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IAS 23 — Borrowing costs on completed qualifying assets

Date recorded:

This session was devoted to discussing a request received by the Interpretations Committee to clarify 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 general borrowings for the purposes of determining the capitalisation rate for other qualifying assets under IAS 23.  The staff concluded that, on the basis of the existing guidance in paragraph 14 of IAS 23, the specific borrowing should form part of the general borrowings pool in the scenario described by the submitter.  The Technical Manager introduced the session and asked the Committee members whether they agreed with the staff’s analysis and conclusion; the recommendation not to add this issue to the Committee’s agenda, and with the proposed tentative agenda decision.

A Committee member noted that he agreed with the staff’s analysis; however, he observed that the proposed tentative agenda decision took a different approach to what had been taken with a similar issue that arose back in 2009.  He noted that the 2009 agenda decision stated that determining what borrowings comprised “general borrowings” was a matter of judgement, whereas now the Committee was giving a very definitive answer, and questioned why a different approach was being taken in the proposed tentative agenda decision.  In response to a question from the Chairman with respect to what the judgement would be about, he noted that he believed that the 2009 decision was a cross reference to paragraph 11 of IAS 23, which itself acknowledges the need for judgement.

Another Committee member noted that he agreed with the staff’s analysis and conclusion, but did not necessarily agree that this should be addressed through an agenda decision.  He observed that the results of the outreach conducted highlighted that there were a number of different views in existence on how to apply the guidance, and that given the divergence in practice; he believed that the issue would be better addressed through an annual improvement.

A further Committee member noted that he did not agree with the staff’s analysis.  He believed that this was an area where there should be judgement, and highlighted the fact that the principle was that borrowing costs that could have been avoided if the expenditure on the qualifying asset had not been made were eligible for capitalisation.  He provided an example whereby an entity borrowed specifically to construct a building for its own use, the debt was collateralised by that building, either the entity could not repay the debt or there was a significant penalty to repay the debt, and the debt was dependent on the collateral, noting that this was a situation where the qualifying asset had been completed but the principle that there were borrowing costs that could have been avoided when looking at qualifying asset #2 was not met, noting that this borrowing should not form part of the general population that has interest that would have been avoided if the entity had not started construction of qualifying asset #2.  However, it was acknowledged that this would have minimal impact on the calculation unless there was a radical difference in the interest rates or everything else was 100% equity financed.

Another Committee member noted that he did not think IAS 23 was that clear, noting that he believed the sentence in paragraph 14 The capitalisation rate shall 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.” could be read as a reference to the historical purpose of the borrowings – so borrowings made specifically for the purpose of obtaining the qualifying assets were always excluded from borrowings that determined the capitalisation rate.  He noted that he did not object to the staff’s conclusion, but did not believe an agenda decision was the best way to deal with the issue given there appeared to be an argument in the Standard for the alternative view, and suggested the issue might be better addressed through an annual improvement.

Another Committee member noted that he agreed with the staff’s conclusion.  With respect to the question raised by another Committee member earlier in the discussion as to why the Committee was taking a different approach to that taken in 2009, he pointed out that the Committee had been criticised for putting out agenda decisions that did not say much, and noted that if the majority of the Committee members agreed with the staff’s conclusion then he would be okay with communicating this through an agenda decision, adding that he would not object to doing it another way either if that was the preference of the majority.

Another Committee member noted that he believed that judgement was required.  With respect to the question of where judgement would be applied, he noted that this was really in terms of the principle in paragraph 10 as to whether an entity could have avoided the interest cost by repaying the debt, and noted that in the fact pattern provided by the submitter, he did not believe the entity could have repaid the debt, and accordingly, if the entity could not have avoided the interest, questioned why it was being considered for capitalisation.  He noted that he did not believe that IAS 23 was clear that the amount would be included in the general borrowing pool, and given the lack of clarity, noted that he favoured addressing the issue through an annual improvement rather than an agenda decision.

A further Committee member noted that he agreed with the staff’s conclusion, but noted that it should be made clear in the wording that this conclusion did not apply in countries where capital restrictions existed, noting that a group should not calculate the capitalisation rate for the overall group including funds that could not be moved elsewhere in the group.

Another Committee member questioned how far the staff analysis went, and whether the analysis was effectively saying there were only 2 types of debt – debt that was specific to a current qualifying asset, and then everything else, which must be included in general borrowings (with no judgement applied).  He noted that under such an approach, debt that was never part of a qualifying asset would always be included in general borrowings, but noted that he did not believe that currently all demand deposits at a bank were considered general borrowings with respect to IAS 23.

The Technical Manager responded, noting that the staff read paragraph 14 of IAS 23 to say that all borrowings of an entity other than those attributed to qualifying assets must be included as part of general borrowings.  He highlighted the fact that this point was supported by paragraph BC24 in the Basis for Conclusions to IAS 23, which describes the differences between IFRS and US GAAP in this area – US GAAP requires an entity to use judgement in determining the capitalisation rate to apply, whereas IAS 23 permits some flexibility in determining the capitalisation rate, but requires an entity to use all outstanding borrowings other than those made specifically to obtain a qualifying asset – noting that, given the difference, the staff believed it was pretty clear that all other borrowings should be included in general borrowings under IFRS.

A further Committee member noted that she disagreed with the staff’s analysis, noting that she believed that judgement should be applied and the specific facts and circumstances of the loan agreement should be considered, including whether there were any restrictions on the use of the funds.   She noted that if an entity had taken out a loan to construct a specific asset, and the loan agreement specified that the funds could not be used for any other purpose, then it seemed odd that at some point in time, once the specific asset had been completed, the funds would be included in a general pool.

When called to vote by the Chairman, the clear majority of Committee members agreed with the staff’s conclusion that the specific borrowing should form part of the general borrowings pool in the scenario described by the submitter.

The majority of Committee members supported addressing the issue through an annual improvement rather than through an agenda decision.

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