- 1 depreciation classification
- 2 IFRS 5 — Non-current Assets Held for Sale and Discontinued Operations
- 3 Depreciation
- 4 Definition, Explanation and Characteristics of “Depreciation” or “Accounting Depreciation
The CFO Forum and Insurance Europe provide a joint response to the International Accounting Standards Board (IASB) on the classification of acceptable methods of depreciation and amortization.
IFRS 5 — Non-current Assets Held for Sale and Discontinued Operations
IFRS 5 Non-current Assets Held for Sale and Discontinued Operations outlines how to account for non-current assets held for sale (or for distribution to owners). In general terms, assets (or disposal groups) held for sale are not depreciated, are measured at the lower of carrying amount and fair value less costs to sell, and are presented separately in the statement of financial position. Specific disclosures are also required for discontinued operations and disposals of non-current assets.
IFRS 5 was issued in March 2004 and applies to annual periods beginning on or after 1 January 2005.
IFRS 5 achieves substantial convergence with the requirements of US SFAS 144 Accounting for the Impairment or Disposal of Long-Lived Assets with respect to the timing of the classification of operations as discontinued operations and the presentation of such operations. With respect to long-lived assets that are not being disposed of, the impairment recognition and measurement standards in SFAS 144 are significantly different from those in IAS 36 Impairment of Assets. However those differences were not addressed in the short-term IASB-FASB convergence project.
Key provisions of IFRS 5 relating to assets held for sale
In general, the following conditions must be met for an asset (or 'disposal group') to be classified as held for sale: [IFRS 5.6-8]
- management is committed to a plan to sell
- the asset is available for immediate sale
- an active programme to locate a buyer is initiated
- the sale is highly probable, within 12 months of classification as held for sale (subject to limited exceptions)
- the asset is being actively marketed for sale at a sales price reasonable in relation to its fair value
- actions required to complete the plan indicate that it is unlikely that plan will be significantly changed or withdrawn
The assets need to be disposed of through sale. Therefore, operations that are expected to be wound down or abandoned would not meet the definition (but may be classified as discontinued once abandoned). [IFRS 5.13]
An entity that is committed to a sale involving loss of control of a subsidiary that qualifies for held-for-sale classification under IFRS 5 classifies all of the assets and liabilities of that subsidiary as held for sale, even if the entity will retain a non-controlling interest in its former subsidiary after the sale. [IFRS 5.8A]
Held for distribution to owners classification
The classification, presentation and measurement requirements of IFRS 5 also apply to a non-current asset (or disposal group) that is classified as held for distribution to owners. [IFRS 5.5A and IFRIC 17] The entity must be committed to the distribution, the assets must be available for immediate distribution and the distribution must be highly probable. [IFRS 5.12A]
A 'disposal group' is a group of assets, possibly with some associated liabilities, which an entity intends to dispose of in a single transaction. The measurement basis required for non-current assets classified as held for sale is applied to the group as a whole, and any resulting impairment loss reduces the carrying amount of the non-current assets in the disposal group in the order of allocation required by IAS 36. [IFRS 5.4]
The following principles apply:
- At the time of classification as held for sale. Immediately before the initial classification of the asset as held for sale, the carrying amount of the asset will be measured in accordance with applicable IFRSs. Resulting adjustments are also recognised in accordance with applicable IFRSs. [IFRS 5.18]
- After classification as held for sale. Non-current assets or disposal groups that are classified as held for sale are measured at the lower of carrying amount and fair value less costs to sell (fair value less costs to distribute in the case of assets classified as held for distribution to owners). [IFRS 5.15-15A]
- Impairment.Impairment must be considered both at the time of classification as held for sale and subsequently:
- At the time of classification as held for sale. Immediately prior to classifying an asset or disposal group as held for sale, impairment is measured and recognised in accordance with the applicable IFRSs (generally IAS 16Property, Plant and Equipment, IAS 36Impairment of Assets, IAS 38Intangible Assets, and IAS 39Financial Instruments: Recognition and Measurement/IFRS 9Financial Instruments). Any impairment loss is recognised in profit or loss unless the asset had been measured at revalued amount under IAS 16 or IAS 38, in which case the impairment is treated as a revaluation decrease.
- After classification as held for sale. Calculate any impairment loss based on the difference between the adjusted carrying amounts of the asset/disposal group and fair value less costs to sell. Any impairment loss that arises by using the measurement principles in IFRS 5 must be recognised in profit or loss [IFRS 5.20], even for assets previously carried at revalued amounts. This is supported by IFRS 5 BC.47 and BC.48, which indicate the inconsistency with IAS 36.
- Assets carried at fair value prior to initial classification. For such assets, the requirement to deduct costs to sell from fair value may result in an immediate charge to profit or loss.
- Subsequent increases in fair value. A gain for any subsequent increase in fair value less costs to sell of an asset can be recognised in the profit or loss to the extent that it is not in excess of the cumulative impairment loss that has been recognised in accordance with IFRS 5 or previously in accordance with IAS 36. [IFRS 5.21-22]
- No depreciation. Non-current assets or disposal groups that are classified as held for sale are not depreciated. [IFRS 5.25]
The measurement provisions of IFRS 5 do not apply to deferred tax assets, assets arising from employee benefits, financial assets within the scope of IFRS 9 Financial Instruments, non-current assets measured at fair value in accordance with IAS 41 Agriculture, and contractual rights under insurance contracts. [IFRS 5.5]
Assets classified as held for sale, and the assets and liabilities included within a disposal group classified as held for sale, must be presented separately on the face of the statement of financial position. [IFRS 5.38]
IFRS 5 requires the following disclosures about assets (or disposal groups) that are held for sale: [IFRS 5.41]
- description of the non-current asset or disposal group
- description of facts and circumstances of the sale (disposal) and the expected timing
- impairment losses and reversals, if any, and where in the statement of comprehensive income they are recognised
- if applicable, the reportable segment in which the non-current asset (or disposal group) is presented in accordance with IFRS 8Operating Segments
Disclosures in other IFRSs do not apply to assets held for sale (or discontinued operations, discussed below) unless those other IFRSs require specific disclosures in respect of such assets, or in respect of certain measurement disclosures where assets and liabilities are outside the scope of the measurement requirements of IFRS 5. [IFRS 5.5B]
Key provisions of IFRS 5 relating to discontinued operations
A discontinued operation is a component of an entity that either has been disposed of or is classified as held for sale, and: [IFRS 5.32]
- represents either a separate major line of business or a geographical area of operations
- is part of a single co-ordinated plan to dispose of a separate major line of business or geographical area of operations, or
- is a subsidiary acquired exclusively with a view to resale and the disposal involves loss of control.
IFRS 5 prohibits the retroactive classification as a discontinued operation, when the discontinued criteria are met after the end of the reporting period. [IFRS 5.12]
Disclosure in the statement of comprehensive income
The sum of the post-tax profit or loss of the discontinued operation and the post-tax gain or loss recognised on the measurement to fair value less cost to sell or fair value adjustments on the disposal of the assets (or disposal group) is presented as a single amount on the face of the statement of comprehensive income. If the entity presents profit or loss in a separate statement, a section identified as relating to discontinued operations is presented in that separate statement. [IFRS 5.33-33A].
Detailed disclosure of revenue, expenses, pre-tax profit or loss and related income taxes is required either in the notes or in the statement of comprehensive income in a section distinct from continuing operations. [IFRS 5.33] Such detailed disclosures must cover both the current and all prior periods presented in the financial statements. [IFRS 5.34]
The net cash flows attributable to the operating, investing, and financing activities of a discontinued operation is separately presented on the face of the cash flow statement or disclosed in the notes. [IFRS 5.33]
The following additional disclosures are required:
- adjustments made in the current period to amounts disclosed as a discontinued operation in prior periods must be separately disclosed [IFRS 5.35]
- if an entity ceases to classify a component as held for sale, the results of that component previously presented in discontinued operations must be reclassified and included in income from continuing operations for all periods presented [IFRS 5.36]
Click to download a Special Global Edition of our IAS Plus Newsletter (PDF 56k) devoted to IFRS 5.
In this tutorial, the student will learn about depreciation.
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Source: Instrumental “Drops of H2O ( The Filtered Water Treatment )" by J.Lang (feat. Airtone),” Creative Commons, http://ccmixter.org/files/djlang59/37792
Hey, everyone, and welcome to our video, today, on depreciation. So what is today's video about? Well, today is going to be all about depreciation. We're going to talk about a few things. We're going to talk about accumulated depreciation. We're also going to talk about different depreciation methods. And we're going to finish up, today, with a discussion of residual value.
But let's start with depreciation of capital assets. What is depreciation? Depreciation is the process of cost allocation to expense of a plant asset, over its useful life. So it's a cost allocation. So what's happening, here, is part of the asset's useful life has been used. So we need to allocate that cost to expense, to recognize that usage of the asset, within our business operations.
So why do we record depreciation? Well, we have these long-term assets-- could be buildings, equipment; whatever the case may be-- and they're used over multiple periods. So we're using these assets to generate revenue, over multiple periods. So we need to allocate that cost, over those multiple usage periods.
So what we're doing, there, is we're matching. So we have the cost of the asset being allocated through depreciation, that cost allocation to expense, as we're receiving the benefit of that asset, in terms of generating revenue. So it helps us achieve the matching principle, matching expenses with our revenue.
And one more thing to consider, under depreciation of capital assets, is land. So what about land? I talked about buildings, equipment, that type of property; but land? Land is not depreciated, because land does not get used up. We have our manufacturing plant on top of land, and we have our office building on top of land, but that land, itself, does not get used, so it does not get depreciated.
Now, let's talk about accumulated depreciation. So what is accumulated depreciation? Accumulated depreciation is the total depreciation expense recorded, to date, in an asset's life. So it's the total depreciation expense. So it's tracking the total of depreciation expense, for that entire asset's life.
Accumulated depreciation classification. So how is accumulated depreciation classified? Well, it's considered a contra asset account. So what does that mean? What does "contra asset" mean? That means accumulated depreciation is an account with a credit balance that follows the asset account that it offsets, on the balance sheet.
So accumulated depreciation has a natural credit balance. As we see in the definition, there, it's an account with a credit balance. And now assets have a natural debit balance. So that's where we get the idea of contra asset. So it's a reduction of our assets.
And another key piece of that definition of contra asset is that it offsets, on the balance sheet. So what does that mean? That means that each depreciable asset will have its own accumulated depreciation account, because we're tracking the total depreciation expense for that asset's life. So that's accumulated depreciation.
Now let's talk about depreciation method. What methods are available to use? Well, there's straight-line depreciation, which is depreciating the asset, equally, over its useful life. And there's also accelerated depreciation methods. And now there are multiple accelerated depreciation methods. Those methods are MACRS and ACRS, double declining balance, sum of the years' digits, and units of production.
So which method is used? One method for reporting, and one method for taxes. So what that means is that, as the business, we're allowed to use one method for reporting-- so when we prepare our financial statements, which the business determines. So the business makes determination of which depreciation method to use, for their financial-reporting purposes. They might choose simplicity and want to just go with straight-line depreciation, or they want something that more accurately reflects the usage of their assets.
So, for reporting, the business can determine which method of depreciation they'd want to use. But, for taxes, we have to use MACRS and ACRS. Now, MACRS is Modified Accelerated Cost Recovery System, and ACRS is Accelerated Cost Recovery System. That's what those acronyms stand for, and that's what we're required to use, for tax purposes. So that's the depreciation method.
Now, let's finish up, today, with a discussion of residual value. Well, what is residual value? Residual value is the fair value of the asset, at the end of its useful life. Now, how do we determine residual value? Well, the owner determines residual value. It's really an estimate, by the owner that purchased that asset, of what the fair value is going to be, at the end of its useful life.
For example, if a company purchased new equipment at a cost of $100,000, and they expect that equipment to last five years, and, at the end of that five years, they might estimate that it's worth $10,000-- so, if they sell it used, they can get $10,000 for that equipment, in five years. That $10,000-- that would be considered the residual value. So residual value and depreciation.
Residual value does impact the depreciation calculation. OK? So we have to take it into consideration, when we're calculating depreciation. And can we depreciate an asset beyond residual value? We can't. So, not only does it factor into our calculation, but it also sets the amount which we cannot depreciate an asset below. So we can't depreciate an asset any farther than its residual value.
So let's summarize what we talked about, today. In a nutshell, today was all about depreciation. We talked about what is depreciation. We looked at the idea of accumulated depreciation. We talked about different depreciation methods that can be used. And then we finished up with a discussion of residual value and how that factors into our depreciation calculation.
I hope everybody enjoyed this video, and I hope to see you next time.
Definition, Explanation and Characteristics of “Depreciation” or “Accounting Depreciation
Define and explain the terms “depreciation” or “accounting depreciation”.
The value of assets gradually reduces on account of use. Such reduction in value is known as depreciation. Different authors have given different definitions of depreciation, such as:
“Depreciation may be defined as the permanent continuous diminution in the quality, quantity or value on an asset.” (By Pickles)
“Depreciation is the gradual permanent decrease in the value of an asset from any cause.” (By Carter)
“Depreciation may be defined as a measure of the exhaustion of the effective life of an asset from any cause during a given period.” (By Spicer & Pegler)
Depreciation is the diminution in intrinsic value of an asset due to use and/or the lapse of time.” (By Institute of Cost and Management Accountants, England)
“Depreciation is the reduction in the value of a fixed asset occasioned by physical wear and tear, obsolescence or the passage of time.” (Northcott & Forsyth)
“Depreciation is the diminution in the value of assets owing to wear and tear, effluscion of time, obsolescence or similar causes.” (Cropper)
From the above definitions, it follows that an asset gradually declines on account of use and passage of time and this causes permanent reduction in the value and utility of asset. Such reduction in the value or utility of asset is called depreciation. In other words, expired cost or utility of asset is depreciation.
Depreciation has the following characteristics:
Depreciation is charged in case of fixed assets only. e.g., building, plant and machinery, furniture etc. There is no question of depreciation in case of current assets – such as stock, debtors, bills receivable etc.
Depreciation causes perpetual, gradual and continual fall in the value of assets.
Depreciation occurs till the last day of the estimated working life of the asset.
Depreciation occurs on account of use of asset. In certain cases, however, depreciation may occur even if the assets are not used, e.g., leasehold, property, patent, copyright etc.
Depreciation is a charge against revenue of an accounting period.
Depreciation does not depend on fluctuations in market value of assets (see difference between depreciation and fluctuation page).
The amount of depreciation of an accounting year cannot be determined precisely – it has to be estimated. In certain cases, however, it may be ascertained exactly, e.g., leasehold property, patent right, copyright etc.
Total depreciation of an asset cannot exceed its depreciable value (cost less scrap value).