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Thread: 16 Accounting Standard 16 - Borrowing Costs - AS 16

  1. #11
    Accounting Standards
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    Default Disclosure of Accounting Standard 16 - Borrowing Costs - AS 16

    Disclosure of Accounting Standard 16 - Borrowing Costs - AS 16


    23. The financial statements should disclose:

    (a) the accounting policy adopted for borrowing costs; and

    (b) the amount of borrowing costs capitalised during the period.

  2. #12
    Accounting Standards
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    Default Accounting Standards Interpretation (ASI) 1 Substantial Period of Time of Accounting Standards 16 - Borrowing Costs - AS 16

    Accounting Standards Interpretation (ASI) 1


    Substantial Period of Time
    Accounting Standard (AS) 16, BorrowingCosts



    ISSUE
    1. Accounting Standard (AS) 16, Borrowing Costs, defines the term ‘qualifying asset’ as “an asset that necessarily takes a substantial period of time to get ready for its intended use or sale”.


    2. The issue is what is the meaning of the expression ‘substantial period of time’ for the purpose of this definition.


    CONSENSUS

    3. The issue as to what constitutes a substantial period of time primarily depends on the facts and circumstances of each case. However, ordinarily, a period of twelve months is considered as substantial period of time unless a shorter or longer period can be justified on the basis of facts and
    circumstances of the case. In estimating the period, time which an asset takes, technologically and commercially, to get it ready for its intended use or sale should be considered.

  3. #13
    Accounting Standards
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    Default CONSENSUS of Accounting Standard 16 - Borrowing Costs - AS 16

    CONSENSUS of Accounting Standard 16 - Borrowing Costs - AS 16

    4. The following assets ordinarily take twelve months or more to get ready for intended use or sale unless the contrary can be proved by the enterprise:

    (i) assets that are constructed or otherwise produced for an enterprise’s own use, e.g., assets constructed under major capital expansions.


    (ii) assets intended for sale or lease that are constructed or otherwise produced as discrete projects (for example, ships or real estate developments).


    5. In case of inventories, substantial period of time is considered to be involved where time is the major factor in bringing about a change in the condition of inventories. For example, liquor is often required to be kept in store for more than twelve months for maturing.


    BASIS FOR CONCLUSIONS

    6. Paragraph 6 of AS 16 provides that “Borrowing costs that are directly attributable to the acquisition, construction or production of a qualifying asset should be capitalised as part of the cost of that asset. The amount of borrowing costs eligible for capitalisation should be determined in
    accordance with this Statement. Other borrowing costs should be recognised as an expense in the period in which they are incurred”.

    This paragraph recognises that borrowing costs should be expensed except where they are directly attributable to acquisition, construction or production of a qualifying asset. To qualify for capitalisation of borrowing costs, the asset should take a long period of time to get ready for its intended use or sale.


    7. Paragraph 5 of AS 16 gives examples of manufacturing plants, power generation facilities etc. as qualifying assets. In these cases, normally a period of more than twelve months is required for getting them ready for their intended use. Therefore, a rebuttable presumption of a period of twelve
    months is considered “substantial” period of time.

    8. Paragraph 5 of AS 16 provides, inter alia, that “inventories that are routinely manufactured or otherwise produced in large quantities on a repetitive basis over a short period of time, are not qualifying assets.” Paragraph 12 of Accounting Standard (AS) 2, Valuation of Inventories, provides that “Interest and other borrowing costs are usually considered as not relating to bringing the inventories to their present location and condition and are, therefore, usually not included in the cost of inventories”. It is only in exceptional cases, where time is a major factor in bringing about change in the condition of inventories that borrowing costs are included in the valuation of inventories.

  4. #14
    Accounting Standards
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    Default Accounting Standards Interpretation 10 Interpretation of paragraph 4(e) of AS 16

    Accounting Standards Interpretation (ASI) 10


    Interpretation of paragraph 4(e) of AS 16

    Accounting Standard (AS) 16, Borrowing Costs

    ISSUE

    1. Paragraph 4 (e) of AS 16, ‘Borrowing Costs’, provides that borrowing costs may include “exchange differences arising from foreign currency borrowings to the extent that they are regarded as an adjustment to interest costs”.


    2. The issue is which exchange differences are covered under paragraph 4 (e) of AS 16.


    CONSENSUS


    3. Paragraph 4 (e) of AS 16 covers exchange differences on the amount of principal of the foreign currency borrowings to the extent of difference between interest on local currency borrowings and intereston foreign currency borrowings. For this purpose, the interest rate for the local currency
    borrowings should be considered as that rate at which the enterprise would have raised the borrowings locally had the enterprise not decided to raise the foreign currency borrowings. If the difference between the interest on local currency borrowings and the interest on foreign currency borrowings is equal to or more than the exchange difference on the amount of principal of the
    foreign currency borrowings, the entire amount of exchange difference is covered under paragraph 4 (e) of AS 16.

  5. #15
    Accounting Standards
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    Default BASIS FOR CONCLUSIONS of Accounting Standard 16 - Borrowing Costs - AS 16

    BASIS FOR CONCLUSIONS of Accounting Standard 16 - Borrowing Costs - AS 16


    4. Enterprises often borrow in foreign currency at a lower interest rate as an alternative to borrowing locally in rupees, at a higher rate. However, the likely currency depreciation and resulting exchange loss often offset, fully or partly, the difference in the interest rates. In such cases, the exchange difference on the foreign currency borrowings to the extent of the difference between interest on local currency borrowing and interest on foreign currency borrowing, is regarded as an adjustment to the interest costs. This exchange difference is, in substance, a borrowing cost. In case of an enterprise, which instead of borrowing locally at a higher interest rate, borrows in foreign
    currency on the basis that the interest cost on foreign currency borrowings as adjusted by the exchange fluctuations, is expected to be less than the interest cost of an equivalent rupee borrowing, it is not appropriate to consider only the explicit interest cost on the foreign currency borrowing as the borrowing costs. In such a case, to the extent the exchange differences are
    regarded as an adjustment to the interest costs, as explained above, the same should also be considered as borrowing costs and accounted for accordingly with a view to reflect economic reality. Accordingly, such an exchange difference is covered under AS 16.



    5. The explicit interest cost, including exchange difference thereon, if any, is covered under paragraph 4 (a) of AS 16, which provides that borrowing costs may include interest and commitment charges on bank borrowing and other short term and long term borrowings. Accordingly, the intention of paragraph 4(e) of AS 16 is to cover exchange differences on the amount of the principal of the foreign currency borrowings. Further, since paragraph 4 (e) uses the words ‘to the extent that they are regarded as an adjustment to interest costs’, the entire exchange difference on principal amount is not covered by paragraph 4 (e). Since, the difference between interest on local
    currency borrowings and interest on foreign currency borrowings, is regarded as an adjustment to the interest costs, only the exchange difference to the extent of such difference is covered by paragraph 4 (e) of AS 16. The entire exchange difference on the principal amount is regarded as an
    adjustment to the interest cost only in a situationwhere the difference between interest on local currency borrowings and interest on foreign currency borrowings is equal to or more than the exchange difference.

  6. #16
    Accounting Standards
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    Default Appendix of Accounting Standard 16 - Borrowing Costs - AS 16

    Appendix of Accounting Standard 16 - Borrowing Costs - AS 16

    Note: This appendix is illustrative only and does not form part of the Accounting Standards Interpretation. The purpose of this appendix is to illustrate the application of the Interpretation to assist in clarifying its meaning.


    Facts:

    XYZ Ltd. has taken a loan of USD 10,000 on April 1, 20X3, for a specific project at an interest rate of 5% p.a., payable annually. On April 1, 20X3, the exchange rate between the currencies was Rs. 45 per USD. The exchange rate, as atMarch 31, 20X4, is Rs. 48 per USD. The corresponding amount could have been borrowed by XYZ Ltd. in local currency at an interest rate of 11 per cent per annum as on April 1, 20X3. The following computation would be made to determine the amount of
    borrowing costs for the purposes of paragraph 4(e) of AS 16:

    (i) Interest for the period = USD 10,000 x 5%x Rs. 48/USD = Rs. 24,000/-


    (ii) Increase in the liability towards the principal amount =USD10,000 x (48-45) = Rs. 30,000/-

    (iii) Interest that would have resulted if the loan was taken in Indian currency = USD 10000 x 45 x 11% = Rs. 49,500

    (iv) Difference between interest on local currency borrowing and foreign currency borrowing =Rs. 49,500 – Rs. 24,000 =Rs. 25,500 Therefore, out of Rs. 30,000 increase in the liability towards principal amount, onlyRs. 25,500will be considered as the borrowing cost. Thus, total borrowing cost would be Rs. 49,500 being the aggregate of interest of Rs. 24,000 on foreign currency borrowings (covered by paragraph 4(a) of AS 16) plus the exchange difference to the extent of difference between interest on local currency borrowing and interest on foreign currency borrowing ofRs. 25,500.

    Thus, Rs. 49,500 would be considered as the borrowing cost to be accounted for as per AS 16 and the remaining Rs. 4,500 would be considered as the exchange difference to be accounted for as per Accounting Standard (AS) 11, The Effects of Changes in Foreign Exchange Rates.


    In the above example, if the interest rate on local currency borrowings is assumed to be 13% instead of 11%, the entire exchange difference of Rs. 30,000 would be considered as borrowing costs, since in that case the difference between the interest on local currency borrowings and foreign currency borrowings (i.e., Rs. 34,500 (Rs. 58,500 – Rs. 24,000)) is more than the exchange difference of Rs. 30,000. Therefore, in such a case, the total borrowing cost would be Rs. 54,000 (Rs. 24,000 + Rs. 30,000) which would be accounted for under AS 16 and there would be no exchange difference to be accounted for under AS 11.

  7. #17
    Accounting Standards
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    Default Notional saving of interest – whether to be accounted for of Accounting Standard 16 - Borrowing Costs - AS 16

    A. Facts of the Case of Accounting Standard 16 - Borrowing Costs - AS 16

    1. A public sector company having operations all over India manages its funds through a centrally controlled bank account. All receipts/expenditures are transferred to the bank account on daily basis. All the borrowings, whether specific for projects or general, are deposited into a common pool of funds.
    2. The company allocates the interest on specific borrowings to the projects irrespective of its utilisation from the date of borrowings. As a result the interest on unutilised loan amount which is actually used for other purposes (through common pool of funds) also gets capitalised.
    3. The querist has referred to paragraph 10 of Accounting Standard (AS) 16, ‘Borrowing Costs’, which states as below:
    "10. To the extent that funds are borrowed specifically for the purpose of obtaining a qualifying asset, the amount of borrowing costs eligible for capitalisation on that asset should be determined as the actual borrowing costs incurred on that borrowing during the period less any income on the temporary investment of those borrowings.”
    4. The querist has also referred to paragraph 11 of AS 16 which states that where the funds are temporarily invested out of the funds specifically borrowed for projects pending their expenditure on qualifying asset, in determining the amount of borrowing cost eligible for capitalisation during a period, any income earned on such temporary investment is to be deducted from the borrowing cost incurred.
    5. In the case of the company, the funds are not specifically invested and no income is earned on the unutilised funds. However, the funds borrowed specifically for projects are deposited in common pool and the surplus funds are utilised for meeting working capital requirement on short term basis resulting in reduction in overdraft in cash credit account.

    B. Queries

    6. The querist has sought the opinion of the Expert Advisory Committee on the following issues:
    (a) Whether notional saving of interest on cash credit account should be deducted from the borrowing cost
    (i) when there is no overdraft in the cash credit account; and
    (ii) when there is overdraft in the cash credit account.
    (b) In case the notional saving of interest is to be deducted from the borrowing cost incurred on the funds borrowed specifically for projects, whether the rate to be considered should be
    (i) the interest rate of the specific borrowing; or
    (ii) the interest rate of cash credit

    C. Points Considered by the Committee

    7. The Committee restricts itself to the specific issue raised by the querist relating to the deduction of notional savings in interest from the costs of borrowings for specific assets for the purpose of capitalisation. The Committee has not examined any other accounting issue contained in the query.
    8. The Committee notes the requirements of AS 16 as stated in paragraphs 3 and 4 above.
    9. The Committee notes that in the case of the company, there is no income from the temporary investment of funds as such. There is only a notional income in the form of savings in interest cost that would have been otherwise incurred on cash credit account.
    10. From the above, the Committee is of the view that under the present accounting framework notional saving in interest from the temporary use of funds for the company’s working capital requirements can not be construed as ‘income’ from the temporary investment of borrowings as contemplated in AS 16. Therefore, such notional savings can not be deducted from the borrowing costs for the purpose of capitalistion.

    D. Opinion

    11. On the basis of the above, the Committee is of the following opinion on the issues raised in paragraph 6:
    (a) The notional saving of interest on cash credit account should not be deducted from the borrowing costs whether there is overdraft or no overdraft in the cash credit account.
    (b) This issue is not relevant in view of (a) above.

    Opinion finalised by the Committee on 17.1.2001

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