IAS 16 / IAS 40 Diploma IFRS Exam Question (Dec 2016)

•You are the financial controller of Omega, a listed entity which prepares consolidated financial statements in accordance with International Financial Reporting Standards (IFRS). You have recently produced the final draft of the financial statements for the year ended 30 September 2016 and these are due to be published shortly. The managing director, who is not an accountant, reviewed these financial statements and prepared a list of queries arising out of the review.

•The notes to the financial statements say that plant and equipment is held under the ‘cost model’. However, property which is owner occupied is revalued annually to fair value. Changes in fair value are sometimes reported in profit or loss but usually in ‘other comprehensive income’. Also, the amount of depreciation charged on plant and equipment as a percentage of its carrying amount is much higher than for owner occupied property.

•Another note says that property we own but rent out to others is not depreciated at all but is revalued annually to fair value. Changes in value of these properties are always reported in profit or loss. I thought we had to be consistent in our treatment of items in the accounts.

•Please explain how all these treatments comply with relevant reporting standards. (7 marks)

Proposed Solution:

As per IAS 16, an entity can choose from any of the below 2 options to measure Property, plant and equipment subsequently:

a) cost model- Cost less accumulated depreciation less impairment loss

b) Revaluation model- Fair value less subsequent accumulated depreciation less subsequent impairment loss

If entity choose to adopt revaluation model, assets need to be revalued once in a year and gain on revaluation are recorded in other comprehensive income and loss (over previous revaluation gain) is recorded in profit or loss account.

As per IAS 40, If entity chooses to follow fair value model for subsequent measurement, changes in fair value are reported in profit or loss. Also the assets need to fair valued annually.

Hence above explanation justifies that accounting treatment of property, plant and equipment as per IAS 16 and investment property as per IAS 40 are different and need not be consistent.