IAS 40 – Class notes

SCOPE

This standard does not apply to:

(a) biological assets related to agricultural activity (IAS 41); and
(b) mineral rights and mineral reserves such as oil, natural gas and similar non-regenerative resources

IMPORTANT DEFINITIONS

Investment property is property (land or a building or part of a building or both) held (by the owner or by
the lessee as a right-of-use asset) 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 is property held (by the owner or by the lessee as a right-of-use asset) for use
in the production or supply of goods or services or for administrative purposes.

Important difference:
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.

CLASSIFICATION OF PROPERTY

Examples of investment property

(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 a right-of-use asset relating to a building held by the entity) 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.

(e) property that is being constructed or developed for future use as investment property.

Example of items that are not investment property

(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 Inventories), for example, property acquired exclusively with a
view to subsequent disposal in the near future or for development and resale.

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 IAS 40 – Class notes

(b) owner‑occupied property (see IAS 16 and IFRS 16)

(c) property held for future use as owner‑occupied property

(d) property held for future development and subsequent use as owner‑occupied property

(e) property occupied by employees (whether or not the employees pay rent at market rates)

(f) owner‑occupied property awaiting disposal.

(g) property that is leased to another entity under a finance lease.

Intra-group property transfers:

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 the property is owner‑occupied from the perspective of the group. However,
from the perspective of the entity that owns it, the property is investment property if it meets the
definition. Therefore, the lessor treats the property as investment property in its individual financial
statements.

Composite properties
1. If a property comprises of two portions; one is held to earn rentals or for capital appreciation and
other is held as owner occupied:

Portions can be sold or leased out under a Portions cannot be sold or leased out under a
finance lease separately: finance lease:

Portions are accounted for as “investment Property is accounted for as “investment

property” and “owner-occupied property” property”, if only an insignificant portion is
accordingly. owner-occupied.

2. If an entity provides services to the occupants of a property it holds:

If services are insignificant to the arrangement If services are significant to the arrangement as
as a whole: a whole:

Property is accounted for as “investment Property is accounted for as “owner-occupied

property”. property”.
[For example, when owner of the building [For example, if entity owns and manages a
provides security and maintenance services to hotel, services provided to guests are significant
the lessees] to the arrangement as a whole]

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 IAS 40 – Class notes

Subjectivity involved:
It may be difficult to determine whether ancillary services are so significant that a property does
not qualify as investment property. For example, the owner of a hotel sometimes transfers some
responsibilities to third parties under a management contract. The terms of such contracts vary
widely. At one end of the spectrum, the owner’s position may, in substance, be that of a passive
investor (i.e. investment property). At the other end of the spectrum, the owner may simply have
outsourced day‑to‑day functions while retaining significant exposure to variation in the cash flows
generated by the operations of the hotel (i.e. owner-occupied property).

RECOGNITION

An owned 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.

MEASUREMENT – Initial

An owned investment property shall be measured initially at its cost. Transaction costs shall be included
in the initial measurement.
[Components of cost are same as earlier studied for property, plant and equipment IAS 16]

MEASUREMENT – Subsequent

An entity shall choose as its accounting policy either the fair value model or cost model and shall apply
that policy to all of its investment properties.

Fair value model

1. An entity shall measure all of its investment property at end of every year at fair value, except in the
case discussed below as “exception”.

2. When a lessee uses the fair value model to measure an investment property that is held as right-of-
use asset, it shall measure the right-of-use asset, and not the underlying property, at fair value.

3. Any gain or loss from change in fair value shall be recognized in profit or loss for the period. No
depreciation is charged.

4. In determining the carrying amount of investment property under the fair value model, 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. When furniture
is included in the fair value of investment property, an entity does not recognise that furniture as
a separate asset.

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 IAS 40 – Class notes

(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.
(d) the fair value of investment property held by a lessee as a right-of-use asset reflects expected
cash flows (including variable lease payments that are expected to become payable). Accordingly,
if a valuation obtained for a property is net of all payments expected to be made, it will be
necessary to add back any recognised lease liability, to arrive at the carrying amount of the
investment property using the fair value model.

Exception:
• If there is clear evidence at initial recognition of investment property, that the fair value of an
investment property is not reliably measurable on a continuing basis, the entity shall measure that
investment property using cost model and continue to apply cost model until disposal of the
property. The residual value shall be assumed to be zero.
• If any entity determines that the fair value of an investment property under construction is not
reliably measurable but expects the fair value to be reliably measurable when construction is
complete, it shall measure that property under construction at cost until the earlier of:
 When its fair value becomes reliably measurable; or
 When its construction is completed.

Cost model
It is same as studied in IAS 16, IFRS 5 or IFRS 16 whichever is applicable.
TRANSFERS

An entity shall transfer a property to, or from, investment property when, and only when, there is a change
in use. A change in use occurs when the property meets, or ceases to meet, the definition of investment
property and there is evidence of the change in use.

In isolation, a change in management’s intentions for the use of a property does not provide evidence of
a change in use.

Examples of evidence of a change in use include:

(a) commencement of owner‑occupation, or of development with a view to 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]; and

(d) inception of an operating lease to another party [transfer from inventories to investment property].

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 IAS 40 – Class notes

Transfer out

--------------------- Property is now transferred to -----------------------

Property was carried at: Inventory Owner-occupied property
Carrying amount of property as Carrying amount of property as
Cost model per IAS 40 is now considered as per IAS 40 is now considered as
cost of inventory carrying amount of owner-
occupied property.
Property is remeasured at fair Property is remeasured at fair
value at the date of transfer as value at the date of transfer as
per IAS 40. per IAS 40.
Fair value model
This fair value at the date of This fair value at the date of
transfer is deemed as cost of transfer is deemed as cost of
inventory. owner-occupied property.

Transfer in

--------------------- Property is transferred from -----------------------

Property will be carried at: Inventory Owner-occupied property
Carrying amount of inventory as Carrying amount of owner-
Cost model per IAS 2 is now considered as occupied property is now
cost of investment property considered as carrying amount
of investment property
Property is remeasured at fair Owner-occupied property is
value at the date of transfer and revalued to fair value in
resulting gain/loss is recognized accordance with revaluation
Fair value model in P&L. model of IAS 16.
(If revaluation surplus arises, it
This fair value at the date of stays there in equity till property
transfer is now the value of is subsequently disposed)
investment property.
This fair value at the date of
transfer is now the value of
investment property.

DERECOGNITION

It is same as studied in IAS 16.

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