02-06-2008, 04:25 PM
Dear Israr,
My earlier reply was much detailed where i also gave all the prototype accounting entries, by suggesting a supposed case study, but now for your clarification I just go in brief.
I let u to understand practically what happens.
When revaluation is made it is made either to change the cost model to revaluation model or to have a fresh revaluation if this model is already in practice (with reasonable frequency as IAS 16 suggests) and incorporate its accounting effects as per IAS 16 (in Pakistan as per section 235 of Companies Ordinance 1984).
However there is no major difference in such accounting treat for both above situations.
Further, when we change the measurement model from cost to revaluation, we have to give detailed disclosures only as required by IAS 16 but it would not be treated as a change in accounting policy under IAS 8. There would be no adjustment in opening retained earnings and no retrospective application will be made. See paragraph 17 of IAS 8.
Further to above, section 235 of CO 84 suggests different treatment for the surplus arising out of revaluation which does not agree to IAS 16 in so far as it relates to its categorization, usage and increase or decrease due to subsequent revaluation, is concerned. However, this does not have any impact on treatment of addition/deduction to / from the value of assets revalued; means its (assets side) treatment would remain same.
From 2003 (probably) the CO 84 has also been changed so as to allow the practice of charging incremental depreciation on revaluation surplus (para 41 of IAS 16 and SRO 45 issued by SECP).
This was background. Now coming to ur issues.
Paragraph 35 of IAS 16
Whenever you apply revaluation model (either first time or as a practice) you have two figures of any item of property plant and equipment (PPE) i.e. cost / appreciated value (also known as gross carrying value) and accumulated depreciation. The net figure which is taken to balance sheet is called book value or written down value or net carrying value or simply carrying value. The entity which gets its PPE items revalued, will adjust the accumulated depreciation against its cost (or appreciated value, if this model was already adopted) and calculate the carrying values. Then it will add revaluation surplus arising against each item in the outstanding carrying value (calculated as above) of PPE items and get the revalued figures to be shown in the balance sheet. The brief accounting entry to tally both credit and debit sides would be
......... PPE items carrying value (DEBIT)
.........................Surplus on revaluation of PPE (CREDIT)
Practically, in whole of Pakistan the same practice is adopted and in fact the both treatments given in IAS 16 Paragraph 35 a and 35 b are aimed at same result. You can check it in practice. In both cases, the ultimate carrying amount will be raised to the revalued amount. Only presentation can differ that either you add back accumulated depreciation proportionately in gross carrying value or you set off depreciation against gross carrying value and then separately add revaluation amounts in it.
Please note that, in practice, revaluation is normally made on any specific date when some financial statements are prepared say quarter end, half year end or year end. In any case depreciation will not be charged on adjusted figures. Means, until the end of that period depreciation will be charged on existing values (before adding the revaluation surplus) and net carrying values taken by the independent valuer will be the net carrying values arrived at after charging depreciation for the period before revaluation date. This is very important to understand.
Say a revaluation of PPE item is made on 30 June 2007 i.e. after the close of the whole year then ended (2006-2007). The cost / gross carrying amount before such revaluation was Rs 100, opening accumulated depreciation was Rs 50 and depreciation for the year ended 30 June 2007 (before revaluation) was Rs 5, closing accumulated depreciation was Rs 55 and revalued amount was suggested by independent valuer as Rs. 85 thus arising a surplus on revaluation of Rs 40 as at 30 June 2007.
In this situation, Rs 5 the depreciation for the year was based upon the figures before revaluation. In no case depreciation could be charged on revalued amounts. Why? Becoz revaluation is always made as of a certain date. In this case it has been made as at 30 June 2007. So, as at 30 June 2007 the fair value would be the value arriving at after incorporating revaluation surplus on each item of PPE, i.e. Rs 85. If we will not do this and will charge for the year depreciation after incorporating the revaluation, then it will decrease the net carrying values below the fair value determined by the valuer. This would be wrong. Therefore whenever a revaluation is made, it is always a date specific, and valuer always requires such net carrying values for calculating surplus against each item. However, from the next period, depreciation would be charged on revalued figures.
I hope you would be able to understand para 35. If you have queries, please let me know.
Now coming to your second query concerning paragraph 41.
IAS 16 states that whenever a revalued item of PPE is sold the particularly relating surplus lying at credit (equity side) of the balance sheet will be transferred from âRevaluation surplusâ account to âUn-appropriated profit accountâ thatâs also called as retained earnings. This surplus is basically a realized amount upon sale of PPE item but would not be routed through profit and loss account. For example an item having gross carrying amount of Rs 10, accumulated depreciation of Rs 3, net carrying amount of Rs 7 having a surplus lying on equity side amounting to Rs 4 is sold at Rs 12. Following entry would be passed
First entry
â¦â¦â¦â¦â¦â¦â¦..Cash / account receivable against sale (DEBIT) 12
â¦â¦â¦â¦â¦â¦â¦..Accumulated depreciation (DEBIT) 3
â¦â¦â¦..Gross carrying amount (CREDIT) 10
â¦â¦.⦠Gain on sale of PPE (profit and loss account) (CREDIT) 5
Second entry
â¦â¦â¦â¦â¦â¦â¦..Surplus on revaluation (DEBIT) 4
â¦â¦..........Retained earnings (CREDIT) 4
Hope this part of paragraph 41 is clear now. (However, as per CO84 such realized surplus has to be routed through profit and loss account instead of a direct transfer).
Now the second issue, i.e. realization of surplus on use of an item of PPE. This means that when an item of PPE is revalued, the onward depreciation is charged on revalued amounts i.e. which would be higher than the depreciation based upon actual cost of such assets due to revaluation portion.
Due to this IAS 16 requires that incremental depreciation (excessive portion of depreciation due to revaluation) will be transferred from Revaluation Surplus account to retained earnings accountâ¦â¦â¦. [Every entity has to maintain separate record of assets on cost basis and on revaluation basis, as certain disclosures are required by IAS 16 which cannot be made without it.]â¦â¦â¦ Say net carrying amount on cost basis, of an item was Rs 150 and on revaluation basis was Rs 200, then there would be a difference in depreciation expense due to revaluation i.e. on cost basis depreciation expense could be Rs 15 while on revaluation basis it could be Rs 20. Certainly, as the revaluation has been made, the expense to be charged in profit and loss account will be Rs 20 and not Rs 15 thus having a difference of Rs 5 which is due to revaluation.
IAS 16 requires that this difference of Rs 5 should be realized / transferred from Revaluation Surplus account to Retained earnings account. Again as per IAS 16 it is not to be routed through profit and loss account. [However, in this case CO 84 also have same requirement and does not allow to route through profit and loss account].
There are certain implications of deferred tax on revaluation surplus and this incremental depreciation, which I am skipping in this discussion.
Rest of issues are clarified by astute.
\Hope you would be benefited. If you have queries, write the same on the forum.
Regards,
Kamran.
My earlier reply was much detailed where i also gave all the prototype accounting entries, by suggesting a supposed case study, but now for your clarification I just go in brief.
I let u to understand practically what happens.
When revaluation is made it is made either to change the cost model to revaluation model or to have a fresh revaluation if this model is already in practice (with reasonable frequency as IAS 16 suggests) and incorporate its accounting effects as per IAS 16 (in Pakistan as per section 235 of Companies Ordinance 1984).
However there is no major difference in such accounting treat for both above situations.
Further, when we change the measurement model from cost to revaluation, we have to give detailed disclosures only as required by IAS 16 but it would not be treated as a change in accounting policy under IAS 8. There would be no adjustment in opening retained earnings and no retrospective application will be made. See paragraph 17 of IAS 8.
Further to above, section 235 of CO 84 suggests different treatment for the surplus arising out of revaluation which does not agree to IAS 16 in so far as it relates to its categorization, usage and increase or decrease due to subsequent revaluation, is concerned. However, this does not have any impact on treatment of addition/deduction to / from the value of assets revalued; means its (assets side) treatment would remain same.
From 2003 (probably) the CO 84 has also been changed so as to allow the practice of charging incremental depreciation on revaluation surplus (para 41 of IAS 16 and SRO 45 issued by SECP).
This was background. Now coming to ur issues.
Paragraph 35 of IAS 16
Whenever you apply revaluation model (either first time or as a practice) you have two figures of any item of property plant and equipment (PPE) i.e. cost / appreciated value (also known as gross carrying value) and accumulated depreciation. The net figure which is taken to balance sheet is called book value or written down value or net carrying value or simply carrying value. The entity which gets its PPE items revalued, will adjust the accumulated depreciation against its cost (or appreciated value, if this model was already adopted) and calculate the carrying values. Then it will add revaluation surplus arising against each item in the outstanding carrying value (calculated as above) of PPE items and get the revalued figures to be shown in the balance sheet. The brief accounting entry to tally both credit and debit sides would be
......... PPE items carrying value (DEBIT)
.........................Surplus on revaluation of PPE (CREDIT)
Practically, in whole of Pakistan the same practice is adopted and in fact the both treatments given in IAS 16 Paragraph 35 a and 35 b are aimed at same result. You can check it in practice. In both cases, the ultimate carrying amount will be raised to the revalued amount. Only presentation can differ that either you add back accumulated depreciation proportionately in gross carrying value or you set off depreciation against gross carrying value and then separately add revaluation amounts in it.
Please note that, in practice, revaluation is normally made on any specific date when some financial statements are prepared say quarter end, half year end or year end. In any case depreciation will not be charged on adjusted figures. Means, until the end of that period depreciation will be charged on existing values (before adding the revaluation surplus) and net carrying values taken by the independent valuer will be the net carrying values arrived at after charging depreciation for the period before revaluation date. This is very important to understand.
Say a revaluation of PPE item is made on 30 June 2007 i.e. after the close of the whole year then ended (2006-2007). The cost / gross carrying amount before such revaluation was Rs 100, opening accumulated depreciation was Rs 50 and depreciation for the year ended 30 June 2007 (before revaluation) was Rs 5, closing accumulated depreciation was Rs 55 and revalued amount was suggested by independent valuer as Rs. 85 thus arising a surplus on revaluation of Rs 40 as at 30 June 2007.
In this situation, Rs 5 the depreciation for the year was based upon the figures before revaluation. In no case depreciation could be charged on revalued amounts. Why? Becoz revaluation is always made as of a certain date. In this case it has been made as at 30 June 2007. So, as at 30 June 2007 the fair value would be the value arriving at after incorporating revaluation surplus on each item of PPE, i.e. Rs 85. If we will not do this and will charge for the year depreciation after incorporating the revaluation, then it will decrease the net carrying values below the fair value determined by the valuer. This would be wrong. Therefore whenever a revaluation is made, it is always a date specific, and valuer always requires such net carrying values for calculating surplus against each item. However, from the next period, depreciation would be charged on revalued figures.
I hope you would be able to understand para 35. If you have queries, please let me know.
Now coming to your second query concerning paragraph 41.
IAS 16 states that whenever a revalued item of PPE is sold the particularly relating surplus lying at credit (equity side) of the balance sheet will be transferred from âRevaluation surplusâ account to âUn-appropriated profit accountâ thatâs also called as retained earnings. This surplus is basically a realized amount upon sale of PPE item but would not be routed through profit and loss account. For example an item having gross carrying amount of Rs 10, accumulated depreciation of Rs 3, net carrying amount of Rs 7 having a surplus lying on equity side amounting to Rs 4 is sold at Rs 12. Following entry would be passed
First entry
â¦â¦â¦â¦â¦â¦â¦..Cash / account receivable against sale (DEBIT) 12
â¦â¦â¦â¦â¦â¦â¦..Accumulated depreciation (DEBIT) 3
â¦â¦â¦..Gross carrying amount (CREDIT) 10
â¦â¦.⦠Gain on sale of PPE (profit and loss account) (CREDIT) 5
Second entry
â¦â¦â¦â¦â¦â¦â¦..Surplus on revaluation (DEBIT) 4
â¦â¦..........Retained earnings (CREDIT) 4
Hope this part of paragraph 41 is clear now. (However, as per CO84 such realized surplus has to be routed through profit and loss account instead of a direct transfer).
Now the second issue, i.e. realization of surplus on use of an item of PPE. This means that when an item of PPE is revalued, the onward depreciation is charged on revalued amounts i.e. which would be higher than the depreciation based upon actual cost of such assets due to revaluation portion.
Due to this IAS 16 requires that incremental depreciation (excessive portion of depreciation due to revaluation) will be transferred from Revaluation Surplus account to retained earnings accountâ¦â¦â¦. [Every entity has to maintain separate record of assets on cost basis and on revaluation basis, as certain disclosures are required by IAS 16 which cannot be made without it.]â¦â¦â¦ Say net carrying amount on cost basis, of an item was Rs 150 and on revaluation basis was Rs 200, then there would be a difference in depreciation expense due to revaluation i.e. on cost basis depreciation expense could be Rs 15 while on revaluation basis it could be Rs 20. Certainly, as the revaluation has been made, the expense to be charged in profit and loss account will be Rs 20 and not Rs 15 thus having a difference of Rs 5 which is due to revaluation.
IAS 16 requires that this difference of Rs 5 should be realized / transferred from Revaluation Surplus account to Retained earnings account. Again as per IAS 16 it is not to be routed through profit and loss account. [However, in this case CO 84 also have same requirement and does not allow to route through profit and loss account].
There are certain implications of deferred tax on revaluation surplus and this incremental depreciation, which I am skipping in this discussion.
Rest of issues are clarified by astute.
\Hope you would be benefited. If you have queries, write the same on the forum.
Regards,
Kamran.
