Investment Property (IAS 40) 30 May 2013

Transcription

1 Investment Property (IAS 40) 30 May 2013 LAM Chi Yuen Nelson 林智遠 MBA MSc BBA ACA ACS CFA CPA(US) CTA FCCA FCPA FCPA(Aust) FHKIoD FTIHK MHKSI MSCA Nelson Consulting Limited 1 Cases First Case For year ended 30 Dec HK$ M Turnover 2,434 Gross profit 1,865 Profit before tax 10, HK$ M , HK$ M 2,671 1,351 (8,715) 2009 HK$ M 2, , HK$ M 1, (2,961) Loss to profit Profit to loss Loss to profit 179% After crediting: Fair value changes on investment properties 6,109 2,960 (10,831) 8,564 (7,468) Nelson Consulting Limited 2 1

2 Today s Agenda IAS 40 Investment Property Amendments to IAS 12 Income Tax: Recovery of Underlying Asset IFRS 13 Fair Value Measurement Nelson Consulting Limited 3 1. Scope IAS 40 shall be applied in the recognition, measurement and disclosure of investment property. However, IAS 40 does not deal with matters covered in IAS 17 Leases, including: a) classification of leases as finance leases or operating leases; b) recognition of lease income from investment property (see also IAS 18 Revenue); c) measurement in a lessee s financial statements of property interests held under a lease accounted for as an operating lease; d) measurement in a lessor s financial statements of its net investment in a finance lease; e) accounting for sale and leaseback transactions; and f) disclosure about finance leases and operating leases Nelson Consulting Limited 4 2

3 2. Definitions Investment property is property (land or a building or part of a building or both) held (by the owner or by the lessee under a finance lease) to earn rentals or for capital appreciation or both, rather than for a) use in the production or supply of goods or services or for administrative purposes; or b) sale in the ordinary course of business Examples of investment property under IAS 40 include: 1. Property leased out under operating leases 2. Property held for long-term capital appreciation 3. Property held for a currently undetermined future use 4. Vacant property to be leased out under operating leases 5. Property that is being constructed or developed for future use as investment property Nelson Consulting Limited 5 2. Definitions In order to classify a property as investment property, an entity has to ensure that the property can fulfil both: 1. The mode of usage (either to earn rental and/or for capital appreciation), and 2. The mode of ownership (either owned or held under a finance lease). Mode of Usage Mode of Ownership Nelson Consulting Limited 6 3

4 2. Definitions Mode of Usage IAS 40 has contrasted an investment property with an owner-occupied property. An owner-occupied property is not an investment property, but should be a property under IAS 16, Property, Plant and Equipment (see Chapter 3) is defined as property held (by the owner or by the lessee under a finance lease) for use in the production or supply of goods or services or for administrative purposes. Mode of Usage Nelson Consulting Limited 7 2. Definitions Mode of Usage Refer back to IAS 16 for definition of property, plant and equipment Property, plant and equipment are tangible items that: Mode of Usage a) are held for use in the production or supply of goods or services, for rental to others, or for administrative purposes; and b) are expected to be used during more than one period. Both for rental, how to distinguish? For example, how to distinguish: A flat leased out for rental A hotel Investment Property Owner-occupied Property Nelson Consulting Limited 8 4

5 2. Definitions Mode of Usage Comparing with the definition of investment property that has the term to earn rental, the definition of property, plant and equipment also has a similar term held for rental to others. In order to distinguish them, an entity can consider a property from two correlated aspects: 1. The generation of cash flows, and 2. The significance of ancillary services.. Mode of Usage Cash Flow Extent of Ancillary Services Nelson Consulting Limited 9 2. Definitions Mode of Usage Cash Flow Investment Property One of the key indicators in determining the classification between investment property and owneroccupied property Mode of Usage Owner-occupied property held to earn rentals or for capital appreciation or both therefore, generates cash flows largely independently of the other assets held by an entity. the production or supply of goods or services (or the use of property for administrative purposes) generates cash flows that are attributable not only to property, but also to other assets used in the production or supply process Nelson Consulting Limited 10 5

6 2. Definitions Mode of Usage Cash Flow Extent of Ancillary Services provided by an entity to the occupants of a property it holds is also considered Mode of Usage Ancillary Investment services not Property significant investment property owner-occupied property Significant Owner-occupied ancillary services property provided e.g. a owner-managed hotel is not an investment property If owner-managed hotel was classified as investment property before, it should be reclassified as property, plant and equipment (IAS 16) or lease (IAS 17) Significant impact on hotel group Nelson Consulting Limited Definitions Mode of Usage It may be difficult to determine whether ancillary services are so significant that a property does not qualify as investment property for example, there may be a spectrum from one end to another: Mode of Usage Ancillary services not significant Passive investor Investment property Use IAS 40 How to determine those in between these 2 ends? Then, judgement is required to determine Entities should develop consistent criteria for use in exercising the judgement Significant impact on hotel group Significant ancillary services provided Significant exposure to variation in the cash flows Owner-occupied Use IAS Nelson Consulting Limited 12 6

7 2. Definitions Mode of Ownership To meet the definition of investment property, a property must be owned by an entity or held by an entity under a finance lease Implies that a property interest held by a lessee under an operating lease cannot be classified as investment property since such property interest is neither owned nor held by a lessee under a finance lease. Mode of Ownership Nelson Consulting Limited Definitions Mode of Ownership IAS 40 amended in December 2003 to allow that a property interest that is held by a lessee under an operating lease may be classified and accounted for as investment property if, and only if: 1. The property would otherwise meet the definition of an investment property and 2. The lessee uses the fair value model in accordance with IAS 40 for the asset recognised. This classification alternative is available on a property-by-property basis However, once this classification alternative is selected for one such property interest held under an operating lease, all properties classified as investment property shall be accounted for using the Fair Value Model An entity has a choice Mode of Ownership Nelson Consulting Limited 14 7

8 2. Definitions Mode of Ownership Example Examples that are NOT investment property include: Which IAS? 1. Owner-occupied property Mode IAS of 16 Usage & Property (completed or under development) intended for sale in the ordinary course of business IAS 2 3. Property being constructed or developed for third parties IAS Property leased out under finance lease IAS Property that is being constructed or developed for future use as investment property 6. How s the classification for existing investment property being redeveloped for continued future use as investment property? Still Investment Property IAS 16 & 17 Still Investment Property Nelson Consulting Limited Definitions Mode of Ownership Example GV Inc. has three properties in Hong Kong and overseas and uses them to earn rental. Except for Property C which is owned by GV, the other 2 properties, Property A and B are held by GV under operating leases. Evaluate the accounting implication of IAS 40 on GV s properties Nelson Consulting Limited 16 8

9 2. Definitions Mode of Ownership Example Property C meets the definition of investment property under IAS 40 and GV must use IAS 40 to account for it. Property A and B do not meet such definition since they are neither owned nor held by GV under a finance lease. However, GV has a classification alternative under IAS 40 to choose to account for either Property A or B (or both) as investment property. In consequence, GV can consider the following alternatives: If either Property A or B (or both) are not accounted for under IAS 40 as investment property, GV will be required to use the fair value model in accordance with IAS 40 to account for all properties classified as investment property, including Property C and Property A and/or B. The property not classified as investment property should be accounted for by using IAS 17 Leases. If both Property A and B are not classified as investment property, GV will be required to account for Property A and B as a lease under IAS 17 and will choose between cost model and fair value model in accordance with IAS 40 to account for Property C Nelson Consulting Limited Definitions Mode of Ownership Case Melco Development Limited ( 新濠國際發展有限公司 ) Annual report 2012 Note 3 Investment properties are initially measured at cost, including any directly attributable expenditure. Subsequent to initial recognition, investment properties are measured at their fair values. Note 19 The Group s investment properties are situated on leasehold land in Hong Kong and Macau held under long term and short term leases, respectively. All of the Group s property interests held under operating leases to earn rentals or for capital appreciation purposes are measured using the fair value model and are classified and accounted for as investment properties Nelson Consulting Limited 18 9

10 2. Definitions Mode of Ownership Case Galaxy Entertainment Group Limited Annual report of 2012 (note 3.8): Property that is held for long-term rental yields or for capital appreciation or both, and that is not occupied by the Group, is classified as investment property. Investment property comprises land held under operating leases and buildings held under finance leases. Land held under operating leases is classified and accounted for as investment property when the rest of the definition of investment property is met. The operating lease is accounted for as if it were a finance lease Nelson Consulting Limited Definitions - Partially Used Only Some properties comprise a portion held as investment property and another portion NOT held as investment property. If these portions: Could be sold separately Could not be sold separately or leased out separately under a finance lease an entity accounts for the portions separately the property is investment property only if an insignificant portion is NOT held as investment property Nelson Consulting Limited 20 10

11 2. Definitions - Partially Used Only An entity owns property that is leased to, and occupied by, its parent or another subsidiary The property does not qualify as investment property in the consolidated financial statements, because the property is owner-occupied from the perspective of the group Consolidated But, from the perspective of the entity that owns it, the property is investment property if it meets the definition of investment property The lessor treats the property as investment Individual property in its individual financial statements Nelson Consulting Limited Definitions - Partially Used Only Example Can the following freehold properties be classified as investment property in individual level and in consolidation? Parent A s property leased to Subsidiary B Subsidiary C s property leased to Parent D Subsidiary E s property leased to Subsidiary F Parent G s property leased to Associate H Individual Yes Yes Yes Yes Consolidation No No No Yes Nelson Consulting Limited 22 11

12 3. Recognition and Measurement Recognition criteria Initial Cost Subsequent Expenditure Same as IAS 16 Property, Plant and Equipment Investment property shall be recognised as an asset when, and only when: a) it is probable that the future economic benefits that are associated with the investment property will flow to the entity; and b) the cost of the investment property can be measured reliably Nelson Consulting Limited Recognition and Measurement Measurement at Recognition An investment property shall be measured initially at its cost. Transaction costs shall be included in the initial measurement. (IAS 40.20) The initial cost of a property interest held under a lease and classified as an investment property shall be as prescribed for a finance lease in IAS 17 i.e. the asset shall be recognised at the lower of the fair value of the property and the present value of the minimum lease payments. An equivalent amount shall be recognised as a liability in accordance with that same paragraph. (IAS 40.25) Introduce the measurement base for investment property acquired from exchange Same as IAS 16 Property, Plant and Equipment Nelson Consulting Limited 24 12

13 3. Recognition and Measurement Rule on Exchange of Assets Revised Same amendment in IAS 16 and IAS 38 Cost of PPE acquired in exchange is measured at fair value But not required if: Commercial Substance Fair Value of Exchanged Asset In IAS 18 it is an exchange for similar assets In IAS 16 the exchange transaction lack of Commercial Substance, or the Fair Value is not reliably measurable (both asset received and given up) If the acquired item is not measured at fair value, its cost is measured at the carrying amount of the asset given up Nelson Consulting Limited Recognition and Measurement Commercial Substance To determine Commercial Substance considering the extent to which its future cash flows are expected to change as a result of the transaction Commercial Substance exists if: a) the configuration (risk, timing and amount) of the cash flows of the asset received differs from that of the asset transferred; or b) the entity-specific value of the portion of the entity s operations affected by the transaction changes as a result of the exchange; and c) the difference in (a) or (b) is significant relative to the fair value of the assets exchanged Nelson Consulting Limited 26 13

14 3. Recognition and Measurement Fair Value of Exchanged Asset The fair Value of an asset is reliably measurable if a) the variability in the range of various reasonable fair value measurrments is not significant for that asset, or b) the probabilities of the various estimates within the range can be reasonably assessed and used when measuring fair value. If an entity is able to measure reliably the fair value of either the asset received or the asset given up then the fair value of the asset given up is used to measure the cost of the asset received unless the fair value of the asset received is more clearly evident. (IAS 40.30) Nelson Consulting Limited Measurement after Recognition Introduce Cost Model and choose either and Fair Value Model Cost Model IAS 40 implicitly implies that the choice can only be elected on the first-time adoption of IAS 40 The model chosen should be applied to all investment properties, except for 1. Property held under operating lease classified as investment properties 2. Investment property backing liabilities that pay a return linked directly to the fair value of, or returns from specific assets including that investment property 3. Investment property with a fair value that cannot be reliably determinable on a continuing basis (i.e. inability to determine No choice, only fair value model Choose a model for all such properties No choice, only cost model fair value reliably) Nelson Consulting Limited 28 14

15 4. Measurement after Recognition Introduce Cost Model and choose either and Fair Value Model Cost Model However, even Cost Model is adopted, IAS 40 still requires all entities to determine the fair value of investment property For disclosure purpose, the fair value of the investment property has to be disclosed in notes to the financial statement! In determining the fair value of investment property for both cost model and fair value model an entity is only encouraged, but not required, to rely on a professional valuer s valuation More Flexible? Nelson Consulting Limited Measurement after Recognition Not Within IAS 40 No No Properties held to earn rental, or for capital appreciation, or both? Yes Any property held under operating lease? Yes Use IAS 40 to account for one or more such properties? Yes Properties under IAS 40 Fair value model under IAS 40 No No Choose to use Cost model? Yes Cost model under IAS All liability-linked investment properties may be accounted for by a different model from all other investment properties 2. Properties with fair value not determined reliably at initial recognition is accounted for by using cost model Nelson Consulting Limited Sourced: Intermediate Financial Reporting, 2nd (2012) by Nelson Lam & Peter Lau 30 15

16 4. Measurement after Recognition After initial recognition, an entity that chooses Fair Value Model shall measure all of its investment property at fair value, except in the cases that 1. the fair value cannot be determined reliably, or 2. the cost model is chosen for the investment property backing liabilities that pay a return linked directly to the fair value of, or returns from specific assets including that investment property When a property interest held by a lessee under an operating lease is classified as an investment property the fair value model must be applied for all investment properties A gain or loss arising from a change in the fair value of investment property shall be recognised in profit or loss for the period in which it arises Depreciation? Tax Implication? Nelson Consulting Limited Measurement after Recognition Example Entity GV has 3 properties, Fair Value Model leasehold property A, leasehold property B, and freehold property C All the properties are held to earn rental. What is the implication of IAS 40 if GV chooses to account for A as investment property? Then, GV has no choice in accounting for the investment property. It must adopt fair value model in accounting for all investment properties including property A and C (subject to specific exceptions) While property A is accounted for at fair value model under IAS 40, property B can still be accounted for under IAS Nelson Consulting Limited 32 16

17 4. Measurement after Recognition IAS 40, originally Fair Value Model Uses fair value, instead of open market value but in substance, they are similar IAS 40 only encourages, but not requires, a profession valuation on a fair value Fair value is defined as the amount for which an asset could be exchanged between knowledgeable, willing parties in an arm s length transaction Same definition used in other IFRSs and IASs But IAS 40 provides more explanations unique for a fair value of a property The fair value of investment property shall reflect market conditions at the end of the reporting No depreciation period required in IAS 40 Depreciation? Replaced by IFRS Nelson Consulting Limited Measurement after Recognition There is a rebuttable presumption that an entity can reliably measure the fair value of an investment property on a continuing basis. (IAS 40.53) Fair Value Model However, in exceptional cases, there is clear evidence when an entity first acquires an investment property (or when an existing property first becomes investment property after a change in use) that the fair value of the investment property is not reliably measureable on a continuing basis. This arises when, and only when, the market for comparable properties is inactive (e.g. there are few recent transactions, price quotations are not current or observed transaction prices indicate that the seller was forced to sell) and alternative reliable measurements of fair value (e.g., based on discounted cash flow projections) are not available. (IAS 40.53) Nelson Consulting Limited 34 17

18 4. Measurement after Recognition If an entity determines that the fair value of an investment property (other than an investment property under construction) is not reliably measurable on a continuing basis, the entity shall measure that investment property using the cost model in IAS 16. The residual value of the investment property shall be assumed to be zero. The entity shall apply IAS 16 until disposal of the investment property. (IAS 40.53) Fair Value Model Nelson Consulting Limited Measurement after Recognition Investment property under construction Fair Value Model If an entity determines that the fair value of an investment property under construction is not reliably measurable but expects the fair value of the property to be reliably measurable when construction is complete, it shall measure that investment property under construction at cost until either its fair value becomes reliably measurable or construction is completed (whichever is earlier). (IAS 40.53) Nelson Consulting Limited 36 18

19 4. Measurement after Recognition Investment property under construction Fair Value Model Once an entity becomes able to measure reliably the fair value of an investment property under construction that has previously been measured at cost, it shall measure that property at its fair value. Once construction of that property is complete, it is presumed that fair value can be measured reliably. If this is not the case, in accordance with IAS 40.53, the property shall be accounted for using the cost model in accordance with IAS 16. (IAS 50.53A) Nelson Consulting Limited Measurement after Recognition Investment property under construction Fair Value Model The presumption that the fair value of investment property under construction can be measured reliably can be rebutted only on initial recognition. An entity that has measured an item of investment property under construction at fair value may not conclude that the fair value of the completed investment property cannot be measured reliably. (IAS 40.53B) Nelson Consulting Limited 38 19

20 4. Measurement after Recognition Case Sands China Limited (Annual Report 2012) Investment properties, principally comprising buildings and building improvements, are held for long-term rental yields or capital appreciation or both, and are not occupied by the Group. Investment properties that are currently being constructed or developed are classified as investment properties and stated at cost less accumulated impairment losses. Why is there no accumulated depreciation? Nelson Consulting Limited Measurement after Recognition Fair Value Model If an entity has previously measured an investment property at fair value it shall continue to measure the property at fair value until disposal or cessation to be investment property, even if comparable market transactions become less frequent or market prices become less readily available. (IAS 40.55) Once you chose Fair Value Model, you cannot fall back to Cost Model Nelson Consulting Limited 40 20

21 4. Measurement after Recognition Fair Value Model After initial recognition, an entity that chooses Cost Model shall measure all of its investment properties in accordance with the requirements of IAS 16 for that cost model other than those that meet the criteria to be classified as held for sale (or are included in a disposal group that is classified as held for sale) in accordance with IFRS 5 Non-current Assets Held for Sale and Discontinued Operations then, those investment properties shall be measured in accordance with IFRS 5. (IAS 40.56) Once you chose Fair Value Model, you cannot fall back to Cost Model Nelson Consulting Limited Measurement after Recognition Case Annual Report 2012 Note 2.8 Property that is held for long-term rental yields or for capital appreciation or both, and that is not occupied by the companies in the Group, is classified as investment property. Investment property is carried at cost, including the related transaction costs, less accumulated depreciation and accumulated impairment losses, if any. Note 17 The valuation of the investment properties (including the related land use rights) as at 31 December 2012 was RMB942.3 million (2011: RMB15.9 million), which was determined by the directors of the Company on an open market value basis Nelson Consulting Limited 42 21

22 4. Measurement after Recognition Case Casino, Guichard-Perrachon A retailing and real estate group stated in its annual report 2009: Investment property is property held to earn rentals or for capital appreciation or both. The shopping centres owned by the Group are classified as investment property. Subsequent to initial recognition, they are measured at historical cost less accumulated depreciation and any accumulated impairment losses. Their fair value is disclosed in the notes to the consolidated financial statements. Investment property is depreciated over the same useful life and according to the same rules as owner-occupied property Nelson Consulting Limited Transfer Transfers to, or from, investment property shall be made when, and only when, there is a change in use, evidenced by: Change in use a) Commencement of owneroccupation b) Commencement of development with a view to sale Transfer from investment property Owner-Occupied Property Inventories Investment Property Change in use a) End of owner-occupation b) Commencement of an operating lease to another party Transfer to investment property Owner-Occupied Property Inventories Investment Property Measurement at transfer? Depend on the model the entity is using Nelson Consulting Limited 44 22

23 5. Transfer When an entity uses Cost Model transfers DO NOT change the carrying amount of the property transferred and they DO NOT change the cost of that property for measurement or disclosure purposes. Measurement at transfer? Nelson Consulting Limited Transfer For a transfer from investment property (i.e. the following cases) carried at fair value Fair Value Model Change in use a) Commencement of owneroccupation b) Commencement of development with a view to sale Transfer from investment property Owner-Occupied Property Inventories Investment Property the property s deemed cost for subsequent accounting in accordance with IAS 16 or IAS 2 shall be its fair value at the date of change in use. (IAS 40.60) Measurement at transfer? Nelson Consulting Limited 46 23

24 5. Transfer Example GV has adopted IAS 40 and stated its investment properties at fair value even the properties are held under operating leases. On 1 Jan. 2005, GV s investment property A held under operating lease was stated at fair value of $1,000. Its original cost was $800. On 10 Feb. 2005, the lease of property A expired and GV decided and began to hold it as its office. What is the accounting implication on the decision? Property A would no longer be investment property and would be reclassified as owner-occupied property. Even property A is held under operating lease, such operating lease interest would still be accounted for as a finance lease continuously in accordance with IAS 17 and classified and measured as property, plant and equipment in accordance with IAS 16. The fair value at the date of change in use, i.e. 10 Feb will be regarded as the deemed cost in property, plant and equipment Nelson Consulting Limited Transfer For a transfer to investment property (i.e. the following cases) and that investment property will be carried at fair value Fair Value Model Change in use a) End of owner-occupation b) Commencement of an operating lease to another party Transfer to investment property Owner-Occupied Property Inventories Investment Property Measurement at transfer? Nelson Consulting Limited 48 24

25 5. Transfer For a transfer to investment property (i.e. the following cases) and that investment property will be carried at fair value Fair Value Model Owner-Occupied Property Measurement at transfer? Investment Property apply IAS 16 up to the date of change in use. treat any difference at that date between its carrying amount under IAS 16, and its fair value in the same way as a revaluation under IAS 16 (IAS 40.61) Inventories Investment Property Revaluation reserve is frozen and accounted for in accordance with IAS 16 subsequently any difference between the fair value of the property at that date and its previous carrying amount shall be recognised in profit/loss (IAS 40.60) Nelson Consulting Limited Transfer Example GV has adopted IAS 40 and stated its investment properties at fair value even the properties are held under operating leases. On 1 Mar. 2005, freehold property B stated at revalued amount of $1,000 (originally used as its own office) has been leased out to derive rental income. Revaluation surplus recognised for B was $300 while B s fair value at that date should be $1,200. What is the accounting implication on the decision? Property B would be reclassified as investment property. In accordance with IAS 40, GV should apply IAS 16 on B up to the date of change in use and treat any difference at that date between its carrying amount under IAS 16, and its fair value in the same way as a revaluation under IAS 16. Thus, a revaluation surplus of $200 would be further recognised. Total revaluation reserves would become $500 ($200 + $300) The revaluation reserves of $500 would be frozen and accounted for in accordance with IAS 16 subsequently Nelson Consulting Limited 50 25

26 5. Transfer Case Galaxy Entertainment Group Limited Annual report of 2012 (note 3.8): If an investment property becomes owner-occupied, it is reclassified as property, plant and equipment, and its fair value at the date of reclassification becomes its cost for accounting purposes. If a property becomes an investment property because its use has changed, any difference resulting between the carrying amount and the fair value of this property at the date of transfer is recognised in equity as revaluation of property, plant and equipment. However, if the fair value gives rise to a reversal of the previous impairment loss, this write-back is recognised in the consolidated income statement Nelson Consulting Limited Disposals An investment property shall be derecognised (eliminated from the statement of financial position): 1. on disposal or 2. when the investment property is permanently withdrawn from use and no future economic benefits are expected from its disposal Gains or losses arising from the retirement or disposal of investment property shall be determined as the difference between 1. the net disposal proceeds and 2. the carrying amount of the asset, and shall be recognised in profit or loss (unless IAS 17 requires otherwise on a sale and leaseback) in the period of the retirement or disposal Nelson Consulting Limited 52 26

27 7. Disclosure a) Disclosure for both Fair Value Model and Cost Model whether the fair value model or the cost model is adopted if fair value model is applied, whether property interests held under operating leases are accounted for as investment property if classification is difficult, the criteria to distinguish investment property from owner-occupied property and from property held for sale in the ordinary course of business the methods and significant assumptions applied in determining the fair value of investment property whether (and the extent to which) the fair value of investment property is based on a valuation by a qualified independent valuer the amounts recognised in profit or loss, say for rental income from investment property, and direct operating expenses (including repairs and maintenance) arising from investment property the existence and amount of restrictions on the realisability of investment property or the remittance of income and proceeds of disposal contractual obligations to purchase, construct, or develop investment property or for repairs, maintenance or enhancements Nelson Consulting Limited Disclosure b) Additional Disclosure for Fair Value Model A reconciliation between the carrying amounts of investment property at the beginning and end of the period similar to that of property, plant and equipment When a valuation obtained for investment property is adjusted significantly for the purpose of the financial statements, the entity shall disclose a reconciliation between the valuation obtained and the adjusted valuation included in the financial statements In the exceptional cases when there is inability to determine fair value reliably and cost model is applied to a particular investment property, additional disclosures are required Nelson Consulting Limited 54 27

28 7. Disclosure c) Additional Disclosure for Cost Model the depreciation methods used; the useful lives or the depreciation rates used; the gross carrying amount and the accumulated depreciation (aggregated with accumulated impairment losses) at the beginning and end of the period; a reconciliation of the carrying amount of investment property at the beginning and end of the period, similar to that of property, plant and equipment the fair value of investment property In the exceptional cases when there is inability to determine fair value reliably, additional disclosures are required Nelson Consulting Limited 55 Today s Agenda Amendments to IAS 12 Income Tax: Recovery of Underlying Asset Nelson Consulting Limited 56 28

29 Recovery of Underlying Asset (Amendments to IAS 12 Income Tax) Nelson Consulting Limited 57 Introduction IAS 12 Income Taxes requires an entity to measure the deferred tax relating to an asset depending on whether the entity expects to recover the carrying amount of the asset through useor sale. It can be difficult and subjective to assess whether recovery will be through use or through sale when the asset is measured using the fair value model in IAS 40 Investment Property. The amendment provides a practical solution to the problem by introducing a presumption that recovery of the carrying amount will, normally be, be through sale. No such exemption for PPE using revaluation model under IAS Nelson Consulting Limited 58 29

30 Recovery of Underlying Asset If a deferred tax liability or asset arises from investment property that is measured using the fair value model in IAS 40, there is a rebuttable presumption that the carrying amount of the investment property will be recovered through sale. Accordingly, unless the presumption is rebutted, the measurement of the deferred tax liability or deferred tax asset shall reflect the tax consequences of recovering i.e. no deferred tax is the carrying amount of the investment required when tax on sale property entirely through sale. (IAS 12.51C) is zero! This presumption is rebutted if the investment property is depreciable and is held within a business model whose objective is to consume substantially all of the economic benefits embodied in the investment property over time, rather than through sale. If the presumption is rebutted, the requirements of IAS and 51A shall be followed Nelson Consulting Limited 59 Effective Date and Transition An entity shall apply the amendments for annual periods beginning on or after 1 January Earlier application is permitted. If an entity applies the amendments for an earlier period, it shall disclose that fact Nelson Consulting Limited 60 30

31 Amendments to IAS 12 Case Financial Statements 2010 Note 2 states Amendments to HKAS 12 Income Taxes as follows: Amendments to HKAS 12 titled Deferred Tax: Recovery of Underlying Assets have been applied in advance of their effective date (annual periods beginning on or after 1 January 2012). Under the amendments, investment properties that are measured using the fair value model in accordance with HKAS 40 Investment Property are presumed to be recovered through sale, unless the presumption is rebutted in certain circumstances Nelson Consulting Limited 61 Amendments to IAS 12 Case Financial Statements 2010 Note 2 states Amendments to HKAS 12 Income Taxes as follows: As a result, the Group s investment properties that are measured using the fair value model have been presumed to be recovered through sale for the purpose of measuring deferred tax liabilities and deferred tax assets in respect of such properties. This resulted in deferred tax liabilities being decreased by HK$3,409 million and HK$3,616 million as at 1 January 2009 and 31 December 2009 respectively, with the corresponding adjustment being recognised in retained profits. In the current year, no deferred tax has been provided for in respect of changes in fair value of such investment properties, whereas previously deferred tax liabilities were provided for in relation to the changes in fair value of such investment properties. The application of the amendments has resulted in profit for the year being increased by HK$426 million Nelson Consulting Limited 62 31

32 Today s Agenda IFRS 13 Fair Value Measurement Nelson Consulting Limited 63 Fair Value Measurement (IFRS 13) Nelson Consulting Limited 64 32

33 1. Introduction IFRS 13 is a single standard to address the measurement fair value used in many other IFRSs: a. defines fair value; b. sets out in a single IFRS a framework for measuring fair value; and c. requires disclosures about fair value measurements. (IFRS 13.1) Definition of Fair Value Single Framework for FV Measurement Disclosure Nelson Consulting Limited Definition of Fair Value In many IFRSs, fair value shares a similar definition. In IFRS 13, a new definition is adopted Definition of Fair Value Nelson Consulting Limited 66 33

34 2. Definition of Fair Value Fair value is defined as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. (IFRS 13.9) i.e. an exit price It is a market-based measurement, not an entity-specific measurement Historically, fair value is normally defined as: The amount for which an asset could be exchanged, or a liability settled, between knowledgeable, willing parties in an arm s length transaction. Definition of Fair Value Nelson Consulting Limited Definition of Fair Value The Fair IASB value considered is defined the as previous definition of fair value: Definition of a. did the not price specify that would whether be received an entity to is sell buying an or selling the Fair asset; Value b. was asset unclear or paid about to transfer what is a liability meant by in an settling a liability because it did not orderly refer transaction to the creditor, between but to market knowledgeable, willing parties; and c. did participants not state at explicitly the measurement whether the date. exchange (IFRS or settlement takes place 13.9) at the measurement date or at some other date (IFRS 13.BC30) i.e. an exit price It is a market-based measurement, not an entity-specific measurement Historically, fair value is normally defined as: The amount for which an asset could be exchanged, or a liability settled, between knowledgeable, willing parties in an arm s length transaction Nelson Consulting Limited 68 34

35 3. Fair Value Measurement IFRS 13 explains that a fair value measurement requires an entity to determine the following: a. the particular asset or liability being measured; b. for a non-financial asset, the highest and best use of the asset and whether the asset is used in combination with other assets or on a stand-alone basis; c. the market in which an orderly transaction would take place for the asset or liability; and d. the appropriate valuation technique(s) to use when measuring fair value. The valuation technique(s) used should maximise the use of relevant observable inputs and minimise unobservable inputs. Those inputs should be consistent with the inputs a market participant would use when pricing the asset or liability. (IFRS 13.IN10) Single Framework for FV Measurement Fair Value Hierarchy (3 levels) Nelson Consulting Limited Fair Value Measurement Fair value For Particular Asset or Liability Orderly Transaction Market Participants Measurement Date Exit Price Principal Market Most Advantageous Market Nelson Consulting Limited Sourced: Intermediate Financial Reporting, 2nd (2012) by Nelson Lam & Peter Lau 70 35

36 3. Fair Value Measurement For Particular Asset or Liability A fair value measurement is for a particular asset or liability. Therefore, when measuring fair value an entity shall take into account the characteristics of the asset or liability if market participants would take those characteristics into account when pricing the asset or liability at the measurement date. Such characteristics include, for example, the following: a.the condition and location of the asset; and b.restrictions, if any, on the sale or use of the asset. (IFRS 13.11) Nelson Consulting Limited Fair Value Measurement IFRS 13 also assumes that the orderly transaction to sell the asset or transfer the liability can take place either: 1. In the principal market for the asset or liability; or 2. In the absence of a principal market, in the most advantageous market for the asset or liability (IFRS 13.16) Principal Market Orderly Transaction Most Advantageous Market Principal market is defined as the market with the greatest volume and level of activity for the asset or liability. Most advantageous market is defined as the market that maximises the amount that would be received to sell the asset or minimises the amount that would be paid to transfer the liability, after taking into account transaction costs and transport costs Nelson Consulting Limited Sourced: Intermediate Financial Reporting, 2nd (2012) by Nelson Lam & Peter Lau 72 36

37 4. Application to Specific Situations In applying the fair value measurement, IFRS 3 introduces the concepts of highest and best use and valuation premise for nonfinancial assets, but it also explains that they would not apply to financial assets or to liabilities. Together with the application to non-financial assets, IFRS 3 addresses application to at least three groups of items: 1. Application to non-financial assets; 2. Application to liabilities and an entity s own equity instruments; and 3. Application to financial instruments within a portfolio, i.e. the financial assets and financial liabilities with offsetting positions in market risks or counterparty credit risk Nelson Consulting Limited Application to Specific Situations Application to Non-financial Assets In a fair value measurement of a non-financial asset, IFRS 13 requires an entity to take into account a market participant s ability to generate economic benefits by using the asset, or selling it to another market participant that would use it, in its highest and best use (IFRS 13.27) Highest and best use is defined as the use of a non-financial asset by market participants that would maximise the value of the asset or the group of assets and liabilities (e.g. a business) within which the asset would be used Nelson Consulting Limited 74 37

38 4. Application to Specific Situations Application to Non-financial Assets The highest and best use of a non-financial asset must be physically possible, legally permissible and financially feasible: 1. Physically possible physical characteristics of the asset that market participants would consider, for example the location or size of a property. 2. Legally permissible legal restrictions on the use of the asset that market participants would consider, for example, the zoning regulations applicable to a property. 3. Financially feasible adequate income or cash flows to produce an investment return that market participants would require from an investment in that asset put to that use Nelson Consulting Limited Fair Value at Initial Recognition IFRS 13 specifies the consideration when fair value is required or permitted to use in initial recognition of an asset or a liability. IFRS 13 has not specified whether fair value should be used for initial recognition of an asset or a liability An asset or a liability is initially recognised at a basis in accordance with the corresponding IFRS and. Historically, IFRS commonly addresses that the fair value on initial recognition is normally the transaction price. However, IFRS 13 uses the phrase in many cases to substitute the word normally in describing the relationship between the fair value and transaction price. The change represents that a fair value is defined as a current exit price in IFRS 13 but a transaction price is considered as an entry price Nelson Consulting Limited 76 38

39 6. Valuation Techniques In selecting and using valuation techniques in fair value measurement, an entity is required to use Valuation techniques that are appropriate in the circumstances and for which sufficient data are available to measure fair value. The techniques maximising the use of relevant observable inputs and minimising the use of unobservable inputs. (IFRS 13.61) IFRS 13 sets out three valuation approaches to guide the selection and use of valuation techniques; imposes requirements on the inputs to be used in each technique and then it in turn also affects the selection and use of valuation techniques Nelson Consulting Limited Valuation Techniques IFRS 13 sets out the following three valuation approaches to guide the selection and usage of valuation techniques and 1. Market approach, 2. Cost Approach, and 3. Income Approach. An entity is required to use valuation techniques consistent with one or more of the valuation approaches to measure fair value Nelson Consulting Limited 78 39

40 6. Valuation Techniques Market approach is defined as a valuation technique that uses prices and other relevant information generated by market transactions involving identical or comparable (i.e. similar) assets, liabilities or a group of assets and liabilities, such as a business. Cost approach is defined as a valuation technique that reflects the amount that would be required currently to replace the service capacity of an asset (often referred to as current replacement cost). Income approach is defined as valuation techniques that convert future amounts (e.g. cash flows or income and expenses) to a single current (i.e. discounted) amount. The fair value measurement is determined on the basis of the value indicated by current market expectations about those future amounts Nelson Consulting Limited Valuation Techniques In fair value measurement, an entity is not only required to use the valuation techniques consistent with one or more of the three valuation approaches, but also required to use the techniques, 1. Maximising the use of relevant observable inputs and 2. Minimising the use of unobservable inputs (IFRS 13.67) Nelson Consulting Limited 80 40

41 6. Valuation Techniques Present value techniques are the valuation techniques consistent with income approach to measure fair value and are specified in the application guidance of IFRS 13. The application guidance of IFRS 13 sets out the general principles in using present value techniques and the consideration of risk and uncertainty. IFRS 13 also specifies the following two present value techniques: 1. Discount rate adjustment technique; and 2. Expected present value technique. In order to understand them, IFRS 13 also explains the portfolio theory, unsystematic (diversifiable) risk, systematic (non-diversifiable) risk Nelson Consulting Limited Valuation Techniques Summary of Discount Rate Adjustment Technique and Expected Present Value Technique Cash flows Discount rate 1. Discount rate adjustment technique 2. Expected present value technique risk-adjusted expected cash flow method 3. Expected present value technique expected rate of return method Contractual, promised or most likely cash flows. Expected cash flows that are risk-adjusted Expected cash flows that are not risk-adjusted Discount rate derived from observed rates of return for comparable items traded in the market Risk-free rate Discount rate adjusted to include the risk premium that market participants require Nelson Consulting Limited Sourced: Intermediate Financial Reporting, 2nd (2012) by Nelson Lam & Peter Lau 82 41

42 7. Fair Value Hierarchy To increase consistency and comparability in fair value measurements and related disclosures, IFRS 13 establishes a fair value hierarchy that categorises the inputs to valuation techniques used to measure fair value into the following three levels: Level 1 inputs Level 2 inputs Level 3 inputs Nelson Consulting Limited Fair Value Hierarchy Level 1 inputs Quoted prices (unadjusted) in active markets for identical assets or liabilities that the entity can access at the measurement date. Level 2 inputs Inputs other than quoted prices included within Level 1 that are observable for the asset or liability, either directly or indirectly. Level 3 inputs Unobservable inputs for the asset or liability. Level 1 Inputs Level 2 Inputs Level 3 Inputs Nelson Consulting Limited 84 42

43 7. Fair Value Hierarchy Quoted price in active market? Yes Adjusted? No Level 1 Inputs No Yes Observable inputs? Yes Significant unobservable inputs? No Level 2 Inputs No Yes Level 3 Inputs Nelson Consulting Limited Sourced: Intermediate Financial Reporting, 2nd (2012) by Nelson Lam & Peter Lau Significantly Decreased Activities When there has been a significant decrease in the volume or level of activity when compared with normal market activity for the asset or liability, or similar assets or liabilities, further analysis of the transactions or quoted prices is needed. A decrease in the volume or level of activity on its own may not indicate that a transaction price or quoted price does not represent fair value or that a transaction in that market is not orderly Nelson Consulting Limited 86 43