IAS 16 : Measurement after Recognition 1

Measurement after Recognition

An undertaking will choose either the cost model, or the revaluation model, as its accounting policy, and will apply that policy to an entire class of property, plant and equipment.

Cost model

An item will be carried at its cost, less any accumulated depreciation, and any accumulated impairment losses (see impairment section below).

Revaluation model

An item whose fair value can be measured reliably may be carried at revaluated amount (fair value) less subsequent accumulated depreciation and accumulated impairment losses.

Revaluations will be made with sufficient frequency to ensure that the carrying amount does not differ materially from fair value at the balance sheet date.

The fair value of land and buildings is usually determined by professionally-qualified valuers using market-based evidence.

The fair value of plant and equipment is usually their market value, determined by appraisal.

If there is no market-based evidence of fair value, estimate the fair value.

For example:

present value of future income

or

replacement cost less depreciation.

The higher the market volatility, the greater the frequency of revaluations.

If there is a big difference between the carrying amount and fair value then a revaluation should be made.

Some items necessitate annual revaluation due to frequent changes in fair value.

Frequent revaluations are usually unnecessary for property, plant and equipment. They are usually revalued every 3-5 years unless investment property is involved (see IAS 40) when more-frequent valuations are common.

Depreciation - Revaluation model

 

Depreciable amount is the cost of an asset, or valuation, less its residual value.

Depreciation is the spreading of the depreciable amount of an asset over its useful life.

If an asset is revalued and the valuation is more than the cost, the depreciable amount will increase and the depreciation charge for each period will also increase.

Should the valuation show a fall in value from the current carrying cost, the depreciable amount and the depreciation charge for each period will decrease.

EXAMPLE  Revaluation – increase in the depreciation charge You build your own head office at a cost of $40 million. It is revalued at $60 million of the day the building is ready for use. (The cost of land is ignored in this example.) The expected life of the building is 40 years. The annual depreciation charge will be $1,5 million ($60 million / 40 years), not $1 million ($40 million / 40 years)

When an item is revalued, any accumulated depreciation is treated in one of the following ways, both of which result in the net carrying amount being equal to the revaluation figure:

(1)   Depreciation restated proportionately, with the change in the gross carrying amount of the asset.

The carrying amount of the asset after revaluation equals its revalued amount.

This method is often used when an asset is revalued by means of applying an index to its depreciated replacement cost.

EXAMPLE depreciation restated proportionately A cash-counting machine cost $6.000 and has been depreciated by $1.000, leaving a net book value of $5.000. It has been revalued using a general price index. The index has risen by 25% since the machine was bought. The new cost is therefore $7.500 (6.000x125%), depreciation $1.250 (1.000x125%) and the carrying amount based on this $6.250. This can be shown as: Cost Valuation Cost = Gross carrying amount - Valuation $6.000. $7.500 Accumulated Depreciation $1.000 $1.250 Carrying amount of the asset $5.000 $6.250
	I/B	DR	CR
Property, plant & equipment	B	1.500
Accumulated depreciation	B		250
Equity - Revaluation Reserve	B		1.250
This records the revaluation of the cash-counting machine.

(2)       Depreciation eliminated against the gross carrying amount of the asset.

The net amount is restated to the revalued amount of the asset.

(3)      Depreciation begins again based on the remaining useful life.

This method is often used for the revaluation of buildings.

EXAMPLE Depreciation eliminated

2. A building cost $5 mln. and has been depreciated by $2 mln., leaving a net book value of $3 mln. It is revalued to $6 mln.

This can be shown as: 

	Cost	Valuation
Cost = Gross carrying amount - Valuation	$5 mln.	$6 mln.
Accumulated Depreciation	$2 mln.	$0
Carrying amount of the asset	$3 mln.	$6 mln.

	I/B	DR	CR
Property, plant & equipment	B	$1 mln
Accumulated depreciation	B	$2 mln
Equity - Revaluation Reserve	B		$3 mln
This records the revaluation of the building, cancelling the accumulated depreciation under alternative Two.