of the asset. [IAS 23.8, 9]. The identification and measurement of finance costs are not
dealt with in IAS 23 (see 4.2 below).
Capitalisation of borrowing costs 1553
4.2
Other finance costs
IAS 23 does not address many of the ways in which an entity may finance its operations
or other finance costs that it may incur. For example, the standard does not address any
of the following:
• the many derivative financial instruments such as interest rate swaps, floors, caps
and collars that are commonly used to manage interest rate risk on borrowings;
• gains and losses on derecognition of borrowings, for example early settlement of
directly attributable borrowings that have been renegotiated prior to completion
of an asset in the course of construction; and
• dividends payable on shares classified as financial liabilities (such as certain
redeemable preference shares) that have been recognised as an expense in profit
or loss.
The eligibility of these other finance costs for capitalisation under IAS 23 is discussed
at 5.5 below.
IAS 23 does not preclude the classification of costs, other than those it identifies,
as borrowing costs. However, they must meet the basic criterion in the standard,
i.e. that they are costs that are directly attributable to the acquisition, construction
or production of a qualifying asset, which would, therefore, preclude treating the
unwinding of discounts as borrowing costs. Many unwinding discounts are treated
as finance costs in profit or loss. These include discounts relating to various
provisions such as those for onerous leases and decommissioning costs. These
finance costs will not be borrowing costs under IAS 23 because they do not arise
in respect of funds borrowed by the entity that can be attributed to a qualifying
asset. Therefore, they cannot be capitalised. In addition, as in the case of exchange
differences, capitalisation of such costs should be permitted only ‘to the extent
that they are regarded as an adjustment to interest costs’ (see 5.4 below).
[IAS 23.6(e)].
5
BORROWING COSTS ELIGIBLE FOR CAPITALISATION
5.1
Directly attributable borrowing costs
Borrowing costs are eligible for capitalisation as part of the cost of an asset if they are
directly attributable to the acquisition, construction or production of a qualifying asset,
it is probable that such costs will result in future economic benefits to the entity and the
costs can be measured reliably. [IAS 23.8, 9].
The standard starts from the premise that borrowing costs that are directly attributable
to the acquisition, construction or production of a qualifying asset are those that would
have been avoided if the expenditure on the qualifying asset had not been made.
[IAS 23.10]. Recognising that it may not always be easy to identify a direct relationship
between particular borrowings and a qualifying asset and to determine the borrowings
that could otherwise have been avoided, the standard includes separate requirements
for specific borrowings and general borrowings.
1554 Chapter 21
5.2 Specific
borrowings
When an entity borrows funds specifically to obtain a particular qualifying asset, the
borrowing costs that are directly related to that qualifying asset can be readily identified.
[IAS 23.10]. The borrowing costs eligible for capitalisation would be the actual borrowing
costs incurred on that specific borrowing during the period. [IAS 23.12].
Entities frequently borrow funds in advance of expenditure on qualifying assets and may
temporarily invest the borrowings. The standard makes it clear that any investment
income earned on the temporary investment of those borrowings needs to be deducted
from the borrowing costs incurred and only the net amount capitalised (see
Example 21.2 below). [IAS 23.12, 13].
There is no restriction in IAS 23 on the type of investment in which the funds can be
invested but, in our view, to maintain the conclusion that the funds are specific
borrowings, the investment must be of a nature that does not expose the principal
amount to the risk of not being recovered. The more risky the investment, the greater
is the likelihood that the borrowing is not specific to the qualifying asset. If the
investment returns a loss rather than income, such losses are not added to the borrowing
costs to be capitalised.
5.3 General
borrowings
IAS 23 concedes that there may be practical difficulties in identifying a direct
relationship between particular borrowings and a qualifying asset and in determining
the borrowings that could otherwise have been avoided. [IAS 23.11]. This could be the
case if the financing activity of an entity is co-ordinated centrally, for example, if an
entity borrows to meet its funding requirements as a whole and the construction of the
qualifying asset is financed out of general borrowings. Other circumstances that may
cause difficulties are identified by the standard as follows:
• a group has a treasury function that uses a range of debt instruments to borrow
funds at varying rates of interest and lends those funds on various bases to other
entities in the group; or
• loans are denominated in or linked to foreign currencies and the group operates in
highly inflationary economies or there are fluctuations in exchange rates. [IAS 23.11].
In these circumstances, determining the amount of borrowing costs that are directly
attributable to the acquisition of a qualifying asset may be difficult and require the
exercise of judgement. [IAS 23.11].
When general borrowings are used in part to obtain a qualifying asset, IAS 23 requires
the application of a capitalisation rate to the expenditure on that asset in determining
the amount of borrowing costs eligible for capitalisation. However, the amount of
borrowing costs capitalised during a period cannot exceed the amount of borrowing
costs incurred during that period. [IAS 23.14].
The capitalisation rate applied should be the weighted average of the borrowing costs
applicable to all borrowings of the entity that are outstanding during the period,
excluding borrowing costs applicable to borrowings made specifically for the purpose
of obtaining a qualifying asset until substantially all the activities necessary to prepare
Capitalisation of borrowing costs 1555
that asset for its intended use or sale are complete (see 5.3.1.A below). [IAS 23.14]. The
capitalisation rate is then applied to the expenditure on the qualifying asset.
Expenditure on a qualifying asset includes only that expenditure resulting in the
payment of cash, the transfer of other assets or the assumption of interest-bearing
liabilities. Such expenditure must be reduced by any progress payments and grants
received in connection with the asset (see IAS 20 – Accounting for Government Grants
and Disclosure of Government Assistance – and Chapter 25). The standard accepts that,
when funds are borrowed generally, the average carrying amount of the asset during a
period, including borrowing costs previously capitalised, is normally a reasonable
approximation of the expenditure to which
the capitalisation rate is applied in that
period. [IAS 23.18].
The standard does not provide specific guidance regarding interest income earned from
temporarily investing excess general funds. However, any interest income earned is
unlikely to be directly attributable to the acquisition or construction of a qualifying
asset. In addition, the capitalisation rate required by IAS 23 focuses on the borrowings
of the entity outstanding during the period of construction or acquisition and does not
include temporary investments. As such, borrowing costs capitalised should not be
reduced by interest income earned from the investment of general borrowings nor
should such income be included in determining the appropriate capitalisation rate.
In some circumstances, it is appropriate for all borrowings made by the group (i.e.
borrowings of the parent and its subsidiaries) to be taken into account in determining the
weighted average of the borrowing costs. In other circumstances, it is appropriate for each
subsidiary to use a weighted average of the borrowing costs applicable to its own
borrowings. [IAS 23.15]. It is likely that this will largely be determined by the extent to which
borrowings are made centrally (and, perhaps, interest expenses met in the same way) and
passed through to individual group companies via intercompany accounts and intra-group
loans. The capitalisation rate is discussed further at 5.3.2 below.
5.3.1
Definition of general borrowings
5.3.1.A
Borrowing costs on borrowings related to completed qualifying assets
As noted at
5.3 above, determining general borrowings will not always be
straightforward and, as a result, the determination of the amount of borrowing costs that
are directly attributable to the acquisition of a qualifying asset is difficult and the
exercise of judgement is required.
As discussed in 1 above, the minor amendments arising from Annual Improvements to
IFRSs 2015-2017 Cycle issued in December 2017 have amended paragraph 14 of IAS 23
to clarify that when a qualifying asset is ready for its intended use or sale, an entity treats
any outstanding borrowings made specifically to obtain that qualifying asset as part of
general borrowings. These amendments apply to accounting periods beginning on or
after 1 January 2019 and are discussed further below.
Prior to amendments referred to above, paragraph 14 of IAS 23 stated that ‘[t]o the extent
that an entity borrows funds generally and uses them for the purpose of obtaining a qualifying
asset, the entity shall determine the amount of borrowing costs eligible for capitalisation by
applying a capitalisation rate to the expenditures on that asset. The capitalisation rate shall
1556 Chapter 21
be the weighted average of the borrowing costs applicable to the borrowings of the entity
that are outstanding during the period, other than borrowings made specifically for the
purpose of obtaining a qualifying asset.’
Some questioned whether a specific borrowing undertaken to obtain a qualifying asset
ever changes its nature into a general borrowing. Differing views existed as to whether
or not borrowings change their nature throughout the period they are outstanding.
Some considered that once the asset for which the borrowing was incurred has been
completed, and the entity chooses to use its funds on constructing other assets rather
than repaying the loan, this changes the nature of the loan into a general borrowing.
However, to the extent that the contract links the repayment of the loan to specific
proceeds generated by the entity, its nature as a specific borrowing would be preserved.
Others took the view that once the borrowing has been classified as specific, its nature
does not change while it remains outstanding.
The Interpretations Committee received a request for clarification on this matter. The
request sought clarification on whether funds borrowed specifically to finance the
construction of a qualifying asset, the construction of which has now been completed,
must be included as part of the general borrowings for the purposes of determining the
capitalisation rate for other qualifying assets that have been funded from the entity’s
general borrowings.
On the basis of the wording in paragraph 14 of IAS 23 prior to the amendment, the
Interpretations Committee concluded that any outstanding specific borrowings would
be included within the general borrowings when the related qualifying asset is ready for
its intended use or sale. However, the Interpretations Committee noted that there is
diversity in practice, which arises from a perceived lack of clarity in the wording in
paragraph 14 of IAS 23 prior to the amendment. Accordingly, the Interpretations
Committee recommended, and the IASB agreed, that the wording in IAS 23 should be
clarified through an annual improvement.3
As a result, the IASB issued Annual Improvements to IFRSs 2015-2017 Cycle in
December 2017 to amend the relevant part of paragraph 14 of IAS 23 to read as follows
(emphasis added):
‘The capitalisation rate shall be the weighted average of the borrowing costs applicable
to all borrowings of the entity that are outstanding during the period. However, an entity
shall exclude from this calculation borrowing costs applicable to borrowings made
specifically for the purpose of obtaining a qualifying asset until substantially all the
activities necessary to prepare that asset for its intended use or sale are complete.’4
The IASB concluded that the reference to ‘borrowings made specifically for the purpose
of obtaining a qualifying asset’ in paragraph 14 of IAS 23 prior to the amendment should
not apply to a borrowing originally made specifically to obtain a qualifying asset if that
qualifying asset is now ready for its intended use or sale. [IAS 23.BC14B].
The IASB observed that paragraph 8 of IAS 23 requires an entity to capitalise borrowing
costs directly attributable to the acquisition, construction or production of a qualifying
asset as part of the cost of that asset. Paragraph 10 of IAS 23 states that borrowing costs
are directly attributable to a qualifying asset if those borrowing costs would have been
avoided had the expenditure of the qualifying asset not been made. In other words, an
Capitalisation of borrowing costs 1557
entity could have repaid that borrowing if the expenditure on the qualifying asset had
not been made. Accordingly, paragraph 14 of IAS 23 requires an entity to use all
outstanding borrowings in determining the capitalisation rate, except those made
specifically to obtain a qualifying asset not yet ready for its intended use or sale.
[IAS 23.BC14C].
The IASB concluded that if a specific borrowing remains outstanding after the related
qualifying asset is ready for its intended use or sale, it becomes part of the funds an
entity borrows generally. Accordingly, the IASB amended paragraph 14, as described
above, to clarify this requirement. [IAS 23.BC14D].
Refer also to further discussion in 6.3 below to determine when all the activities necessary
to prepare the qualifying asset for its intended use or sale are ‘substantially’ complete.
5.3.1.B
General borrowings related to specific non-qual
ifying assets
Prior to amendments referred to 5.3.1.A above, another question arose regarding the
treatment of general borrowings used to purchase a specific asset other than a qualifying
asset for the purpose of capitalising borrowing costs in accordance with IAS 23.
In July 2009, the Interpretations Committee noted that because paragraph 14 of IAS 23
prior to the amendment refers only to qualifying assets:
• some conclude that borrowings related to specific assets other than qualifying
assets cannot be excluded from determining the capitalisation rate for
general borrowings; and
• others note the general principle in paragraph 10 that the borrowing costs that are
directly attributable to the acquisition, construction or production of a qualifying
asset are borrowing costs that would have been avoided if the expenditure on the
qualifying asset had not been made.5
The IASB subsequently considered the issue of whether debt incurred specifically to
acquire a non-qualifying asset could be excluded from general borrowings and noted
that IAS 23 excludes only debt used to acquire qualifying assets from the determination
of the capitalisation rate.6
Consequently, in June 2017, the Interpretations Committee recommended, and the
IASB subsequently agreed, to clarify this issue when finalising the amendments to
paragraph 14 of IAS 23 discussed in 5.3.1.A above.7 As a result, the IASB clarified that an
entity includes funds borrowed specifically to obtain an asset other than a qualifying
asset as part of general borrowings. As described in 5.3.1.A above, the amendments to
paragraph 14 of IAS 23 referring to ‘all’ borrowings clarify the requirements in this
respect. [IAS 23.BC14E].
5.3.1.C
Effective date and transitional provisions of December 2017 amendments
to IAS 23
The amendments described in 5.3.1.A above are effective for annual reporting periods
beginning on or after 1 January 2019. Early application of the amendments is permitted
and must be disclosed. [IAS 23.29D].
1558 Chapter 21
An entity shall apply the amendments to borrowing costs incurred on or after the
beginning of the annual reporting period in which the entity first applies the
International GAAP® 2019: Generally Accepted Accounting Practice under International Financial Reporting Standards Page 307
