AS 16 – Borrowing Costs | Advanced Accounting for CA Intermediate PDF Download

Nature & Scope

• This accounting standard is mandatory for all businesses and focuses solely on External Borrowings, excluding Equity or Convertible Preference Shares costs.
• Effective Date: The standard became effective from the Financial Year starting on or after April 1, 2000.

Borrowing Cost

Borrowing Costs, according to ICAI, encompass interest and other expenses linked to fund borrowing.

Considerations for borrowing costs:

• Interest on short-term or long-term debts forms part of borrowing costs. Example: Interest paid to financial institutions for asset acquisition loans.
• Discounts or premiums associated with borrowing costs should be amortized. Example: Fees paid to financial institutions for loan processing.
• Finance or ancillary costs related to borrowings should also be amortized. Example: Fees paid to professionals for project report preparation.
• Finance costs from assets acquired under finance lease or similar arrangements should be amortized. Example: Annual leasing costs paid to lessors.
• Foreign currency borrowings entail amortizing exchange rate fluctuations considered as interest cost adjustments. Example: Treatment of rate differences in foreign currency loans.

Qualifying Assets

Qualifying Assets are assets that require a significant amount of time to be prepared for sale or use. The specific duration of this period varies based on the circumstances of each case. Typically, a timeframe of 12 months is deemed substantial unless there are justifiable reasons for a shorter or longer duration.

When it is certain that borrowing costs will yield future economic benefits, these costs are capitalized in the accounting records alongside the qualifying assets. Conversely, any other borrowing costs should be recognized as expenses in the period in which they are accrued.

Capitalization of Borrowing Cost

The capitalization of borrowing costs hinges on specific conditions:

• Costs eligible for capitalization are those directly linked to acquiring, constructing, or producing a qualifying asset.
• Directly attributable expenses are those that would have been avoided if the expenditure on the qualifying asset had not occurred.
• Qualifying assets must promise future benefits to the company, with costs that can be reliably measured.

Types of Borrowings

There are two main types of borrowings:

Commencement of Capitalization

The capitalization of borrowing costs should start when specific conditions are met:

• Expenditure is being made for acquiring, constructing, or producing a qualifying asset. This includes cash expenditures, asset transfers, or assuming interest-bearing liabilities.
• Borrowing costs are being accrued.
• Activities essential for preparing the asset for its intended use or sale are in progress. These activities encompass technical and administrative work related to the asset.

Suspension of Capitalization

• Capitalization of borrowing costs begins when certain conditions are met. If there is a temporary interruption in necessary developments, capitalization is suspended.
• If the temporary delay is an essential part of preparing an asset for its intended use or sale, capitalization continues.

Cessation of Capitalization

• Capitalization of borrowing costs stops when all activities required to prepare the qualifying assets are finished.
• If a completed part of an asset can be used independently while the construction of other parts continues, capitalization for that part stops.
• For instance, in a business park with multiple buildings, each building can be considered a separate part.

Disclosures

• The financial statements need to reveal the following information:
  • The specific accounting policy chosen for dealing with borrowing costs
  • The total amount of borrowing costs that were capitalized throughout the year

Example

ABC Ltd. obtained a loan from a bank for Rs. 50 lakhs on 30th April 2017. ABC Ltd utilized the money: Construction of Shed: Rs 50 Lakhs Purchase of Machinery: Rs 40 Lakhs Working Capital: Rs 20 lakhs Advance for purchase of truck: Rs. 10 Lakhs Construction of shed was completed in March 2018. The Machinery was installed on the same day.
Truck was not yet received. Total interest charged by the bank for the year ending 31-03-2018 was Rs 18 lakhs. The treatment will be: Qualifying Asset as per AS 16 = Rs 50 Lakhs (Construction of Shed) Borrowing Cost to be capitalized = 18 * 50/120 = Rs. 7.5 Lakhs Interest to be debited to profit or loss account = (18-7.5) Lakhs = Rs. 10.50 Lakhs