Appendix 10A Capitalization of Borrowing Costs Borrowing Costs Under IFRS borrowing costs that can be directly attributed to acquisition construction or development of qualifying assets should be capitalized ID: 227931
Download Presentation The PPT/PDF document "1 CHAPTER 10" is the property of its rightful owner. Permission is granted to download and print the materials on this web site for personal, non-commercial use only, and to display it on your personal computer provided you do not modify the materials and that you retain all copyright notices contained in the materials. By downloading content from our website, you accept the terms of this agreement.
Slide1
1
CHAPTER 10
Appendix 10A
Capitalization of Borrowing CostsSlide2
Borrowing Costs
Under IFRS, borrowing costs that can be directly attributed to acquisition, construction, or development of “qualifying assets” should be capitalized.
Under ASPE, management has a choice of capitalizing or expensing such costs.Slide3
Capitalization of Borrowing Costs
Four questions must be answered:
What are the
qualifying assets
?
What is the
capitalization period
?
What is the
amount of interest
to be capitalized?
What
disclosures
are needed?Slide4
Qualifying Assets
Assets that take a
substantial period of time
to get ready for intended use or sale
Examples of assets that do not qualify:
Assets ready for use or sale when acquired
Assets produced over a short period of time
Assets not undergoing development to get them ready for useSlide5
Capitalization Period
Capitalization period begins when all three conditions are present:
Expenditures for the asset have been made
Activities for readying the asset are in progress
Borrowing costs are being incurred
Capitalization continues for as long as these three conditions exist
Capitalization ends when asset is
substantially
complete and ready for useSlide6
Amount to Capitalize
Borrowing costs must be
directly related to
asset
Lower of
actual borrowing costs
or
avoidable borrowing costs
cost of capital for shareholders’ equity is not included in borrowing costs
Weighted-average accumulated expenditures (WAAE) method is used to find borrowing costs to be capitalizedSlide7
Borrowing Costs Capitalization – Issues
Amount of capitalized interest is based on the intended use of the land purchased
Intended Use : Capitalized Interest Cost Attached to:
Lot Sales Developed land
Specific Purpose Land
Structure Site Structure
Investment Interest costs should not be capitalizedSlide8
Calculating Avoidable Borrowing Costs
To calculate avoidable borrowing costs, follow four steps:
Determine qualifying asset expenditures
Determine avoidable borrowing costs relating to
asset-specific
debt
Determine avoidable borrowing costs relating to
non-asset-specific
debt
Determine final avoidable borrowing costsSlide9
Shalla Corporation – Example
Given:
November 1, 2013 contracts with Pfeifer Construction Co. Ltd. to construct a $1.4 million building (on land costing $100,000)
First payment
made by
Shalla
to Pfeifer includes the payment for the land
Payments made in 2014:
January 1 $ 210,000
March 1 $ 300,000
May 1 $ 540,000
December 31
$ 450,000
Total $1,500,000
Building completed December 31, 2014Slide10
Shalla Corporation – Example
Debt outstanding at December 31, 2014
Specific Construction Debt:
15%, three year note
dated December 31, 2013 $750,000
Other Debt:
10%, five year note
dated December 31, 2010 $550,000
12%, ten year bonds
dated December 31, 2007 $600,000
Interest on debt is payable each December 31Slide11
Shalla Corporation – Example
STEP 1: Determine qualifying asset expenditures
Weighted-Average Accumulated Expenditures:
Jan. 1 $ 210,000 x 12/12 = $210,000
Mar. 1 300,000 x 10/12 = 250,000
May. 1 540,000 x 8/12 = 360,000
Dec. 31 450,000 x 0/12 =
0
WAAE $820,000
Note: Land payment is included in WAAE
Next step: Avoidable interest and appropriate
interest rate calculationSlide12
Shalla Corporation – Example
STEP 2: Determine avoidable borrowing costs relating to asset-specific debt
$750,000 x 15% = $112,500Slide13
Shalla Corporation – Example
Principal Borrowing cost
5-year note $550,000 $ 55,000
10-year note $600,000
72,000
Total
$127,000
Weighted-Average Interest Rate =
Total Interest
Total Principal
(Do not include Construction Specific Debt)
$127,000
(550,000 + 600,000) = 11.04%
STEP 3: Determine avoidable borrowing costs relating to non-asset-specific debtSlide14
Shalla Corporation – Example
Total WAAE $820,000
Less: financed by specific loan
$750,000
WAAE financed by general borrowings $70,000
X avoidable borrowing cost on general
11.04%
Avoidable costs on general debt $7,728Slide15
Shalla Corporation – Example
STEP 4: Determine total borrowing costs to capitalize
Avoidable borrowing costs
On asset-specific debt $112,500
On general debt
$7,728
TOTAL $120,228
Actual Interest:
$750,000 x 15% = $112,500
550,000 x 10% = 55,000
600,000 x 12% =
72,000
Total actual interest paid $239,500Slide16
Shalla Corporation – Example
Avoidable interest = $120,228
Actual interest = $239,500
The lesser of these two amounts is capitalized
Journal Entry:
Dr. Building 120,228
Cr. Interest Expense 120,228Slide17
Interest Capitalization – Significance
Capitalized interest increases net income for the period
Impact on EPS can be significantSlide18
Disclosures
Two disclosures required:
Amount capitalized
Capitalization rateSlide19
COPYRIGHT
Copyright © 2013 John Wiley & Sons Canada, Ltd. All rights reserved. Reproduction or translation of this work beyond that permitted by Access Copyright (The Canadian Copyright Licensing Agency) is unlawful. Requests for further information should be addressed to the Permissions Department, John Wiley & Sons Canada, Ltd. The purchaser may make back-up copies for his or her own use only and not for distribution or resale. The author and the publisher assume no responsibility for errors, omissions, or damages caused by the use of these programs or from the use of the information contained herein.
19