Investment Property

Definition

PAS 40 prescribes the accounting treatment for investment property and related disclosure
requirements.

Investment property is defined as property (land or building or part of a building or both) held
by an owner or by the lessee under a finance lease to earn rentals of for capital appreciation or
both.

In other words, only land and building can qualify as investment property.

An equipment or any movable property cannot qualify as investment property.

An investment property is not held:

a. For use in the production or supply of goods or services or for administrative purposes.
b. For sale in the ordinary course of business.

The property held by an owner or by the lessee under a finance lease for use in the production or
supply of goods or services, or for administrative purposes is known as owner-occupied
property.

Investment property versus owner-occupied

Investment property is held to earn rentals or for capital appreciation or both.

Therefore, an investment property generates cash flows that are largely independent of the other
assets of the entity. This is the characteristics that distinguishes investment property from
owner-occupied property.

The production or supply of goods or services or the use of the property for administrative
purposes generates cash flows that are attributable not merely to the property but also to other
assets used in production or supply process.

Examples of investment property

a. Land held for long-term capital appreciation.

b. Land held for a currently undetermined use.

For example, if an entity has not determined that it will use the land either as owner-
occupied property or for short-term sale in the ordinary course of business, the land is
considered to be held for capital appreciation and therefore investment property.

c. Building owned by the reporting entity, or held by the entity under a finance lease, and
leased out under an operating lease.
d. Building that is vacant but is held to be leased out under an operating lease.
e. Property that is being constructed or developed for future use as investment property.

PAS 40 has been amended to bring property that is being constructed or developed for
future use as investment property within the scope of PAS 40.

In other words, such property is now classified as investment property. Previously, PAS 16
is applicable to such property until completion.
Items not considered investment property
a. Owner-occupied property or property held for use in the production or supply of goods or
services or for administrative purposes.
b. Property held for future use as owner-occupied property.
c. Property held for future development and subsequent use as owner-occupied property.
d. Property occupied by employees, whether or not the employees pay rent at market rate.
e. Owner-occupied property awaiting disposal.
f. Property held for sale in the ordinary course of business or in the process of construction
or development for such sale.
g. Property being constructed or developed on behalf of third parties.
h. Property that is leased to another entity under a finance lease.

Property interest held by lessee

A property interest that is held by a lessee under an operating lease may be classified and
accounted for as investment property provided:
a. The property meets the definition of investment property.
b. The operating lease is accounted for as if it were a finance lease.
c. The lessee uses the fair value model in measuring the property interest.

Partly investment and partly owner-occupied

Certain properties may include a portion that is held to earn rentals or for appreciation and
another portion that is held for manufacturing or administrative purposes.

If these portions could be sold or leased out separately, an entity shall account the portions
separately, an entity shall account the portions separately as investment property and owner-
occupied property.

If the portions could not be sold separately, the property is investment property if only an
insignificant portion is held for manufacturing or administrative purposes.

When ancilliary services are provided by the entity to the occupants of the property and these
services are a relatively insignificant component of the arrangement, the property is treated as
investment property.

Property leased to an affiliate

From the perspective of the individual entity that owns it, the property leased to another
subsidiary or its parent is considered an investment property.

However, from the perspective of the group as a whole and for the purpose of consolidated
financial statements, the property is treated as owner-occupied property.

Recognition of Investment Property

Investment Property shall be recognized 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.
 b. The cost of the investment property can be measured realibly.

Initial measurement of Investment Property

An investment property shall be measured initially at its cost. Transaction costs shall be included
in the initial measurement.

The cost of a purchased investment property comprises the purchase price and any directly
attributable expenditure.

Directly attributable expenditure includes professional fees for legal services, property transfer
taxes and other transaction costs.

The cost of a self-constructed investment property is the cost at the date when the construction
or development is complete.

If payment for an investment property is deferred, the cost is the cash price equivalent. The
difference between this amount and the total payments is recognized as interest expense over
the credit period.

An investment property may be acquired in exchange for a nonmonetary asset or a combination

of monetary and nonmonetary asset.

The cost of such investment property is measured at fair value unless the exchange transaction
lacks commercial substance.

Costs excluded from cost of investment property

a. Start up costs, unless they are necessary to bring the property to the condition necessary
for its intended use.
b. Operating losses incurred before the investment property achieves the planned level of
occupancy.
c. Abnormal amounts of wasted material, labor or other resources incurred in constructing or
developing theb property.

Subsequent measurement of investment property

An entity shall choose either of the following models as the accounting policy and shall apply
that policy to all of the investment property:

a. Fair Value Model

The investment property is carried at fair value. Any changes in fair value are
included in the net income or loss of the period in which they arise, and shown in
the income statement.
b. Cost Model
The investment property is carried at cost less any accumulated depreciation and
any accumulated impairment losses. Fair value of the investment property shall be
disclosed.

However, 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.

Fair value of investment property

Fair Value is the price that would be received to sell an asset or paid to transfer a liability in an
orderly transaction between market participants at the measurement date.

The price in the principal market used to measure fair value shall not be adjusted for transaction
costs.

Transaction costs are the costs to sell that are directly attributable to the disposal of an asset and
would not have been incurred had the decision to sell the asset not been made.
The fair value of investment property excludes prepaid or accrued operating lease income.

Fair Value Hierarchy

PFRS 13, paragraph 72, enumerates the fair value hierarchy or best evidence of fair value as
follows;

1. Level 1 inputs are the quoted prices in an active market for identical assets.
2. Level 2 inputs include quoted prices for similar assets in an active market and quoted
prices for identical or similar assets in a market that is not active
3. Leval 3 inputs are unobservable inputs for the asset.

Unobservable inputs are usually developed by the entity using the best available
information from the entitys own data.

Active Market and Principal Market

An active market is a market in which transactions for the asset or liability take place with
sufficient regularity and volume to provide pricing information on an ongoing basis.

A principal market is the market with the greatest volume and level of activity for the asset or
liability.

The market participants are the buyers and sellers in the principal market who are independent
or unrelated parties, knowledgeable or having a reasonable understanding of the transaction and
willing or motivated but not forced and compelled.

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, when an entity first acquires an investment property, or when an
existing property becomes investment property because there has been a change of use, there
may be clear evidence that the fair value of the investment property cannot be
determined reliably on a continuing basis.

Under such exceptional cases, PAS 40, paragraph 53, mandates that the entity shall measure
such investment property using the cost method until the disposal of the investment property.

Moreover, under such exceptional cases only, the residual value of the investment property shall
be assumed to be zero.

PAS 40, paragraph 54, states that an entity that uses the fair value model shall continue to
measure other investment property at fair value, notwithstanding the fact that one investment
property is carried using the cost model due to exceptional cases.
Illustration

An entity ventured into construction of a mega shopping mall in South Asia which is rated as the
largest shopping mall of Asia. The entitys board of directors decided that instead of selling the
shopping mall to a local investor, the entity would hold this property for purposes of earning
rentals by letting out space in the shopping mall to tenants.

The construction of the shopping mall was completed and the property was placed in service on
January 1, 2014.

The cost of the construction of the shopping mall was 100,000,000. The useful life of the
shopping mall is 10 years and its residual value is 10,000,000.

An independent valuation expert provided the following fair value at each subsequent year-end:

December 31, 2014 120,000,000

December 31, 2015 125,000,000
December 31, 2016 115,000,000

Unquestionably, the mega shopping mall shall be recognized as an investment property.

The entity shall select either the cost model or the fair value model in measuring such
investment property because the fair value of the investment property can be determined
reliably.

Cost model

If the entity decides to measure the investment property under the cost model, the asset shall be
carried at cost less accumulated depreciation and any accumulated impairment losses.

Fluctuations in the fair value of the investment property from year to year are not recognized.
Instead, the annual depreciation of the investment property is the charge against profit or loss
for the year, unless there is impairment of the asset.

Accordingly, the annual depreciation of the investment property is recorded as follows:

Depreciation 9,000,000
Accumulated depreciation 9,000,000

Acquisition cost 100,000,000

Residual value (10,000,000)
Depreciable amount 90,000,000

Annual depreciation (90,000,000/10 years) 9,000,000

Fair value model

If the entity decides to measure the investment property under the fair value model, the changes
in fair value from year to year are recognized in profit and loss. No depreciation is recorded
for the investment property.
Journal entries

2014

Dec. 31 Investment property 20,000,000

Gain from change in fair value 20,000,000

Fair value - December 31, 2014 120,000,000

Acquisition cost 100,000,000
Increase in fair value in 2014 20,000,000
2015

Dec. 31 Investment property 5,000,000

Gain from change in fair value 5,000,000

Fair value - December 31, 2015 125,000,000

Carrying amount - December 31, 2014 120,000,000
Increase in fair value in 2015 5,000,000
2016

Dec. 31 Loss from change in fair value 10,000,000

Investment property 10,000,000

Fair value - December 31, 2016 115,000,000

Carrying amount - December 31, 2015 125,000,000
Decrease in fair value in 2016 (10,000,000)

Transfer of investment property

Transfers to and from investment property shall made when and only when there is a change of
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
inventory.
c. End of owner occupation transfer from owner-occupied property to investment property.
d. Commencement of an operating lease to another entity transfer from owner-occupied
property to investment property.

Measurement of transfers

1. When the entity uses the cost model, transfers between investment property, owner-
occupied property and inventory shall be made at carrying amount.
2. A transfer from investment property carried at fair value to owner-occupied property or
inventory shall be accounted for at fair value which becomes the deemed cost for
subsequent accounting.
 3. If owner-occupied property is transferred to investment property that is to be carried at
fair value, the difference between the fair value and the carrying amount of the property
shall be accounted for as revaluation of property, plant and equipment.
4. If an inventory is transferred to investment property that is to be carried at fair value, the
remeasurement to fair value shall be included in profit and loss.
5. When an investment property under construction is completed and to be carried at fair
value, the difference between fair value and carrying amount shall be included in profit
and loss.

Derecognition of investment property

An investment property shall be derecognized:

a. On disposal.
b. When the investment property is permanently withdrawn from use.
c. When no future economic benefits are expected from the investment property.

Disposal of investment property

Gain or loss from 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 recognized in profit
or loss.

Disclosures related to investment property

The general disclosures are:

1. Whether the entity uses the cost model or fair value model of measuring investment
property.
2. The amount of rental income for the period along with the related expense.
3. Restrictions on the investment property either through rentals or sale proceeds.
4. Contractual obligations to purchase or construct investment property.

When the fair value model is used, the disclosures are:

1. Detailed reconciliation, showing all movements, between carrying amount of investment

property at the beginning and end of the period
2. The method of determining the fair value of investment property and whether the
valuation is carried out by an independent qualified valuer.
3. Net gains or losses from fair value adjustments.
4. Whether significant fixtures, such as lift and office furniture, within an investment
property, have been separately recognized.

When the cost model is used, the disclosures are:

1. The depreciation method or rate and useful life.

2. Detailed reconciliation of the gross cost of investment property and the related
accumulated depreciation showing all movements during the year.
3. Fair value of the investment property where possible. If it is not possible, such fact shall be
explained.