1.21 - Query


Accounting for material salvaged from dismantled fixed assets and used in the construction of other fixed assets.

1. A public limited company is currently in the process of constructing a Tobacco Leaf Threshing Plant. For the purpose of new plant, the company is dismantling unused and redundant godowns at various locations and, thereafter, utilising salvaged steel fabricated materials like girders, trusses, etc., for constructing the new buildings. Similarly, the company has dismantled an old boiler and is going to use the boiler’s shell for its Water Treatment Plant.

2. In all the above cases, the company is writing off the assets from its Fixed Assets Register. The following accounting entry is passed when the assets are dismantled:

Debit Fixed Assets Written-off Account
Credit Fixed Assets Account

(Being the written down value of dismantled asset charged off)

3. The current market price of the salvaged materials is substantial. While using the salvaged materials in new constructions, the company is passing the following entry:

Debit Fixed Asset Account
Credit Fixed Assets Salvage Account.

(Being the capitalisation of dismantled materials utilised at current market price)

4. ‘Fixed Assets Salvage Account’ is ultimately transferred to the credit of profit and loss account.
5. The querist has sought the opinion of Expert Advisory Committee as to whether the accounting treatment adopted by the company is correct.




Opinion

January 23, 1990

1. The Committee notes paras 10.1, 24 and 26 of AS 10 on ‘Accounting for Fixed Assets’, issued by the Institute of Chartered Accountants of India, which recommend, as below:

“10.1 In arriving at the gross book value of self-constructed fixed assets, the same principles apply as those described in paragraphs 9.1 to 9.5. Included in the gross book value are costs of construction that are attributable to the construction activity in general and can be allocated to the specific asset. Any internal profits are eliminated in arriving at such costs.

24. Material items retired from active use and held for disposal should be stated at the lower of their net book value and net realisable value and shown separately in the financial statements.

26. Losses arising from the retirement or gains or losses arising from disposal of fixed asset which is carried at cost should be recognised in the profit and loss statement.”

2. On the basis of the above, the Committee is of the view that where an asset is partly constructed by using the materials obtained from dismantling its existing assets, the book value of the said materials would be the relevant cost for the purpose of determining the cost of construction of the new asset. Accordingly, the old assets account should be credited with the book value of the materials used in the construction of new asset with a corresponding debit to the new asset account.

3. The book value of the salvaged material to be utilised for construction of new buildings may be determined by apportioning the book value of the dismantled assets in the proportion which the fair market value of the salvaged material to be used in construction bears to the fair market value of the entire salvaged material obtained on dismantling. For example, if fabricated steel material, which is obtained from dismantling of a godown, is used for construction of new building, the value of fabricated steel material at which it should be recorded for the purpose of construction of new building, may be ascertained as below:

Fair market value of the fabricated steel material to be used in construction
Book value of the Godown X ----------------------------------------
Fair market value of the entire salvaged material obtained on dismantling including the fabricated steel material to be used in construction.

4. The Committee is similarly of the view that the boiler’s shell to be used for Water Treatment Plant should be transferred at its book value. The book value of the boiler’s shell, if not available, may be determined by apportioning the book value of the boiler in the proportion which the fair market value of the boiler’s shell bears to the fair market value of the boiler.

5. The Committee is, therefore, of the opinion that the accounting treatment followed by the company is not correct. The company should transfer the salvaged material and boiler’s shell to be used for the purpose of construction of new building and Water Treatment Plant respectively, at the book values which may be determined as suggested in paras 3 and 4 above. The salvaged material not to be used for construction should be dealt with in accordance with paras 24 and 26 of the Accounting Standard (AS) 10, i.e., the salvaged material which is not to be used for construction and is held for disposal should be stated separately in the financial statements at the lower of its net book value (which may be determined as suggested in paras 3 and 4 above) or its net realised value. The loss/profit arising on disposal/dismantling of godowns on the salvaged material which is not to be used for construction should be recognised in the profit and loss account.