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Treatment of Exchange Difference on Capital Asset

24 July 2010 2,284 views 3 Comments

a. Exchange difference arising between spot rate on the date of bill of lading and forward cover rate. Whether this difference is to be capitalized when pertaining to purchase of fixed asset or to be charged off as revenue. How will you treat the above in UK books and Indian Books? In Indian books earlier it used to be capitalized but now it is to be charged off as revenue

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3 Comments »

  • ifrslist
    ifrslist said:

    [New Post] Treatment of Exchange Difference on Capital Asset – http://www.ifrslist.com/2010/07/treatmen...
    via Twitoaster

    # 25 July 2010 at 6:33 pm
  • patriciawalters said:

    I believe I understand your question to be about the following transaction.

    (1) You order a fixed asset (PPE) at a particular invoice price in a currency other than the functional currency.
    (2) Asset is delivered on date A, which is date that transaction meets recognition criteria in IFRS.
    (3) You pay for asset on date B, which is later than date A.

    AND, we are not talking about a hedged item (asset) in a hedging relationship.

    I believe there are several paragraphs in IAS 21 that are relevant to our understanding how to account for these events.

    (1) Nothing is recorded at this date.

    (2) This is the date of initial recognition and paragraph 21 applies:

    “A foreign currency transaction shall be recorded, on initial recognition in the functional currency, by applying to the foreign currency amount the spot exchange rate between the functional currency and the foreign currency at the date of the transaction.”

    At this point, you will recognize a non-monetary item, Asset, based on the spot rate, and a monetary item, the liability to pay.

    (3) So I believe your real question is what do you do with the difference between the amount you recorded as a liability on date A and the amount you pay on date B.

    Paragraph 28 says:

    Exchange differences arising on the settlement of monetary items or on
    translating monetary items at rates different from those at which they were translated on initial recognition during the period or in previous financial statements shall be recognised in profit or loss in the period in which they arise, except as described in paragraph 32.

    (Paragraph 32 refers to translating items that are part of a net investment in a foreign operation and doesn’t apply to this example.)

    Therefore, at date A, the capitalized cost of the asset is recorded and will not change.

    At date B, you settle the monetary item, the liability, and record either income or loss on the income statement.

    However, if you are going to show a foreign currency gain/income, this is not included in the line item REVENUE. The term revenue in IFRS only applies to transactions that form part of an entity’s ordinary course of business. Purchases of fixed assets are not an entity’s ordinary course of business. You cannot show revenue on a purchase transaction. You can call it income or gain, not revenue, and it cannot be in the revenue line on your income statement.

    My apologies if this is too long. If I misunderstood your question, would you post a clarification?

    Regards
    Patricia

    # 25 July 2010 at 8:23 pm
  • riyer0018 said:

    Option A- Hedge Accounting is Followed

    Under Indian GAAP, UK GAAP and IFRS, the difference between the spot rate and forward rate will be capitalised/adjusted to the cost of the asset because this (i.e. sopt rate vs forward rate) is exactly the risk that is being covered by the forward instrument.

    Howeever, please note that in the above case, i am assuming that the payment was made on the date of bill of lading. If forward for a future date, the adjustment to the cost of the asset can be made only to the extent of change in fair value till the date of bill of lading (assuming it is a FOB purchase)

    Option B- Hedge Accounting is not Followed

    Under Indian GAAP, UK GAAP and IFRS, the exchange rate will be expensed off in the income statement.

    # 16 August 2010 at 7:52 am

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