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Decommission costs/ reinstatement/dilapidation provision
Although not dealt with specifically in Section 21, under the hierarchy in Section 10 of FRS 102 one can look to IFRS for guidance.
Where there is a legal obligation on an entity to reinstate the property to its original condition, then a provision is required assuming it meets the reliably measured condition. Where there is a decommissioning/reinstatement requirement, a provision should be recognised from the date the property is altered by an entity as it is from that point that the property has been altered by the entity and at that point the obligation is there to reinstate it. Where the obligation is through use then this is charged on a yearly basis and the provision increased year on year.
The present value of the cost of reinstatement in recognised as a liability while at the same time capitalised as an asset in the balance sheet on the basis that the change made is providing future economic benefit for the entity and therefore meets the condition for a fixed asset. The amount capitalised is then written off over the life of the lease or property whichever is shorter.
The liability remains on the balance sheet and is increased for the unwinding of the discount over the life of the lease.
Given the degree of estimation involved in determining the cost of remediation at the date of recognition, where a change to the estimate is made no retrospective adjustment is required. Where an increase in the liability is required the additional amount is added to the related asset in that period (i.e. no retrospective adjustment required) subject to a review for impairment to ensure it is not over stating the asset or where a decrease in the liability is required, it is deducted from the related asset and if it is more than the carrying amount it is posted to the profit and loss. The updated asset carrying amount is then depreciated over its remaining useful economic life. The unwinding of the discount is posted to interest cost in the profit and loss over the 50 year life. Note the cost is not allowable for capital allowance purposes on initial recognition.
Example 22: Decommissioning reinstatement costs
A manufacturing plant leased land for 50 years and constructs a factory on this. As part of the lease agreement it must reinstate the land to its original condition. It builds a plant on the land. At that point a provision is made in the books at its estimated present value cost in 50 years time of CU500,000. The accounting required for this transaction is:
|
|
CU |
CU |
|
Dr Fixed Asset |
500,000 |
|
|
Cr Provision |
|
500,000 |
Being journal to recognise the decommissioning cost
On a yearly basis depreciation is charged to write it down over the 50 year life i.e. CU10,000 per annum.
In year 10 the new estimate of the present value cost to reinstate the land is CU600,000. The NBV at that date is CU400,000 (CU500,000/50 yrs*10yrs). Assume the liability included in the accounts after unwinding of the discount is 550,000. The journals required at this time is as follows:
|
|
CU |
CU |
|
Dr Fixed Asset (CU600,000-CU550,000) |
50,000 |
|
|
Cr Provision |
|
50,000 |
Being journal to write the liability up to the new estimate
From that date the new carrying amount per annum of the asset is CU450,000 (NBV of CU400,000+change in estimate of CU50,000). The depreciation over the remaining life is as follows: New cost of CU450,000/40 yrs =CU11,250
|
|
CU |
CU |
|
Dr Depreciation |
11,250 |
|
|
Cr Accumulated Depreciation |
|
11,250 |
Being journal to reflect the depreciation to be charged from year 10 on
For revalued assets, where an increase in the liability is required, the additional amount is posted to the OCI and then to the revaluation reserve up to the point where the revaluation surplus is nil and at that stage the remainder is recognised in the profit and loss. Where a decrease in the liability occurs, the credit is posted to the OCI and then to the revaluation reserve except where this is reversing a previous revaluation surplus posted to the profit and loss account. Included in the disclosure section of this manual is an example of an accounting policy for decommissioning and restoration costs.
Example 23: Reinstatement provision on property which is held on operating lease
Company A took out a 10 year lease on a vacant property in year 1. On signing the lease, the company incurred CU300,000 on fitting out the property. As part of the lease agreement Company A has to reinstate the property to its original condition. The present value of the estimated cost of this reinstatement is CU50,000. Therefore as with example 22, the restoration cost is capitalised and written off over its lease life of 10 years with the unwinding of the discount posted to finance costs. For changes in the estimated costs, the same process applies as was detailed in Example 22.
Example 24: Dilapidation requirement
Company A leased an office premises and as part of the lease agreement they are required to keep it to the standard it was obtained in. In this case a provision is recognised over the 10 years with the provision increased yearly for the estimated cost of reinstating the property for that particular year. Provision made on the basis that the recognition criteria for a provision are met.
Remediation provision
Although not specifically mentioned in the section, this has been dealt with under IFRS. In effect it arises where contamination/pollution has occurred as a result of the entity producing its products. Where a provision needs to be included in the year end accounts depends on the following circumstances:
- Costs incurred at the company’s option
- Costs required due to existing or new legislation
- Costs that have to be incurred due to environmental damage caused by the company
- Fines relating to the environmental damage.
Where the company has a published environmental policy but no laws are in existence which require rectification, then where the company can prove that in the past it has honored its published statement then a provision should be included for the cost of cleaning up the site/contaminated area. The reason for this is that the entity has created a constructive obligation. Obviously all other requirements for a provision should also be met.
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