AS-10 ‘Accounting for Fixed Asset’ has the following guidelines with regard to fixed asset:
Determining the Cost of a Fixed Asset:
The gross book value of an asset is the historical cost or the cost at which the asset is actually acquired. According to AS-10 Accounting for Fixed Assets’, cost is directly attributable cost of bringing the assets to its working condition. Any trade discounts and rebates offered by the supplier are to be deducted.
Examples of directly attributable cost are:
(i) Site preparation
(ii) Initial delivery and handling cost
(iii) Installation cost, such as special foundations for plant and
(iv) Professional fees such as fees of architects and engineers.
The other provisions of AS-10 relating to the cost of assets are as follows:
(i) Interest payable on loans or deferred credits taken for the acquisition or construction of fixed assets for the period up to the completion of construction or acquisition of the fixed assets should be capitalized. All interest charges paid after the assets are ready to be put to use cannot be capitalized.
(ii) Administration and other general expenses are not capitalized as they cannot be related to any specific fixed assets. However, where such expenses can be specially attributed to the construction of a project or to the acquisition of an asset or bringing an asset to its working condition, then these expenses can also be capitalized.
(iii) In the case of projects, the expenditure incurred on start-up and commissioning including those on test runs and experimental production is usually capitalized. However, expenditure incurred after the commencement of commercial production cannot be capitalized.
If the interval between the date a project is ready to commence commercial production and the date at which commercial production actually begins is prolonged, then, all the expenses incurred during this period should be written off to the profit and loss statement.
However, the expenditure incurred during the above-mentioned period is also sometimes treated as a deferred revenue expenditure and is amortized over a period not exceeding 3 to 5 years after the commencement of commercial production.
(iv) The cost of a self-constructed asset will consist of all expenses that relate directly to the asset and those that are attributable to the construction activity in general and can be allocated to the specific assets.
(v) If a fixed asset is acquired in exchange or in part exchange for another asset, one method of accounting for the new asset, is to show it at the fair market value or at the net book value of the asset that is given up. If any balancing payment is made or received in cash or other consideration, then such payment or receipt should be used to adjust the fair market value or net book value of the asset given up.
The accounting standard defines the fair market value as the price that would be agreed to in an open and unrestricted market between knowledgeable and wiling parties dealing at arm’s length and who are fully informed and are not under any compulsion to transact.
(vi) The other method of recording the cost of an asset acquired through a trade-in is to capitalize it at the fair market value of the acquired asset if such fair market value is more readily ascertainable. In case of fixed assets acquired in exchange for share or other securities in an enterprise, it is usually recorded at the fair market value of the assets or the fair market value of securities issued, depending on which value is more clearly ascertained.
(vii) When assets are acquired under a hire-purchase agreement according to which the enterprise procuring the asset cannot claim ownership till such time the last instalment is paid, the assets should be capitalized at the cash value (that is, the value that would have been paid under a normal sale).
If the rate of interest charged by the seller is not known, then the cash value of the asset must be determined after assuming an appropriate rate of interest. The balance sheet should carry a narration that the enterprise does not have full ownership on such assets purchased under hire-purchase.
(viii) If an asset is owned jointly by an enterprise with another, then the extent of its share in such an asset, the proportion in the original cost, accumulated depreciation and the written down value of the asset should be fully disclosed in the balance sheet.
An alternative method of disclosure of such jointly owned assets would be to ascertain the pro rata cost of the assets that belongs to the enterprise and group them together with similar fully owned assets. The enterprise should also show separately the details of the jointly owned assets in its fixed assets register.
(ix) If several assets are purchased for a consolidated price, the price so paid must be apportioned to the various assets on a fair basis as determined by competent valuers. One important point to note is that both the accounting standard issued by ICAI and the international accounting standard on accounting for fixed assets are silent regarding the value at which an asset acquired as a gift or for a consideration which is considerably lower than the fair value should be recorded.
An acceptable way of recording the acquisition of such assets would be to ascertain the fair market value with the help of a competent valuer and capitalize the asset at such value through the following journal entry.
Asset A/c ….Dr.
To Capital Reserve A/c
Under the Indian Income-Tax Act, where an asset is acquired by way of gift or inheritance its actual cost shall be the actual cost to the previous owner as reduced by the accumulated depreciation as allowable under the Act till the year of transfer.
Identification of Fixed Assets:
As stated earlier, fixed assets are long-term assets whose usefulness in the operations of the firm is likely to extend beyond one accounting period. They are not intended for resale. Any expenditure which results in the acquisition of a fixed asset must be capitalized. AS-10 states that judgement is required in applying the criteria to specific circumstances or specific types of enterprise.
Sometimes it may be necessary to aggregate individually insignificant items and to apply the criteria to the aggregate value. On the other extreme, an enterprise may decide to write off an asset as an expense in the year of its acquisition itself because of the value of such asset not being material.
The other provisions of AS-10 with regard to capitalisation of expenditure are as follows:
(i) Stand-by equipment and servicing equipment should be normally capitalized
(ii) Machinery spares are usually charged to the profit and loss statement as and when consumed. However, if such spares can be used specifically for a particular fixed asset, then the total cost of the spares should be allocated on a systematic basis over the expected useful life of the asset
(iii) In certain circumstances, it may be better to account for an item of fixed asset by allocating the total expenditure incurred to its component parts if such parts in practice are separatable and the useful lives of these component parts differ and can be estimated.
The accounting standard gives the examples of an aircraft in respect of which the capitalisation may be split into two parts—one with respect to the aircraft and the other with respect to the engines due to the useful life of the engine being shorter than that of the aircraft as a whole.
Revaluation of Assets:
Fixed assets may be restated in value with the help of appraisal undertaken by competent valuers. Such change in the value of the assets is called revaluation. According to AS-10 which deals with the accounting for fixed assets, revaluation of assets should not be done on a selective basis. An entire class of assets should be revalued, or the selection of assets for revaluation should be made on a systematic basis.
Also as per the standard, the revaluation should not cause the net book value of the class to which the assets belong being stated at a value higher than the net recoverable amount of that class.
When an asset is revalued upwards, the accumulated depreciation for the asset cannot be credited to the profit and loss statement. When an asset is revalued upwards, normally the asset account will be debited to the extent of the increase and the owners’ funds credited under the head revaluation reserve.
The revaluation reserve is regarded as not available for distribution. However, if the revaluation increase is related to and not greater than a decrease arising on revaluation done earlier and such a decrease had been charged to the profit and loss statement, then the increase in value on the current revaluation can be credited to the profit and loss statement.
Any decrease in value of an asset should be written off to the profit and loss statement. However, if the decrease is related to any increase given effect to the asset in a previous valuation and such increase had been credited to the revaluation reserve, then the current decrease can also be set off against the revaluation reserve.
The revalued amounts of fixed assets are presented in financial statements, either by restating both the gross book value and accumulated depreciation so as to give a net book value equal to the net revalued amount or by restating the net book value by adding therein the net increase on account of revaluation. After revaluation, the provision for depreciation should be based on the revalued amount and on the revised estimated useful life of the assets.
The historical cost of an asset may also undergo changes after capitalisation due to exchange rate fluctuations in the case of imported items, price adjustments, changes in duties and other similar factors. When the historical cost changes due to these factors, the depreciation should be provided on the revised balance of cost in the asset account over the remaining useful life.
Disposal of Fixed Assets:
According to AS-10:
(1) An item of fixed assets is eliminated from the financial statement on disposal.
(2) Items of fixed assets that have been retired from active use and are held for disposal are stated at the lower of their net book value and net realisable value and are shown separately in the financial statement. Any expected loss is recognised immediately in the profit and loss statement.
(3) In historical cost financial statements, gains or losses arising on disposal are generally recognised in the profit and loss statement.
(4) On disposal of a previously revalued item of fixed asset, the difference between net disposal proceeds and the net book value is normally charged or credited to the profit and loss statement except that, to the extent such a loss is related to an increase which was previously recorded as a credit to revaluation reserve and which has not been subsequently reserved or utilised, it is charged directly to that account. The amount standing in revaluation reserve following the retirement or disposal of an asset which relates to that asset may be transferred to general reserve.
Disclosure in Financial Statements:
According to AS-10 the following information should be disclosed in the financial statements:
(i) Gross and net book values of fixed assets at the beginning and end of an accounting period showing additions, disposals, acquisitions and other movement.
(ii) Expenditure incurred on account of fixed assets in the course of construction or acquisition.
(iii) Revalued amount substituted for historical costs of fixed assets, the method adopted to compute the revalued amounts, the nature of price indices if such indices are used for revaluation, the year when the appraisal was made, and whether an external valuer was involved.