IAS 16

PROPERTY, PLANT AND

EQUIPMENT

LECTURE MATERIAL
Prepared by BIANCA NEL CA (SA)

COPYRIGHT NOTICE
Copyright © CA Campus

These notes enjoy copyright under the Berne Convention. In terms of the Copyright Act, no 98 of 1978, no part
of this material may be reprinted or reproduced, in any form whatsoever, either in whole or in part or by any
electronic or other means including the making of photocopies thereof, without the express prior written
consent of the proprietor, CA Campus.

No individual may share any CA Campus content or material with any other person.

The proprietor will not hesitate to prosecute any such offenders to the fullest extent of the law and to report
their details to:
• UNISA
• The South African Institute of Chartered Accountants (SAICA) for purposes of barring such persons
from registering as chartered accountants (SA), as such actions constitute a gross transgression of
ethical principles, which is a violation of the code of professional conduct of SAICA
• South African Police Service
• Any other relevant professional body / organisation, including any employer
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Watch:
Questions to expect: Part 1 of 6

• Integrated with Intangible assets, Impairment & Investment Property

• Amounts that should be included or excluded from the costs of PPE

• When PPE should start to be depreciated
• Dealing with the replacement of components
➢ When they have not been identified as a separate component
• Dealing with dismantling costs/decommission costs [IFRIC 1]
➢ What to do if they have changed (cost model vs revaluation model)
• Effecting a revaluation [ONLY LAND]
NB! • Income taxes (deferred tax)
IFRS 13 = Level 2
• Journals
• Anything!

NOTE:
Do questions and exercise exam technique

CONTENT
1. Objective and Scope
2. Recognition
3. Measurement at Recognition (IFRIC 1)
4. Subsequent Recognition (Measurement After Recognition)
5. Depreciation
6. Impairment
7. Revaluation
8. Derecognition
9. Deferred Tax Considerations
10. Disclosure

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'BIG PICTURE' IAS 12

1. R&M
Initial Recognition:
2. Spare parts & servicing
equipment
CF Def + RC + IAS 16 3. Safety & environmental cost Subsequent
Def =  4. Major inspections Recognition:
5. Replacement components 1. Cost Model
2. Revaluation Model

DISLOSURE
DEPRECIATION:
MEASUREMENT? 1. Straight line
@ COST 2. Diminishing balance
3. Units of production Derecognition

WHAT INCL/EXCL?

[Link]-constructed assets Impairment?

[Link] settlement & Government Grants
[Link] of PPE items

IFRIC 1

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Part 2 of 6

1. OBJECTIVE & SCOPE (IAS 16.1) (IAS 16.2)

Objective = to prescribe the accounting treatment for Property, Plant & Equipment (PPE)
NB! Scope exclusion = not apply to PPE classified as held for sale in accordance with IFRS 5

2. WHEN? RECOGNITION (IAS 16.7)

CF Definition of Recognition IAS 16

asset Criteria Definition

Definition [IAS 16.6]

Property, plant and equipment are tangible items that:
a) Are held for use in production/supply of goods/services,
b) Are expected to be used during more than one period

An intangible asset is an Investment property is

asset: 1. property (land, building or both) held
1. identifiable (by a owner/lessee under a finance
2. non-monetary asset lease)
3. without physical 2. to earn rentals or for capital
substance appreciation or both
Definition: 3. rather than for:
1. Identifiable
• use in production or supply of
2. Control
goods/services or administrative
3. FEB
purposes
AND RC
• sale in ordinary course of business
[IAS 38.8-9]
[IAS 40.6]

Class of PPE
grouping of assets of a similar nature and use in an entity’s operations
E.g. Land, Machinery, furniture and fixtures, office equipment

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NB! * Recognition
• Identify the significant parts of an item of PPE on initial recognition
• Judgement is required in identifying these parts (Identification of component)
• Appropriate to aggregate individually insignificant items e.g. tools (IAS 16.9)
• Apply the recognition principle to initial and subsequent costs e.g. to add to the
asset, replacement of a part or service thereof (not repairs & maintenance)
(IAS 16.10)

IMPORTANT ITEMS TO IDENTIFY:

1. Should Repairs and Maintenance (IAS 16.12) be capitalised?

• expensed when incurred

2. Spare parts and servicing equipment (IAS 16.12)

• Usually carried as inventory and expensed in P/L when consumed
• Qualify as PPE if expected to be used in more than one period
• When will depreciation commence?
=> when they are available for use as intended by management

3. Safety and environmental costs (IAS 16.11)

• Items of PPE may be acquired for safety or environmental reasons
• Meet recognition criteria as they are necessary for entity to obtain FEB from other
assets
• Resulting carrying amount must be reviewed for impairment in terms of IAS 36

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4. Major Inspections (IAS 16.14)

Some assets need regular major inspections for faults (regardless of whether parts of the
asset are replaced) to ensure efficient operation e.g. airplanes

STEPS 1. Capitalise = cost of inspection to asset (if recognition criteria met) and then
depreciate the cost of inspection

2. Remaining CA of previous inspection that was not fully depreciated is derecognised

once the new inspection occurs

3. On initial recognition a part of the cost of asset is allocated to inspection costs and
then depreciated over the expected period to the next inspection

NB! If the cost of an inspection was not identified when the asset was
acquired/purchased the estimated cost of a future similar inspection may be used
as an indication of the cost of the inspection component of the asset at acquisition

LECTURE EXAMPLE 1.2

5. Replacement of components at regular intervals (IAS 16.13)

Parts of some items of property, plant and equipment may require replacement at regular
intervals e.g. seats in an aircraft

STEPS 1. Capitalise cost of the replaced component if recognition criteria are met

2. The replaced component is depreciated over the remaining useful life of the asset

3. Derecognise the remaining carrying amount of the replaced component

If CA of replaced component cannot be determined (e.g. where it has not been depreciated
separately) the cost of the new component is used as an indication of what the original cost
of the part would have been (similar principle to major inspections)

LECTURE EXAMPLE 1.1

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Part 3 of 6

3. MEASUREMENT @ RECOGNITION (IAS 16.15)

=> @ COST

Elements of Cost?
1. Purchase price (including import duties & non-refundable purchase taxes) after
deducting trade discounts/ rebates.

2. Costs directly attributable to bringing asset to location and condition necessary for it
to be capable of operating in the manner intended by management

3. The initial estimate of the costs of dismantling and removing the item and
restoring the site on which it is located, the obligation for which an entity incurs
either when the item is acquired or as a consequence of having used the item during
a particular period for purposes other than to produce inventories during that
period.

Examples of directly attributable costs

• costs of employee benefits (as defined in IAS 19 Employee Benefits) arising directly
from the construction or acquisition of the item of PPE
• costs of site preparation
• initial delivery and handling costs
• installation and assembly costs
• costs of testing whether the asset is functioning properly, after deducting the net
proceeds from selling any items produced while bringing the asset to that location
and condition (such as samples produced when testing equipment)
• professional fees

EXAMPLES OF COSTS - NOT COSTS OF AN ITEM OF PPE

• costs of opening new facility

• costs of introducing new product/service (including costs of advertising and
promotional activities)
• costs of conducting business in new location or with a new class of customer
(including costs of staff training)
• administration and other general overhead costs

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When does capitalisation cease?

When the item is in the location and condition necessary for it to be capable of operating
in the manner intended by management.

NB! Costs incurred in using or redeploying an item are NOT included in CA of that item.
E.g.
1. Costs incurred while an item capable of operating in the manner intended by
management has yet to be brought into use or is operated at less than full
capacity

2. Initial operating losses e.g. those incurred while demand for the item’s output
builds up

3. Costs of relocating or reorganising part or all of an entity’s operations

IMPORTANT ITEMS TO IDENTIFY:

1. Self-constructed Asset

• Cost = same principles as for an acquired asset.

• If an entity PRODUCE similar assets for sale in the normal course of business, the cost
of the asset is usually the same as the cost of constructing an asset for sale (see IAS 2)
1. Eliminate any internal profits
2. Expense = cost of abnormal amounts of wasted material, labour, or other resources
3. IAS 23 Borrowing Costs establishes criteria for the recognition of interest as a
component of the carrying amount

2. Deferred Settlement & Government Grants

• COST = cash price equivalent @ recognition date.

• If payment is deferred beyond normal credit terms - the difference between the cash
price equivalent and the total payment is recognised as interest over the period of
credit (unless capitalised in accordance with IAS 23) (Para 23)

• CARRYING AMOUNT of PPE may be reduced by government grants @ IAS 20.28

LECTURE EXAMPLE 1.3

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3. Exchange of PPE items

An item of PPE may be acquired in exchange for a non-monetary asset/s or a combination

of monetary and non-monetary assets

Cost = FAIR VALUE

UNLESS:
a) Exchange transaction lacks commercial substance OR
b) The fair value of neither the asset received nor asset given up is reliably measurable

If the acquired item is not measured at fair value then the

cost = carrying amount of the asset given up i.e. no gain or loss is recognised

When the FVs of both assets (acquired and given up) can be determined reliably the
fair value of the asset given up will be used

Gain or loss = difference between the FV and CA of the asset given up (where applicable)
(IAS 16.24-26)

LECTURE EXAMPLE 1.4

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Watch:
IFRIC 1 Part 4 of 6

Asset dismantling, removal and restoration costs

• Initial estimate of costs of dismantling and removing the PPE item
and restoring the site on which it is located will form part of the costs of the item

• Entity must have a present legal or constructive obligation in terms of IAS 37 to

dismantle and remove the item in order to include the costs in the cost of PPE

• If costs are incurred in a period in which the PPE was used to produce inventories
then the costs are capitalised to inventory and not PPE

1) Dr PPE (SFP) xx
Cr Provision for dismantling and removal costs (SFP) xx

2) Dr Finance Cost (P/L) xx

Cr Provision for dismantling and removal costs (SFP)

3) Dr Provision for dismantling and removal costs (SFP) xx

Cr Bank xx

LECTURE EXAMPLE 1.5

Reassessment of dismantling costs

(Reconsider/examine)
If the dismantling costs are reassessed
e.g. estimate of costs changes, the requirements of IFRIC 1 are followed

Cost Model
• Dr or Cr the asset
• Account for and disclose as a change in estimate
• Test for impairment

WHAT WILL THE JOURNAL ENTRY BE?

Dr Asset (cost) (SFP) xx
Cr Provision for dismantling costs (SFP) xx

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Revaluation Model
Increases in the provision
• Set off against the revaluation surplus of the asset by debiting OCI
• Any remaining balance goes to P/L

Decreases in the provision

• Credit OCI and increase the revaluation surplus in equity
• If revaluation deficit was previously written off in P/L – first recover the amount
from P/L
• Increases in the Revaluation surplus are limited to the carrying amount of the
assets determined according to the cost model
• When revaluing an asset that has to be dismantled the NET REPLACEMENT COSTS
should include a pro-rata amount related to the dismantling cost (depreciated value
of the dismantling cost)

LECTURE EXAMPLE 1.6

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DETAILS INCLUDED IN THE EXAMPLE USED IN THE RECORDING:

Initial amount PV = R100 k

After 5 years = the NEW info indicate that the NEW dismantling cost value should be
R120 000 (PV on that date)
In this basic example we do not have the details about the discount rate as each year the
initial R100 000 should increase with the discount rate to ensure that at the END of the 20
Years the dismantling provision is the R120 000.

Journal number 2: Cr Provision R10 000

On date of change: [END OF Year 5]
STEP 1: Determine what is the PV on this date of the ORIGINAL Dismantling provision
= R100 000 + R10 000 = R110 000
STEP 2: What is the NEW PV (NEW estimated dismantling at end) = R120 0000
STEP 3: Difference = R10 0000 => INCREASE

NOTE:
What you need to identify in a self assessment question is if they provide you with the
FV at the end = NEW FV at the end.
You need to calculate the NEW PV on date of change [STEP 2] and COMPARE this with the
VALUE of the Provision on date of change [STEP 1] = adjust the asset value with this
amount.
Increase = Cr. Provision & Dr. Asset.
If a decrease = Cr. Asset & Dr. Provision

Remember that this is an IAS 8 = Change in estimate

=Account prospectively

IAS 8.36 The effect of a change in an accounting estimate, other than a change to which
paragraph 37 applies, shall be recognised prospectively by
including it in profit or loss in: = nothing in P/L for current year as change is at END of the
year ALSO IFRIC 1.5(a)
(a) the period of the change, if the change affects that period only; or
(b) the period of the change and future periods, if the change affects both.
= change only affect future DEPRECIATION

If they provide you with the NEW FV at the beginning of a year and you have to calculate the
change in estimate = this will have an effect on the current year Depreciation = apply
IAS8.36(a) = current year depreciation include an amount due to change.

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Part 5 of 6

4. SUBSEQUENT RECOGNITION (IAS 16.29)

Cost Model vs. Revaluation Model
1. Cost Model
carried at cost less
any accumulated depreciation and any accumulated impairment losses

2. Revaluation model
Item of PPE whose FV can be measured reliably shall be carried at a revalued
amount (FV at revaluation date less any subsequent accumulated depreciation and
subsequent accumulated impairment losses)

Measurement after Recognition

• Choose cost model OR revaluation model and apply that policy to an entire class of
PPE
• If item of PPE is revalued = entire class of PPE to which that asset belongs shall be
revalued
• The items within a class of PPE are revalued at the same time to avoid selective
revaluation of assets

5. DEPRECIATION (IAS 16.43)

What is depreciation?
The systematic allocation of the depreciable amount of an asset over its useful life

What is the depreciable amount?

Cost of an asset, or other amount substituted for cost, less its residual value

What is the residual value?

Estimated amount that an entity would currently obtain from disposal of the asset,
after deducting the estimated costs of disposal, if the asset were already of the age
and in the condition expected at the end of its useful life

Do the useful life and residual value need to be reviewed?

Reviewed at least = each financial year-end
(any changes will be a change in estimate in terms of IAS 8)

Changes in Depreciation: Refer to Descriptive accounting examples: 9.10, 9.11 & 9.13

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When does depreciation start?

When it is available for use
i.e. when it is in the location and condition necessary for it to be capable of operating
in the manner intended by management (rather than when it is commissioned or
brought into use)

When does depreciation cease?

EARLIEST OF:
• Classified as held for sale (or disposal group) = IFRS 5 &
• the date that the asset is derecognised.
i.e. depreciation does not cease when the asset becomes idle or is retired from
active use unless the asset is fully depreciated.
However, under usage methods of depreciation the depreciation charge can be
zero while there is no production.

Where do you recognise depreciation?

= Profit or Loss
WHAT IF THE CARRYING AMOUNT IS INCLUDED IN ANOTHER ASSET?
e.g. depreciation of manufacturing plant included in the costs of conversion of
inventory

How do you deal with land & buildings?

Accounted for separately even when they are acquired together.
IS THERE DEPRECIATION ON LAND?
land has an unlimited useful life and therefore is not depreciated.
If the cost of land includes the costs of site dismantlement, removal and restoration,
that portion of the land asset is depreciated over the period of benefits obtained by
incurring those costs
Buildings have a limited useful life and therefore are depreciated (IAS 16.58- 59)

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Depreciation methods
• reflect the pattern in which the asset’s future economic benefits (Para 60)
• reviewed annually (IAS 8 change in estimate) (Para 61)
• Apply consistently from period to period (Para 62)

WHAT IS THE DIFFERENT DEPRECIATION METHODS?

1. Straight Line
➢ constant charge over the useful life if the asset’s residual value does not
change

2. Diminishing Balance
➢ decreasing charge over the useful life
➢ Appropriate where effectiveness of asset is expected to decline gradually

3. Units of Production
➢ Results in a charge based on the expected output of the assets
➢ Best approximation of the consumption of the economic benefits in an asset

LECTURE EXAMPLE 2.1

6. IMPAIRMENT (IAS 16.63)

• IAS 36.63

• Compensation from third parties for items of PPE that were impaired, lost or given
up is included in profit or loss when it becomes receivable

• Refer to Lecture on IAS 36

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7. REVALUATION (IAS 16.31)

The concepts and topics of IAS 16 [PPE] are at a core level, except for the following:
Concepts and topics (IAS 16) Level of examination
Transfer between classes of transactions Awareness
Bearer plants Awareness
Revaluations on Depreciable assets Excluded

EXAMPLE

ABC Ltd acquired land at a cost of R1 000 000 on 1 January 20.16. The land is revalued to
R1 500 000 on 31 December 20.16. Assume a normal tax rate of 28% and a 80% capital gains
induction tax inclusion rate.

* Assume the asset was acquired after 1 October 2001.

Prepare the journal entries to in relation with the lands revaluation. [Include tax.]

Temporary difference on the LAND on 31 December 20.16:

Deferred tax
Carrying Temporary
Tax base @ CGT rate*
amount difference
asset/(liability)
R R R R
Land 1 500 000 1 000 000 500 000 (112 000)

DEBIT CREDIT

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8. DERECOGNITION (IAS 16.67)

The carrying amount of an item of property, plant and equipment shall
be derecognised:
• On disposal OR
• when no future economic benefits expected from its use or disposal
i.e. don’t derecognise from merely withdrawing from use

• Gain/Loss from the derecognition = included in P/L when item is derecognised

(unless IFRS 16 requires otherwise on a sale and leaseback).

• Gain/Loss from the derecognition

= difference between net disposal proceeds and the carrying amount

• If an entity in the course of its ordinary activities, routinely sells items of PPE that it
has held for rental to others shall transfer such assets to inventories at their carrying
amount when they cease to be rented and become held for sale
WHAT DOES THIS MEAN?

• The proceeds from the sale of such assets shall be recognised as revenue in
accordance with IFRS 15

WHAT ABOUT IFRS 5?

• IFRS 5 does not apply when assets that are held for sale in the ordinary course of
business are transferred to inventories

LECTURE EXAMPLE 3.1 & 3.2

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Part 6 of 6

9. DEFERRED TAX
Deferred Tax – Manner of Recovery
• IAS 12.51 – The measurement of deferred tax liabilities/ assets must reflect the tax
consequences that would follow from the manner in which entity expects at the end
of reporting period to recover/settle the carrying amounts of assets or liabilities

• IAS12.51B – A deferred tax asset/liability that arises when using the revaluation
model in IAS16 on non-depreciable assets should reflect the tax consequences of
recovering the carrying amount of the asset through sale.

• Carrying amount of depreciable PPE

➢ Residual Value (Recovered through sale)
➢ Depreciable Amount (Recovered through use)

Deferred Tax – Initial Recognition Exemption

IAS 12.15 A deferred tax liability shall be recognised for all taxable temporary differences,
except to the extent that the deferred tax liability arises from:

(a) the initial recognition of goodwill; or

(b) the initial recognition of an asset or liability in a transaction which is not a business
combination and at the time of the transaction, affects neither accounting profit nor taxable
profit (tax loss).

E.g. non-depreciable assets such as land or depreciable assets for which no tax deduction is
allowed

If a non-depreciable or depreciable asset for which the initial recognition exemption is

applied is revalued in terms of IAS16, the revaluation no longer relates to the initial
recognition of the asset (i.e. it is not an exempt difference)

LECTURE EXAMPLE 4.1 - 4.3 = SELF STUDY

LECTURE EXAMPLE 4.4

UNDERSTAND THE INFORMATION PROVIDED: DEFERRED TAX:

NB: you need to know IAS 12 rules
CA = R300K

You need to think: RES VALUE = R250K

1. What is the information given?
2. What is manner of recovery of assets value? COST = R200K
3. Draw diagram.
TAX BASE = R140K

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10. DISCLOSURE (IAS 16.73)

• Para 73 - 79
• Para 73 – Measurement bases, depreciation methods, useful lives or depreciation
rates, gross carrying amount and the accumulated depreciation (with accumulated
impairment losses) at the beginning and end of the period, a reconciliation of the
carrying amount at the beginning and the end of the period
• Para 77 – Extra disclosures for revalued assets

NOTES TO THE FINANCIAL STATEMENTS FOR THE YEAR ENDED (DAY) (MONTH) (YEAR)
NB! separate column for each class of asset
PROPERTY, PLANT & EQUIPMENT NOTE
LAND BUILDINGS MACHINERY VEHICLE TOTAL
Carrying amount at the beginning of the year
Cost
Accumulated depreciation

Additions
Depreciation This is a template:
Only include what is
Revaluation applicable
Impairment
Derecognition

Carrying amount at the beginning of the year

Carrying amount/cost
Accumulated depreciation

HINTS & TIPS WHEN YOU DO THE SELF ASSESSMENT QUESTIONS:

• Depreciation = PROPORTIONATE.
• Read
• Timeline
COMPREHENSIVE LECTURE
EXAMPLE

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Extract from statement of profit or loss and other comprehensive income

for the year ended (DAY) (MONTH) (YEAR)
R
Profit for the year xxx
Other comprehensive income:
Items that will not be reclassified to profit or loss:
Revaluation of _____________________________ xxx
Gain on revaluation xxx
Tax expense (xxx)
Total comprehensive income for the year xxx

Extract from statement of changes in equity for the year ended (DAY) (MONTH) (YEAR)
Revaluation Retained
surplus earnings
R R
Balance at 1 January 20.13 – xxx
Total comprehensive income for the year xxx
Profit for the year – xxx
Other comprehensive income for the year xxx –
Transfer from revaluation surplus to retained earnings [NOTE] + NOTE
Balance at 31 December 20.13 xxx xxx

READ INFO IN QUESTION:

The revaluation surplus (net of tax) will be transferred to retained earnings in line with the
use of the asset.

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FAQ:
For purposes of IAS 16, in terms of the RECOGNITION CRITERIA, do we need to APPLY the
NEW conceptual frameworks definition of do we look at IAS 16.7?

Should you need to discuss a theory question, my recommendation, follow the following
steps:
1. Apply the definition in terms of the NEW Conceptual Framework
2. Apply the recognition criteria of the NEW Conceptual Framework
 Conclude: YES, this is an ASSET as per the CF
3. Apply the definition in terms of IAS 16.6 of PPE
4. Apply the recognition criteria of IAS 16.7 of PPE
 Conclude: YES, this is an ASSET as per IAS 16

EXTRACT FROM THE CONCEPTUAL FRAMEWORK NOTES:

EXTRACT FROM IAS 16.6-7:

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PROPERTY, PLANT AND
EQUIPMENT

LECTURE EXAMPLES
Prepared by BIANCA NEL CA (SA)
COPYRIGHT NOTICE

Copyright © CA Campus

These notes enjoy copyright under the Berne Convention. In terms of the Copyright Act, no 98 of 1978, no part
of this material may be reprinted or reproduced, in any form whatsoever, either in whole or in part or by any
electronic or other means including the making of photocopies thereof, without the express prior written
consent of the proprietor, CA Campus.

No individual may share any CA Campus content or material with any other person.

The proprietor will not hesitate to prosecute any such offenders to the fullest extent of the law and to report
their details to:
• UNISA
• The South African Institute of Chartered Accountants (SAICA) for purposes of barring such persons
from registering as chartered accountants (SA), as such actions constitute a gross transgression of
ethical principles, which is a violation of the code of professional conduct of SAICA
• South African Police Service
• Any other relevant professional body / organisation, including any employer
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1. INITIAL MEASUREMENT & RECOGNITION EXAMPLES

Example 1.1 – Replacement of components (Descriptive Accounting)

Beta Ltd operates a furnace which costs R20 000 000, inclusive of R4 000 000 (purchase
date: 2 January 20.7) relating to the cost of lining the furnace. The asset was available for
use on this date as intended by management.

The useful life of the furnace is 20 years. The furnace linings need to be replaced every five
years and as six years of the useful life of the furnace have already expired, the linings
were replaced a year ago at a cost of R5 000 000.

At the end of their useful lives, the linings will have no residual value. The year end is
31 December.

Calculate the carrying amount of the furnace as at 31 December 20.12.

NOTE:
When you calculate the depreciation, it is advised that you include a table
(divide the sections of the asset).
Disclosure in the PPE note = This is still one asset

Carrying amount of furnace (excluding lining) on 31 December 20.12

Original cost including lining 20 000 000
Lining (4 000 000)
Furnace excluding lining 16 000 000
Accumulated depreciation on the furnace (excluding lining) to 31 December 20.11
(16 000 000/20 x 5) (4 000 000)
Depreciation for 20.12 (16 000 000/20) (800 000)
Carrying amount on 31 December 20.12 11 200 000
Carrying amount of the lining on 31 December 20.12
Cost of original lining 4 000 000
Written off from 2 January 20.7 to 31 December 20.11 (4 000 000/5 x 5) (4 000 000)
–
New lining capitalised on 2 January 20.12 5 000 000
Accumulated depreciation (5 000 000/5) (1 000 000)
Carrying amount on 31 December 20.12 4 000 000
Depreciation for 20.12
Furnace 800 000
Lining 1 000 000
Total 1 800 000

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Replacement of components at regular intervals (IAS 16.13)

Parts of some items of property, plant and equipment may require replacement at regular intervals
e.g. seats in an aircraft
1. Capitalise cost of the replaced component if recognition criteria are met
2. The replaced component is depreciated over the remaining useful life of the asset
3. Derecognise the remaining carrying amount of the replaced component

If CA of replaced component cannot be determined (e.g. where it has not been depreciated
separately) the cost of the new component is used as an indication of what the original cost of the
part would have been (similar principle to major inspections)

Question: How to account for the lining if on initial recognition the lining was not
identified as a separate component, but the R5 000 000 incurred to replace the lining now
qualifies for recognition as an asset.

CA = based on cost of NEW lining = R5 000 000

Since total cost of furnace would be depreciated over 20 years and lining component was
not identified separately at initial recognition, if follows that the CA of the replaced "lining
component" at replacement date should be the deemed amount:

R
Deemed cost 5 000 000
Deemed accumulated depreciation (5 000 000/20 x 5) (1 250 000)
Deemed carrying amount of old lining at date of derecognition 3 750 000

The carrying amount of the furnace on 31 December 20.11, directly after replacement of
the lining, would therefore be as follows:
R
Cost of furnace 20 000 000
Accumulated depreciation of furnace (20 000 000/20 x 5) (5 000 000)
Derecognition of old lining (see above) (3 750 000)
Capitalisation of new lining 5 000 000
16 250 000

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Discussed in Week 14:

Example 1.2 – Inspection costs (Descriptive Accounting) Part 2 recording

Charlie Ltd acquired a machine on 2 January 20.11 that needs a major inspection every two
years. The cost price of the machine is R2 000 000, and it is estimated that the cost of a
major inspection will be R200 000. The useful life of the machine is estimated to be eight
years and the company has a 31 December year end.

Calculate the depreciation and carrying amounts of the machine on 31 December 20.11 &
20.12.

CALCULATION: Inspection
Machine *Total
component
R R R
Cost (2 000 000 – 200 000) 1 800 000 200 000 2 000 000
Depreciation 20.11:
Machine (1 800 000/8) (225 000) – (225 000)
Inspection (200 000/2) – (100 000) (100 000)
Carrying amount on 31 December 20.11 1 575 000 100 000 1 675 000
Depreciation 20.12 (225 000) (100 000) (325 000)
Carrying amount on 31 December 20.12 1 350 000 – 1 350 000

 inspection component is not a separate asset, but forms part of the machine. The cost
of inspection was identified on initial recognition as a separate component.

If inspection was done after 18 months instead of the originally estimated two years, and the
actual cost of the first physical inspection amounted to R300 000, the DISCLOSURE of this matter
in the PPE note for the year ended 31 December 20.12 will be as follows:

CALCULATION Machinery
20.12
Carrying amount on 1 January 20.11 –
Acquisitions 2 000 000
Depreciation 20.11 (see above) (325 000)
Carrying amount on 31 December 20.11 1 675 000

Property, plant and equipment Note R

Carrying amount on 31 December 20.11 1 675 000
Cost 2 000 000
Accumulated depreciation (325 000)
Depreciation 20.12 [(225 000 + (200 000/2 x 6/12) + (300 000/2 x 6/12)] (350 000)
Derecognition of initial inspection cost [(200 000 – (100 000 + 50 000)] (50 000)
Capitalisation of inspection cost incurred 300 000
Carrying amount on 31 December 20.12 1 575 000
Cost (2 000 000 – 200 000 + 300 000) 2 100 000
Accumulated depreciation (325 000 + 350 000 – 100 000 – 50 000) (525 000)

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Major Inspections (IAS 16.14)

Some assets need regular major inspections for faults (regardless of whether parts of the asset are
replaced) to ensure efficient operation e.g. airplanes

1. Capitalise = cost of inspection to asset (if recognition criteria met) and then depreciate the
cost of inspection
2. Remaining CA of previous inspection that was not fully depreciated is derecognised once
the new inspection occurs
3. On initial recognition a part of the cost of asset is allocated to inspection costs and then
depreciated over the expected period to the next inspection

NB! If the cost of an inspection was not identified when the asset was acquired/purchased the
estimated cost of a future similar inspection may be used as an indication of the cost of the
inspection component of the asset at acquisition

Question: How to account for inspection costs when the cost of the separate component
was not identified on initial recognition?

The cost of inspection would have been depreciated as part of the total machine over its
useful life of eight years.
The deemed carrying amount of the cost of inspection (based on the cost of R300 000 of
the inspection) is derecognised when the inspection is performed after 18 months. The
carrying amount to be derecognised amounts to R243 750 [300 000 – (300 000 x 1,5/8)].
The cost of the inspection
(i.e., R300 000) will be capitalised as a separate component of the machine and will be
depreciated over the expected period to the next inspection.

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Example 1.3 – Abnormal credit terms (Descriptive Accounting)

• COST = cash price equivalent @ recognition date.

On 1 February 20.12, a company purchased an industrial stand at a cost of R15 000 000, of
which R3 000 000 is attributable to the land and R12 000 000 to the factory building. The
latter has a useful life of 20 years. The transfer of ownership takes place on 30 June 20.12.
The seller is willing to defer payment of the purchase price until 31 December 20.12, whilst
the normal credit terms would be two months from the date of transfer. On 31 December
20.12, the company obtains a long-term loan of R15 000 000 at an interest rate of 18% per
annum and settles the purchase price. Interest is compounded annually in arrears. On 1 July
20.12, the property is available for use and commissioned. The property is not considered to
be an investment property.

In this case, it is normal practice for the purchase to take place when ownership is
transferred, but payment is only made six months later. To determine the cost of the asset,
the cash price equivalent therefore has to be determined on 30 June 20.12.

Note that IAS 32 specifies that interest cannot be capitalised once a property has already
been brought into use and thus the property is not a qualifying asset in terms of IAS 23.

Calculation of cost of the fixed property:

R
Cash price 15 000 000
Interest (18% x 6/12 = 9%; 9/109 x 15 000 000) (1 238 532)
Cash price equivalent or ªƒ√ = 15 000 000; n = 1; i = 18/2 = 9; PV = ?) 13 761 468

The journal entries will be as follows:

30 June 20.12
Dr Cr
R R
Land (SFP) (3/15 x 13 761 468) 2 752 294
Buildings (SFP) (12/15 x 13 761 468) 11 009 174
Creditors/Payables (SFP) 13 761 468
31 December 20.12
Bank (SFP) 15 000 000
Long-term liability (SFP) 15 000 000
Creditors (SFP) 13 761 468
Finance cost (P/L) 1 238 532
Bank (SFP) 15 000 000
Depreciation (P/L) (11 009 174/20 years x 6/12) 275 229
Accumulated depreciation – buildings (SFP) 275 229

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Example 1.4 – Exchange of assets (Descriptive Accounting)

Echo Ltd entered into the following exchange of assets transactions during the year ended
31 December 20.13:

REQUIRED: In each of the abovementioned transactions, determine the amount at which

the new asset acquired in the exchange should be measured in the financial statements of
Echo Ltd.

Transaction 1
A motor vehicle, with a carrying amount of R120 000 in the records of Echo Ltd and a fair
value of R140 000, was exchanged for a delivery vehicle of Delta Ltd, with a fair value of
R142 000. The fair value of both vehicles can be readily determined, since an active market
for similar used vehicles exists.

The delivery vehicle will be measured at R140 000. Refer to IAS 16.26.

Transaction 2
A machine with a carrying amount of R150 000 owned by Echo Ltd is exchanged for another
machine, which is carried at R145 000 in the records of Beta Ltd. The fair values of the two
machines cannot readily be ascertained.

The machine acquired in the exchange transaction will be measured at R150 000 which is
the carrying amount of the machine given up. Refer to IAS 16.24.

Transaction 3
A computer system with a carrying amount of R220 000 in the books of Echo Ltd is
exchanged for a manufacturing plant with a carrying amount of R225 000 in the records of
Charlie Ltd. The fair value of the computer system is virtually impossible to determine, as
these items are seldom sold, but the following can be estimated reliably:
Probability Fair value
R
Possibility 1 30% 200 000
2 10% 250 000
3 20% 230 000
4 40% 210 000

The fair value of the manufacturing plant is R222 000 and is readily determinable since an
active market for these used assets exists

The estimated fair value of the computer system given up is the following:
([200 000 x 30%] + [250 000 x 10%] + [230 000 x 20%] + [210 000 x 40%]) = R215 000.
Refer to the first part of IAS 16.26.
The fair value of the item that is acquired is R222 000.

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The manufacturing plant should be measured at R222 000 (its fair value) since it is more
readily determinable than the fair value of the asset given up. Refer to the last part of
IAS 16.26.

Transaction 4
Echo Ltd exchanges a machine with a carrying amount of R1 700 000 for a similar machine
of the same age and condition. The existing machine that is painted red is exchanged for the
other machine that is painted blue, as the managing director likes blue machines. The fair
values of the two machines are R1 720 000 (red) and R1 750 000 (blue) respectively. Since
the blue machines are more popular, they have a higher fair value. Both machines’ residual
values are immaterial.

This is an example of a transaction without a commercial substance as determined in

IAS 16.24. The transaction does not comply with any of the requirements of commercial
substance, as specified in IAS 16.25. Consequently, the acquired blue machine will be
reflected at R1 700 000 in the records of Echo Ltd – i.e., at the carrying amount of the red
machine given up.

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NB! Example 1.5 – Dismantling and removing costs IFRIC 1

Discussed in Week 14:

Part 4 recording

A Ltd acquired an office building. R

Cost of construction at 1 July 20.12 1 090 000
Expected dismantling and removal costs at end of useful life of asset 120 000
Applicable discount rate after tax (28%) 6,48%
Useful life of office building 24 years

If it is assumed that the building is erected on rented premises and that the rental
agreement requires dismantling of the building at the end of its life, the cost of the asset on
1 July 20.12 will be the following:
R
Cost of construction 1 090 000
Expected dismantling and removal costs discounted to present value
FV = R120 000; n = 24; i = 6,48/0,72 = 9; PV = ?* 15 169
Cost of office building 1 105 169

Journal entries for dismantling and removal costs Dr Cr

Year 1 R R
Office building (SFP) 15 169
Provision for dismantling and removal costs (SFP) 15 169
Finance cost (P/L) (15 169 x 9%) 1 365
Provision for dismantling and removal costs (SFP) 1 365
Year 2
Finance cost (P/L) [(15 169 + 1 365) x 9%] 1 488
Provision for dismantling and removal costs (SFP) 1 488
Year 3 to 23
Entries similar to Year 2 for Years 3 to 23
Year 24
Finance cost (P/L) (110 092 x 9%) 9 908
Provision for dismantling and removal costs (SFP) 9 908
Provision for dismantling and removal costs (SFP) 120 000
Bank (SFP) (110 092 + 9 908) 120 000

Amortisation table Capital/

Balance
interest
R R
Year 1 1 365 16 534
Year 2 1 488 18 022
Year 24 9 908 120 000

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NB! Example 1.6 – Changes in dismantling costs (Descriptive Accounting) IFRIC 1

Discussed in Week 14:

Part 4 recording

H Ltd erected an asset during 20.12 and completed it on 31 December 20.12. The asset must
be dismantled after 20 years.

On 31 December 20.12, the company estimated the dismantling cost at an amount of

R150 000. Assume a fair discount rate of 5% before tax.

The following amounts related to dismantling costs are therefore included in the cost of the
asset in initial recognition:
FV = 150 000; PMT = nil; i = 5% (note 1); n = 20 years
Therefore, PV = 56 533

The dismantling costs are reassessed on 1 January 20.15 and are estimated at R250 000
The provision for dismantling costs will change as follows:
Balance of the provision for dismantling costs (before change in estimate) R62 328

Balance after reassessment of dismantling cost in the future:

FV = 250 000; PMT = nil; i = 5%; n = 18 years (remaining)
Therefore, PV = 103 880

An upward adjustment of R41 552 (R103 880 – R62 328) must be made to the provision.

If the company accounts for the asset in terms of the cost model, the adjustment will be
treated as follows:
Dr Cr
R R
Asset (cost) (SFP) 41 552
Provision for dismantling costs (SFP) 41 552

IFRIC 1.5(c) determines that where the carrying amount increases, as above, the entity
should assess whether there is an indication of impairment of the asset.

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If the company accounts for the asset in terms of the revaluation model, the adjustment
will be treated as follows:

Assume a revaluation surplus of R30 000 before the adjustment. Ignore taxation.
The revaluation surplus is reduced to Rnil. Thereafter any excess is recognised in profit or
loss if the adjustment exceeds the balance of the revaluation surplus.

Dr Cr
R R
Revaluation surplus (OCI) 30 000
Increase in dismantling costs (P/L) (41 552 – 30 000) 11 552
Provision for dismantling costs (SFP) 41 552

Note: a pre-tax rate is used because the carrying amount of the provision for dismantling
costs is a pre-tax amount

NOTE: Revaluation Model = Excluded on depreciable assets

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2. DEPRECIATION METHODS

Example 2.1 – Depreciation methods (Descriptive Accounting)

Alpha Ltd has the following equipment:

Cost of equipment (1 January 20.10) R310 000

Residual value (unchanged over useful life) R10 000
Useful life 5 years
Year end 31 December

Using the allowed depreciation methods, the depreciation charge for Years 1 to 3 will be
calculated as follows:
Straight-line method: (310 000 – 10 000)/5 = R60 000 annually
Diminishing balance method: Assume a depreciation rate of 25%. R
Year 1: (310 000 – 10 000) x 25% = 75 000
Year 2: (310 000 – 10 000) x 75% x 25% = 56 250
Year 3: (310 000 – 10 000) x 75% x 75% x 25% = 42 188
Sum-of-digits: (1 + 2 + 3 + 4 + 5 = 15)
Year 1: (310 000 – 10 000) x 5/15 = 100 000
Year 2: (310 000 – 10 000) x 4/15 = 80 000
Year 3: (310 000 – 10 000) x 3/15 = 60 000

Units of production method: Assume the number of units per year = 8 000 (Year 1) + 6 000
(Year 2) + 3 000 (Year 3) + 2 000 (Year 4) + 1 000 (Year 5) = 20 000 units over the useful life
of the asset.
R
Year 1: 8/20 x (310 000 – 10 000) = 120 000
Year 2: 6/20 x (310 000 – 10 000) = 90 000
Year 3: 3/20 x (310 000 – 10 000) = 45 000

Comment
➢ If the estimated residual value of the above equipment changes to R15 000, the original
residual value of R10 000 will change to R15 000 in the calculation of depreciation,
resulting in a change in depreciation in the current and future periods.
➢ The depreciation method used must be reviewed annually and, where the expectation
varies significantly from the previous estimates, it must be recognised as a change in
accounting estimate [IAS 8].

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3. DERECOGNITION (SELF STUDY)

Example 3.1 – Compensation for the loss of PPE

On 1 December 2016, a motor vehicle with a carrying amount of R100 000 was stolen. The
company, ABC Ltd, was fully insured. The insurance company paid out R120 000 (in cash) on
29 December 2016. The financial year ends on 31 December. Assume all amounts are
material.

How will this be disclosed in the NOTES of ABC Ltd for the year ended 31 December 2016?

Profit before tax

R
Income
Proceeds from insurance claim 120 000
Expenses
Loss of motor vehicle due to theft 100 000

NOTE:
The insurance proceeds received when an asset is impaired, the loss of the asset, and the
purchase of a replacement asset, are all separate transactions and must be disclosed as
such. [ IAS 16.65 and .66]

Example3.2 – Disposal and withdrawal of assets (Descriptive Accounting)

Lima Ltd entered into the following two transactions relating to items of PPE during the
year ended 31 December 20.12:
▪ Asset A, with a carrying amount of R210 000 on 1 January 20.12 and an original cost of
R400 000, was sold for R220 000 on 30 June 20.12. The payment will only be received on
30 June 20.13.
▪ Asset B, with a carrying amount of R400 000 on 1 January 20.12 and original cost of
R800 000, was withdrawn from use on 30 September 20.12 after environmental
inspectors certified that the asset could no longer be used. The asset cannot be altered to
secure further use, which makes sale thereof unlikely. The scrap value of the asset is
negligible.

Both these assets are depreciated at 20% per annum on a straight-line basis and the current
interest rate on financing is 10% per annum. Assume that the revenue recognition criteria
have been adhered to in the case of Asset A and that the disposal was therefore recognised
on 30 June 20.12.

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The profit or loss arising on derecognition of the two assets, as well as any other relevant
profit or loss items, is as follows:
Asset A
R
Proceeds on disposal (See IAS 16.72) 200 000
(n = 1; FV = 220 000; i = 10%; Compute PV = 200 000)
Carrying amount at disposal (210 000 – (400 000 x 20% x 6/12)) (170 000)
Profit on sale of Asset A in profit or loss section of the statement of profit
or loss
and other comprehensive income 30 000
Interest received 10 000
Asset B
R
Proceeds on withdrawal from use –
Carrying amount at withdrawal (400 000 – (800 000 x 20% x 9/12)) (280 000)
Loss on withdrawal to profit or loss section of the statement of profit or
loss and other comprehensive income (280 000)

IFRS 5 requires specific disclosure of non-current assets (including PPE) that have been
earmarked for disposal within 12 months after taking the decision to dispose of the asset

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4. DEFERRED TAX

Example 4.1 – Non-depreciable asset (Descriptive Accounting) SELF STUDY = IAS 12

Mpho Ltd acquired land at a cost of R1 000 000 on 1 January 20.13. The year end of the
company is 31 December. Tax is provided for at 28%.
Temporary difference on land on 31 December 20.13:
Carrying Tax Temporary Deferred tax
amount base difference asset/(liability)
R R R R
Land 1 000 000 – 1 000 000 Exempt (IAS 12.15(b))

The temporary difference that arises at initial recognition is exempt in terms of IAS 12.15, as
the difference arises from the initial recognition of an asset in a transaction, which at the
time of the transaction, does not affect either the accounting profit or the taxable profit.

Example 4.2 – Depreciation of non-tax-deductible PPE (Descriptive Accounting)

SELF STUDY = IAS 12

Ndlovu Ltd acquired a building, which they intend to use for 20 years, with no residual
value, on 1 April 20.12 for R1 000 000. The year end of the company is 31 March. No tax
deductions are available for the building. Tax is provided for at 28%.

Temporary difference on the building on 31 March 20.13:

Carrying Temporary Deferred tax

Tax base
amount difference asset/(liability)
R R R R
Building 950 000 – 950 000 Exempt
(IAS 12.22(c))

No deferred tax is recognised on the current temporary difference of R950 000, because it is
part of the temporary differences arising on initial recognition (IAS 12.22(c)). The
depreciation of R50 000 is a non-deductible item in the taxable income calculation.

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Example 4.3 – Temporary differences on PPE (Descriptive Accounting) SELF STUDY = IAS 12

Zeta Ltd acquired a machine at a cost of R100 000 on 1 July 20.12. The year end of the
company is 31 December.

The company estimates the useful life of the machine as 5 years at initial recognition.

The machine is used in a process of manufacture; consequently SARS allows a wear-and-tear

allowance of 40% in the first year in which the machine is brought into use and 20% in the
three following years in terms of section 12C of the Income Tax Act.

On 31 December 20.12, the relevant amounts for the machine are as follows:
Accounting depreciation: R100 000/5 x 6/12 = R10 000
Therefore, the carrying amount of the machine is R90 000 on 31 December 20.12.
Wear-and-tear allowances for tax purposes: R100 000 x 40% = R40 000
Therefore, the tax base of the machine is R60 000 on 31 December 20.12.
Tax is provided for at a rate of 28%.

Temporary difference on the machine on 31 December 20.12:

Carrying Temporary Deferred tax
Tax base
amount difference asset/(liability)
R R R R
Machine 90 000 60 000 30 000 (8 400)

NOTE: Conceptual Framework: the CA of machine = FEB arising from the use of the asset
and this (FEB) will be included in taxable FEB in future.
TB = amount that will be deductible in future.
CA of ASSET > TB of ASSET = Deferred tax liability

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NB! Example 4.4 – Deferred tax and PPE with residual value (Descriptive Accounting)
Discussed in the video:
IAS 16 - Def tax & Disclosure - Part 6 of 6 (12 Min) (similar example used)

Residual Value = Estimated amount that an entity would currently obtain from
disposal of the asset, after deducting the estimated costs of disposal, if the asset were
already of the age and in the condition expected at the end of its useful life

ABC Ltd had a depreciable asset with a carrying amount of R30 000 (acquired after 1
October 2001), a cost (base cost) of R20 000. The asset has a residual value of R25 000.

SARS has already allowed wear-and-tear of R6 000 on the asset. The tax rate is 28% and the
capital gains tax (CGT) inclusion rate is 80%.

NOTE: To calculate the deferred tax we need to The portion that is recovered through
KNOW THE MANNER OF RECOVERY of the ASSET'S SALE (ABOVE BASE COST)
CA/RES VALUE/COST/TAX BASE is taxed at 80% x 28%
The manner of recovery of the asset can be illustrated as follows:
R
Carrying amount 30 000
Through use (R5 000 @ 28%)
Residual value 25 000
Through sale (R5 000 @ 80% x 28%)
Original cost (base cost) 20 000
Through (recoupment) (R6 000 @ 28%)
Tax base (20 000 – 6 000) 14 000

Temporary differences of the asset: Deferred

Carrying Temporary tax
Tax base
amount difference asset/
(liability)
R R R R
PPE – item 30 000 14 000 16 000 (4 200)
Recovery through use
(30 000 – 25 000 x 28%) 5 000 (1 400)
Capital gain
(25 000 – 20 000 x 80% x 28%) 5 000 (1 120)
Recoupment of wear-and-tear
(20 000 – 14 000 x 28%) 6 000 (1 680)
Deferred tax is recognised on the wear-and-tear recoupment of R6 000 at a tax rate of 28%
(fully included in taxable income in terms of section 8(4)(a)) of the Income Tax Act, while the
capital profit of R5 000 will be taxed at the CGT rate. The remaining R5 000 (above residual
value) will be recovered through use.

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If the residual value was R18 000 the manner of recovery is illustrated as follows:

R
Carrying amount 30 000
Through use (R10 000 @ 28%)
Original cost (base cost) 20 000
Through use (R2 000 @ x 28%)
Residual value 18 000
Through (recoupment) (R4 000 @ 28%)
Tax base (20 000 – 6 000) 14 000

ADDITIONAL EXPLANATION:
1)
First you need to ensure you understand what the meaning is of RESIDUAL VALUE:
Estimated amount that an entity would currently obtain from disposal of the asset, after deducting
the estimated costs of disposal, if the asset were already of the age and in the condition expected at
the end of its useful life

2) You need to ensure you understand that deferred tax on assets will be calculated based on the
manner of recovery. Either selling (taxed at cgt rate) or using (taxed at normal 28% rate)

When there is a residual value in a scenario:

STEP 1:
Include all the different values from HIGH to LOW as per below:
R
Carrying amount 30 000
Through use (R5 000 @ 28%)
Residual value 25 000
Through sale (R5 000 @ 80% x 28%)
Original cost (base cost) 20 000
Through (recoupment) (R6 000 @ 28%)
Tax base (20 000 – 6 000) 14 000

STEP 2:
Ensure you understand the meaning of each value:
Carrying amount = accounting amount = will be taxed based on USE = will be depreciated as used.
Residual value = SELLING AMOUNT AT END OF LIFE = taxed based on SELLING the asset (at cgt)
Original cost = this will be the BASE COST ito your tax rules should you have to calculate the cgt
TAX Base = tax carrying amount = tax base of an asset is the amount deductible in future against
future economic benefits from the asset = therefore through USE of the asset that will generate
future economic benefits.

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STEP 3:
Add your percentages:
Either the cgt rate or the 28%.

The amount ABOVE the R25 000 but BELOW the R30 000 = R5 000.
The carrying amount will be recovered through USE, therefore the R5 000 will be recovered through
USE = taxed at 28%.

The amount BELOW the R25 000 above the original cost of R20 000 = R5 000.
The residual value = selling price, (which will result in a capital gain = therefore cgt rate) is the R5
000, therefore taxed at cgt.
Sales minus cost price = profit

The amount between the COST and TAX Base = recovered through "USE" recoupment of the asset.
Therefore, taxed at 28%.

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5. CAPITAL GAINS TAXES NB! IAS 12 Principles!

Example 5.1– Land sold for a capital gain (Unisa FAC 4863/TL104/2017)

The accounting profit before tax for the year ended 31 December 20.12 is R500 000.
Included in the accounting profit are dividends received of R10 000 that are not taxable and
a penalty of R15 000 that is not deductible for tax purposes. Prepaid expenses on
31 December 20.11 amounted to R40 000 and R30 000 on 31 December 20.12.

Daisy Ltd acquired land in Midlands for R1 000 000 on 1 January 20.11 and plans to
construct a factory thereon. The land is measured using the cost model in terms of IAS 16.
There were no other temporary differences on 31 December 20.11.

The land in Midlands was sold on 31 December 20.12 due to a decision by the board, to
rather rent a factory than to build one. The land was sold for R1 400 000 and the profit on
the sale of the land is included in the accounting profit before tax.

Scenario 1:
Daisy Ltd had an assessed capital loss of R300 000 as at 31 December 20.11 and future
capital profits were probable at that date.

Scenario 2:
Daisy Ltd had an assessed capital loss of R300 000 as at 31 December 20.11 and future
capital profits were NOT probable at that date.

CALCULATE TAXABLE PROFITS:

20.12
Profit before tax 500 000
Non-taxable/non-deductible items:
Dividends received not taxable (10 000)
Fine not deductible 15 000
Accounting profit not taxable (1 400 000 – 1 000 000 x 20%) (80 000)
Taxable profit before temporary differences 425 000
10 000
Movement in temporary differences (reversal of taxable) [C2]
Movement in temporary differences (unused capital loss) (scenario 1) [C2] (240 000)
Utilise capital loss not previously recognised (300 000 x 80%) (scenario 2)
Taxable profit 195 000
Tax at 28% 54 600

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SCENARIO 1
Deferred tax (Future capital profits were probable at that date)
Carrying Tax base Temporary Deferred tax
amount difference at 28%
at 100% asset/
or 80% (liability)
R R R R
31 December 20.11
Prepaid expenses 40 000 - 40 000 (11 200)
Land in Midrand 1 000 000 -1 Exempt -
40 000 (11 200)
Unused capital loss - 300 000 (240 000) 67 200
(300 000 x 80%)
Net deferred tax asset (200 000) 56 000

31 December 20.12
Prepaid expenses 30 000 - 30 000 (8 400)
Deferred tax liability 30 000 (8 400)
Movement in temporary differences (excluding capital (10 000) 2 800
loss) (reversal of taxable) (30 000 - 40 000)
Movement in unused capital loss (reversal of deductible) 240 000 (67 200)
(0 – (240 000))

1 Non-depreciable assets will not lead to the recognition of a deferred tax liability (refer to
IAS 12.BC6). The temporary difference that arises on initial recognition is exempt in terms
of IAS 12.15(b)(ii).

SCENARIO 2
Deferred tax (Future capital profits were NOT probable at that date)
Carrying Tax base Temporary Deferred tax
amount difference at 28% asset/
at 100% (liability)
or 80%
R R R R
31 December 20.11
Prepaid expenses 40 000 - 40 000 (11 200)
Land in Midrand 1 000 000 - Exempt -
40 000 (11 200)
Unused capital loss - 300 000 - -
Net deferred tax liability 40 000 (11 200)
31 December 20.12
Prepaid expenses 30 000 - 30 000 (8 400)
Deferred tax liability 30 000 (8 400)
Movement in temporary differences (excluding capital loss) (10 000) 2 800
(reversal of taxable) (30 000 - 40 000)
Movement in unused capital loss - -

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DISCLOSURE
The income tax note and deferred tax note to the financial statements of Daisy Ltd for the
year ended 31 December 20.12 will be as follows:
Daisy LTD
NOTES FOR THE YEAR ENDED 31 DECEMBER 20.12
3. Income tax expense SCENARIO 1 SCENARIO 2
Future capital Future capital profits
profits were were
probable NOT probable
at that date at that date
20.12 20.12
R R
Major components of tax expense
SA normal tax
Current tax
- Current year [C1] 54 600 54 600
Deferred tax
- Movement in temporary differences [C2] (10 000 x 28%) (2 800) (2 800)
- Unused capital loss utilised [C2] (240 000 x 28%) 67 200 67 200
- Recognition of unused capital loss not previously (67 200)
recognised [C2] (300 000 x 80% x 28%)
119 000 51 800
Tax rate reconciliation
Accounting profit 500 000 500 000
Tax @ 28% 140 000 140 000
Tax effect of non-taxable/non-deductible items:
- Dividends received not taxable (10 000 x 28%) (2 800) (2 800)
- Penalty not deductible (15 000 x 28%) 4 200 4 200
- Accounting profit on sale of land not taxable (22 400) (22 400)
(400 000 x 20% x 28%)
Unused capital loss utilised that was not previously
recognised (300 000 x 80% x 28%) (67 200)
Income tax expense 119 000 51 800

A previously unrecognised unused capital loss gave rise to a benefit of R67 200 that was used to
reduce the current tax expense in the current year (IAS 12.80(e)) (Scenario 2)

10. Deferred tax

Analysis of temporary differences:
Prepaid expenses 8 400 8 400
Net deferred tax liability 8 400 8 400

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Example 5.2– Land sold for a capital LOSS (Unisa adapted) (Unisa FAC 4863/TL104/2017)

The accounting profit before tax for the year ended 31 December 20.12 is R500 000.
Included in the accounting profit are dividends received of R10 000 that are not taxable and
a penalty of R15 000 that is not deductible for tax purposes. Prepaid expenses as at 31
December 20.11 amounted to R40 000 and R30 000 as at 31 December 20.12.

Daisy Ltd acquired land in Midlands for R1 000 000 on 1 January 20.11 and plans to
construct a factory thereon. The land is measured using the cost model in terms of IAS 16.
There were no other temporary differences on 31 December 20.11.

The land in Midlands was sold on 31 December 20.12 due to a decision by the board, to
rather rent a factory than to build one. The land was sold for R920 000 and the loss on the
sale of land is included in the accounting profit before tax.

Scenario 1:
Assume that future capital gains are probable.

Scenario 2:
Assume that future capital gains are NOT probable as at 31 December 20.12.

CALCULATE TAXABLE PROFITS:

Current tax 20.12
(the same for Scenario 1 & 2) R
Profit before tax 500 000
Non-taxable/non-deductible items:
Dividends received not taxable (10 000)
Fine not deductible 15 000
Accounting loss not deductible (80 000 x 20%) 16 000
Taxable profit before temporary differences 521 000
Movement in temporary differences (reversal of taxable) [C2] 10 000
Movement in temporary differences (unused capital loss) (deductible) [C2] 64 000
(Scenario 1)
Unused capital loss added back because deferred tax will not be recognised
(80 000 x 80%) [C2] (Scenario 2)
Taxable profit 595 000
Tax at 28% 166 600

[Link] 2: Due to future capital gains not being probable, no deferred tax asset will be
raised for the unused capital loss of 80% that will be deductible against future capital gains.
As a result, 100% of the capital loss is non-deductible for income tax purposes.

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SCENARIO 1
Deferred tax (Future capital profits were probable at that date)

Carrying Tax base Temporary Deferred tax

amount difference at 28%
at 100% asset/
or 80% (liability)
R R R R
31 December 20.11
Prepaid expenses 40 000 - 40 000 (11 200)
Land in Midrand 1 000 000 - Exempt -
Deferred tax liability 40 000 (11 200)
31 December 20.12
Prepaid expenses 30 000 - 30 000 (8 400)
30 000 (8 400)
Unused capital loss (80 000 x 80%) - 80 000 (64 000) 17 920
Net deferred tax asset (34 000) 9 520
1Movement in temporary differences (excluding capital loss) (10 000)2 2 800
(reversal of taxable) (30 000 - 40 000)
Movement in unused capital loss (deductible) ((64 000) - 0) (64 000)2 17 920

1 The movement in the temporary differences is split between the normal temporary
differences and the temporary differences that relate to the unused capital loss. This split is
done in order to disclose the unused capital loss separately in the income tax note.

2The unused capital loss at 80% can be seen as an asset as it will reduce future capital gains
that will give rise to CGT. This asset may only be recognised if future capital gains are
probable. The tax base of this asset is greater than the carrying amount which gives rise to a
deductible temporary difference and a deferred tax asset.

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SCENARIO 2
Deferred tax (Future capital profits were NOT probable at that date)

Carrying Tax base Temporary Deferred tax at

amount difference at 28% asset/
100% (liability)
or 80%
R R R R
31 December 20.11
Prepaid expenses 40 000 - 40 000 (11 200)
Land in Midrand 1 000 000 - Exempt -
Deferred tax liability 40 000 (11 200)
31 December 20.12
Prepaid expenses 30 000 - 30 000 (8 400)
30 000 (8 400)
Unused capital loss - 80 000 -1 -
Deferred tax liability 30 000 (8 400)
Movement in temporary differences (excluding (10 000) 2 800
capital loss) (reversal of taxable) (30 000 - 40 000)
Movement in unused capital loss -1 -

[Link] to future capital gains not being probable, no deferred tax asset will be raised for the
unused capital loss of 80% that will be deductible against future capital gains. As a result,
100% of the capital loss is non-deductible for income tax purposes.

DISCLOSURE
The income tax note and deferred tax note to the financial statements of Daisy Ltd for the
year ended 31 December 20.12 will be as follows:

DAISY LTD
NOTES FOR THE YEAR ENDED 31 DECEMBER 20.12
3. Income tax expense SCENARIO 1 SCENARIO 2
Future capital Future capital
profits were profits were
probable NOT probable
at that date at that date
20.12 20.12
R R
Major components of tax expense
SA normal tax
Current tax
- Current year [C1] 166 600 166 600
Deferred tax
- Movement in temporary differences [C2] (10 000 x 28%) (2 800) (2 800)
- Unused capital loss created [C2] (64 000 x 28%) (Scenario 1) (17 920)
145 880 163 800

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SCENARIO 1 SCENARIO 2
Future capital Future capital
profits were profits were
probable NOT probable
at that date at that date
20.12 20.12
R R
Tax rate reconciliation
Accounting profit 500 000 500 000
Tax @ 28% 140 000 140 000
Tax effect of non-taxable/non-deductible items:
- Dividends received not taxable (10 000 x 28%) (2 800) (2 800)
- Penalty not deductible (15 000 x 28%) 4 200 4 200
- Accounting loss on sale of land not deductible 4 480 4 480
(80 000 x 20% x 28%)
Unused capital loss not recognised (80 000 x 80% x 28%) 17 920
(see comment below)
Income tax expense 145 880 163 800

10. Deferred tax

Analysis of temporary differences:
Prepaid expenses 8 400 8 400
Unused capital loss for capital gains tax (Scenario 1) (17 920)
Net deferred tax asset (9 520) 8 400
The company has an unused capital loss for accounting gains tax for which a deferred tax asset
was recognised because future capital profits are probable. The deferred tax asset recognised is
presented in the analysis of temporary differences above. (IAS 12.82)1 (Scenario 1)
The company has an unused capital loss for which no deferred tax asset has been recognised due
to uncertainty regarding the probability of future capital gains. The unrecognised unused capital
loss is as follows:
Unused capital loss for which no deferred tax asset has been recognised (IAS 64 0002
12.81(e)) (Scenario 2) (80 000 x 80%)

1 Scenario 1: Please take note of the additional disclosure required in terms of IAS 12.82 in
the deferred tax note.
2 Scenario 2: Please take note of the additional disclosure required in the deferred tax note
relating to the unused capital loss for which no deferred tax has been recognised (IAS
12.81(e)).

TAX RATE RECONCILIATION

Scenario 2: No deferred tax is raised on the unused capital loss. As a result, the
unrecognised unused capital loss at 80% of R17 920 is treated as a non-deductible item in
the tax rate reconciliation. Please note that 20% of the capital loss is a non-deductible item.
80% of the capital loss is not disclosed as part of the list of non-deductible and non-taxable
items. It is a separate line item in the tax rate reconciliation because it arose as a result of
not being recognised for deferred tax purposes.

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COMPREHENSIVE EXAMPLE

Example 1

ABC Ltd is a listed company with a 30 June 20.17 year end.

An extract from property, plant and equipment account for the year ended 30 June 20.17,
presents the following information below:

Description Cost Purchase date Accumulated Residual

depreciation Value *
as at 1 July
20.16
Property A: Land A R200 000 1 November 20.14
Property A: Building A R1 200 000 1 November 20.14 R83 333 R200 000
Property B: Land B R300 000 1 January 20.15
Property B: Building B R1 300 000 1 January 20.15 R90 000 R100 000
Aircraft R970 000 1 June 20.16 Rnil

*It may be assumed that the residual values and useful lives expected of the buildings on
hand will not change during their useful lives.

Additional information
1. Aircraft: On acquisition date of the aircraft an amount of R25 000 was paid (in cash) to
the South African Revenue Service in respect of customs and excise duties. Upon initial
recognition of the aircraft, the following significant components of the aircraft were
identified:
• 30% of the cost of the aircraft is attributable to the engine of the aircraft. The
estimated useful life of the engine is determined to be 25 000 flight hours.
• It is estimated that the useful life of the remainder of the aircraft, is 5 years.
• On 1 June 20.16 the aircraft was available for use as intended by management.
During 20.16 and 20.17 financial years the aircraft undertook 500 and 4600 flight
hours respectively.

2. The first revaluation of land held by the company was performed on 30 June 20.17. The
company has a policy to transfer the revaluation surplus directly to retained earning
when the asset is derecognised. The fair values on 30 June 20.17 were determined by the
market approach in accordance with IFRS 13. The market values were the following:

Market – based Entity – specific According to IFRS 13 fair value is

a market-based measurement,
Land A - - not an entity-specific
measurement. Therefore, the
Land B 1 200 000 1 220 000 market-based fair values were
used for the revaluations of the
land and buildings.

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The South African Revenue Service (SARS) allows a deduction for Building B according to
section 13quin of the Income Tax Act, calculated at 5% per annum of the cost of the
building, which is not apportioned for part of a year. Building A does not qualify for a
section 13quin of the Income Tax Act deduction.

3. Accounting policy:
- Land: accounted for in terms of the Revaluation model and is not depreciable.
- Buildings are accounted for using the cost model and are depreciated on a straight-
line over their useful life.
[You should be able to calculate this with the information provided.]

4. At 1 January 20.17 a fire broke out on the second floor of Building A and caused severe
damage to the building. In fact, the second floor of the building had to be evacuated and
the repairs at a cost of R200 000 took two months to complete, resulting in the second
floor of Building A being occupied once again only on 1 March 20.17. The insurance
company paid out R195 000 for the damages incurred after applying the averaging clause
to the claim. Repairs and maintenance of ABC Ltd normally amounts to R75 000 per
annum.

5. On 30 April 20.17, the board of directors of ABC Ltd suddenly sold property A for
R1 220 000.

6. Building A is an office block, while Building B is a manufacturing building. Note that ABC
Ltd has several other properties that would enable the company to continue business as
usual, even if they dispose of both Fixed Properties A and B. However, the information in
the question only relates to the properties mentioned in the question.

7. Assume that both the taxable income and profit before tax, before taking any of the
above information into account, amounted to R800 000 for the year ended
30 June 20.17. All other matters were therefore taken into account when calculating the
amounts for taxable income and profit before tax.

8. The normal income tax rate is 28% and the capital gains tax inclusion rate is 80%.

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REQUIRED

(a) Calculate the profit before tax of ABC Ltd for the year ended 30 June 20.17, using the
above-mentioned information.

(b) Provide the following notes to the financial statements for the year ended
30 June 20.17:
1. Profit before tax
2. Property, plant and equipment. (Disclosure requirements of IAS 16.73(d)-(e) are
required A total column is not required.)

(c) Calculate the deferred tax (ONLY for the Properties) for the year ended 30 June 20.17

Please note:
• Comparative figures are not required.
• Assume all amounts to be material.
• Ignore any Value-Added Taxation (VAT) implications.
• Your answer must comply with International Financial Reporting Standards (IFRS).
(Unisa adapted FAC 4863/103/2018 & FAC 3702 2014 EXAM)

Suggested Solution

a) CALCULATION OF PROFIT BEFORE TAX

Profit before tax (given) 800,000
Adjustments:
Depreciation for 20.11 (295,891)
- Aircraft (194,224)
- Building A (41,667)
- Building B (60,000)
Loss on sale of fixed property (55,000)
Insurance policy payout 195,000
Repairs to building A (200,000)
Revised profit before tax 444,109

b) (1) ABC Ltd

Notes for the year ended 30 June 20.11

Expenses
Depreciation on property, plant and equipment (IAS 16.75) 295,891
Loss on sale of property, plant and equipment (IAS 1.98) [C2A] 55,000
Separately disclosable item:
Repairs related to fire damage (IAS 1.97) 200,000
Income
Compensation from insurer (IAS 16.74(d)) 195,000

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Property, plant & equipment

b) (2) Land Buildings Aircraft
R R R
Carrying amount at beginning of year 500,000 2,326,667 977,422
Gross carrying amount or cost
(200 000 + 300 000); (1 200 000 +1 300 000); 500,000 2,500,000 995,000
(970 000 + 25 000)
Accumulated depreciation (83 333 + 90 000) - (173,333) (17,578)
Movements 700,000 (1,176,667) (194,224)
Revaluation 900,000
Depreciation for the year (101,667) (194,224)
Disposal of fixed property (200,000) (1,075,000)
Additions
Carrying amount at end of year 1,200,000 1,150,000 783,198
Gross carrying amount or cost 1,200,000 1,300,000 995,000
Accumulated depreciation and impairment loss - (150,000) (211,802)

Engine:
995 000 x 30% =298 500 / 25 000 x 500 = 5 970
995 000 x 30% =298 500 / 25 000 x 4 600 = 54 924
Remainder:
995 000 x 70% =696 500/60 x 1 = 11 608
995 000 x 70% =696 500/60 x 12 = 139 300

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c) Deferred tax calculation

Carrying amount Temporary Deferred tax

Date Description Tax base difference at asset/(liability)
80% (28%)
Total Revaluation Cost
LAND A
1/11/20.14 Cost 200 000 - 200 000 200 000 - -
30/4/20.17 Carrying amount 200 000 - 200 000 200 000 - -
BUILDING A (OFFICE BUILDING) Does
not qualify for Section 13quin deductions. The depreciation on the cost of the building is a non-deductible item in the Income tax calculation.

01/11/20.14 Cost 1,200,000 - 1,200,000 Exempt

30/06/20.15 Depreciation (33,333) - (33,333) Exempt
30/06/20.15 Carrying amount 1,166,667 - 1,166,667 Exempt
30/6/20.16 Depreciation (50,000) - (50,000) Exempt
30/6/20.16 Carrying amount 1,116,667 - 1,116,667 Exempt
30/4/20.17 Depreciation (41,667) - (41,667) Exempt
30/4/20.17 Carrying amount 1,075,000 - 1,075,000 Exempt

1 Tax base = Nil = nothing deductible for tax purposes

2 Dep: [1 200 000 - 200 000]/20 x 8/12 33,333.33
3 Dep: [1 200 000 - 200 000]/20 x 12/12 50,000.00
4 Dep: [1 200 000 - 200 000]/20 x 10/12 41,666.67

Carrying amount Temporary Deferred tax

Date Description Tax base difference at asset/(liability)
80% (28%)
Total Revaluation Cost

LAND B
01/01/20.15 Cost 300,000 - 300,000 300,000 - -
1/7/20.16 Revaluation 900,000 900,000 - - 720,000 (201,600)
(900 000 x 80%)
30/6/20.17 Carrying amount 1,200,000 900,000 300,000 300,000 480 000 (201,600)
BUILDING B (MANUFACTURING BUILDING)
01/11/20.14 Cost 1,300,000 1,300,000 -
30/06/20.15 Depreciation (30,000) (65,000) 35,000 (9,800)
30/06/20.15 Carrying amount 1,270,000 1,235,000 35,000 (9,800)
30/6/20.16 Depreciation (60,000) (65,000) 5,000 (1,400)
30/6/20.16 Carrying amount 1,210,000 1,170,000 40,000 (11,200)
30/4/20.17 Depreciation (60,000) (65,000) (5,000) 1,400
30/4/20.17 Carrying amount 1,150,000 1,105,000 45,000 (12,600)

1 S13quin = 1 300 000 x 5% 65,000

2 Dep: [1 300 000 - 100 000]/20 x 6/12 30,000
3 Dep: [1 300 000 - 100 000]/20 60,000
4 Dep: [1 300 000 - 100 000]/20 60,000

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