Ind AS 23 'Borrowing Costs' 18. X Ltd. commenced the construction of a plant (qualifying asset) on 1 st September, 20X1, estimated to cost 10…

Paragraph 14 of Ind AS 23, inter-alia, states that to the extent that an entity borrows funds generally and uses them for the purpose of obtaining a qualifying asset, the entity shall determine the amount of borrowing costs eligible for capitalisation by applying a capitalisation rate to the expenditures on that asset. The capitalisation rate shall be the weighted average of the borrowing costs applicable to all borrowings of the entity that are outstanding during the period. However, an entity shall exclude from this calculation borrowing costs applicable to borrowings made specifically for the purpose of obtaining a qualifying asset until substantially all the activities necessary to prepare that asset for its intended use or sale are complete. The amount of borrowing costs that an entity capitalises during a period shall not exceed the amount of borrowing costs it incurred during that period. In this context, a question arises whether such expenditure should be based on costs accrued or actual cash outflows. To contrast these two alternatives, presented below is the computation of borrowing costs based on both the alternatives: Month Costs accrued Average capital expenditure Cash outflows Average capital expenditure September 1.50 1.50x7/12 = 0.875 3.00 3.00x7/12=1.75 October 0.50 0.50x6/12 = 0.25 1.70 1.70x6/12 = 0.85 November 1.50 1.50x5/12 = 0.625 2.50 2.50x5/12 = 1.04 December 0.50 0.50x4/12 = 0.17 - - January 1.80 1.80x3/12 = 0.45 1.00 1 x3/12 = 0.25 February 0.70 0.70x2/12 = 0.12 - - March 3.00 3.00x1/12 = 0.25 1.50 1.50x1/12 = 0.13 9.50 2.74 9.70 4.02 If the average capital expenditure on the basis of costs accrued is taken, the borrowing costs eligible to be capitalised would be - 2.74 crore x 11% = 0.30 crore. Whereas if average capital expenditure on the basis of cash flows is taken, the borrowing costs eligible to be capitalised would be - 4.02 crore x 11% = 0.44 crore. Thus, there is a wide variance in the amount of borrowing cost to be capitalised, based on the accrual basis and on actual cash flows basis. In this regard, paragraph 18 of Ind AS 23 states that expenditures on a qualifying asset include only those expenditures that have resulted in payments of cash, transfers of other assets or the assumption of interest-bearing liabilities. Expenditures are reduced by any progress payments received and grants received in connection with the asset (see Ind AS 20, Accounting for Government Grants and Disclosure of Government Assistance). The average carrying amount of the asset during a period, including borrowing costs previously capitalised, is normally a reasonable approximation of the expenditures to which the capitalisation rate is applied in that period. Where cash has been paid but the corresponding cost has not yet accrued interest becomes payable on payment of cash. Therefore, the amount so paid should be considered for determining the amount of interest eligible for capitalisation, subject to the fulfillment of other conditions prescribed in paragraph 16 of Ind AS 23. Accordingly, in the present case, interest should be computed on the basis of the cash flows rather than on the basis of costs accrued. Therefore, the amount of interest eligible for capitalisation would be - 0.44 crore. Another important factor to be noted is that paragraph 14 requires, inter alia, that the amount of borrowing costs that an entity capitalises during a period shall not exceed the amount of borrowing costs it incurred during that period. Thus, the amount of borrowing costs to be capitalised should not exceed the total borrowing costs incurred during the period, that is 0.5 crore.