International GAAP® 2019: Generally Accepted Accounting Practice under International Financial Reporting Standards
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practice, many first-time adopters have found that, other than buildings, there are
generally few items of property, plant and equipment that still have a material carrying
amount after more than 30 or 40 years of use. Therefore, the carrying value that results
from a fully retrospective application of IAS 16 may not differ much from the carrying
amount under an entity’s previous GAAP.
7.4.2
Estimates of useful life and residual value
An entity may use fair value as deemed cost for an item of property, plant and equipment
still in use that it had depreciated to zero under its previous GAAP (i.e. the asset has
already reached the end of its originally assessed economic life). Although IFRS 1
requires an entity to use estimates made under its previous GAAP, paragraph 51 of
IAS 16 would require the entity to re-assess the remaining useful life and residual value
at least annually. [IAS 16.51]. Therefore, the asset’s deemed cost should be depreciated
over its re-assessed economic life and taking into account its re-assessed residual value.
The same applies when an entity does not use fair value or revaluation as deemed cost.
If there were indicators in the past that the useful life or residual value changed but
those changes were not required to be recognised under previous GAAP, the IFRS
carrying amount as of the date of transition should be determined by taking into account
the re-assessed useful life and the re-assessed residual value. Often, this is difficult, as
most entities would not have re-assessed the useful lives contemporaneously with the
issuance of the previous GAAP financial statements. Accordingly, the fair value as
deemed cost exemption might be the most logical choice.
7.4.3 Revaluation
model
A first-time adopter that chooses to account for some or all classes of property, plant
and equipment under the revaluation model needs to present the cumulative
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revaluation surplus as a separate component of equity. IFRS 1 requires that ‘the
revaluation surplus at the date of transition to IFRSs is based on a comparison of the
carrying amount of the asset at that date with its cost or deemed cost.’ [IFRS 1.IG10].
A first-time adopter that uses fair value as the deemed cost for those classes of property,
plant and equipment would be required to reset the cumulative revaluation surplus to
zero. Therefore any previous GAAP revaluation surplus related to assets valued at
deemed cost cannot be used to offset a subsequent impairment or revaluation loss under
IFRSs. The following example illustrates the treatment of the revaluation reserve at the
date of transition based on different deemed cost exemptions applied under IFRS 1.
Example 5.41: Revaluation reserve under IAS 16
An entity with a date of transition to IFRSs of 1 January 2018 has freehold land classified as property, plant
and equipment. The land was measured under previous GAAP using a revaluation model that is comparable
to that required by IAS 16. The previous GAAP carrying amount is €185,000, being the revaluation last
determined in April 2017. The cost of the land under IFRSs as at 1 January 2018 is €90,000. The fair value
of the land on 1 January 2018 is €200,000. The entity elects to apply the revaluation model under IAS 16 to
the asset class that includes the land.
The revaluation reserve at the date of transition would depend on the exemption applied by the entity:
• if the entity chooses to use the transition date fair value as deemed cost, the IFRS revaluation reserve is
zero (€200,000 – €200,000);
• if the entity chooses to use the previous GAAP revaluation as deemed cost, the IFRS revaluation reserve
is €15,000 (€200,000 – €185,000);
• if the entity does not use the deemed cost exemption under IFRS 1, the IFRS revaluation reserve is
€110,000 (€200,000 – €90,000).
7.4.4 Parts
approach
IAS 16 requires a ‘parts approach’ to the recognition of property, plant and equipment.
Thus a large item such as an aircraft is recognised as a series of ‘parts’ that may have
different useful lives. An engine of an aircraft may be a part. IAS 16 does not prescribe
the physical unit of measure (the ‘part’) for recognition i.e. what constitutes an item of
property, plant and equipment. [IFRS 1.IG12]. Instead the standard relies on judgement in
applying the recognition criteria to an entity’s specific circumstances. [IAS 16.9]. However,
the standard does require an entity to:
• apply a very restrictive definition of maintenance costs or costs of day-to-day
servicing which it describes as ‘primarily the costs of labour and consumables, and
may include the cost of small parts. The purpose of these expenditures is often
described as for the “repairs and maintenance” of the item of property, plant and
equipment’; [IAS 16.12]
• derecognise the carrying amount of the parts that are replaced; [IAS 16.13] and
• depreciate separately each part of an item of property, plant and equipment with
a cost that is significant in relation to the total cost of the item. [IAS 16.43].
Based on this, it is reasonable to surmise that parts can be relatively small units. Therefore,
it is possible that even if a first-time adopter’s depreciation methods and rates are
acceptable under IFRSs, it may have to restate property, plant and equipment because its
unit of measure under previous GAAP was based on physical units significantly larger than
parts as described in IAS 16. Accounting for parts is described in detail in Chapter 18.
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In practice, however, there is seldom a need to account for every single part of an asset
separately. Very often there is no significant difference in the reported amounts once
all significant parts have been identified. Furthermore, as explained in Chapter 18, an
entity may not actually need to identify the parts of an asset until it incurs the
replacement expenditure.
7.5 IAS
17 – Leases
Other than the IFRIC 4 exemption (see 5.6.1 above) there are no exemptions regarding
lease accounting available to a first-time adopter. Therefore, at the date of transition to
IFRSs, a lessee or lessor classifies a lease as operating or financing on the basis of
circumstances existing at the inception of the lease. [IAS 17.13]. If the provisions of the
lease have been changed other than by renewing the lease and the change would result
in a different classification under IAS 17 than that required pursuant to the original terms
of the lease, the revised agreement should be considered a new lease over its term.
However, changes in estimate (i.e. change in the estimated economic life or residual
value of the property) and changes in circumstances (i.e. a default by the lessee) do not
result in a new classification of a lease. [IFRS 1.IG14]. See Chapter 23 for further discussion
about modifying lease terms under IAS 17.
Sale and leaseback arrangements may be classified differently under IFRSs than under
previous GAAP and may need to be restated on transition. Some National GAAPs have
special restrictions relating to certain assets that are not present in IAS 17. In other cases
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applying the qualitative tests in IAS 17 indicates that the asset has been leased back
under a finance lease so no revenue can be recognised on the ‘sale’. See Chapter 23.
7.5.1
Assets held under finance leases
A first-time adopter should recognise all assets held under finance leases in its statement
of financial position. If those assets were not recognised previously, the first-time
adopter needs to determine the following:
(a) the fair value of the assets or, if lower, the present value of the minimum lease
payments at the date of inception of the lease;
(b) the carrying amount of the assets at the date of transition to IFRSs by applying
IFRS accounting policies to their subsequent measurement;
(c) the interest rate implicit in the lease or the lessee’s incremental borrowing rate; and
(d) the carrying amount of the lease liability at the date of transition to IFRS in
accordance with IAS 17.
When determining the information under (b) above is impracticable, a first-time adopter
may want to apply the deemed cost exemption to those assets (see 5.5.1 above).
However, no corresponding exemption exists regarding the lease liability.
See Chapter 23 for discussion of the requirements of IAS 17.
7.6 IFRS
15 – Revenue from Contracts with Customers
A first-time adopter that has received amounts that do not yet qualify for recognition as
revenue under IFRS 15 (e.g. the proceeds of a sale that does not qualify for revenue
recognition) should recognise those amounts as a liability in its opening IFRS statement
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of financial position and adjust the liability for any significant financing component as
required by IFRS 15. [IFRS 1.IG17]. It is therefore possible that revenue that was already
recognised under a first-time adopter’s previous GAAP will need to be deferred in its
opening IFRS statement of financial position and recognised again (this time under
IFRSs) as revenue at a later date.
Conversely, it is possible that revenue deferred under a first-time adopter’s previous
GAAP cannot be recognised as a contract liability in the opening IFRS statement of
financial position. A first-time adopter would not be able to report such revenue
deferred under its previous GAAP as revenue under IFRSs at a later date. See
Chapter 28 for matters relating to revenue recognition under IFRS 15.
7.7 IAS
19 – Employee Benefits
7.7.1
Sensitivity analysis for each significant actuarial assumption
IAS 19 requires the disclosures set out below about sensitivity of defined benefit
obligations. Therefore for an entity’s first IFRS financial statements careful preparation
must be done to compile the information required to present the sensitivity disclosure
for the current and comparative periods. IAS 19 requires an entity to disclose: [IAS 19.145]
(a) a sensitivity analysis for each significant actuarial assumption as of the end of the
reporting period, showing how the defined benefit obligation would have been
affected by changes in the relevant actuarial assumption that were reasonably
possible at that date;
(b) the methods and assumptions used in preparing the sensitivity analyses required
by (a) and the limitations of those methods; and
(c) changes from the previous period in the methods and assumptions used in
preparing the sensitivity analyses, and the reasons for such changes.
7.7.2
Full actuarial valuations
An entity’s first IFRS financial statements reflect its defined benefit liabilities or assets
on at least three different dates, that is, the end of the first IFRS reporting period, the
end of the comparative period and the date of transition to IFRSs (four different dates
if it presents two comparative periods). If an entity obtains a full actuarial valuation at
one or two of these dates, it is allowed to roll forward (or roll back) to another date but
only as long as the roll forward (or roll back) reflects material transactions and other
material events (including changes in market prices and interest rates) between those
dates. [IFRS 1.IG21].
7.7.3 Actuarial
assumptions
A first-time adopter’s actuarial assumptions at its date of transition should be consistent
with the ones it used for the same date under its previous GAAP (after adjustments to
reflect any difference in accounting policies), unless there is objective evidence that
those assumptions were in error (see 4.2 above). The impact of any later revisions to
those assumptions is an actuarial gain or loss of the period in which the entity makes
the revisions. [IFRS 1.IG19].
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If a first-time adopter needs to make actuarial assumptions at the date of transition that
were not necessary for compliance with its previous GAAP, those actuarial assumptions
should not reflect conditions that arose after the date of transition. In particular,
discount rates and the fair value of plan assets at the date of transition should reflect the
market conditions at that date. Similarly, the entity’s actuarial assumptions at the date
of transition about future employee turnover rates should not reflect a significant
increase in estimated employee turnover rates as a result of a curtailment of the pension
plan that occurred after the date of transition. [IFRS 1.IG20].
If there is a material difference arising from a change in assumptions at the transition
date, consideration needs to be given to whether there was an error under previous
GAAP. Errors cannot be recognised as transition adjustments (see 6.3.1 above).
7.7.4
Unrecognised past service costs
IAS 19 requires immediate recognition of all past service costs. [IAS 19.103]. Accordingly, a
first-time adopter that has unrecognised past service costs under previous GAAP must
recognise such amount in retained earnings at the date of transition, regardless of
whether the participants are fully vested in the benefit.
7.8 IAS
21 – The Effects of Changes in Foreign Exchange Rates
7.8.1 Functional
currency
A first-time adopter needs to confirm whether all entities included within the financial
statements have appropriately determined their functional currency. IAS 21 defines an
entity’s functional currency as ‘the currency of the primary economic environment in
which the entity operates’ and contains detailed guidance on determining the functional
currency. [IAS 21.8-14].
If the functional currency of an entity is not readily identifiable, IAS 21 requires
consideration of whether the activities of the foreign operation are carried out as an
extension of the reporting entity, rather than being carried out with a significant degree
of autonomy. [IAS 21.11]. This requirement often leads to the conclusion under IFRSs that
intermediate holding companies, treasury subsidiaries and foreign sales offices have the
same functional currency as their parent.
Many national GAAPs do not specifically define the concept of functional currency, or
they may contain guidance on identifying the functional currency that differs from that in
/> IAS 21. Consequently, a first-time adopter that measured transactions in a currency that
was not its functional currency under IFRS would need to restate its financial statements
because IFRS 1 does not contain an exemption that would allow it to use a currency other
than the functional currency in determining the cost of assets and liabilities in its opening
IFRS statement of financial position. The exemption that allows a first-time adopter to
reset the cumulative exchange differences in equity to zero cannot be applied to assets or
liabilities (see 5.7 above). The IFRIC considered whether a specific exemption should be
granted to first-time adopter to permit entities to translate all assets and liabilities at the
transition date exchange rate rather than applying the functional currency approach in
IAS 21 but declined to offer first-time adopters any exemptions on transition on the basis
that the position under IFRS 1 and IAS 21 was clear.7
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The principal difficulty relates to non-monetary items that are measured on the basis of
historical cost, particularly property, plant and equipment, since these will need to be
re-measured in terms of the IAS 21 functional currency at the rates of exchange
applicable at the date of acquisition of the assets concerned, and recalculating
cumulative depreciation charges accordingly. It may be that, to overcome this difficulty,
an entity should consider using the option in IFRS 1 whereby the fair value of such assets
at the date of transition is treated as being their deemed cost (see 5.5.1 above).
7.9 IAS
28 – Investments in Associates and Joint Ventures
There are a number of first-time adoption exemptions that have an impact on the
accounting for investments in associates and joint ventures:
• the business combinations exemption, which also applies to past acquisitions of
investments in associates and interests in joint ventures (see 5.2.2.A above);
• an exemption in respect of determining the cost of an associate and a joint venture
within any separate financial statements that an entity may prepare (see 5.8.2
above); and
• separate rules that deal with situations in which an investor or a joint venturer
adopts IFRSs before or after an associate or a joint venture does so (see 5.9 above).
Otherwise there are no specific first-time adoption provisions for IAS 28, which means