CALCULATION OF BORROWING COST

EXAMPLE 1

1. On December 1, 20X4, Compassionate Inc. began construction of homes for those families that were hit by the tsunami disaster and were homeless. The construction is expected to take 3.5 years. It is being financed by issuance of bonds for GHS7 million at 12% per annum. The bonds were issued at the beginning of the construction. The bonds carry a 1.5% issuance cost. The project is also financed by issuance of share capital with a 14% cost of capital. Compassionate Inc. has opted under IAS 23 to capitalize borrowing costs. Required Compute the borrowing costs that need to be capitalized under IAS 23.

EXAMPLE 2

On 1 January 20X6 Stremans Co borrowed $1.5m to finance the production of two assets, both of which were expected to take a year to build. Work started during 20X6. The loan facility was drawn down and incurred on 1 January 20X6, and was utilised as follows, with the remaining funds invested temporarily.

EXAMPLE 3

Acruni Co had the following loans in place at the beginning and end of 20X6.

                                                       1 January                                  31 December

                                                                         20X6                                         20X6

                                                                             $m                                           $m

10% Bank loan repayable 20X8                     120                                           120

9.5% Bank loan repayable 20X9                    80                                             80

8.9% debenture repayable 20X7                      –                                             150

The 8.9% debenture was issued to fund the construction of a qualifying asset (a piece of mining equipment), construction of which began on 1 July 20X6.

On 1 January 20X6, Acruni Co began construction of a qualifying asset, a piece of machinery for a hydroelectric plant, using existing borrowings. Expenditure drawn down for the construction was: $30m on 1 January 20X6, $20m on 1 October 20X6.

Required

Calculate the borrowing costs that can be capitalized.

Suspension of Capitalization of Borrowing Cost:

If during the period of construction, the activities necessary to complete the asset are interrupted or suspended due to particular reasons, the borrowing cost of such period will be accounted for as follows:

If the period of interruption is material, the borrowing cost of such period will not be capitalized and will be charged to statement of profit and loss as an expense.

If the period of interruption is immaterial or temporary such as (Material shortage or labor strikes), then entity may continue to capitalize the borrowing cost during such period. 

Cessation of Capitalization:

The capitalization of the borrowing cost will cease, when activities necessary to complete the asset are finished i.e. the completion of the physical structure of the qualifying asset, although some administrative or decorative work may still continue.

If a qualifying asset contains different component parts such as (Industrial plant which has several processes) and the entity will complete the construction of such qualifying asset by constructing each part or component on individual basis in a sequence, where each part or component can be used individually while the construction work is in progress on other parts or components, the capitalization of the borrowing cost will cease when activities necessary to complete that part for its intended use or sale has been finished.