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Section 20 – Borrowing Costs
Section 25 deals with the recognition, policy choices available, if any with regard to borrowing costs.
Scope of this section
Extract from FRS 105 – Section 20.1
20.1 This section specifies the accounting for borrowing costs. Borrowing costs include:
(a) interest expense recognised in accordance with Section 9 Financial Instruments;
(b) finance charges in respect of finance leases recognised in accordance with Section 15 Leases; and
(c) exchange differences arising from foreign currency borrowings to the extent that they are regarded as an adjustment to interest costs.
Recognition
Extract from FRS 105 – Section 20.2
20.2 A micro-entity shall recognise all borrowing costs as an expense in profit or loss in the period in which they are incurred.
OmniPro comment
Interest costs that come within the remit of Section 25 are:
(a) Interest charged on a constant rate of interest or interest arising as a result of giving/receiving credit beyond normal credit terms
Interest on the following types of liabilities can be considered for capitalisation:
- Normal borrowings on bank loans and loan notes including the directly attributable transaction cost. The reason for same is that under Section 9, any transaction costs are netted against the loan amount where material and charged to the profit and loss account on the constant interest rate basis.
- Dividends paid on preference dividend shares issued which have been classified as a financial liability under Section 17-Liabilities and Equity. e.g. 10% mandatory redeemable preference shares.
(b) Finance lease interest
Finance leases interests would need to be interest on finance leases on assets which are used.
(c) Exchange differences
There may be instances where a foreign currency loan is taken out due to the rate being cheaper than a functional currency loan. Where that foreign currency loan is used directly in connection with the loan then it is likely that the foreign exchange difference would be allowed in full where it is linked to an adjustment in the interest rates. Given that Section 25 does not expand further it is likely entities will have to apply judgement.
Policy on borrowing costs.
All borrowing costs must be expensed. Under no circumstances can the interest be capitalised on the balance sheet.
Example 1: Borrowing costs net of investment income
Company A obtained a loan of CU100,000 on a fixed rate of 10% to construct a factory. On commencement of the build, the full CU100,000 was drawn down and the unapplied funds were invested at a rate of 5%. The total interest charge on the loan was CU10,000 for the year. Details of the interest earned was:
|
CU80,000 for 6 months |
CU2,000 (CU80,000*5%/12*6) |
|
CU10,000 for 6 months |
CU250 (CU10,000*5%/12*6) |
Under Section 20, the journals required are (note these journals are mandatory there is no other option here):
|
|
CU |
CU |
|
Dr Interest expense in P&L |
10,000 |
|
|
Cr Bank |
|
10,000 |
Being journal to recognise the borrowing costs in the P&L
|
|
CU |
CU |
|
Cr Interest income/other income in P&L |
2,250 |
|
|
Dr Bank |
|
2,250 |
Being journal to recognise the interest income in the P&L
Transition exemptions
Section 28 provides no exemptions on adoption of Section 20. This means where an entity has previously applied a policy of capitalising borrowing costs under old GAAP/FRSSE or FRS 102 an adjustment will be required on transition where material.
Principal transition adjustments
1) Revert from a policy of capitalising borrowing costs to expensing borrowing costs.
Where an entity previously adopted a policy of capitalising borrowing costs under old GAAP/FRSSE or FRS 102 then a retrospective adjustment will need to be made on transition to derecognise all borrowing costs previously recognised as FRS 105 requires all borrowing costs to be recognised in the profit and loss account. An adjustment may also be required for the reversal of depreciation in the comparative year.
Example 2: Change of policy on transition
Under old GAAP/FRSSE/FRS 102, Company A adopted a policy of capitalising qualifying borrowing costs. On transition to FRS 105, the company needs to derecognise any borrowing costs capitalised on the balance sheet. The total borrowing costs included in the carrying amount on the date of transition was CU10,000 (i.e. Net book value after accumulated depreciation of CU5,000). The asset in which these borrowings were capitalised is depreciated over 10 years. Assume the date of transition is 1 January 2015 and the asset did not qualify for capital allowances. The transition adjustments required are:
Adjustments required to 1 January 2015 TB
|
|
CU |
CU |
|
Dr Profit and Loss Reserves |
10,000 |
|
|
Cr Fixed Assets |
|
10,000 |
Being journal to derecognise the carrying amount of the borrowing costs previously capitalized at date of transition.
Adjustments required in the year ended 31 December 2015 financial statements assuming the opening balance sheet journals are reposted
|
|
CU |
CU |
|
Dr Fixed Assets |
1,500 |
|
|
Cr Depreciation in P&L (cost of CU15,000 / 10 years) |
|
1,500 |
Being journal to reverse the depreciation posted in 2015 on the borrowing costs
Adjustments required in the year ended 31 December 2016 financial statements assuming the opening balance sheet journals are reposted to reserves etc. etc.
|
|
CU |
CU |
|
Dr Fixed Assets |
1,500 |
|
|
Cr Depreciation in P&L (cost of CU15,000 / 10 years) |
|
1,500 |
Being journal to reverse the depreciation posted in 2016 on the borrowing costs
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