x 4/12 = 100 000
6. Depreciation of research and development equipment
Total provision (3 000 000 x 20%)
Less: Allocated (50 000 + 150 000 + 175 000) (calc 2)
Unallocated
600 000
(375 000)
225 000
148
7. Research on motor engine component:
Development on motor engine component:
Total months:
1 January to 1 March
1 March to 31 August
2 months
6 months
8 months
8. Employee benefit costs

780 000 + 630 000 + 500 000 = 1 910 000.
Example
Electronics Galore Limited manufactures electronic equipment. The company has a 31 March year-end.
Electronics Galore Limited has their own research and development department and makes use of local
research institutes. The following information is relevant to development costs in respect of a new
electronic product:
Development costs capitalised to 31 March 20.0 amounted to R40 000, after it met all the criteria for
it to be classified as an intangible asset.
A further amount of R50 000 was spent during the current financial year on development costs.
Production commenced on 1 October 20.0.
It is expected that the economic benefits that will be enjoyed by the company will far exceed the
development costs.
The marketing division estimates that the product will only be sold for a limited period of time and estimates
the annual sale, in units, as follows:
Units
1 October 20.0 - 31 March 20.1
400 000
1 April 20.1 - 31 March 20.2
900 000
1 April 20.2 - 31 March 20.3
600 000
1 April 20.3 - 31 March 20.4
500 000
The tax base of the development costs at 31 March 20.0 and 31 March 20.1 amounted to R30 000 and
R51 000. The tax rate is 30% for all five years. The company provides for deferred tax on all temporary
differences using the balance sheet approach.
The full production is sold during the relevant financial period and there is no inventory on hand at yearend.
REQUIRED:
(a) Prepare the balance sheet notes to the annual financial statements of Electronics Galore Limited for
the year ended 31 March 20.1. Your answer must comply with the requirements of the Companies Act,
1973 and Generally Accepted Accounting Practice.
(b) Calculate the deferred tax transfer to/from the income statement for the year ended 31 March 20.1.
(UP adapted)
149
Solution
ACN302-U/1
(a) NOTES TO THE BALANCE SHEET

ELECTRONICS GALORE LIMITED
1.
Accounting policy
1.1 Internally generated intangible assets - Development costs

Development costs are written off in the year in which they are incurred, unless they comply with the asset
recognition criteria in which case it is amortised on a systematic basis which reflects the pattern whereby
expected economic benefits are recognised.
The electric component development costs are amortised on the straight-line method in relation to the
estimated annual units that will be produced. The total estimated saleable units are 2 400 000.
1.2 Research costs
Research costs are recognised as an expense in the year in which it is incurred.
2.
Intangibles
R
Internal generated intangible asset

40 000

40 000
-
Capitalised during the year

Amortisation (1)
50 000
(15 000)

75 000
90 000
(15 000)
The remaining useful life of development costs related to the development of a new electronic product
with a carrying amount of R75 000, is estimated on 2 000 000 saleable units of the product.
CALCULATIONS
Amortisation of intangible assets
R
Total costs capitalised (40 000 + 50 000)
90 000
Amortisation 1
15 000
90 000 x
400 000
400 000 + 900 000 + 600 000 + 500 000
150
(b) DEFERRED TAX TRANSFER
Carrying
amount
R
Tax basis
R
Temporary
difference
R
Deferred
tax
liability
R
31 March 20.0 Development costs
40 000
30 000
(10 000)
(3 000)
31 March 20.1 Development costs
75 000
51 000
(24 000)
(7 200)
Transfer to income statement (dr to I/S)
(4 200)
ASSESSMENT CRITERIA
identify and discuss the components of the definition of intangible assets;
identify and discuss the components of research and development costs;
calculate research and development costs treated as an expense;
distinguish whether development costs should be treated as an expense or as an asset and to treat
it correctly in accordance with Generally Accepted Accounting Practice;
explain the basis, principles and methods for the amortisation of an intangible asset;
explain and apply the principles surrounding recoverability and handling of impairment of intangible
assets;
name and apply the criteria and requirements for the recognition and initial measurement of
intangible assets, including internally generated intangible assets;
explain the criteria for the assessment of the useful life of an intangible asset;
describe and apply the cost model and the revaluation model for the measurement of intangible
assets subsequent to initial recognition; and
disclose intangible assets in accordance with the requirements of the Companies Act, 1973 and
151
ACN302-U/1
STUDY
UNIT
5
NON-CURRENT ASSETS HELD FOR SALE AND
DISCONTINUED OPERATIONS (IFRS 5)(AC 117)
LEARNING OUTCOME 5
account for non-current assets held for sale or disposal groups in the financial statements of an
entity in accordance with the requirements of the Companies Act, 1973 and Generally Accepted
Accounting Practice;
account for discontinued operations in the financial statements of an entity in accordance with the
requirements of the Companies Act, 1973 and Generally Accepted Accounting Practice.
Objective
PART I:
5.1
5.2
5.3
5.3.1
5.3.2
5.3.3
5.4
5.5
5.5.1
5.5.2
5.5.3
5.6
5.6.1
5.6.2
5.6.3
5.6.4
5.6.5
5.7
5.7.1
5.7.2
5.7.3
5.7.4
NON-CURRENT ASSETS HELD FOR SALE

Introduction
Definitions
Classification of non-current asset (or disposal group) as held for sale
Criteria to qualify as held for sale
Extension of period required to complete a sale
Other matters to consider with regard to classification
The criteria in 5.3.1 are met after balance sheet date
Scope of IFRS 5
Included in the scope
Items excluded from the scope of IFRS 5
Disposal group containing both items included and excluded from the measurement
requirements of IFRS 5
Measurement of a non-current asset held for sale (or disposal group)
Measurement immediately before initial classification as held for sale
Application of IFRS 5 to an existing individual asset
Application of IFRS 5 to a disposal group at initial classification as held for sale
Other matters in respect of measurement
Subsequent remeasurement of an individual asset or disposal group
Recognition of impairment losses and reversals
Impairment loss for an individual non-current asset
Impairment loss for a disposal group
Reversal of an impairment loss/gain on remeasurement of an individual asset
Recognition of gains and losses at date of sale of a non-current asset
152
5.8
5.9
5.9.1
5.9.2
5.9.3
5.10
5.10.1
5.10.2
Non-current assets to be abandoned

Changes to a plan of sale
General
Individual assets no longer classified as held for sale
Individual item part of disposal group, no longer classified as held for sale
Presentation of a non-current asset or disposal group classified as held for sale
Presentation
Additional disclosures
PART II: DISCONTINUED OPERATIONS

5.11
5.11.1
5.11.2
5.11.3
5.12
5.12.1
5.13
5.14
Introduction
Objective
Definition
Classification as discontinued operation
Presentation and disclosure
Disclosure
Gains or losses relating to continuing operations
Model for disclosure
STUDY:
1. International Financial Reporting Standards
IFRS 5 (AC 117) - Non-current Assets Held for Sale and Discontinued operations (effective date:
January 2005)
The chapter dealing with non-current assets held for sale and discontinued operations
Objective
The objective of this IFRS is to specify the accounting for assets held for sale, and the presentation and
disclosure of discontinued operations. In particular, the IFRS requires:
assets that meet the criteria to be classified as held for sale to be measured at the lower of carrying
amount and fair values less cost to sell, and depreciation on such assets to cease;
assets that meet the criteria to be classified as held for sale to be presented separately on the face of
the balance sheet and the results of discontinued operations to be presented separately in the income
statement.
Since discontinuing an operation would by implication comprise, among other things, disposing of current
and non-current assets and associated liabilities, it appears logical to combine this issue with discontinued
operations in IFRS 5. However, for purposes of studying the two issues, they have been split.
Non-current assets held for sale are dealt with in Part I and Discontinued operations (including
associated non-current assets now held for sale) are dealt with in Part II of this chapter.
153
ACN302-U/1
PART I: NON-CURRENT ASSETS HELD FOR SALE
5.1 INTRODUCTION
In terms of IAS 1 (AC 101) assets and liabilities should be classified between current and non-current on
the face of the balance sheet. IFRS 5 prescribes how non-current non-financial assets that are to be
disposed of in the near future should be treated by stating that such assets and associated liabilities to be
recovered and settled through sale, shall be remeasured to the lower of carrying amount and fair value less
costs to sell and carried as current items on the face of the balance sheet.
Example
Bang Limited holds an item of property, plant and equipment with a historical cost carrying amount of
R120 000 at 31 December 20.1. On that date management decides to sell the asset for R130 000 (fair
value) by 31 March 20.2 and concludes a valid uncancellable sales contract (using fair prices) to this effect
with a buyer. Costs to sell the asset will amount to R12 000. Assume all amounts involved are material and
that the criteria for classification as held for sale have been met.
In short, applying IFRS 5 will have the following effect:
The carrying amount of the PPE-item at 31 December 20.1 should be determined:
Since the decision to sell was taken at year-end, the carrying amount is R120 000.
Next the fair value less costs to sell of the PPE-item should be determined:
Fair value is R130 000 and costs to sell amounts to R12 000. Consequently the fair value less costs to sell
is R118 000.
The PPE-item initially classified to held for sale should now be transferred from non-current assets to
current assets and should then be measured at the lower of its carrying amount and fair value less costs
to sell.
The PPE-item with a carrying amount of R120 000 shall thus be transferred from non-current to current
assets on the face of the balance sheet and be described as held for sale. This held for sale asset shall
then be written down from R120 000 to R118 000 and an impairment loss of R2 000 shall be recognised
in the income statement of 20.1.
5.2
DEFINITIONS (IFRS 5 Appendix A)
The definitions set out below should be studied carefully before the content of the rest of the material and
Standard is attempted to ensure that you understand clearly what you are dealing with. Note that some
of the definitions will be familiar to you, as you have encountered them in other study units. However, since
these definitions are also important in this Standard, they have been repeated here.
Cash-generating unit is the smallest identifiable group of assets generating cash inflows that are largely
independent of the cash inflows from other assets or groups of assets. This definition is also used in
IAS 36 (AC 128) and is dealt with in Study Unit 3.
Component of an entity is operations and cash flows that can be clearly distinguished, operationally and
for financial reporting purposes, from the rest of the entity.
154
Costs to sell is the incremental costs directly attributable to the disposal of an asset (or disposal group),
excluding finance costs and the income tax expense.
A current asset is an asset that satisfies any of the following criteria:
(a) it is expected to be realised in, or is intended for sale or consumption in, the entitys normal operating
cycle;
(b) it is held primarily for the purpose of being traded;
(c) it is expected to be realised within twelve months after the balance sheet date; or
(d) it is cash or a cash equivalent asset unless it is restricted from being exchanged or used to settle a
liability for at least twelve months after the balance sheet date.
A discontinued operation is a component of an entity that either has been disposed of or is classified
as held for sale and:
(a) represents a separate major line of business or geographical area of operations,
(b) is part of a single co-ordinated plan to dispose of a separate major line of business or geographical
area of operations or
(c) is a subsidiary acquired exclusively with a view to resale.
A disposal group is a group of assets to be disposed of, by sale or otherwise, together as a group in a
single transaction, and liabilities directly associated with those assets that will be transferred in the
transaction. The group includes goodwill acquired in a business combination if the group is a cashgenerating unit to which goodwill has been allocated in accordance with the requirements of paragraphs
80-87 of IAS 36 (AC 128) Impairment of assets or if it is an operation within such a cash-generating unit.
Fair value is the amount for which an asset could be exchanged, or a liability settled, between
knowledgeable, willing parties in an arms length transaction.
A firm purchase commitment is an agreement with an unrelated party, binding on both parties and
usually legally enforceable, that:
(a) specifies all significant terms, including the price and timing of the transactions, and
(b) includes a disincentive for non-performance that is sufficiently large to make performance highly
probable.
Highly probable means significantly more likely than probable.
A non-current asset is an asset that does not meet the definition of a current asset. Note that current
assets were defined earlier under this heading.
Probable means more likely than not.
Recoverable amount is the higher of an assets fair value less (minus) costs to sell and its value in use.
Value in use is the present value of estimated future cash flows expected to arise from the continuing use
of an asset and from its disposal at the end of its useful life.
5.3
CLASSIFICATION OF A NON-CURRENT ASSET (OR DISPOSAL GROUP) AS HELD FOR SALE
An entity shall classify a non-current asset (or disposal group) as held for sale if its carrying
amount will be recovered principally through a sale transaction rather than through continuing use.
(IFRS 5.06)
155
ACN302-U/1
5.3.1 Criteria to qualify as held for sale

IFRS 5 requires non-current assets that are to be disposed of to be reclassified from non-current to current.
IFRS 5 makes it clear that items should only be classified as held for sale once they have met all the
criteria as set out in IFRS 5.07 to .11. These criteria are:
The asset (or disposal group) must be available for immediate sale in its present condition subject only
to terms that are usual and customary for sales of such assets (or disposal groups) and its sale must
be highly probable.
For the sale to be highly probable, the appropriate level of management must be committed to a plan
to sell the asset (or disposal group), and an active programme to locate a buyer and complete the plan
must have been initiated.
The asset (or disposal group) must be actively marketed for sale at a price that is reasonable in relation
to its current fair value.
The sale should be expected to qualify for recognition as a completed sale within one year from the date
of classification, except if there are acceptable grounds for extension of the sales period beyond 1 year
as permitted by IFRS 5.09. (Refer to 5.3.2.)
Actions required to complete the plan should indicate that it is unlikely that significant changes to the
plan will be made or that the plan will be withdrawn.
5.3.2 Extension of the period required to complete a sale IFRS 5 Appendix B (Application supplement)
As noted in 5.3.1 above, an extension of the period required to complete a sale beyond one year does not
preclude an asset (or disposal group) from being classified as held for sale if the delay is caused by events
or circumstances beyond the entitys control and if there is sufficient evidence that the entity remains
committed to its plan to sell the asset (or disposal group).
An exception to the one-year requirement mentioned in 5.3.1 point 4 shall therefore apply in the following
situations in which such events or circumstances arise:
at the date an entity commits itself to a plan to sell a non-current asset (or disposal group) it reasonably
expects that others (not a buyer) will impose conditions on the transfer of the asset (or disposal group)
that will extend the period required to complete the sale, and:
S actions necessary to respond to those conditions cannot be initiated until after a firm purchase
commitment is obtained, and
S a firm purchase commitment is highly probable within one year; or
an entity obtains a firm purchase commitment and, as a result, a buyer or others unexpectedly impose
conditions on the transfer of a non-current asset (or disposal group) previously classified as held for
sale that will extend the period required to complete the sale, and;
S timely actions necessary to respond to the conditions have been taken, and
S a favourable resolution of the delaying factors is expected; or
during the initial one-year period, circumstances arise that were previously considered unlikely and, as
a result, a non-current asset (or disposal group) previously classified as held for sale is not sold by the
end of that period, and
S during the initial one-year period the entity took action necessary to respond to the change in
circumstances,
156
S the non-current asset (or disposal group) is being actively marketed at a price that is reasonable,
given the change in circumstances, and
S the criteria in 5.3.1 above, are met.
5.3.3 Other matters to consider with regard to classification as held for sale
Sale transactions include exchanges of non-current assets for other non-current assets when the
exchange has commercial substance in accordance with IAS 16 (AC 123) Property, plant and equipment.
IFRS 5.10
When an entity acquires a non-current asset (or disposal group) exclusively with a view to its subsequent
disposal, it shall classify the non-current asset (or disposal group) as held for sale at the acquisition date,
only if the one-year or a permitted extended period requirement is met and it is highly probable that any
other criteria in point 5.3.1 above that are not met at acquisition date will be met within a short period
following the acquisition (usually limited to three months). IFRS 5.11
5.4
THE CRITERIA IN 5.3.1 ARE MET AFTER BALANCE SHEET DATE IFRS 5.12
If the criteria in 5.3.1 are met after the balance sheet date, an entity shall not classify a non-current asset
(or disposal group) as held for sale in those financial statements when issued.
However, when the criteria in 5.3.1 are met after the balance sheet date but before the authorisation of the
financial statements for issue, the entity shall disclose the following information by way of a note:
(a)
a description of the non-current asset (or disposal group);
(b)
a description of the facts and circumstances of the sale, or leading to the expected disposal, and the
expected manner and timing of that disposal;
(c)
if applicable, the segment in which the non-current asset (or disposal group) is presented in
accordance with IAS 14 (AC 115) Segment reporting.
5.5
SCOPE OF IFRS 5
5.5.1 Included in the scope

The classification and presentation requirements of IFRS 5 applies to all recognised non-current assets
and disposal groups of an entity.
The measurement requirements of IFRS 5 apply to all recognised non-current assets and disposal groups
except for those listed in 5.5.2 below which shall continue to be measured in accordance with the Standard
noted. IFRS 5.2
Assets classified as non-current assets in accordance with IAS 1 (AC 101) Presentation of Financial
Statements shall not be reclassified as current assets until they meet the criteria to be classified as held
for sale in accordance with IFRS 5 (refer 5.3.1). Assets of a class that an entity would normally regard as
non-current that are acquired exclusively with a view to resale shall not be classified as current assets until
they meet the criteria to be classified as held for sale in accordance with IFRS 5 (refer 5.3.1). IFRS 5.3
Sometimes an entity disposes of a group of assets, possibly with some directly associated liabilities,
together in a single transaction. Such a disposal group may be a group of cash-generating units, a single
cash generating unit or part of a cash generating unit. IFRS 5.4
157
Example
ACN302-U/1
You may decide to sell any of the following:

-
a factory comprising three manufacturing plants with carrying amounts of respectively R200 000,
R300 000 and R400 000 representing a group of three cash-generating units, OR
one of the three manufacturing plants representing a single cash-generating unit, for instance the
plant with a carrying amount of R200 000, OR
two machines with carrying amounts of R80 000 each forming part of one manufacturing plant and
replace it by two more modern machines.
Each of the above alternatives will represent a disposal group as defined in 5.2.
If a non-current asset within the scope of the measurement requirements of IFRS 5 is part of a disposal
group, the measurement requirements apply to the group as a whole, so that the group is measured at the
lower of its carrying amount and fair value less costs to sell. IFRS 5.4
The requirements for measuring the individual assets and liabilities within the disposal group are set out
below:
S
Immediately before the initial classification of the asset (or disposal group) as held for sale, the
carrying amounts of the asset (or all the assets and liabilities within the group) shall be measured
in terms of the Standards (IASs, ACs) normally applicable to them. IFRS 5.18
For instance, if a company wants to sell a machine (PPE-item) carried at historical cost, the carrying
amount of the machine must be determined immediately before the initial classification as held for
sale. Depreciation will have to be written off on the machine right up to the point of reclassification,
to determine its carrying amount in terms of IAS 16 (AC123) Property, plant and equipment, the
applicable Standard.
On subsequent measurement of a disposal group, the carrying amounts of any assets and liabilities
that are not within the scope of the measurement requirements of IFRS 5, but are included in a
disposal group classified as held for sale, shall be remeasured in accordance with the
applicable IFRSs before the fair value less costs to sell of the disposal group is remeasured.
IFRS 5.19
In terms of certain Standards, some non-current items are already measured at fair value with fair value
adjustments being included in profit or loss. For other non-current items it could be difficult to determine
the fair value less costs to sell. IFRS 5 excludes several items from the measurement requirements
contained in IFRS 5.
5.5.2 Items excluded from the scope of IFRS 5 regarding measurement requirements
Assets already carried at fair value with changes in fair value recognised in profit or loss. The assets
affected are:
S
financial assets within the scope of IAS 39 (AC 133) Financial Instruments: Recognition and
Measurement
non-current assets that have been accounted for using the fair value model in IAS 40 (AC 135)
Investment Property
non-current assets that have been measured at fair value less estimated point-of-sale costs in
accordance with IAS 41 (AC 137) Agriculture (not part of your syllabus).
158
Assets for which there might be difficulties in determining their fair value. The assets affected are:
S
deferred tax assets from IAS 12 (AC 102) Income Taxes.
assets arising from employee benefits in terms of IAS 19 (AC 116) Employee Benefits (not part of
your syllabus)
assets arising from insurance contracts as defined in IFRS 4 (not part of your syllabus).
The above-mentioned assets will be carried at the values determined by applying their applicable
Standards.
5.5.3 Disposal group containing both items included and excluded from the measurement
requirements of IFRS 5
A disposal group may include any assets and any liabilities of an entity - therefore current and non-current
assets and liabilities as well as some assets that are excluded from the measurement requirements of
IFRS 5 (see 5.5.2) could form part of a disposal group.
Example
A disposal group could consist of the following items:

Item
Land: cost
100 000
Factory building: carrying amount
Plant: carrying amount
Inventories: carrying amount
Payables associated with the plant, inventory
and factory building
Share investments: fair value
R
400 000
210 000
60 000
30 000
100 000
The first three items listed above would be non-current assets included in the scope of measurement
requirements of IFRS 5, being the lower of carrying amount and fair value less costs to sell. The next item,
being inventories, is a current asset being disposed of as part of the disposal group. The payables
represent an associated liability, while the share investment represents a non-current asset excluded from
the scope of measurement requirements of IFRS 5. Irrespective of the diverse nature of the items in the
disposal group, the items involved still comprise a single disposal group.
5.6
MEASUREMENT OF A NON-CURRENT ASSET HELD FOR SALE (OR DISPOSAL GROUP)
5.6.1 Measurement immediately before initial classification as held for sale

According to IFRS 5.18 (refer 5.5.1) the carrying amount of a non-current asset (or all the assets and
liabilities in a disposal group) shall, immediately before the initial classification as held for sale, be
measured in accordance with the applicable IFRSs.
An entity shall measure a non-current asset (or disposal group) classified as held for sale at the
lower of its carrying amount (at the moment of reclassification) and fair value less costs to sell this adjustment is an impairment loss. IFRS 5.15
If a non-current asset held for sale (or disposal group) falls outside the scope of IFRS 5 in respect of
measurement requirements, the individual item shall not be restated to the lower of carrying amount and
fair value less costs to sell, but shall instead be carried at the value determined by applying the relevant
Standard relating to that asset.
159
ACN302-U/1
5.6.2 Application of IFRS 5 to an existing individual asset

The following examples illustrates the principles of IFRS 5 applicable on individual assets.
Example
Individual asset carried at historical cost
Chuck Ltd has a PPE-item with a cost of R400 000 and a historical cost carrying amount of R320 000 at
1 January 20.2. PPE is depreciated at 10% per annum on the straight-line basis. Chuck Ltd has a
31 December year-end.
On 30 June 20.2 management decides to dispose of the asset within the next year and all other criteria
to facilitate the classification of the asset as a non-current asset held for sale, are met. The fair value of
the PPE-item amounts to R290 000 and the direct costs to sell amounts to R15 000.
Solution
Applying the requirement in IFRS 5.18 (refer 5.5.1) that non-current assets to be reclassified as held for
sale need to have their carrying amounts measured in terms of applicable Standards immediately before
initial classification as held for sale, would mean that IAS 16 (AC 123) would be applied to determine the
carrying amount on 30 June 20.2 of the PPE-item involved. Consequently the carrying amount of the PPEitem should be calculated as R300 000 (R320 000 - (R400 000 x 10% x 6/12)) raising a depreciation
expense of R20 000 in respect of this asset in 20.2 at point of initial classification as held for sale.
In terms of IFRS 5.15 (refer 5.6.1) this newly determined carrying amount of R300 000 should be
compared to the fair value less costs to sell of the PPE-item involved of R275 000, and be shown at the
lower of the two. In this case it will result in an impairment loss of R15 000 as prescribed by IFRS 5.20.
Guidelines applying IFRS 5 on an individual asset carried at historical cost
S The carrying amount of the asset to be disposed of is measured at date of initial classification in
accordance with the applicable Standard e.g. by applying IAS 16 (AC 123) - the Standard applicable to the type of item (property, plant and equipment) disposed of.
S Once the item has been classified as held for sale, no further depreciation is written off on the specific
asset.
S The comparison of the newly measured carrying amount with the fair value less costs to sell, will result
in the recognition of an impairment loss.
Example
Individual asset carried at fair value
On 1 January 20.2 (beginning of the year) Digit Ltd owns a property which is rented out under an operating
lease agreement (investment property) and is carried at fair value of R500 000. The fair value of the
investment property is R510 000 at 30 June 20.2, while costs to sell at that date would amount to R15 000.
Assume all amounts to be material.
On 30 June 20.2 management decides to dispose of the investment property within the next year and all
other criteria to facilitate the classification of the asset as a non-current asset held for sale, have been met.
160
Solution
Applying the requirement in IFRS 5 that non-current assets to be classified as held for sale need to have
their carrying amounts measured in terms of applicable Standards immediately before classification as held
for sale, would mean that IAS 40 (AC 135) would be applied to determine the carrying amount of the
investment property on 30 June 20.2.
However, investment properties fall outside the scope of the measurement requirements of the
Standard in terms of IFRS 5.5 and should therefore be carried as a current asset at fair value only (without
deducting costs to sell) once classified as held for sale (see 5.5.1 and 5.5.2). Consequently this newly
determined carrying amount of R510 000 (fair value) should not be compared to the fair value less costs
to sell of the item involved [being R495 000 (R510 000 - R15 000)], as the exception to measurement
requirements applies. The investment property shall now be carried as a current asset at its new fair value
of R510 000.
Guidelines applying IFRS 5 on an individual asset carried at fair value
The carrying amount of the asset to be disposed of is measured at date of initial classification as held
for sale in accordance with the applicable Standard e.g. by applying the fair value model in
IAS 40 (AC 135) - the Standard applicable - to the type of item (investment property) disposed of.
Since the fair value model is used, no depreciation is written off on the investment property.
However, if the cost model was used, the carrying amount at initial classification as held for sale
would be determined writing off depreciation to the point of initial classification. Thereafter the
carrying amount is remeasured to the lower of this new carrying amount and fair value less costs to
sell. No further depreciation is written off after remeasurement.
No comparison of the newly measured carrying amount of the asset with the fair value less costs to
sell is made, as the item under discussion is excluded from the measurement requirements of IFRS
5.
The classification and presentation requirements of IFRS 5 will still apply and the investment
property will be carried as a current asset once classified as held for sale.
5.6.3 Application of IFRS 5 to a disposal group at initial classification as held for sale
A disposal group is a group of assets to be disposed of, by sale or otherwise, together as a group in a
single transaction, and liabilities directly associated with those assets that will be transferred in the
transaction.
Sometimes an entity disposes of a group of assets possibly with some directly associated liabilities,
together in a single transaction (IFRS 5.4). Immediately before the initial classification of the disposal group
as held for sale, the carrying amounts of the assets (or all the assets and liabilities in the group), shall be
measured in accordance with the applicable IFRSs. IFRS 5.18
Example
Candy Ltd (year-end 31 December 20.4) decides on 30 September 20.4 to dispose of a disposal group
within the next year. All the requirements for classification as held for sale have been met and
consequently the disposal group can be classified as held for sale. The carrying amounts of the items
included in the disposal group are the following (please take note of the dates involved):
Land (at 1 January 20.4):
Carrying amount R100 000
161
ACN302-U/1
Factory building (at 1 January 20.4):

Carrying amount R500 000 (depreciate: reducing balance at 6,667% per annum)
Plant (at 1 January 20.4):
Carrying amount R210 000 (depreciate: reducing balance at 13,3333% per annum)
Inventories:
Carrying amount R60 000 (at 30 September 20.4 with a net realisable value (NRV) of R50 000)
Payables associated with the plant, inventories and factory building: R30 000 (at 30 September 20.4)
Share investments:
Fair value R100 000 (30 September 20.4)
The fair value of the disposal group at 30 September 20.4, date of initial classification as held for sale,
amounted to R880 000 (amount assumed), while costs associated with selling the disposal group
amounted to:
Commission on sale of all items in disposal group = R40 000
Capital gains tax (CGT) on disposal of factory = R10 000
Solution
In this case, although the share investments fall outside the scope of IFRS 5 regarding measurement
requirements, the disposal group as a whole will be subject to the measurement requirements since other
non-current assets within the scope of IFRS 5 form part of the group and the whole disposal group will thus
be measured at the lower of carrying amount and fair value less costs to sell.
Step one:
Determine the carrying amount of all the individual assets in the disposal group at
30 September 20.4
R
Land at cost
Factory building [500 000 - (500 000 x 6,667% x 9/12)] (IAS 16 (AC 123) applicable)
Plant [210 000 - (210 000 x 13,3333% x 9/12)] (IAS 16 (AC 123) applicable)
Inventories - use NRV since lower than cost (IAS 2 (AC 108) applicable)
Payables - cost (IAS 39 (AC 133) applicable)
Share investments fair value (IAS 39 (AC 133) applicable)
Total carrying amount
100 000
475 000
189 000
50 000
(30 000)
100 000
884 000
Step two:
Determine the fair value less costs to sell of the disposal group at 30 September 20.4
R
Fair value less costs to sell (880 000 - 40 000)
Note: CGT is excluded specifically per the definition of costs to sell (see 5.2)
840 000
162
Step 3:
Determine the lower of carrying amount and fair value less costs to sell at 30 September 20.4
R
Fair value less costs to sell (880 000 40 000)
840 000
Carrying amount
884 000
Measure the disposal group held for sale at the fair value less costs to sell, as this is the lower
of the two figures calculated
840 000
Step 4:
Calculate the impairment loss suffered at 30 September 20.4
R
Carrying amount less fair value less costs to sell (884 000 - 840 000)
44 000
Guidelines for application of IFRS 5 on disposal group

All the assets and liabilities in the disposal group initially classified as held for sale will first be
measured to their carrying amounts by applying the IFRSs applicable to them. Note the applicable
Standard in brackets.
The fair value less costs to sell of the whole disposal group is then determined. Note the calculation
of fair value less costs to sell per definition.
The disposal group will then be measured to the lower of its carrying amount and fair value less
costs to sell. This is done by allocating the impairment loss of R44 000 to non-current assets within
the scope of the measurement requirements of IFRS 5 (a detailed discussion and examples of the
matter appears hereafter).
Note: if none of the assets in a disposal group falls within the scope of measurement requirements of
IFRS 5, then the measurement requirement of IFRS 5 will not be applicable to the disposal group and the
assets in the group will merely be carried at their values determined by applying their applicable Standards.
Example
Eish-Deish Ltd decides on 30 June 20.4 to dispose of all its share investments in one transaction at some
point during the next year. All the requirements for classification as held for sale of this disposal group
have been met. Consequently the disposal group can be classified as held for sale. Eish-Deish Ltd has
a 31 December year-end and accounts for their share investments according to IAS 39 (AC 133). The
share investments are designated as financial assets at fair value through profit or loss. The carrying
amounts of the items included in the disposal group are the following:
Speculative share investments at fair value at 1 January 20.4: R85 000;
30 June 20.4: R90 000
Long-term share investments at fair value at 1 January 20.4: R95 000;
30 June 20.4: R105 000
163
ACN302-U/1
The fair value of the disposal group at 30 June 20.4 amounted to R195 000, while costs associated with
selling amounted to:
Commission on sale of both investments = R23 000 (assumed)
CGT on disposal of investments = R10 000 (assumed)
Solution
Share investments fall outside the scope of IFRS 5 regarding measurement requirements, and thus the
disposal group as a whole will be excluded from the scope of IFRS 5 in respect of measurement
requirements. Consequently the investments will be shown at fair value without deducting costs to sell and
not the lower of carrying amount and fair value less costs to sell.
Step 1:
Determine the carrying amount of the individual assets in the disposal group at 30 June 20.4
R
Speculative share investments - fair value (IAS 39 (AC 133))
Other share investments - fair value (IAS 39 (AC 133))
90 000
105 000
195 000
Guidelines approaching this question:

The assets in the disposal group reclassified as held for sale will first be measured to their carrying
amounts at the point of classification as held for sale by applying the IFRSs applicable to them. In
this case the fair value adjustment to the investments will be R15 000 in total (R195 000 - R180 000)
and this amount is taken to profit or loss.
The fair value less costs to sell of the whole disposal group is not determined as all assets in the
disposal group fall outside the scope of the measurement requirements of IFRS 5.
5.6.4 Other matters in respect of measurement
Non-current assets are sometimes acquired with a view to dispose of in the short-term.
If a newly acquired non-current asset (or disposal group) meets the criteria to be classified as held for sale,
applying the measurement requirements of IFRS 5 (refer IFRS 5.15) will result in the asset (or disposal
group) being measured on initial recognition at the lower of its carrying amount had it not been classified
as held for sale (for example its cost) and its fair value less costs to sell. If the asset (or disposal group)
is acquired as part of a business combination, it shall be measured at acquisition at fair value less costs
to sell. IFRS 5.16
Example
Titan Ltd buys a non-current asset (PPE-item) with a cost price of R105 000 and a fair value of R110 000
cash. Costs to resell the asset amounts to R10 000. The asset was acquired with a view to dispose of it
within the next six months. All other criteria necessary for classification as a non-current asset held for sale
have been met.
164
Solution
Following the general principles discussed above, this asset will be measured at the lower of its cost and
fair value less costs to sell at initial recognition. This means that the asset will be recognised at initial
recognition at R100 000 (R110 000 - R10 000). Presumably this will lead to the asset being recorded at
R100 000, the bank being credited by R105 000 and an impairment loss of R5 000 being recognised
immediately.
5.6.5 Subsequent remeasurement of an individual asset or disposal group
Assets or disposal groups classified as held for sale will have to be remeasured to its fair value less costs
to sell if a year-end occurs between the date of initial classification as held for sale and the final date of
disposal.
Assets that fall outside the scope for measurement requirements for IFRS 5
Individual non-current assets that fall outside the scope of the measurement requirements of IFRS 5 will
subsequently be measured by merely applying the applicable Standards.
On subsequent remeasurement of a disposal group, the carrying amounts of any assets and liabilities that
are not within the scope of the measurement requirements of this IFRS, but are included in a disposal
group classified as held for sale (including current assets such as inventories), shall be remeasured in
accordance with applicable Standards before the fair value less costs to sell of the disposal group is
remeasured. IFRS 5.19
Assets that fall within the scope for measurement requirements for IFRS 5
On subsequent remeasurement of an individual asset or disposal group, the carrying amounts of noncurrent assets that fall within the scope of the measurement requirements of IFRS 5.5 will be the fair
values less costs to sell less any impairment losses that were determined at initial classification. If the fair
value less costs to sell at subsequent remeasurement is different from the fair value less costs te sell at
initial classification it should be remeasured to the new fair value less costs to sell, resulting in a further
impairment loss or a reversal of a previous impairment loss. (Refer 5.7.)
5.7. RECOGNITION OF IMPAIRMENT LOSSES AND REVERSALS

5.7.1 Impairment loss for an individual non-current asset
At initial classification and measurement as well as subsequent remeasurement
An entity shall recognise an impairment loss for any initial or subsequent write-down of the non-current
asset to fair value less costs to sell. IFRS 5.20
The impairment loss calculated will be treated in terms of IFRS 5. Therefore, regardless of whether the
assets are carried at the cost model or the revaluation model, the impairment loss will be treated the same.
The carrying amount of the asset affected will be credited and the impairment loss will be debited
against the income statement (not revaluation surplus).
165
ACN302-U/1
5.7.2 Impairment loss for a disposal group

At initial classification and measurement as well as subsequent remeasurement leading to an
impairment loss
The impairment loss recognised for a disposal group shall reduce the carrying amount of the non-current
assets that fall within the scope of the measurement requirements of IFRS 5 (see 5.5.2 for exclusions) in
the order of allocation set out in IAS 36(AC 128).104(a), (b) and.122 Impairment of assets. IFRS 5.23
The impairment loss shall be allocated to reduce the carrying amounts of the assets (group of assets) in
the following order: first against goodwill and the remainder against other assets in proportion to their
carrying amounts. (IAS 36 (AC 128) .104 (a), (b) and .122). Current assets forming part of the disposal
group will not be reduced by the impairment loss.
Example
The information in Example 6 in 5.6.3 will be used here to illustrate the accounting treatment of an
impairment loss.
Solution
The impairment loss calculated in Example 6 amounted to R44 000 and the whole amount will appear in
the income statement. Since the total non-current assets subject to impairment amounted to R764 000 (=
100 000 + 475 000 +189 000), the allocation of the impairment loss to the individual assets will be as
follows:
Carrying
CA after
Impairamounts
impairon classifi- ment loss
ment loss
allocated
cation
R
R
R
Land
Factory building
Plant
Inventories
Payables
Share investments
100 000
475 000
189 000
50 000
(30 000)
100 000
884 000
(5 759) (1)
(27 356) (2)
(10 885) (3)
Nil (4)
Nil (5)
Nil (6)
(44 000)
94 241
447 644
178 115
50 000
(30 000)
100 000
840 000
It is vital that you understand the arguments set out in the calculations and explanations below:
(1)
(2)
(3)
(4)
(5)
(6)
44 000 x 100 000/764 000

44 000 x 475 000/764 000
44 000 x 189 000/764 000
Asset already subjected to a net realisable value test in terms of IAS 2 (AC 108) - the equivalent of
impairment tests for current assets - and IFRS 5.23 specifically refers to only non-current assets for
allocation of impairment loss
Not an asset and not subject to impairment
Since IFRS 5.23 specifically states that only non-current assets that fall within the scope of the
measurement requirements of IFRS 5.5 should be reduced by the impairment loss for the disposal
group and investments fall outside the scope of measurement requirements of IFRS 5.5, no portion
of the impairment loss is allocated to the share investments. This would also have been the case if
the share investments were say an investment property carried under the fair value model. The
reasoning presumably being that the fair value of the asset (not less costs to sell) will reflect any
drop in fair value in any case.
166
5.7.3 Reversal of an impairment loss/gain on remeasurement of an individual asset
An entity shall recognise a gain for any subsequent increase in fair value less costs to sell of an asset, but
not in excess of the cumulative impairment loss that has been recognised either in accordance with
IFRS 5 or previously under IAS 36 (AC 128) Impairment of assets. IFRS 5.21
However, this does not form part of this syllabus and will therefore not be discussed further.
5.7.4 Recognition of gains and losses at date of sale of a non-current asset
A gain or loss not previously recognised at either initial classification or subsequent remeasurement shall
be recognised at the date of derecognition.
Requirements of non-current assets falling within the scope of IFRS 5 relating to derecognition are set out
in IAS 16 (AC 123).67 to 72 Property, Plant and Equipment and IAS 38 (AC 129).112 to 117 - Intangible
assets. The derecognition requirements are:
C The gain or loss arising from derecognition of an item of property, plant and equipment/intangible asset
shall be included in profit or loss (the income statement) when the item is derecognised. Gains shall
not be classified as revenue. IAS 16 (AC 123).68
C In determining the date of disposal of an item, an entity applies the criteria in IAS 18 (AC 111) Revenue
for recognising revenue from the sale of goods all the criteria must be met. IAS 16 (AC 123).69
C The gain or loss arising from the derecognition of an item of property, plant and equipment shall be
determined as the difference between the net disposal proceeds, if any, and the carrying amount of the
item. IAS 16 (AC 123).71
C The consideration receivable on disposal of an item of property, plant and equipment is recognised
initially at its fair value. If payment for the item is deferred, the consideration received is recognised
initially at the cash price equivalent. The difference between the nominal amount of the consideration
and the cash price equivalent is recognised as interest revenue under IAS18 (AC 111) Revenue
reflecting the effective yield on the receivable. IAS 16 (AC 123).72
Example
10
Purple Heather has classified an item as held for sale on 30 June 20.4 after all the criteria for classification
have been met and an impairment loss of R50 000 was recognised in profit or loss. This resulted in a
carrying amount of R850 000. At 31 December 20.4 (year-end) the fair value less costs to sell of the PPEitem was once again lower than its carrying amount at that date and consequently the item was
subsequently remeasured at fair value less costs to sell of R810 000, recognising an impairment loss of
R40 000 in profit or loss. The asset is finally disposed of at R830 000 at 30 April 20.5 after all the criteria
for derecognition have been met.
The effect of the above scenario on the income statement in 20.4 and 20.5 is the following:
20.4:
A first impairment loss of R50 000 was recognised at initial classification as held for sale on 30 June 20.4.
A second impairment loss of R40 000 (850 000 - 810 000) was recognised at remeasurement on
31 December 20.4.
20.5:
A final gain of R20 000 (830 000 - 810 000) is recognised at derecognition on final disposal.
167
5.8
ACN302-U/1
NON-CURRENT ASSETS TO BE ABANDONED
An enitity shall not classify as held for sale a non-current asset (or disposal group) that is to be abandoned.
This is because its carrying amount will be recovered principally through continuing use.
This difference in treatment arises since the carrying amount of the abandoned asset (or disposal group)
will be recovered principally through continuing use, while that of an asset (or disposal group) held for sale
will be recovered through sale. Consequently, an entity shall not classify as held for sale a non-current
asset (or disposal group) that is to be abandoned.
Non-current assets (or disposal groups) to be abandoned include non-current assets (or disposal groups)
that are to be used to the end of their economic life as well as non-current assets (or disposal groups) that
are to be closed down rather than sold. IFRS 5.13
An entity shall not account for a non-current asset that has been temporarily taken out of use as if it had
been abandoned. IFRS 5.14
5.9
CHANGES TO A PLAN OF SALE
5.9.1 General
If an entity has previously classified an asset (or disposal group) as held for sale, but the criteria for
classification as held for sale are no longer met, the entity shall cease to classify the asset (or disposal
group) as held for sale. IFRS 5.26
The entity shall measure a non-current asset that ceases to be classified as held for sale (or ceases to be
included in a disposal group classified as held for sale) at the lower of:
(a)
its carrying amount before the asset (or disposal group) was classified as held for sale, adjusted for
any depreciation, amortisation or revaluations that would have been recognised had the asset
(or disposal group) not been classified as held for sale, and
(b)
its recoverable amount at the date of the subsequent decision not to sell. IFRS 5.27
5.9.2 Individual assets no longer classified as held for sale

The entity shall include any required adjustment to the carrying amount of a non-current asset that ceases
to be classified as held for sale in income from continuing operations in the period in which the criteria for
classification are no longer met.The adjustment must be included under the income statement caption
used to present a gain or loss, if any, recognised when measuring an item that has been classified as held
for sale but that is not a discontinued operation. However, if the asset under consideration is either a PPEitem or intangible asset that has been carried under the revaluation model per IAS 16 (AC 123) or IAS 38
(AC 129), the adjustment shall be treated as a revaluation increase or decrease. IFRS 5.28
Example
11
Monty Ltd classified a patent as held for sale on 30 June 20.4 (its year-end) as it had met all the criteria
for classification as held for sale on that date. The patent had a carrying amount and fair value less costs
to sell of R960 000 at year-end, an original cost of R1 600 000 and amortisation on the item is written off
at 20% per annum on the straight-line basis with no residual value anticipated at any time in the future.
Due to a change in patent rights promulgated on 1 April 20.5, Monty Ltd decided to no longer dispose of
the patent and consequently the asset had to be reclassified. The recoverable amount of the asset under
consideration amounted to R700 000 on 1 April 20.5 and its useful life on that date was 2,25 years.
168
REQUIRED:
Calculate the carrying amount at which the patent should be reinstated on 1 April 20.5 due to the
decision to no longer sell the asset, the adjustment to the carrying amount, as well as the applicable
amortisation for 20.5. Also state under which caption in the income statement the adjustment to the
carrying amount should be reflected.
Solution
11
The asset no longer classified as held for sale should be reinstated at the lower of what its carrying amount
would have been had it never been classified as held for sale and its recoverable amount.
Step 1:
Calculate what carrying amount would have been on 1 April 20.5 if the intangible asset had never been
classified as held for sale
R
Carrying amount on 30 June 20.4
Amortisation from 1 July 20.4 to 31 March 20.5 (1 600 000 x 20% x 9/12)
Carrying amount at 1 April 20.5
Recoverable amount at 1 April 20.5
960 000
(240 000)
720 000
700 000
The lower of the two is the recoverable amount of R700 000 and therefore the asset should be
remeasured to this amount at 1 April 20.5
Step 2:
Calculate the adjustment to the existing carrying amount on reclassification
Held for sale item carried at
Carrying amount on 1 April 20.5 once no longer held for sale
Adjustment to carrying amount - write-off
R
960 000
700 000
260 000
Amortisation during 20.5

The new carrying amount at 1 April 20.5 from the previous calculation is R700 000 and the remaining
useful life would be 2,25 years on that date. Since the patent has no residual value, the amortisation for
20.5 will be R77 778 (R700 000/2,25 x 3/12).
The adjustment of R260 000 should be disclosed as a deduction from other income or as part of other
expenses.
5.9.3 Individual item part of disposal group, no longer classified as held for sale
If an entity removes an individual asset or liability from a disposal group classified as held for sale, the
remaining assets and liabilities of the disposal group still to be sold shall continue to be measured as a
group only if the group still meets the criteria in 5.3.1. Otherwise, the remaining non-current assets of the
group that individually still meet the criteria to be classified as held for sale shall be measured individually
at the lower of their carrying amounts and fair values less costs to sell at that date. Any non-current assets
that no longer meet the criteria shall cease to be classified as held for sale. IFRS 5.29
169
Example
ACN302-U/1
12
N Ltd (year-end 31 December 20.3) classified the following group of assets as a disposal group held for
sale on 2 January 20.4, having met all the criteria for classification as held for sale required by IFRS 5. The
effect of the classification as held for sale and measurement at initial classification is set out in the table
below:
Land
Factory building (empty)
Widget plant1
Inventories
Payables
Share investments
1
Carrying
amounts
before
classification
R
Impairment loss
allocated
R
100 000
475 000
189 000
50 000
(30 000)
100 000
884 000
5 759
27 356
10 885
Nil
Nil
Nil
44 000
CA after
classification
R
94 241
447 644
178 115
50 000
(30 000)
100 000
840 000
Depreciation provided for at 15% per annum straight-line based on a cost of R240 000 (no residual
value). The recoverable amount of the widget plant based on value in use is R180 000 at 31 May 20.4,
and the remaining useful life of the widget plant on 31 May 20.4 is 5 years and 3 months. The residual
value of the asset has not changed and is still RNil.
On 31 May 20.4 the directors reconsidered and decided to no longer dispose of the widget plant as they
unexpectedly secured a large contract for the production of widgets for the next five years consequently the widget plant was removed from the disposal group. The inventories retained their net
realisable value determined on 2 January 20.4 and all payables have been repaid since initial
classification as held for sale. The fair value of the share investments has not changed. The group still
meets the criteria for classification as a disposal group after the removal of the widget plant.
REQUIRED:
Determine the carrying amount of the widget plant after the decision to no longer sell it has been made,
the adjustment to the income statement due to the reclassification, the depreciation charge for 20.4, as
well as the carrying amount of the disposal group after the removal of the widget plant.
Solution
12
Step 1:
Calculate the carrying amount of the widget plant on removal from the disposal group on 31 May 20.4:
R
Carrying amount as it would have been if the disposal group was never classified as held
for sale [R189 000 (240 000 x 15% x 5/12)]
174 000
Recoverable amount (given)
180 000
The lower of the two alternatives should be taken, thus the carrying amount of R174 000.
170
Step 2:
Calculate the adjustment in the income statement of 20.4 due to reclassification:
R
Carrying amount determined on 2 January 20.4
Carrying amount determined on 31 May 20.4
Adjustment to income statement - loss recognised
178 115
174 000
4 115
COMMENT
Note that the adjustment in respect of reclassification of the widget plant would have been different if
the recoverable amount was say R160 000 (ie lower than the carrying amount at 31 May of R174 000).
Depreciation charge for 20.4 on the widget plant:
R
Carrying amount on 31 May 20.4
Depreciation charge (174 000/5,25 x 7/12)
174 000
19 333
Carrying amount of disposal group after removal of the widget plant on 31 May 20.4:
R
Carrying amount including the widget plant
840 000
Carrying amount excluding the widget plant (840 000 178 115 + 30 000 (payables))
691 885
5.10 PRESENTATION AND DISCLOSURE OF A NON-CURRENT ASSET OR DISPOSAL GROUP

CLASSIFIED AS HELD FOR SALE
5.10.1
Presentation
An entity shall present a non-current asset classified as held for sale and the assets of the disposal
group classified as held for sale separately from other assets in the balance sheet. The liabilities of a
disposal group classified as held for sale shall be presented separately from other liabilities in the
balance sheet. Those assets and liabilities shall not be offset and presented as a single amount. The
major classes of assets and liabilities classified as held for sale shall be separately disclosed either on
the face of the balance sheet or in the notes. An entity shall present separately any cumulative income
or expense recognised directly in equity relating to a non-current asset (or disposal group) classified
as held for sale. IFRS 5.38
If the disposal group is a newly acquired subsidiary that meets the criteria to be classified as held for
sale on acquisition, disclosure of the major classes or assets and liabilities is not required. IFRS 5.39
An entity shall not reclassify or re-present amounts presented for non-current assets or for the assets
and liabilities of disposal groups classified as held for sale in the balance sheets for prior periods to
reflect the classification in the balance sheet for the latest period presented. IFRS 5.40
171
5.10.2
ACN302-U/1
Additional disclosures - IFRS 5.41
An entity shall disclose the following information in the notes in the period in which a non-current asset
(or disposal group) has been either classified as held for sale or sold:
S a description of the non-current asset (or disposal group);
S a description of the facts and circumstances of the sale, or leading to the expected disposal, and the
expected manner and timing of that disposal;
S the gain or loss recognised and, if not separately presented on the face of the income statement, the
caption in the income statement that includes that gain or loss;
S if applicable, the segment in which the non-current asset (or disposal group) is presented in
accordance with IAS 14 Segment Reporting.
Refer to the integrated example at the end of the study unit for a model disclosure of non-current assets
or disposal group held for sale.
PART II: DISCONTINUED OPERATIONS
5.11 INTRODUCTION
5.11.1
Objective
The objective of this standard is to specify the accounting for assets held for sale and the presentation and
disclosure of discontinued operations. IFRS 5.01
5.11.2
Definition
As per the definitions under 5.2 above a discontinued operation is a component of an entity that either has
been disposed of or is classified as held for sale and
S represents a major line of business or geographical area of operations;
S is a part of a single co-ordinated plan to dispose of a separate major line of business or geographical
area of operations; or
S is a subsidiary acquired exclusively with a view to resale. IFRS 5.32
5.11.3
Classification as discontinued operation
The IFRS classifies an operation as discontinued at the date that the operation meets the criteria to be
classified as held for sale or when the entity has disposed of the operation.
5.12 PRESENTATION AND DISCLOSURE

An entity shall present and disclose information that enables users of the financial statements to
evaluate the financial effects of discontinued operations and disposals of non-current assets (or
disposal groups). IFRS 5.30
5.12.1
Disclosure
An entity shall disclose:
a single amount on the face of the income statement comprising the total of:
S the post-tax profit or loss of discontinued operations and
S the post-tax gain or loss recognised on the measurement to fair value less costs to sell or on the
disposal of the assets or disposal group(s) constituting the discontinued operations.
172
an analysis1 of the above-mentioned single amount into:
S the revenue, expenses and pre-tax profit or loss of discontinued operations;
S the related income tax expense as required by paragraph 81(h) of IAS 12;
S the gain or loss recognised on the measurement to fair value less costs to sell or on the disposal of
the assets or disposal group(s) constituting the discontinued operation; and
S the related income tax expense as required by paragraph 81(h) of IAS 12.
The analysis may be presented in the notes or on the face of the income statement. For the
purpose of this module, we will present it on the face of the income statement. IFRS 5.33
an entity shall re-present the disclosures in IFRS 5.33 (above) for prior periods presented in the
financial statements so that the disclosures relate to all operations that have been discontinued by the
balance sheet date for the latest period presented. IFRS 5.34
adjustments in the current period to amounts previously presented in discontinued operations that are
directly related to the disposal of a discontinued operation in a prior period shall be classified
separately in discontinued operations. The nature and amount of such adjustments shall be disclosed.
Examples of circumstances in which these adjustments may arise include the following:
S the resolution of uncertainties that arise from the terms of the disposal transaction, such as the
resolution of purchase price adjustments and indemnification issues with the purchaser;
S the resolution of uncertainties that arise from and are directly related to the operations of the
component before its disposal, such as environmental and product warranty obligations retained by
the seller;
S the settlement of employee benefit plan obligations, provided that the settlement is directly related
to the disposal transaction. IFRS 5.35
If an entity ceases to classify a component of an entity as held for sale, the results of operations of the
component previously presented in discontinued operations in accordance with IFRS 5.33-.35 shall be
reclassified and included in income from continuing operations for all periods presented. The amounts for
prior periods shall be described as having been re-presented. IFRS 5.36
5.13 GAINS OR LOSSES RELATING TO CONTINUING OPERATIONS

Any gain or loss on remeasurement of a non-current asset (or disposal group) classified as held for sale
that does not meet the definition of a discontinued operation shall be included in profit or loss from
continuing operations. IFRS 5.37
173
ACN302-U/1
5.14 MODEL FOR DISCLOSURE

XXX LIMITED
Notes
CONTINUING OPERATIONS
Revenue
Cost of sales
XXXX
(XXX)
Gross profit
Other expenses
Finance costs
XXXX
(XXX)
(XX)
Profit before tax

Income tax expense
XXX
(XX)
Profit after tax
XXX
DISCONTINUED OPERATIONS
Revenue
Expenses
XXX
(XXX)
Loss before tax

Income tax benefit
(XXX)
XX
Loss after tax

Loss after tax on measurement of non-current asset held for sale/disposal group
XXX
(XX)
Loss on measurement of non-current asset held for sale to fair value less costs to sell
Income tax benefit
(XX)
X
Loss after tax on discontinued operations
(XX)
Total operations
Example
XXXX
13
Aqua Limited manufactures and sells water sports equipment and has branches in Cape Town,
Port Elizabeth and East London. The East London branch, whose results were previously reported in the
Eastern Cape geographical segment, incurred losses over the past two years. On 31 March 20.4 the board
of directors approved a detailed formal disposal plan for the discontinuance of the branch and on the same
date made a public announcement. The approved formal plan regarding the piecemeal sale of the
assets, was at a stage of completion on 30 September 20.4 where no realistic possibility of withdrawal
existed. Binding sale agreements regarding property and plant were concluded. It is expected that the
plan for the discontinuance of the East London branch will be completed on 28 February 20.5.
Aqua Limited's year-end is 31 December. All the remaining assets and liabilities were taken over by the
continuing operation.
174
The following information is presented to you on 31 December 20.4 (before taking into account any
adjustments due to the discontinuance):
Balance sheet balances:

Current assets
Long-term liabilities
Current liabilities
East
London
R
Cape Town
and Port
Elizabeth
R
200 000
40 000
90 000
60 000
1 000 000
200 000
300 000
150 000
Actual results - continuing operations:

Cape
Town
01/01/20.4
to
31/12/20.4
R
Income
Cost of sales
Other expenses
800 000
350 000
325 000
Port
Elizabeth
01/01/20.4
to
31/12/20.4
R
770 000
355 000
297 000
Cape Town
and Port
Elizabeth
01/01/20.3
to
31/12/20.3
R
1 250 000
500 000
515 000
Actual results - discontinued operations:
Income
Cost of sales
Other expenses
East
London
01/01/20.4
to
31/03/20.4
R
East
London
01/04/20.4
to
30/09/20.4
R
East
London
01/10/20.4
to
31/12/20.4
R
75 000
60 000
20 000
100 000
70 000
30 000
60 000
45 000
20 000
East
London
01/01/20.3
to
31/12/20.3
R
250 000
200 000
60 000
Discontinuance cost of discontinued operations:

01/01/20.5
to
28/02/20.5
Estimated
R
Direct costs of discontinuance
Severance pay payable to employees
Fines (discontinuance of contracts)
Income
Cost of sales
Other expenses
3 000
20 000
3 000
30 000
25 000
10 000
31/03/20.4
to
31/12/20.4
Actual
R
4 500
-
175
ACN302-U/1
Other information:
20.4
R
20.3
R
Finance cost (continuing operations)

Tax (continuing and discontinued operations)
15 000
87 800
15 000
83 750
Current tax
Secondary tax on companies
81 550
6 250
78 750
5 000
Dividends paid
50 000
40 000
Tax was calculated before taking into account the finance cost paid and the direct costs to discontinue the
East London branch as well as the estimated gross discontinuance loss in 20.5.
1. The direct cost of discontinuance is tax deductible. Assume that the severance pay and fines are not
deductible for tax purposes.
2. On 30 September 20.4 information regarding the piecemeal sale of property and plant to two
independent parties relating to the discontinued operation was as follows:
Property
Plant
Tax base
R
Carrying
amount
R
Contract price
R
120 000
80 000
120 000
80 000
105 000
80 000
200 000
200 000
185 000
Contract settlement
date
28 February 20.5
28 February 20.5
3. On 30 September 20.4 the plant was withdrawn from operations.

4. Assume an income tax rate of 30%.
5. There is no difference between the carrying amount and the tax base of the property.
6. There are no non-taxable income, non-deductible expenses or temporary differences other than those
evident from the question.
REQUIRED:
(a) Prepare the income statement of Aqua Limited for the year ended 31 December 20.4; and
(b) prepare the tax note, as well as the note on non-current assets held for sale for the year ended
31 December 20.4. Accounting policy notes are not required.
Your answer must comply with the Companies Act, 1973 and Generally Accepted Accounting Practice.
176
Solution
13
AQUA LIMITED
Notes
20.4
R
20.3
R
1 570 000
(705 000)
1 250 000
(500 000)
865 000
(622 000)
(15 000)
750 000
(515 000)
(15 000)
228 000
(74 650)
220 000
(71 000)
153 350
149 000
235 000
(275 500)
250 000
(260 000)
(40 500)
5 250
(10 000)
3 000
Loss after tax

Loss after tax on measurement
(35 250)
(10 500)
(7 000)
-
Loss on measurement of non-current asset held for sale to fair value less
costs to sell (8)
Income tax benefit (8)
(15 000)
4 500
Loss after tax
(45 750)
(7 000)
Total operations
107 600
142 000
SA Normal tax
20.4
R
58 650
20.3
R
63 000
Current tax
64 050
63 000
68 400
(4 350)
66 000
(3 000)
Revenue (1)
Cost of sales (2)
Gross profit
Other expenses (3)
Finance costs
Profit before tax
Income tax expense (6)
Profit after tax

Revenue (4)
Expenses (5)
Loss before tax
AQUA LIMITED
Continuing operations (calc 6)

Discontinued operations (calc 7)
Deferred tax
Continuing operations
Discontinued operations (900 (calc 7) + 4 500 (calc 8))
STC (calc 6)
(5 400)
(5 400)
6 250
5 000
64 900
68 000
177
ACN302-U/1
3. Non-current assets held for sale

A decision to dispose of property and plant was taken in March 20.4 after approval of a detailed formal
disposal plan for the discontinuance of the East London branch. The plan regarding the piecemeal sale
of the assets was at a stage of completion on 30 September 20.4 where no realistic possibility of
withdrawal existed. It is expected that the assets will be sold for cash and that the disposal will be
completed by 28 February 20.5.
The non-current assets held for sale comprise:
20.4
R
Assets:
Property (calc 8)
Plant
105 000
80 000
185 000
An impairment loss of R15 000 (pre-tax) was recognised on initial classification of the property as held for
sale and this amount was included under loss after tax on measurement on the face of the income
statement.
Note:
The information regarding the disposal of the property and plant of the East London branch is disclosed
in the note Non-current assets held for sale because the assets were sold independently
(piecemeal) to two different parties and no liabilities directly associated with these assets were
transferred. Therefore it does not qualify to be classified as a disposal group.
CALCULATIONS
1.
2.
3.
4.
5.
800 000 + 770 000 = 1 570 000

350 000 + 355 000 = 705 000
325 000 + 297 000 = 622 000
75 000 + 100 000 + 60 000 = 235 000
(60 000 + 70 000 + 45 000)1 + (20 000 + 30 000 + 20 000)2 + (3 000 + 20 000 + 3 000)3 + 4 5004 =
275 500
1
Cost of sales
2
Other expenses
3
Provision for costs related to discontinuance
4
Actual cost of discontinuance
6. Tax on continuing operations
Profit before tax

Non-taxable/non-deductible differences
20.4
R
228 000
-
20.3
R
220 000
-
Taxable income
228 000
220 000
Tax @ 30%
STC
68 400
6 250
66 000
5 000
Total tax
74 650
71 000
178
7. Tax on discontinued operations
Profit/(loss) before tax

-
Severance pay to employees

Fines
- Provision for direct cost of discontinuance
Taxable income/(loss)
Current tax @ 30%
Deferred tax (3 000 x 30%)
20.4
R
(40 500)
23 000
20.3
R
(10 000)
-
20 000
3 000
3 000
(14 500)
(10 000)
(4 350)
(900)
(3 000)
-
(5 250)
(3 000)
8. Carrying amount of property and plant to be sold

20.4
R
Property - impairment loss
-
Original carrying amount

Contract price (new carrying amount)
Impairment loss
Deferred tax thereon
Note:
120 000
(105 000)
15 000
4 500
Provisions are made for the following future expenses:

Severance pay
Fines on discontinuance of contracts
Estimated direct future cost of discontinuance
The provisions were made because
(i)
there exist a present obligation at year-end as a result of a past event (the approval and
announcement of a formal disposal plan for the discontinued operation),
(ii)
it is probable that an outflow of resources embodying economic benefits will be required to settle
the obligation and
(iii)
a reliable estimate of these amounts of obligations can be made. (IAS 37 (AC 130).14)
There is no tax on the severance pay and fines, but deferred tax must be provided for on the provision for
direct future discontinuance costs. The reason is that the South African Revenue Service will not allow the
provision as a deduction in the current year, but will allow it when the expense is actually paid.
An impairment loss is a normal temporary difference. Deferred tax is calculated thereon at 30%.
179
Example
ACN302-U/1
14
Aqua Limited manufactures and sells water sports equipment and has branches in Cape Town,
Port Elizabeth and East London. The East London branch, whose results were previously reported in the
Eastern Cape geographical segment, incurred losses over the past two years. On 31 March 20.4 the board
of directors approved a detailed formal disposal plan for the discontinuance of the branch and on the same
date made a public announcement. The approved formal plan regarding the once-off sale of assets and
liabilities, was at a stage of completion on 30 September 20.4 where no realistic possibility of withdrawal
existed. A binding sale agreement regarding the assets and liabilities were concluded. It is expected that
the plan for the discontinuance of the East London branch will be completed on 28 February 20.5.
Aqua Limited's year end is 31 December.
The following information is presented to you on 31 December 20.4 (before taking into account any
adjustments due to the discontinuance):
Balance sheet balances:

Current assets
Current liabilities
East
London
R
Cape Town
and Port
Elizabeth
R
200 000
40 000
90 000
60 000
1 000 000
200 000
300 000
150 000
Actual results - continuing operations:

Cape
Town
01/01/20.4
to
31/12/20.4
R
Income
Cost of sales
Other expenses
800 000
350 000
325 000
Port
Elizabeth
01/01/20.4
to
31/12/20.4
R
770 000
355 000
297 000
Cape Town
and Port
Elizabeth
01/01/20.3
to
31/12/20.3
R
1 250 000
500 000
515 000
Actual results - discontinued operations:
Income
Cost of sales
Other expenses
East
London
01/01/20.4
to
31/03/20.4
R
East
London
01/04/20.4
to
30/09/20.4
R
East
London
01/10/20.4
to
31/12/20.4
R
East
London
01/01/20.3
to
31/12/20.3
R
75 000
60 000
20 000
100 000
70 000
30 000
60 000
45 000
20 000
250 000
200 000
60 000
180
Discontinuance cost of discontinued operations:
01/01/20.5
to
28/02/20.5
Estimated
R
3 000
20 000
3 000
30 000
25 000
10 000
31/03/20.4
to
31/12/20.4
Actual
R
4 500
-
Other information:
20.4
R
20.3
R
Finance cost (continuing operations)

Tax (continuing and discontinued operations)
15 000
87 800
15 000
83 750
Current tax
Secondary tax on companies
81 550
6 250
78 750
5 000
Dividends paid
50 000
40 000
Direct costs of discontinuance

Severance pay payable to employees
Fines (discontinuance of contracts)
Income
Cost of sales
Operating expenses
Tax was calculated before taking into account the finance cost paid and the direct costs to discontinue the
East London branch as well as the estimated gross discontinuance loss in 20.5.
1. The direct cost of discontinuance is tax deductible. Assume that the severance pay and fines are not
deductible for tax purposes.
2. The assets and liabilities of the East London branch meet all the criteria to be classified as a disposal
group. On 30 September 20.4 the fair value less costs to sell of the disposal group was R49 000.
3. On 30 September 20.4 the plant was withdrawn from operations.
4. Assume an income tax rate of 30%.
5. There is no difference between the carrying amount and the tax base of the property.
6. There are no non-taxable income, non-deductible expenses or temporary differences other than those
evident from the question.
REQUIRED:
(a) Prepare the income statement of Aqua Limited for the year ended 31 December 20.4; and
(b) prepare the tax note as well as the note on the disposal group for the year ended 31 December 20.4.
Accounting policy notes are not required.
Your answer must comply with the Companies Act, 1973 and Generally Accepted Accounting Practice.
181
Solution
ACN302-U/1
14
AQUA LIMITED
Notes
20.4
R
20.3
R
1 570 000
(705 000)
1 250 000
(500 000)
865 000
(622 000)
(15 000)
750 000
(515 000)
(15 000)
228 000
(74 650)
220 000
(71 000)
153 350
149 000
235 000
(275 500)
250 000
(260 000)
(40 500)
5 250
(10 000)
3 000
Loss after tax

Loss after tax on measurement of disposal group
(35 250)
(10 500)
(7 000)
-
Loss on measurement of disposal group to fair

value less costs to sell (8)
(15 000)
4 500
Loss after tax on discontinued operation
(45 750)
(7 000)
107 600
142 000
SA Normal tax
20.4
R
58 650
20.3
R
63 000
Current tax
64 050
63 000
68 400
(4 350)
66 000
(3 000)
Revenue (1)
Cost of sales (2)
Gross profit
Other expenses (3)
Finance costs
Profit before tax
Income tax expense (6)
Profit after tax

Revenue (4)
Expenses (5)
Loss before tax
Total operations
Continuing operations (calc 6)

Discontinued operations (calc 7)
Deferred tax
Continuing operations
Discontinued operations (calc 7 and 8)(900 + 4 500)
STC
(5 400)
(5 400)
6 250
5 000
64 900
68 000
182
3. Disposal group
A decision to dispose of assets was taken in March 20.4 after approval of a detailed formal disposal plan
for the discontinuance of the East London branch. The plan regarding the once-off sale of assets and
liabilities was at a stage of completion on 30 September 20.4 where no realistic possibility of withdrawal
existed. It is expected that the disposal group will be sold for cash and that the disposal will be completed
by 28 February 20.5.
The disposal group under discussion comprise:
R
Assets
Property, plant and equipment (200 000 - 15 000)
Current assets
185 000
40 000
225 000
Liabilities
Long-term liabilities (given)
Current liabilities (given)
Provision for discontinuance costs (20 000 + 3 000 + 3 000)
90 000
60 000
26 000
176 000
An impairment loss of R15 000 (pre-tax) was recognised on initial classification of the disposal group as
held for sale. This amount was included under loss after tax on measurement on the face of the income
statement. The disposal group is presented as part of the XXX segment.
Note
The information regarding the disposal of the assets and liabilities of the East London branch is
disclosed in the note Disposal group because the whole group of assets and liabilities associated
with those assets are disposed of in a single transaction. Therefore it qualifies to be classified as
a disposal group.
CALCULATIONS
1.
2.
3.
4.
5.
800 000 + 770 000 = 1 570 000

350 000 + 355 000 = 705 000
325 000 + 297 000 = 622 000
75 000 + 100 000 + 60 000 = 235 000
(60 000 + 70 000 + 45 000)1 + (20 000 + 30 000 + 20 000)2 + (3 000 + 20 000 + 3 000)3 + 4 5004 =
275 500
1
Cost of sales
2
Other expenses
3
Provision for costs related to discontinuance
4
Actual cost of discontinuance
183
ACN302-U/1
6. Tax on continuing operations

20.4
R
20.3
R
Profit before tax

Non-taxable/non-deductible differences
228 000
-
220 000
-
Taxable income
228 000
220 000
Tax @ 30%
STC
68 400
6 250
66 000
5 000
Total tax
74 650
71 000
20.4
R
20.3
R
7. Tax on discontinued operations
Profit/(loss) before tax

- Severance pay to employees
- Fines
- Provision for direct cost of discontinuance
Taxable income/(loss)
Current tax @ 30%
Deferred tax (3 000 x 30%)
(40 500)
23 000
(10 000)
-
20 000
3 000
3 000
(14 500)
(10 000)
(4 350)
(900)
(3 000)
-
(5 250)
(3 000)
8. Carrying amount of disposal group

20.4
R
Carrying amount of disposal group on classification
Current assets
Current liabilities
Provision for discontinuance costs (20 000 + 3 000 + 3 000)
200 000
40 000
(90 000)
(60 000)
(26 000)
Fair value less costs to sell
64 000
49 000
Impairment loss
15 000
Allocated as follows:
- Property, plant and equipment
15 000
Deferred tax thereon (cr to I/S)
(4 500)
184
ASSESSMENT CRITERIA
define what a non-current asset held for sale or disposal group is in terms of IFRS 5 is;
describe the principles for the recognition and measurement of non-current assets held for sale;
disclose the information relating to non-current assets held for sale and disposal groups in the
financial statements of an entity in accordance with the requirements of the Companies Act, 1973 and
define what a discontinued operation and the initial disclosure event is in terms of IFRS 5 (AC 117);
describe the principles for the recognition and measurement of discontinued operations;
disclose the information relating to discontinued operations in the financial statements of an entity in
accordance with the requirements of the Companies Act, 1973 and Generally Accepted Accounting
Practice.
185
ACN302-U/1
STUDY
UNIT
6
FINANCIAL INSTRUMENTS: DISCLOSURES - IFRS 7 (AC 144)
FINANCIAL INSTRUMENTS: PRESENTATION - IAS 32 (AC 125)
FINANCIAL INSTRUMENTS: RECOGNITION AND MEASUREMENT - IAS 39 (AC 133)
THIS STUDY UNIT WILL BE SENT TO YOU AS A TUTORIAL LETTER
186
STUDY
UNIT
7
THE EFFECTS OF CHANGES IN FOREIGN EXCHANGE RATES - IFRS 7 (AC 144) IAS 21
(AC 112), IAS 32 (AC 125), IAS 39 (AC 133), SIC-7 (AC 407)
LEARNING OUTCOME 7
calculate, journalise and disclose all aspects of the effects of changes in foreign exchange rates in
terms of the requirements of the Companies Act, 1973 and Generally Accepted Accounting Practice.
A
7.1
7.2
7.3
7.4
7.5
GENERAL
Introduction
Work excluded
Objectives
Definitions
Elaboration on the definitions
B
7.6
7.6.1
7.6.2
7.6.3
7.6.4
7.7
7.7.1
7.7.2
7.8
7.8.1
7.8.2
7.8.3
UNCOVERED FOREIGN CURRENCY TRANSACTIONS

Reporting foreign currency transactions in the functional currency
Initial recognition
Subsequent balance sheet dates
Recognition of exchange differences
Impairment of non-monetary assets
Disclosure of uncovered foreign currency transactions
Disclosure in terms of IAS 21 (AC 112)
Schedule 4 of the Companies Act, 1973 - additional disclosure
Covered transactions (FEC taken out)
Definitions relating to hedge accounting
Hedging instrument
Hedged items
C
7.9
7.10
7.11
7.12
7.13
HEDGE ACCOUNTING
General
Requirements to use hedge accounting
Accounting treatment of fair value hedges
Accounting treatment of cash flow hedges
Disclosure of covered foreign currency transactions
TAX IMPLICATIONS
E
7.14
PROPOSED INTERPRETATIONS OF STATEMENTS ON GENERALLY ACCEPTED

ACCOUNTING PRACTICE
SIC-7 (AC 407) - Introduction of the Euro
187
ACN302-U/1
STUDY:
1.
SAICA Handbook: International Financial Reporting Standards (IFRSs)

IFRS 7 (AC 144) - Financial Instruments: Disclosures (the section that deals with forward
exchange contracts) (1 January 2007)
IAS 21 (AC 112) - The Effects of Changes in Foreign Exchange Rates ( 31 March 2004).
IAS 32 (AC 125) - Financial Instruments: Presentation (the section that deals with forward
exchange contracts) (31 March 2004)
IAS 39 (AC 133) - Financial Instruments: Recognition and Measurement (the section that
deals with forward exchange contracts) (31 March 2004)
SIC-7 (AC 407) - Introduction of the Euro (issued July 1999)
2.
Accounting Standards
GENERAL
7.1 INTRODUCTION
An entity may have transactions in foreign currencies and/or foreign operations.
When an entity undertakes transactions denominated in foreign currencies, for example, buying or selling
goods overseas denominated in foreign currencies, then the results of these transactions are translated
into the presentation currency (Rands) for incorporation into the financial statements of the entity.
The entity can be conducting business through foreign operations, for example, establishing a foreign
branch to handle the marketing and selling of its products overseas. The results of the foreign operations
(branch) will be accounted for in the functional currency (Rands). IAS 21 (AC 112).1
7.2
WORK EXCLUDED
IAS 21 (AC 112) distinguishes between the accounting treatment for foreign transactions and foreign
operations. The following aspects fall outside the scope of this module:
S foreign operations (IAS 21 (AC 112).11-15 and .44-49)
7.3
OBJECTIVES
The principal issues in accounting for foreign currency transactions are:

S which exchange rate to use, and
S how to report the effects of changes in exchange rates in the financial statements.
IAS 21 (AC 112).1-2.
7.4 DEFINITIONS - IAS 21 (AC 112).8
Functional currency - the currency of the primary economic environment in which the entity operates.
Presentation currency - the currency in which the financial statements are presented.
Foreign currency - a currency other than the functional currency of the entity.
188
Exchange rate - the ratio of exchange for two currencies.
Exchange difference - the difference resulting from translating a given number of units of one currency
into another currency at different exchange rates.
Spot exchange rate - the exchange rate for immediate delivery.
Closing rate - the spot exchange rate at balance sheet date.
Monetary items - units of currency held, and assets and liabilities to be received or paid, in a fixed or
determinable number of units of currency, for example, bank accounts, fixed deposits, trade receivables,
loans, trade payables, etc.
Non-monetary items - the essential feature is the absence of a right to receive (or an obligation to deliver)
a fixed or determinable number of units of currency for example inventories and property, plant and
equipment.
Fair value - the amount for which an asset could be exchanged, or a liability settled, between
knowledgeable, willing parties in an arms length transaction.
7.5
ELABORATION ON THE DEFINITIONS
Functional currency
The primary economic environment in which an entity operates is normally the one in which it primarily
generates and expends cash.
In determining the functional currency of an entity, they need to consider the following factors:
the currency that mainly influences sales prices for goods and services and the currency of the
country whose competitive forces and regulations mainly determine the sales price of its goods and
services
Example:
Sales prices of goods and services are denominated and settled in this currency.
and
the currency that mainly influences labour, material and other costs of providing goods or services.
Example:
The costs are denominated and settled in this currency.
The following additional supporting evidence may also provide evidence of an entitys functional currency:
the currency in which funds from financing activities are generated, and
the currency in which receipts from operating activities are usually retained.
If the functional currency is not obvious because the above indicators are mixed, management must use
its judgement to determine the functional currency that most faithfully represents the economic effects of
the underlying transactions, events and conditions.
189
ACN302-U/1
The primary indicators need to be given priority before considering the additional supporting evidence to
determine an entitys functional currency. IAS 21 (AC 112).12
Once the functional currency of an entity is determined, it is not changed unless there is a change in the
underlying transactions, events and conditions that are relevant to the functional currency and reflected
by it. IAS 21 (AC 112).13
If the entitys functional currency is that of a hyper inflationary economy, the entitys financial statements
are restated in accordance with IAS 29 (AC 124) Hyper inflationary economies. IAS 21 (AC 112).14
Monetary items
The essential feature of a monetary item is a right to receive (or obligation to deliver) a fixed or
determinable number of units of currency.
Examples:
pensions and other employee benefits to be paid in cash;

provisions that are to be settled in cash; and
cash dividends that are recognised as a liability.
Similarly, a contract to receive (or deliver) a variable number of the entitys own equity instruments or a
variable amount of assets in which the fair value to be received (or delivered) equals a fixed or
determinable number of units of currency, is a monetary item.
Non Monetary item
The essential feature of a non-monetary item is the absence of a right to receive (or an obligation to
deliver) a fixed and determinable number of units of currency, for example:
amounts prepaid for goods and services (e.g. prepaid rent);

goodwill;
intangible assets;
inventory;
property, plant and equipment and
provisions that are to be settled by the delivery of a non-monetary asset.
UNCOVERED FOREIGN CURRENCY TRANSACTIONS
7.6
Reporting uncovered foreign currency transactions in the functional currency
7.6.1 Initial recognition

A foreign currency transaction is a transaction that is denominated or requires settlement in a foreign
currency, including transactions arising when an entity:
(a)
buys or sells goods, assets and services whose price is denominated in a foreign currency; or
(b)
borrows or lends funds when the amounts payable or receivable are denominated in a foreign
currency; or
(c)
acquires or disposes of assets, or incurs or settles liabilities, denominated in a foreign currency.

IAS 21(AC 112).20
190
A foreign currency transaction shall initially be recorded in the functional currency by applying the
exchange rate (spot rate) between the functional currency and the foreign currency at the date of the
transaction to the foreign currency amount. IAS 21 (AC 112).21. Thus, the spot rate on the transaction
date is used for translation purposes.
The date of the transaction is the date on which the transaction first qualifies for recognition in
accordance with IASs. IAS 21 (AC 112).22
An entity shall recognise a financial asset or a financial liability on its balance sheet when, the entity
becomes a party to the contractual provisions of the instrument, for example, unconditional receivables
and payables are recognised as assets or liabilities when the entity becomes a party to the contract and,
as a consequence, has a legal right to receive or a legal obligation to pay cash.
IAS 39 (AC 133).14
Assets to be acquired and liabilities to be incurred as a result of a firm commitment to purchase or sell
goods or services are generally not recognised until at least one of the parties has performed under the
agreement, for example, when the goods or services have been shipped, delivered or rendered. IAS 39
(AC 133) Appendix .AG35
Example
SA Limited placed an order for machinery from a USA company on 15 March 20.1. The transaction was
invoiced on 31 March 20.1. The machinery was shipped free on board (FOB) on 20 March 20.1. The
machinery was delivered to SA Limited on 30 June 20.1.
15/3/20.1
20/3/20.1
31/3/20.1
30/6/201.
Order
Shipped (FOB)
Invoiced
Delivered
The machinery should be recorded at the spot rate ruling on 20 March 20.1 (the transaction date) since
that is the date on which the conditions in terms of IAS 18 (AC 111) Revenue has been met (risks and
rewards go over to the buyer). The exchange rates ruling on 15 March 20.1, 31 March 20.1 and
30 June 20.1 are not relevant.
In the above example the cost of the machinery and the corresponding financial liability (creditor) must be
accounted for separately.
The machinery is a non-monetary asset and its cost will be fixed at the spot rate on the transaction date
(20 March 20.1).
The amount of the payment to the creditor (a monetary financial liability) depends on the exchange rate
ruling on the date of payment. The amount of the creditor is therefore not fixed as is the case with the
machinery. The movement in foreign currency exchange rates subsequent to the transaction date does
not affect the cost of the machinery but will affect the creditor until it is paid.
7.6.2 Subsequent balance sheet dates
At each balance sheet date:
(a)
foreign currency monetary items (creditor) shall be translated using the closing rate (the rate at
balance sheet date). The amount of the monetary items will therefore change at balance sheet date
when it is converted at the closing rate. IAS 21 (AC 112).23(a).
191
ACN302-U/1
(b)
non-monetary items (inventory, property, plant and equipment) that are measured in terms
of historical cost in a foreign currency shall be translated using the exchange rate at the date of
the transaction. For example, plant that was bought two years ago would have been recorded at the
spot rate at that date and will not subsequently be changed to the spot rate at balance sheet date.
IAS 21 (AC 112).23(b).
(c)
non-monetary items that are measured at fair value in a foreign currency shall be translated
using the exchange rates at the date when the fair values was determined, i.e. the date it was
revalued. IAS 21 (AC 112).23(c).
When a gain or a loss on a non-monetary item is recognised directly in equity, any exchange component
of that gain or loss shall be recognised directly in equity.
Conversely, when a gain or a loss on a non-monetary item is recognised in profit or loss, any exchange
component of that gain or loss shall be recognised in profit or loss. IAS 21 (AC 112).30.
Other Standards require some gains and losses to be recognised directly in equity, for example IAS 16
(AC 123) Property, plant and equipment. Gains and losses arising on the revaluation of property, plant and
equipment requires to be recognised directly in equity. When such an item is measured in a foreign
currency, paragraph 23(c) of the Standard requires the revalued amount to be translated using the rate
at the date the value is determined, resulting in an exchange difference that is also recognised in equity.
IAS 21 (AC 112).31.
7.6.3 Recognition of exchange differences
Exchange differences arising upon the settlement of monetary items or on translating monetary items
at rates different from those at which they were translated on initial recognition during the period, or in
previous financial statements, shall be recognised in profit or loss in the period in which they arise.
IAS 21 (AC 112).28.
An exchange difference arises when there is a change in the exchange rate between the date of the
transaction and the date of settlement of any monetary item arising from a foreign currency transaction.
IAS 21 (AC 112).29.
Exchange differences are dealt with as follows:
if the transaction is settled within the same accounting period as that in which it occurred, all the
exchange difference is recognised in that period;
if the transaction is settled in a subsequent accounting period, the exchange difference recognised in
each period up to the date of settlement is determined by the change in exchange rates during each
period. IAS 21 (AC 112).29.
Example
If inventory was bought on 1 January 20.1, the year end of the company is 31 January 20.1 and the
creditor is eventually paid on 28 February 20.1, then there are two intervening periods:
the first intervening period is from 1 January 20.1 to 31 January 20.1 and a foreign exchange
difference will be recognised as an income or expense on 31 January 20.1;
the second intervening period is from 31 January 20.1 to 28 February 20.1 and it will also give rise to
an exchange difference that will be recognised as an income or expense on 28 February 20.1.
192
7.6.4 Impairment of non-monetary assets
At each reporting date an entity shall assess whether there is any indication that an asset may be impaired.
If any such indication exists, the entity shall estimate the recoverable amount of the asset. IAS 36
(AC128).9.
amount. IAS 36 (AC128).6.
The carrying amount of an item is determined in conjunction with other relevant standards. Property, plant
and equipment may be measured in terms of fair value of historical cost in accordance with IAS 16
(AC 123).
Whether the carrying amount is determined on the basis of historical cost or on the basis of fair value, if
the amount is determined in a foreign currency it is then translated into the functional currency in
accordance with this Standard. IAS 21 (AC 112).24
When the asset is a non-monetary item and it is measured in a foreign currency, the carrying amount is
determined by comparing:
the cost or carrying amount, as appropriate, translated at the exchange rate at the date when that
amount was determined (i.e. the rate at the date of the transaction for an item measured in terms of
historical cost)
and
the net realisable value (e.g. inventories) or recoverable amount, as appropriate, translated at the
exchange rate at the date when that value was determined (e.g. closing rate at the balance sheet date).
The effect of this comparison may be that an impairment loss is recognised in the functional currency, but
would not be recognised in the foreign currency, or visa versa. IAS 21 (AC 112).25.
7.7
DISCLOSURE OF UNCOVERED FOREIGN CURRENCY TRANSACTIONS
7.7.1 Disclosure in terms of IAS 21 (AC 112)
S
S
An entity shall disclose the following:

the amount of exchange differences recognised in profit or loss. This excludes those arising on
financial instruments measured at fair value through profit or loss in accordance with IAS 39 (AC133);
the net exchange differences classified in a separate component in equity, and a reconciliation of the
amount of such exchange differences at the beginning and end of the period. IAS 21 (AC 122).52
S
S
S
When the presentation currency and the functional currency is different:

state the fact;
disclose the functional currency; and
give the reason for using a different presentation currency.
S
S
When there is a change in the functional currency of the entity:

state the fact and
give the reason for the change in functional currency. IAS 21 (AC 112).53
193
ACN302-U/1
7.7.2 Schedule 4 of the Companies Act, 1973 - additional disclosure

Schedule 4 of the Companies Act, 1973 requires the following additional disclosure:
on balance sheet date the following information should be disclosed for uncovered foreign currency
monetary items (paragraph 38):
S nature;
S exchange rates used for restatement; and
S amounts of uncovered monetary items.
the amount of exchange profits and losses recognised in the income statement with regard to foreign
loans. (Paragraph 42q)
Example
ALL TRANSACTIONS OCCUR IN THE SAME FINANCIAL YEAR

(a) Payment occurs on delivery date (the transaction is paid immediately)
A South African company sold goods on 30 June 20.10 for $100 000 to an American import company.
Payment was made on the same day. The year end of the South African company is 31 December.
Applicable exchange rates were as follows:
30 June 20.10
31 December 20.10
$1 = R6,80
$1 = R6,70
REQUIRED:
Provide all the relevant journal entries in the records of the South African company for the year ended
31 December 20.10.
Solution
3(a)
Journal entries
Dr
R
Cr
R
30 June 20.10
Bank
Sales
Recording of cash sales ($100 000 x R6,80)
(b)
680 000
680 000
Payment made after delivery date
A South African company sold goods on 30 June 20.10 to an American import company for $100 000.
Payment was made on 30 September 20.10. The year end of the South African company is 31 December.
30 June 20.10
30 September 20.10
31 December 20.10
$1 = R6,80
$1 = R6,75
$1 = R6,70
194
REQUIRED:
Provide all the relevant journal entries in the records of the South African company for the year ended
31 December 20.10.
Solution
3(b)
Journal entries
Dr
R
Cr
R
30 June 20.10
Trade receivables (debtor)
Sales
Recording of credit sales ($100 000 x R6,80)
680 000
680 000
30 September 20.10
Bank
Recording of payment received from debtor ($100 000 x R6,75)
Foreign exchange loss
Accounting for foreign exchange difference [$100 000 x (R6,80 - R6,75)]
Example
675 000
675 000
5 000
5 000
TRANSACTIONS OCCUR IN DIFFERENT FINANCIAL YEARS

A South African company purchased goods on 30 June 20.10 from an American export company for
$100 000. Payment was made on 30 April 20.11. The year end of the South African company is
31 December. 30% of the merchandise was still on hand at year end, and was sold during January 20.11.
30 June 20.10
31 December 20.10
30 April 20.11
31 December 20.11
$1 = R6,80
$1 = R6,70
$1 = R6,75
$1 = R6,85
REQUIRED:
Provide all the relevant journal entries in the records of the South African company for the years ended
31 December 20.10 and 31 December 20.11.
195
Solution
ACN302-U/1
Calculation
$1 = R
680
670
675
685
30/6/20.10
Transaction
31/12/20.10
Y/E
30/4/20.11
Pmt
31/12/20.11
Y/E
Journal entries
Dr
R
30 June 20.10
Inventory
Trade payables (creditor)
Recording of credit purchase ($100 000 x R6,80)
Cr
R
680 000
680 000
31 December 20.10
Cost of sales
Inventory
Inventory sold during the period (R680 000 x 70%)
476 000
476 000

Foreign exchange profit
Accounting for exchange difference
10 000
10 000
Recorded at ($100 000 x R6,80)

Translated at year end ($100 000 x R6,70)
R680 000
R670 000
R 10 000
31 January 20.11
Cost of sales
Inventory
Inventory sold during January 20.11 (R680 000 x 30%)
204 000
204 000
30 April 20.11
Bank
Payment of debt ($100 000 x R6,75)
675 000
675 000

5 000
5 000
Year end balance ($100 000 x R6,70)

Payment ($100 000 x R6,75)
R670 000
R675 000
5 000
196
Example
COMPREHENSIVE EXAMPLE
A South African company, ABC (Pty) Limited, received an order of $100 000 from an American import
company, to ship goods free on board (FOB) to America on 30 June 20.10. Payment of $50 000 was made
on 30 September 20.10 and the balance was paid on 31 January 20.11.
The company ordered raw materials from the United Kingdom for an amount of ^20 000. Payment for the
raw material was made on 31 May 20.10. The raw material was shipped FOB on 1 April 20.10. The year
end of the company is 31 December. 20% of the raw material bought from the UK company was still on
hand at year end, and was used during January 20.11.
$1 = R
01 April 20.10
30 April 20.10
31 May 20.10
30 June 20.10
30 September 20.10
31 December 20.10
31 January 20.11
31 December 20.11
^1 = R
5,00
5,10
5,15
5,20
5,35
5,40
5,30
5,45
9,00
9,10
9,15
9,20
9,35
9,40
9,30
9,45
REQUIRED:
(a) Provide all the relevant journal entries, in the records of ABC (Pty) Limited for the year ended
31 December 20.10 and 31 December 20.11.
(b) Provide the disclosure of the above transactions in the annual financial statements of ABC (Pty)
Limited for the year ended 31 December 20.10. Your answer should comply with the requirements of
the Companies Act, 1973 and Generally Accepted Accounting Practice.
Solution
Calculations
1. Bought inventory
1 = R
900
915
940
01/04/20.10
FOB
20 000
31/05/20.10
Pmt
20 000
31/12/20.10
Y/E
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ACN302-U/1
2. Sales
$1 = R
520
535
540
530
30/6/20.10
FOB
$100 000
30/9/20.10
Pmt 1
$50 000
31/12/20.10
Y/E
31/01/20.11
Pmt 2
$50 000
a) Journal entries
Dr
R
1 April 20.10
Inventory
Recording of credit purchase (^20 000 x R9,00)
Cr
R
180 000
180 000
31 May 20.10
Bank
Recording of payment to foreign creditor (^20 000 x R9,15)
183 000
183 000
3 000
3 000
Recorded at (^20 000 x R9,00)

Payment (^20 000 x R9,15)
R180 000
R183 000
3 000
30 June 20.10
Sales
Recording of sale of goods on credit ($100 000 x R5,20)
520 000
520 000
30 September 20.10
Bank
Recording of payment received from debtor ($50 000 x R5,35)
267 500
267 500
7 500
7 500

Payment ($50 000 x R5,35)
R260 000
R267 500
7 500
198
Dr
R
31 December 20.10
Cost of sales
Inventory
80% of inventory sold (R180 000 x 80%)
Cr
R
144 000
144 000

10 000
10 000

Balance at year end ($50 000 x R5,40)
R260 000
R270 000
R 10 000
31 January 20.11
Cost of sales
Inventory
Inventory sold during January 20.11 (R180 000 x 20%)
36 000
36 000
Bank
Payment received from debtor ($50 000 x R5,30)
265 000
265 000

5 000
5 000
Balance at year end ($50 000 x R5,40)

Payment ($50 000 x R5,30)
R270 000
R265 000
5 000
b) Disclosure
ABC (PTY) LIMITED
EXTRACT FROM THE BALANCE SHEET AS AT 31 DECEMBER 20.10
ASSETS
Current Assets
Trade and other receivables (520 000 - 267 500 + 7 500 + 10 000) or ($50 000 x R5,40)
Inventory (180 000 - 144 000)
R
270 000
36 000
ABC (PTY) LIMITED

EXTRACT FROM THE INCOME STATEMENT FOR THE YEAR ENDED 31 DECEMBER 20.10
Revenue (520 000 + xxx)
Cost of sales
R
xxx
(144 000)
Gross profit
Other expenses
xxx
xxx
Profit before tax
xxx
199
ACN302-U/1
ABC (PTY) LIMITED

R
Income:
Foreign exchange differences (7 500 + 10 000 - 3 000)
14 500
3. Foreign currency exposure

Current assets
Trade receivables (sale of goods)
7.8
Foreign asset
$50 000
Exchange rate
$1 = R
540
R
270 000
COVERED TRANSACTIONS (FEC TAKEN OUT)
IAS 21 (AC 112) does not contain guidelines and requirements for the accounting treatment of forward
exchange contracts (FEC's). The disclosure of FECs is discussed in IFRS 7 (AC 144) Financial
Instruments: Disclosures and the presentation in IAS 32 (AC 125) Financial Instruments: Presentation. The
hedging of foreign exchange transactions and the treatment for accounting purposes are addressed in
IAS 39 (AC 133) Financial Instruments: Recognition and Measurement.
7.8.1 Definitions relating to hedge accounting
A firm commitment is a binding agreement for the exchange of a specified quantity of resources at a
specified price on a specified future date or dates.
A forecast transaction is an uncommitted but anticipated future transaction.
A hedging instrument is
S
a designated derivative (for a hedge of the risk of changes in foreign currency exchange rates only);
or
S
a designated non-derivative financial asset; or
S
a non-derivative financial liability whose fair value or cash flows are expected to offset changes in
the fair value or cash flows of a designated hedged item.
A hedged item is an asset, liability, firm commitment, highly probable forecast transaction or net
investment in a foreign operation that:
S
exposes the entity to risk of changes in fair value or future cash flows; and
S
is designated as being hedged.
Hedge effectiveness is the degree to which changes in the fair value or cash flows of the hedged item
that are attributable to a hedged risk, are offset by changes in the fair value or cash flows of the hedging
instrument.
200
7.8.2 Hedging instrument
The hedging instrument for the purpose of this study unit will be Forward Exchange Contracts (FECs).
A forward exchange contract (FEC) is an agreement between two counter-parties to buy or sell:
S
S
S
a given amount of currency

at an agreed rate
on a specific date in the future.
Importers buy FECs to hedge against rising exchange rates.

Exporters sell FECs to hedge against falling exchange rates.
7.8.3 Hedged items
Qualifying items - IAS 39 (AC 133).78 - .79
A hedged item can be:
a recognised asset or liability;

an unrecognised firm commitment;
a highly probable forecast transaction; or
a net investment in a foreign operation.
A held-to-maturity investment can be a hedged item with respect to risks from changes in foreign currency
exchange rates and credit risk.
Designation of financial instruments as hedged items - IAS 39 (AC 133).81
If the hedged item is a financial asset or financial liability, it may be a hedged item with respect to the risks
associated with only a portion of its cash flows or fair value provided that effectiveness can be measured.
An example is where an identifiable and separately measurable portion of the interest rate exposure of an
interest-bearing asset/liability may be designated as the hedged risk.
In a fair value hedge of the interest rate exposure of a portfolio of financial assets or financial liabilities (and
only in such a hedge), the portion hedged may be designated in terms of an amount of a currency (e.g.
an amount of dollars, euro, pounds or rand) rather than as individual assets (or liabilities).
Designation of non-financial items as hedged items
If the hedged item is a non-financial asset or non-financial liability, it shall be designated as a hedged item:
(a) for foreign currency risks, or
(b) in its entirety for all risks,
because of the difficulty of isolating and measuring the appropriate portion of the cash flows or fair value
changes attributable to specific risks other than foreign currency risks. IAS 39 (AC 133).82.
Designation of groups of items as hedged items
Similar assets or similar liabilities shall be aggregated and hedged as a group only if the individual assets
or individual liabilities in the group share the risk exposure that is designated as being hedged.
The change in fair value attributable to the hedged risk for each individual item in the group shall be
expected to be approximately proportional to the overall change in fair value attributable to the hedged risk
of the group of items. IAS 39 (AC 133).83.
201
C
HEDGE ACCOUNTING
7.9
General
ACN302-U/1
Hedge accounting recognises the offsetting effects on profit or loss of changes in the fair values of the
hedging instrument and the hedged item. IAS 39 (AC 133).85.
Therefore, it shall be disclosed as a single amount in the financial statements.
There are three types of hedging relationships recognised by IAS 39 (AC 135).86:
1.
a fair value hedge which hedges the exposure to changes in fair value of a recognised asset
or liability or an unrecognised firm commitment, or an identified portion of such an asset, liability
or firm commitment, that is attributable to a particular risk and could affect profit or loss;
2.
a cash flow hedge which hedges the exposure to variability in cash flows that:
S is attributable to a particular risk associated with a recognised asset or liability (such as all or
some future interest payments or variable rate debt) or a highly probable forecast transaction;
and
S could affect profit or loss;
3.
a hedge of a net investment in a foreign operation . This type of hedge need not to be studied
for this module.
Note:
A fair value hedge hedges the exposure of changes in fair value of an asset or liability that has
been recognised in the financial records of the entity. (Therefore an FEC is taken out on or after
transaction date.)
A cash flow hedge hedges the exposure to variability in cash flows. (Therefore an FEC is taken
out before the transaction takes place.)
A hedge of the foreign currency risk of a firm commitment may be accounted for as a fair value hedge
or as a cash flow hedge.
7.10 Requirements to use hedge accounting - IAS 39 (AC 133).88
Before hedge accounting can be used, all of the following conditions must be met:
at the inception of the hedge there is a formal documentation of the hedging relationship and the
entitys risk management objectives and strategy for undertaking the hedge. That documentation shall
include identification of the hedging instrument, the hedged item or transaction, the nature of the risk
being hedged, and how the entity will assess the hedging instruments effectiveness in offsetting the
exposure to changes in the hedged items fair value or cash flows attributable to the hedged risk;
202
the hedge is expected to be highly effective in achieving offsetting changes in fair value or cash flows
attributable to the hedged risk, consistently with the originally documented risk management strategy
for that particular hedging relationship;
for cash flow hedges, a forecast transaction that is the subject of the hedge must be highly probable
and must present an exposure to variations in cash flows that could ultimately affect profit or loss;
the effectiveness of the hedge can be reliably measured, that is, the fair value or cash flows of the
hedged item that are attributable to the hedged risk and the fair value of the hedging instrument can
be reliably measured;
the hedge is assessed on an ongoing basis and determined actually to have been highly effective
throughout the financial reporting period as for which the hedge was designated.
In cases where the hedge no longer qualifies for hedge accounting because it does not meet the above
conditions, the hedging elements are accounted for in terms of normal accounting practices. In changing
from hedge accounting to normal accounting:
the cumulative gain or loss on the hedging instrument recognised in equity when the hedge was
effective, remains in equity until the committed or forecasted transaction occurs; or
if the committed or forecasted transaction is no longer expected to occur, the net cumulative gain or
loss reported directly in equity is reallocated to net profit or loss for the period.
7.11
Accounting treatment of fair value hedges
The hedged item (underlying transaction) is accounted for as an uncovered transaction.

When a fair value hedge meets the conditions for hedge accounting in IAS 39 (AC 133).88, it shall be
accounted for as follows:
when entering into a forward exchange contract (FEC), no transaction is recorded;
an exchange gain or loss is raised on settlement date of the FEC, being the difference between the
monetary item translated at the spot rate settlement date and the amount paid or received in terms of
the FEC on the same date;
where the entitys financial year end occurs before settlement date, the gain or loss (recognised in profit
or loss) on the FEC is calculated by multiplying the foreign currency amount of the FEC by the
difference between the contracted forward rate and the forward rate available for a similar FEC for the
remaining period till maturity of the original contract. A corresponding forward exchange asset or liability
(derivative) is raised;
any further exchange gain or loss, being the difference between the equivalent forward cover rate at
balance sheet date and the spot rate at settlement date, would be recognised in the subsequent period;
any exchange gain or loss arising as a result of accounting for FECs is recognised in profit or loss in
the period in which the exchange rate movement occurred;
any exchange gain or loss on the underlying transaction (hedged item) is also taken to profit or loss.
This matches with the exchange gain or loss on the FEC contract to bring into effect the anticipated
hedging;
203
ACN302-U/1
on maturity of an FEC it may be renewed or rolled forward to ensure further protection against
changes in foreign exchange rates. On maturity date the difference between the original forward rate
and the spot rate is received or paid in cash. The difference (profit or loss) is then recognised in profit
or loss.
7.12 Accounting treatment of cash flow hedges
There is no underlying transaction when the FEC is taken out. Therefore a transaction is forecasted.
When a cash flow hedge meets the conditions for hedge accounting as per IAS 39 (AC 133).88 it shall be
accounted for as follows:
when entering into the FEC, no transaction is recorded;
at the point when the underlying transaction is recorded or the year end is reached, the FEC is valued
by multiplying the foreign currency amount of the FEC by the difference between the contracted forward
rate and the forward rate available for a similar FEC for the remaining period, till maturity of the original
contract. A corresponding forward exchange contract asset or liability (derivative) is raised; and
the resulting gain or loss on the hedging instrument is treated as follows:
S if it is an effective hedge it shall be recognised directly through the statement of changes in equity;
S the ineffective portion of the gain of loss on the hedging instrument shall be recognised in profit
or loss.
(It will not be required of students to calculate the effective and ineffective portions of the hedge.
There will be an indication in the exam of what portion of the gain or loss is effective and
ineffective.)
If the hedge of a forecast transaction subsequently results in the recognition of a financial asset
or financial liability:
S the associated gains and losses that were recognised directly in equity shall be reclassified into profit
or loss in the same period or periods during which the asset is acquired or liability assumed affects
profit or loss;
S it shall reclassify the unrecoverable amount into profit or loss, if an entity expects that all or a portion
of a loss recognised directly in equity will not be recovered in one or more future periods.
IAS 39 (AC 133).97
If a hedge of a forecast transaction subsequently results in the recognition of a non-financial
asset or a non-financial liability:
S then the entity shall adopt A or B (see below) of the following as the policy of the entity and shall
consistently apply the policy to all hedges. IAS 39 (AC 133).99
The policy of the entity shall be one of the following (A or B):
A. Reclassify the associated gains and losses previously recognised directly in equity into profit
or loss in the same period or periods during which the asset acquired or liability assumed
affects profit or loss. IAS 39 (AC 133).98(a)
If an entity expects that all or a portion of a loss recognised directly in equity will not be recovered in
one or more future periods, it shall reclassify into profit or loss the amount that is not expected to be
recovered.
204
For example:
If an anticipated purchase of inventory was hedged from order date, the deferred hedging gain of loss
would remain in equity when the inventory is purchased, and recognised in profit or loss as the
inventory are sold.
Profit
Dr. Equity
Cr.
Profit or loss (I/S)
Loss
Dr. Profit or loss (I/S)
Cr.
Equity
B. Remove associated gains and losses that were recognised directly in equity and include them
in the initial cost or other carrying amount of the asset or liability. IAS 39 (AC 133) .98(b)
For example:
If an anticipated purchase of inventory was hedged from order date, the deferred hedging gain or loss
would be set off against the cost of inventory as soon as the purchase is recognised.
Profit
Dr. Equity
Cr.
Asset @ cost
Loss
Dr. Asset @ cost
Cr.
Equity
In the above paragraphs the accounting treatment in the case of a single FEC expiring only after the
underlying transaction has been recorded, was illustrated. If more than one FEC is taken out in
anticipation of the underlying transaction (the FEC is rolled forward), the exchange gain or loss that
realises when one FEC expires and a next one is entered into, is taken to equity as a deferred hedging
gain or loss.
Once the underlying transaction is recorded, the deferred hedging gain/loss for the current FEC at that
stage, is determined and taken to equity to establish the total deferred hedging gain or loss on the date
on which the underlying transaction is recorded.
At this point the accumulated deferred hedging gains/losses are transferred from equity according to
the accounting policy chosen by the entity. (A or B)
Once the underlying transaction has been recorded, the cash flow hedge changes to a fair value
hedge and is treated as set out under fair value hedges.
205
ACN302-U/1
Summary
CASH FLOW HEDGE
Transaction
date/FOB/Firm
commitment
Cash flow hedge
FAIR VALUE HEDGE
Fair value hedge
Ineffective hedge
Effective hedge
Recognised in
profit/loss
Recognised in
equity
Gain/loss from remeasuring the hedging

instrument at fair value is recognised in
profit/loss
Recognition of financial
asset/liability
Recognition of non-financial asset/

liability or firm commitment
(accounting policy)
Reclassify amounts in
profit/loss when asset
acquired or liability
assumed affects profit/
loss
Unrecoverable
amounts reclassify
in profit/loss
Reclassify in profit/
loss when asset
acquired or liability
assumed affects
profit/loss
Include in the initial

cost or carrying
amount of the
asset/liability
206
7.13 DISCLOSURE OF COVERED FOREIGN CURRENCY TRANSACTIONS
IFRS 7 (AC 144), Financial Instruments: Disclosures requires entities to provide disclosures in their
financial statements that enables users to evaluate (IFRS 7 (AC 144).01):
the significance of financial instruments for the entitys position and performance; and
the nature and extent of risks arising from financial instruments to which the entity is exposed during
the period and at the reporting date, and how the entity manages those risks.
IFRS 7 (AC 144) requires the following disclosures for hedging activities (which includes foreign currency
hedges):
An entity shall disclose the following separately for designated fair value hedges and cash flow
hedges (IFRS 7 (AC 144).22):
S a description of each type of hedge;
S a description of the financial instruments designated as hedging instruments and their fair values
at the reporting date; and
S the nature of the risks being hedged.
For cash flow hedges, an entity shall disclose (IFRS 7 (AC 144).23):
S the periods when the cash flows are expected to occur and when they are expected to affect
profit or loss;
S a description of any forecast transaction for which hedge accounting had previously been used,
but which is no longer expected to occur;
S the amount that was recognised in equity during the period;
S the amount that was removed from equity and included in profit or loss for the period, showing
the amount included in each line item in the income statement; and
S the amount that was removed from equity during the period and included in the initial cost or
other carrying amount of a non-financial asset or non-financial liability whose acquisition or
incurrence was a hedged highly probable forecast transaction.
An entity shall disclose separately (IFRS 7 (AC 144).24):

S in fair value hedges:
- gains or losses on the hedging instrument; and
- gains or losses on the hedged item attributable to the hedged risk;
S the ineffectiveness recognised in profit or loss from cash flow hedges.
For each type of risk (including market risk) arising from financial instruments, an entity shall disclose
(IFRS 7 (AC 144).33, 34):
S the exposures to risk and how they arise;
S its objectives, policies and processes for managing the risk and methods used to measure the
risk;
S summary quantitative data about its exposure to that risk at the reporting date based on
information provided internally to key management personnel;
S concentrations of risk, if not apparent from other disclosure
The following must be disclosed on market risk (IFRS 7 (AC 144).40):

S a sensitivity analysis for each type of market risk to which the entity is exposed at the reporting
date, showing how profit or loss and equity would have been affected by changes in the relevant
risk variable that were reasonably possible at that date. IFRS 7 (AC 144).B24 specifically states
that a sensitivity analysis must be disclosed for each currency to which the entity has significant
exposure;
S the methods and assumptions used in preparing the sensitivity analysis; and
S changes from the previous period in the methods and assumptions used, and the reasons for
such changes.
207
Example
ACN302-U/1
AN FEC IS TAKEN OUT ON TRANSACTION DATE (a fair value hedge)

On 1 May 20.1 A Limited bought inventory from B Limited, a company incorporated in the United Kingdom.
The invoice was for 10 000, payable on 31 July 20.1. The financial year end of A Limited is 30 June. A
FEC is taken out for the period 1 May 20.1 to 31 July 20.1. Assume that none of the inventory was sold
at year end. Applicable exchange rates were as follows:
1 = R
Spot rate
3 month FEC
1 May 20.1
30 June 20.1
31 July 20.1
7,10
7,15
7,25
7,28
The forward rate on the balance sheet date for a one month FEC was 1 = R7,29.
Assume that the hedging criteria per IAS 39 (AC 133).88 have been met.
The companys documented risk management strategy for foreign currency risks provides for the following:
-
all exposure to fluctuations in foreign exchange rates are to be hedged by means of forward
exchange contracts (FECs);
208
-
hedge effectiveness is to be assessed on an on-going cumulative basis from the inception of the
hedge by comparing the offsetting effects of gains or losses arising from fluctuations in spot exchange
rates to those arising from changes in the fair value of forward exchange contracts designated in their
entirety.
It is the companys policy to remove associated gains and losses that were recognised directly in equity
and include them in the initial cost of the non-financial asset that subsequently results from the hedge of
the forecasted transaction.
The company value inventory according to the first-in-first-out method.
REQUIRED:
(a) Provide all the relevant journal entries; and
(b) Provide the disclosure of the above transactions for the year ended 30 June 20.1. Your answer
should comply with the requirements of the Companies Act, 1973 and Generally Accepted Accounting
Practice.
Solution
(a) Journals
Dr
R
Cr
R
1 May 20.1
Inventories
Recording of inventory purchased on credit (10 000 x 7,10 = R71 000)
71 000
71 000
30 June 20.1
500
Foreign exchange difference

Creditor revalued at spot rate on year end
500
Recorded at ^10 000 x 7,10 =

Translated at year end ^10 000 x 7,15 =
R71 000
R71 500
500
100
FEC - asset
Revalue FEC at year end
100
FEC taken out ^10 000 x 7,28 =

Similar FEC ^10 000 x 7,29 =
R72 800
R72 900
100
209
ACN302-U/1
Dr
R
Cr
R
31 July 20.1
100

FEC asset
FEC expires (reverse FEC asset)
100
1 000

Revalue creditor at spot rate on settlement date
1 000
Spot rate on settlement date 10 000 x 7,25 =

Year end 10 000 x 7,15 =
R72 500
R71 500
R 1 000
Trade payables (creditor) (71 000 + 500 + 1 000)

Foreign exchange difference (10 000 x (7,25 - 7,28))
Bank (FEC amount) (10 000 x 7,28)
Recording of payment to foreign creditor
72 500
300
72 800
31 July 20.1 - alternative

Trade payables (creditor) (71 000 + 500)
FEC asset
Bank (FEC amount)
71 500
1 400
100
72 800
Comment:
This is an example of a fair value hedge where the changes in fair value of the creditor as a result of
currency fluctuations, is offset by fair value changes in the FEC.
(b) Disclosure
A LIMITED
BALANCE SHEET AS AT 30 JUNE 20.1
R
ASSETS
Current assets
Inventories
Forward exchange contract asset (FEC asset)
71 000
100
EQUITY AND LIABILITIES

Current liabilities
71 500
210
A LIMITED
INCOME STATEMENT FOR THE YEAR ENDED 30 JUNE 20.1
R
Gross profit
Other expenses (500 - 100)
XXX
(400)
A LIMITED
1.1 Inventory
Inventory is valued at the lower of cost or net realisable value on the first-in-first-out method.
1.2 Financial instruments
The company enters into forward exchange contracts to buy specified amounts various foreign currencies
in the future at a predetermined exchange rate. The contracts are entered in order to manage the
companys exposure to fluctuation in foreign currency exchange rates on specific transactions.
Profits and losses arising from cash flow hedges are recognised directly in equity. Where a hedge of a
forecasted transaction subsequently results in the recognition of a non-financial asset or liability, these
associated gains or losses that were recognised directly in equity are removed therefrom and included in
the initial cost or other carrying amount of the asset or liability.
Gains and losses arising from fair value hedges are recognised in profit or loss.
R
Expenses:
Foreign exchange differences (500 - 100)
400
3. Financial instrument
Fair value
The fair values of forward exchange contracts are determined directly in full by reference to published price
quotations in an active market and represent the amounts (using a rate quoted by a bank) that the
company would receive to terminate the contracts at the reporting date, thereby taking into account the
unrealised gains or losses of open contracts.
Designated fair value hedges
At year-end a forward contract was hedging a trade payable (creditor) relating to the purchase of inventory.
211
ACN302-U/1
The risk being hedged is an exchange loss due to an unfavourable movement in the exchange rate
between the rand and the pound.
The fair value of the forward exchange contract at balance sheet date was 10 000 or R72 900
(10 000 x 7,29). The forward exchange contract matures on 31 July 20.1 and the forward rate is
1 = R7,28.
4. Financial risk management objectives and policies
Foreign currency risk is created due to the influence of exchange rate fluctuations. It is the companys
policy to cover all exposure for foreign currency risk by means of forward exchange contracts. The
company has exposure to fluctuations in the pound against the rand at year-end of which the total amount
is covered.
5. Inventory
R
71 000
Finished goods
COMMENT (not part of disclosure)
Particulars of FEC taken out (10 000):
Exchange
Rate
1 = R
Spot rate on transaction date

Foreign exchange loss (journals: 500 - 100 + 100 + 1 000 + 300)
7,10
0,18
71 000
1 800
Forward rate for 3 month FEC
7,28
72 800
Transaction date:
On the transaction date (1 May 20.1) the inventory and creditor are recorded at the rate ruling on this date.
Year-end:
The creditor (monetary item) is adjusted at year-end to reflect the closing rate and a foreign exchange
difference (loss) is recognised. A further foreign exchange difference is recognised at year-end by
multiplying the creditor amount with the difference between the contracted FEC rate (7,28) and the FEC
rate for a one month FEC at year-end (7,29). A corresponding FEC asset is created. An FEC asset is
created since the market related rate at the balance sheet date is higher than the contracted forward rate
for the purchase of foreign currency. Should A Limited take out cover at year-end, then it would be at the
higher market related forward rate and A Limited would have to pay more for the same amount of foreign
currency than the rate specified in the existing contract. A Limited is therefore in a beneficial position and
an FEC asset is created.
Settlement date:
On the settlement date, a further exchange difference is recognised when the creditor is adjusted to reflect
the spot rate on the settlement date. The FEC asset is reversed. An additional exchange difference is
recognised which represents the difference between the FEC rate and the spot rate on the settlement date.
212
Example
FEC TAKEN OUT ON TRANSACTION DATE AND RENEWED

(fair value hedge rolled forward)
The same information as provided in Example 6 applies except that cover is taken out for the period
1 May 20.1 to 1 June 20.1 after which cover was extended to 31 July 20.1. Assume that none of the
inventory was sold at year end. The applicable exchange rates were as follows:
Spot rate
7,10
7,13
7,15
7,25
1 May 20.1
1 June 20.1
30 June 20.1
31 July 20.1
1 = R
1 month FEC
2 month FEC
7,19
7,28
REQUIRED:
Practice. Accounting policy notes are not required.
Solution
(a) Journals
Dr
R
Cr
R
1 May 20.1
Inventories
Recording of inventory purchased (10 000 x 7,10 = R71 000)
71 000
71 000
1 June 20.1
600

Bank
Recording of loss on maturity of FEC
600
Sell 10 000 x 7,13 =

Buy 10 000 x 7,19 =
R71 300
R71 900
600
213
ACN302-U/1
Dr
R
Cr
R
30 June 20.1
500

Creditor restated at spot rate at year end
500
Recorded 10 000 x 7,10 =

Translated 10 000 x 7,15 =
R71 000
R71 500
500
100
FEC - asset
Revalued FEC at year end
100
FEC taken out 10 000 x R7,28 =

Similar FEC 10 000 x R7,29 =
R72 800
R72 900
100
31 July 20.1
100

FEC asset
FEC expires (FEC asset is reversed)
100
1 000

Revalued creditor at spot rate on settlement date
1 000
Spot rate on settlement date 10 000 x 7,25 =

Spot rate at year end 10 000 x 7,15 =
R72 500
R71 500
R 1 000

Bank (FEC amount)
72 500
300
72 800
(b) Disclosure
A LIMITED
R
ASSETS
Current assets
Inventories
Forward exchange contract asset
71 000
100

Current liabilities
71 500
214
A LIMITED
R
Gross profit
Other expenses (600 + 500 - 100)
XXX
(1 000)
A LIMITED
2.
Profit before tax

R
Expenses:
Foreign exchange differences (600 + 500 - 100)
3.
1 000
Financial instruments
Fair value
The fair values of forward exchange contracts are determined directly in full by reference to published
price quotations in an active market and represent the amounts (using a rate quote by a bank) that
the company would receive to terminate the contracts at the reporting date, thereby taking into
account the unrealised gains or losses of open contracts.
At year-end a forward exchange contract was hedging a trade payable (creditor) relating to the
purchase of inventory.
(10 000 x 7.29). The forward exchange contract matures on 31 July 20.1 and the forward rate is
1 = R7.28.
4.
Financial risk management objectives and policies

policy to cover all exposure to foreign currency risk by means of forward exchange contracts. The
company has exposure to fluctuations in the pound against the rand at year-end of which the total
amount is covered.
5.
Inventory
R
Finished goods
71 000
215
ACN302-U/1

Particulars of FECs taken out (10 000):
Spot rate
1 = R

7,10
0,09
71 000
900
7,19
71 900
Spot rate on rolling date

7,13
0,15
71 300
1 500
7,28
72 800
R600
cash
outflow
Total foreign exchange loss = 900 + 1 500 = R2 400 (journals: 600 + 500 - 100 + 100 + 1 000 + 300 =
R2 400)
The first FEC matures on 1 June 20.1. On this date A Limited is obliged to buy 10 000 from the financial
institution with whom the FEC contract was closed, at the forward rate of 7,19 (R71 900). However, the
creditor is only paid on 31 July 20.1. A Limited therefore has no use for the 10 000 on 1 June 20.1 and
sells it immediately at the spot rate ruling on 1 June 20.1 and receives R71 300. A Limited has a net cash
outflow of R600 (pays R71 900 to the financial institution for the purchase of 10 000 and receives
R71 300 from the financial institution for the immediate sale of 10 000). The bank is credited with the net
cash outflow of R600 and a foreign exchange difference is debited with this amount.
Example
A FORWARD EXCHANGE CONTRACT IS TAKEN OUT IN ANTICIPATION OF A TRANSACTION

(cash flow hedge and fair value hedge)
The information provided in Example 6 applies except that cover is taken out for the period 1 March 20.1
to 31 July 20.1. The applicable exchange rates were as follows:
1 = R
1 March 20.1
1 May 20.1
30 June 20.1
31 July 20.1
Spot rate
Forward rate for an

FEC that expires
on 31/07/20.1
7,06
7,10
7,15
7,25
7,28
7,30
7,29
-
Assume that the gain or loss on the hedging instrument, regarding the cash flows hedge, is an effective
hedge.
REQUIRED:
Practice.
216
Solution
(a) Journals
Dr
R
Cr
R
1 March 20.1
No entry
1 May 20.1
FEC asset
Deferred hedging gain (equity)
Revalue FEC at forward rate for a similar FEC with the same maturity date
[10 000 x (7,30 - 7,28) = R200]
Inventories
Inventory
Deferred hedging gain set off against cost of inventory
200
200
71 000
71 000
200
200
30 June 20.1
Revalued creditor at spot rate at year end
(10 000 x 7,15 = R71 500)
(R71 500 - R71 000 = R500)
500

FEC asset
[10 000 x (7,30 - 7,29) = R100]
100
500
100
31 July 20.1
Revalue creditor at spot rate on settlement date [10 000 x (7,25 - 7,15)]
FEC liability
Revalue FEC at spot rate on maturity date [10 000 x (7,29 - 7,25)]
FEC liability
Bank (10 000 x 7,28)
FEC asset (200 - 100)
1 000
1 000
400
400
72 500
400
72 800
100
217
ACN302-U/1
(b) Disclosure
A LIMITED
R
ASSETS
Current assets
Inventories (71 000 - 200)
Forward exchange contract asset (200 - 100)
70 800
100

Current liabilities
71 500
A LIMITED
R
Gross profit
Other expenses (500 + 100)
XXX
(600)
A LIMITED
1.
Accounting policy
1.2 Financial instruments

The company enters into forward exchange contracts to buy specified amounts various foreign currencies
in the future at a predetermined exchange rate. The contracts are entered in order to manage the
companys exposure to fluctuation in foreign currency exchange rates on specific transactions.
Profits and losses arising from cash flow hedges are recognised directly in equity. Where a hedge of a
forecasted transaction subsequently results in the recognition of a non-financial asset or liability, these
associated gains or losses that were recognised directly in equity are removed therefrom and included in
the initial cost or other carrying amount of the asset or liability.
Gains and losses arising from fair value hedges are recognised in profit or loss.
2.
Profit before tax

R
Expenses:
Foreign exchange differences (500 + 100)
600
218
3.
Fair value
1 = R7.28.
4.

amount is covered.
5.
Inventory
R
Finished goods
70 800

Particulars of FEC taken out (10 000):
Exchange
rate
1 = R

Foreign exchange loss (journals: -200 + 500 + 100 + 1 000 + 400 = 1 800)
7,10
0,18
71 000
1 800
7,28
72 800
No journal entries are passed on 1 March 20.1 as it is not the transaction date for the purchase of
inventory. The taking out of an FEC does not give rise to a journal entry although the company will keep
a record of all unmatured FEC's.
Initially the example is a cash flow hedge as the forward exchange contract was taken out before the
inventory was recognised. It changes to a fair value hedge on 1 May 20.1 (transaction date).
The third journal entry on 1 May 20.1 is called the "basis adjusting entry" whereby the premium on the FEC
up to the transaction date is set off against the carrying amount of the inventory.
219
ACN302-U/1
Once the basis adjusting entry is passed for the cash flow hedge, the subsequent hedging journal entries
become those for fair value hedges.
Example
CASH FLOW HEDGE AT YEAR-END

The same information as in Example 8 applies, except that the year-end was 30 April 20.1 and the FEC
rate on the balance sheet date for a three month FEC was R7,30. The particulars of the FEC must now
be disclosed in a note to the annual financial statements since there is no related balance sheet item at
year-end.
REQUIRED:
(b) Provide the disclosure of the above transactions for the year ended 30 April 20.1. Your answer should
comply with the requirements of the Companies Act, 1973 and Generally Accepted Accounting
Solution
(a) Journals
Dr
R
Cr
R
1 March 20.1
No journal entry
30 April 20.1
FEC asset
Deferred hedging gain
[10 000 x (7,28 - 7,30) = R200]
200
200
(b) Disclosure
A LIMITED
BALANCE SHEET AS AT 30 APRIL 20.1
R
ASSETS
Current assets
200

Equity attributable to equity holders
200
220
A LIMITED
STATEMENT OF CHANGES IN EQUITY FOR THE YEAR ENDED 30 APRIL 20.1
Deferred
hedging
gain
R
Balance at 30 April 20.0
Cash flow hedge:
Profit recognised directly in equity
200
Transfer to carrying amount of hedged item
Balance at 30 April 20.1 carried forward
200
A LIMITED
NOTES FOR THE YEAR ENDED 30 APRIL 20.1
3.
Foreign currency exposure
Purchase of inventory on 1 May 20.1
Amount
Forward rate
1 = R
Maturity date
10 000
7,28
31 July 20.1
A deferred hedging gain resulted from the revaluation of the forward exchange contract at year-end.
It is expected that the deferred hedging gain will be recognised as income in the next financial year.
4.

amount is covered.
Example
10
RENEW THE FEC BEFORE THE TRANSACTION DATE

(cash flow hedge rolled forward and fair value hedge)
The same information as in Example 6 applies, except that cover is taken out for the period 1 March 20.1
to 1 April 20.1, after which cover is extended to 31 July 20.1. The applicable exchange rates were as
follows:
1 = R
Spot rate
1 March 20.1
1 April 20.1
1 May 20.1
1 June 20.1
30 June 20.1
31 July 20.1
7,06
7,13
7,10
7,13
7,15
7,25
1 month FEC 4 month FEC

7,08
7,27
221
ACN302-U/1
The forward rate on the balance sheet date for a one month FEC was 1 = R7,29. On 1 May 20.1 the
forward rate for a three month FEC was 1 = R7,28.
Assume that the gain or loss on the hedging instrument, regarding the cash flow hedge, is an effective
hedge.
REQUIRED:
(b) Provide the disclosure of the above transactions for the year ended 30 June 20.1. Your answer should
comply with the requirements of the Companies Act, 1973 and Generally Accepted Accounting
Solution
10
(a) Journals
Dr
R
Cr
R
1 March 20.1
No journal entry
1 April 20.1
Bank
500
500

Recording of deferred hedging gain on maturity of FEC
[10 000 x (7,13 - 7,08) = R500]
1 May 20.1
FEC asset
[10 000 x (7,27 - 7,28) = R100]
Inventory
Deferred hedging gain (500 + 100)
Inventory
Set-off of deferred hedging gain against cost of inventory
100
100
71 000
71 000
600
600
30 June 20.1
Revalue creditor at spot rate at year end
(10 000 x 7,15 = R71 500)
(R71 500 - R71 000 = R500)
500
FEC asset
[10 000 x (7,28 - 7,29) = R100]
100
500
100
222
(a) Journals
31 July 20.1
Revalue creditor at spot rate on settlement date
(10 000 x 7,25 = R72 500)
(R72 500 - R71 500 = R1 000)
Foreign exchange difference [(10 000 x (7,27 - 7,25)) + (100 + 100)]
FEC asset (100 + 100)
Bank (FEC amount)
Dr
R
Cr
R
1 000
1 000
72 500
400
200
72 700
(b) Disclosure
A LIMITED
R
ASSETS
Current assets
Inventories (71 000 - 600)
Forward exchange contract asset (100 + 100)
Current liabilities
A LIMITED
70 400
200
71 500

R
Gross profit
XXX
(400)
A LIMITED
2.
Profit before tax

R
Expenses:
400
223
3.
ACN302-U/1
Fair value
1 = R7.28.
4.

amount is covered.
5.
Inventory
R
Finished goods
Example
70 400
11
A FORWARD EXCHANGE CONTRACT IS TAKEN OUT AFTER THE TRANSACTION TOOK PLACE
(fair value hedge)
The same information as provided in Example 6 applies except that cover is taken out for the period 1 June
20.1 to 31 July 20.1. The applicable exchange rates were as follows:
1 = R
Spot rate
1 May 20.1
1 June 20.1
30 June 20.1
31 July 20.1
7,10
7,13
7,15
7,25
2 month FEC
7,28
224
REQUIRED:
Solution
11
(a) Journals
Dr
R
Cr
R
1 May 20.1
Inventory
71 000
71 000
1 June 20.1
No journal entry
30 June 20.1
Revalue creditor at spot rate on year end
(10 000 x 7,15 = R71 500)
(R71 500 - R71 000 = R500)
500
FEC asset
[10 000 x (7,28 - 7,29) = R100]
100
500
100
31 July 20.1
FEC asset
FEC matures (reverse FEC asset)
Revalue creditor at spot rate at year end
(10 000 x 7,25 = R72 500)
(R72 500 - R71 500 = R1 000)
Bank (FEC amount)
100
100
1 000
1 000
72 500
300
72 800
225
ACN302-U/1
(b) Disclosure
A LIMITED
R
ASSETS
Current assets
Inventory
71 000
100

Current liabilities
Trade payables (71 000 + 500)
71 500
A LIMITED
Gross profit
R
XXX
(400)
A LIMITED
2.
Profit before tax

R
Expenses:
3.
400
Fair value
At year-end a forward exchange contract was hedging a trade payable creditor relating to the
1 = R7.28.
226
4.

amount is covered.
5.
Inventory
R
Finished goods
Example
71 000
12
A FORWARD EXCHANGE CONTRACT IS TAKEN OUT IN ANTICIPATION OF A TRANSACTION UNEFFECTIVE PORTION OF CASH FLOW HEDGE
(cash flow hedge and fair value hedge)
The information in example 6 applies, except that:
S
cover is taken out for the period 1 March 20.1 to 31 July 20.1
S
the gain or loss on the hedging instrument, regarding the cash flow hedge, is only 75% effective.
The applicable exchange rates were as follows:
1 March 20.1
1 May 20.1
30 June 20.1
31 July 20.1
1 = R
1 = R
Spot Rate
Forward rate
for an FEC that
expires on
31/07/20.1
7.06
7.09
7.15
7.25
7.28
7.32
7.29
-
REQUIRED:
227
Solution
ACN302-U/1
12
(a) Journals
Dr
R
Cr
R
1 March 20.1
No entry
1 May 20.1
FEC asset
Foreign exchange difference (I/S)
Revalue FEC at forward rate for a similar FEC with same maturity date - 75%
effective [10 000 x (7.32 - 7.28) = R400][(R400 x 75%) = R300]
Inventories
Recording of inventory purchased (10 000 x 7.09 = R70 900)
Inventory
Deferred hedging gain set off against cost of inventory
400
300
100
70 900
70 900
300
300
30 June 20.1
Revalue creditor at spot rate on year end
(10 000 x 7,15 = R71 500)
(R71 500 - R70 900 = R600)
600

FEC asset
[10 000 x (7,32 - 7,29) = R300]
300
600
300
31 July 20.1
Revalue creditor at spot rate on settlement date [10 000 x (7,25 - 7,15)]
Bank
FEC asset (400 - 300)
1 000
1 000
72 500
400
72 800
100
228
(b) Disclosure
A LIMITED
R
ASSETS
Current assets
Inventory (70 900 - 300)
Forward exchange contract asset (400 - 300)
70 600
100

Current liabilities
71 500
A LIMITED
Gross profit
Other expenses (-100 + 600 + 300)
2.
R
XXX
(800)
Profit before tax

R
Expenses:
Foreign exchange differences (-100 + 600 + 300)
3.
(800)
Fair value
At year-end a forward exchange contract was hedging a trade payable relating to the purchase of
inventory.
1 = R7.28.
229
4.
ACN302-U/1

amount is covered.
5.
Inventory
R
Finished goods
Example
70 600
13
On 1 February 20.3 a company ordered machinery to the value of 32 900 from the United Kingdom. The
machinery was shipped FOB on 1 May 20.3 and was received and brought into use on 1 July 20.3. The
creditor is on 1 June 20.3 payable. Machinery is written off on the straight-line method over three years.
On 1 February 20.3 a four month FEC was concluded for the full amount payable.
The applicable foreign exchange rates were as follows:
Date
1 February 20.3
31 March 20.3 (year-end)
1 May 20.3
1 June 20.3
Spot rate
1=R
Forward rate
1=R
10,99
11,10
11,20
11,25
11,03 (4 months)
11,14 (2 months)
11,22 (1 month)
It is the policy of the company to:

(a) remove the profit/loss which was recognised in equity from equity and to include it in the initial cost
or carrying amount of the recognised asset or liability; or
(b) not include the profit/loss that was recognised directly in equity in the initial cost or carrying amount
of the recognised asset or liability, but to reclassify it to profit or loss in the same period in which the
asset acquired or the liability assumed affected the profit or loss.
REQUIRED:
(a) Provide all the relevant journal entries according to the chosen policy of the company (alternative (a)
or (b)).
230
Solution
13
The hedge is a cash flow hedge that results in the recognition of a non-financial asset (machinery). The
transaction can be accounted for as follows:
ALTERNATIVE (a)
Dr
R
Cr
R
1 February 20.3
No recording of FEC
FEC asset (32 900 x (11,14 -11,03))
Hedging reserve (equity)
Fair value adjustment on FEC
1 May 20.3 (transaction date)
Machinery (32 900 x 11,20)
Creditor
Recognise machinery at spot rate on transaction date
3 619
3 619
368 480
368 480
FEC asset (32 900 x (11,22 - 11,14))

Hedging reserve
2 632
Hedging reserve (3 619 + 2 632)

Machinery
Hedging reserve transferred to cost of asset
6 251
1 June 20.3
Creditor
Bank (32 900 x 11,03)
FEC asset (3 619 + 2 632)
Settlement of creditor
OR
Creditor
Restate creditor to spot rate on settlement date
Creditor (32 900 x 11,25)
Bank (32 900 x 11,03)
FEC asset (3 619 + 2 632)
Depreciation ((368 480 - 6 251)/3 years x 9/12)
Provision for depreciation on machinery
2 632
6 251
368 480
658
362 887
6 251
1 645
1 645
370 125
987
362 887
6 251
90 557
90 557
231
ACN302-U/1
ALTERNATIVE (b)
Dr
R
Cr
R
1 February 20.3
No recording of FEC
FEC asset (11,14 -11,03) x 32 900
Hedging reserve (equity)
1 May 20.3 (transaction date)
Machinery (32 900 x 11,20)
Creditor
Recognise machinery at spot rate on transaction date
FEC asset (11,22 - 11,14) x 32 900
Hedging reserve
Fair value adjustment of FEC
1 June 20.3
Creditor
Bank (32 900 x 11,03)
FEC asset (3 619 + 2 632)
OR
Creditor
Restate creditor to spot rate on settlement date
Creditor (32 900 x 11,25)
Bank (32 900 x 11,03)
FEC asset (3 619 + 2 632)
Depreciation (368 480/3 years x 9/12)
Provision for depreciation on machinery
Hedging reserve ((3 619 + 2 632)/3 x 9/12)
Profit or loss (income statement)
Recognise portion of hedging reserve in profit or loss
3 619
3 619
368 480
368 480
2 632
2 632
368 480
658
362 887
6 251
1 645
1 645
370 125
987
362 887
6 251
92 120
92 120
1 563
1 563
232
D
TAX IMPLICATIONS
The tax treatment of gains and losses on foreign exchange transactions in terms of Section 24I will
correspond to the accounting treatment thereof for the majority of transactions with certain
exceptions.
It should be noted from the very start that Section 24I only addresses the foreign exchange
differences on the exchange items (i.e. monetary items) and NOT THE UNDERLYING ASSET.
The underlying asset is treated in terms of Section 25D (translated into the local (functional) currency
using the average rate of exchange for the relevant year). Therefore the cost of the asset (PPE,
inventory) will be measured at an average exchange rate for tax purposes while the cost for
accounting purposes will be at spot rate on transaction date (FOB date).
Where the spot rate is greater than the average rate, the difference will give rise to a non-taxable
temporary difference on initial recognition with no deferred tax consequences per IAS 12
(AC 102).15.
Where the average exchange rate is greater than the spot rate, the difference will give rise to a
deductible temporary difference on initial recognition for which no deferred tax asset will be raised.
IAS 12 (AC 102).24(b)).
It should be noted that every foreign currency transaction has two legs, namely the underlying asset
(non-monetary item) and the foreign currency liability (exchange (monetary) item).
Dr
Cr
Underlying asset (non-monetary item)

Creditor (monetary item)
233
ACN302-U/1
The following table illustrates the interaction between sections 24I (foreign exchange), 25D (determination
of taxable income in foreign currency) and the Eighth Schedule (capital gains tax) if an item was imported
and financed with a loan (creditor) raised in a foreign currency.
Underlying asset purchased in foreign currency
Stock
Fixed asset
Section 25D applies (recorded at average

exchange rate)
Section 25D applies, (recorded at average exchange

rate) and par. 431 of the Eighth Schedule will be
applicable to the asset
Foreign currency liability (exchange item)
Section 24I is applicable

YES
Apply general rule in section 24I to

exchange item to calculate the exchange
differences
NO2
Apply Part XIII of the Eighth Schedule to the foreign

currency liability3
Paragraph 43 of the Eighth Schedule of the Act sets out the rules for determining the capital gains
and losses when assets are acquired or disposed of in foreign currency.
Section 24I will not be applicable if, for example, the taxpayer is an individual who does not hold the
exchange item as part of his trading stock or a trust not carrying on a trade (Section 24I(2)) or if
section 24I(11) is applicable.
Part XIII of the Eighth Schedule of the Act deals with the capital gains and losses of a resident in
respect of the acquisition and disposal of a foreign currency asset, or the settlement or part
settlement of a foreign currency liability (paragraph 85 of the Eighth Schedule).
234
E
PROPOSED INTERPRETATIONS
ACCOUNTING PRACTICE
OF
STATEMENTS
ON
GENERALLY
ACCEPTED
7.14 SIC-7 (AC 407) - Introduction of the Euro

ISSUE
On 1 January 1999, the effective start of the Economic and Monetary Union, the euro became a currency
in its own right and the conversion rates between the euro and the participating national currencies are
irrevocably fixed.
The issue is the application of IAS 21 (AC 112) to the changeover from the national currencies of
participating Member States of the European Union to the euro.
CONSENSUS
The requirements of IAS 21 (AC 112) regarding the translation of foreign currency transactions should be
strictly applied to the changeover as well as to the fixing of exchange rates when countries join the EMU
at later stages.
In particular it means that:
foreign currency monetary assets and liabilities resulting from transactions should continue to be
translated into the reporting currency at the closing rate. Any resultant exchange differences should
be recognised as an income or expense immediately;
exchange differences resulting from the translation of liabilities denominated in participating

currencies should not be included in the carrying amount of the related assets.
ASSESSMENT CRITERIA
define the terms used in IFRS 7 (AC 144), IAS 21 (AC 112), IAS 32 (AC 125) and IAS 39 (AC 133)
(iro hedging);
explain which exchange rate to use at initial recognition, subsequent reporting and settlement date;
describe the different accounting treatments iro exchange differences on foreign currency
transactions;
state the tax implications of covered and uncovered foreign currency transactions;
record covered and uncovered foreign transactions in the accounting records of an entity; and
properly disclose covered and uncovered foreign currency transactions in the financial statements of
an entity according to the requirements of IFRS 7 (AC 144), IAS 21 (AC 112), IAS 32 (AC 125) and
IAS 39 (AC 133).
UNISA
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DEPARTMENT OF FINANCIAL ACCOUNTING

Distinctive financial reporting

UNIVERSITY OF SOUTH AFRICA

2006 University of South Africa

INTRODUCTION AND OVERVIEW OF MODULE

Investment Property [IAS 40 (AC 135)]

Impairment of Assets (excluding cash generating units) [IAS 36 (AC 128)]

Intangibles [IAS 38 (AC 129)]

Non-current Assets Held for Sale and Discontinued Operations [IFRS 5

Financial Instruments [IAS 32 (AC 125) and IAS 39 (AC 133)]

INTRODUCTION AND OVERVIEW OF MODULE

General financial reporting

Approach to your studies

PROPERTY, PLANT AND EQUIPMENT

PROPERTY, PLANT AND EQUIPMENT

OBJECTIVE - IAS 16 (AC 123).1

1.2 SCOPE - IAS 16 (AC 123).2-5

1.3 DEFINITIONS - IAS 16 (AC 123).6

RECOGNITION OF PROPERTY, PLANT AND EQUIPMENT - IAS 16 (AC 123).7-14

the cost of the item can be measured reliably.

Carrying amount on 30 April 20.4

New carrying amount on 30 April 20.4

1.4.2 Subsequent costs

Cost (1 600 000 - 150 000)

Carrying amount on 31 December 20.2

Carrying amount on 31 December 20.3

(b) DEENS LIMITED

1.6 MEASUREMENT AFTER RECOGNITION - IAS 16 (AC 123).29-65

Cost of equipment (1 March 20.3)

(i) Straight-line method: (500 000 - 20 000)/4 = 120 000 annually

4/10 x (500 000 - 20 000)

reimbursement by insurance companies after an impairment or loss of PPE-items, eg due to natural

indemnities by the government for PPE-items that were expropriated;

compensation related to the involuntary conversion of PPE-items, eg relocation of facilities from a

physical replacement in whole or in part of an impaired or lost asset.

impairments or losses of PPE-items;

related compensation from third parties;

subsequent purchase or construction of assets.

The separate accounting treatments are as follows:

All the conditions should be satisfied before a disposal can be recognised.

Profit on sale of machine 1 (in income statement)

Interest received (in income statement) (187 500 x 12% x 6/12)

Loss on withdrawal (in income statement)

Impairment loss (calc 1)

Carrying amount beginning of year

Carrying amount end of year

Carrying amount beginning of year

Profit before tax

Profit before tax includes the following:

Depreciation (calc 1) (calc 3)

Depreciation and carrying amount of office furniture

Cost at 1 July 20.3

Carrying amount at 30 June 20.4

Carrying amount before impairment loss

Carrying amount at 1 April 20.5