Derecognising Provisions
The adjusted depreciable amount of the asset is depreciated over its useful life (under both the cost and revaluation method). Where the related asset is at the end of its useful life, all subsequent changes are recognised in profit and loss (Interpretation 1.7).
Disclosure requirements
Make good provisions are a separate class of provision requiring the following disclosure under AASB 137.84:
a. The carrying amount at the beginning and end of the period;
b. Additional provisions made in the period, including increases to existing provisions;
c. Amounts used (i.e. incurred and charged against the provision) during the period;
d. Unused amounts reversed during the period; and
e. The increase during the period in the discounted amount arising from the passage of time and the effect of any change in the discount rate.
Practical Guidance
→ Illustrative examples 1 & 2 demonstrate the practical application of disclosures required under AASB 137.84.
28. In accordance with AASB 101.85 the changes in the asset revaluation reserve resulting from changes in make good provisions may be a separate line item in other comprehensive income, where entities consider it is relevant to an understanding of the entity’s financial performance.
Budget Implications
Transaction Fiscal Balance1 Underlying Cash Balance
1. Recognise provision Worsen
(due to movement in non-financial assets) Nil impact
(no effect on net cash receipts)
2. Unwinding of discount Worsen
(interest expense reduces net operating balance) Nil impact
(no effect on net cash receipts)
3. Decrease in provision (recognised in ARR) Nil impact
(no impact on net operating balance or non-financial assets) Nil impact
(no effect on net cash receipts)
4. Decrease in provision (recognised in P&L) Nil impact
(as decrease in provision recognised as ‘other economic flow’ there is no impact on net operating balance or non-financial assets) Nil impact
(no effect on net cash receipts)
5. Increase in provision (recognised in ARR) Nil impact
(no impact on net operating balance or non-financial assets) Nil impact
(no effect on net cash receipts)
6. Increase in provision (recognised in P&L) Nil impact
(as increase in provision recognised as ‘other economic flow’ there is no impact on net operating balance or non-financial assets) Nil impact
(no effect on net cash receipts)
7. Derecognition of provision Nil impact
(no impact on net operating balance from operations or non-financial assets) Worsen
(decrease in cash resulting from restoration/decommissioning)
1. The impact of make good is currently being reviewed by Finance in consultation with the ABS.
Note: The Australian Bureau of Statistics (ABS) Government Finance Statistics (GFS) would only record a provision where there was a legal obligation to identified counterparties or groups of counterparties.
Appendix 1
Illustrative examples
The following illustrative examples provide practical application of the accounting for decommissioning, restoration and similar provisions (‘make good’):
Illustrative example 1: Recognition of provision to make good a building at the end of an operating lease;
Illustrative example 2: Recognising an increase in make-good provisions in profit or loss; and
Illustrative example 3: Recognising an increase in make-good provisions in the asset revaluation reserve.
While these examples illustrate changes in a provision resulting from a revision in the estimated amount required to settle the obligation, the same accounting requirements would be applied if the change in the provision was the result of a revision to the discount rate.
In addition, although the examples illustrate changes in a provision where the related asset is measured using the revaluation model, the same accounting requirements would be applied under the cost method except that changes in the provision would be added to or deducted from the carrying amount of the related asset, rather than recognised in the asset revaluation reserve or in profit or loss.
Illustrative example 1 – Recognition of provision to make good a building at the end of an operating lease (including illustration of disclosure requirements)
Information:
An entity enters into an operating lease for an office block on 1 July 2005 for a period of 5 years and makes $200,000 worth of leasehold improvements. The contract specifies that the entity must make good the premises at the end of the lease term. Assume the entity depreciates PPE on a straight-line basis, a discount rate of 10% applies and inflation is 4.564% at 1 July 2005.
Answer:
In accordance with AASB 116.16(c) the cost of the asset, being the leasehold improvements of $200,000, will include an estimate of the cost of making good the premises at the end of the lease.
The entity estimates that at 1 June 2005 it would cost approximately $40,000 to return the building to its original condition. To determine the expenditure required at the end of the lease (30 June 2010), the entity projects the current value using an inflationary measure (such as CPI or building index) of 4.564%.
Future Value = Present Value x (1 + inflation rate) Time period
Future Value = $40,000 x (1 + 0.04564)5
= $50,000
As the time value of money is material, the provision will be discounted to its present value.
1 July 2005 – Recognition of Asset/Provision Debit Credit
Dr. Leasehold Improvements
Cr. Provision for make good
Cr. Cash/Accounts Payable/Appropriations
$50,000 / (1.10)5 = $31,046 231,046
31,046
200,000
30 June 2006 – Unwinding of discount Debit Credit
Dr. Interest expense
Cr. Provision for make good
$50,000 / (1.10)4 - $50,000 / (1.10)5 = 3,105 3,105
3,105
30 June 2007 – Unwinding of discount
Dr. Interest expense
Cr. Provision for make good
$50,000 / (1.10)3 - $50,000 / (1.10)4 = $3,415 3,415
3,415
30 June 2008 – Unwinding of discount
Dr. Interest expense
Cr. Provision for make good
$50,000 / (1.10)2 - $50,000 / (1.10)3 = $3,756 3,756
3,756
30 June 2009 – Unwinding of discount
Dr. Interest expense
Cr. Provision for make good
$50,000 / (1.10)1 - $50,000 / (1.10)2 = $4,133 4,133
4,133
30 June 2010 – Unwinding of discount
Dr. Interest expense
Cr. Provision for make good
$50,000 - $50,000 / (1.10)1 = $4,545 4,545
4,545
1 July 2010 – Derecognise provision
Dr. Provision for make good
Cr. Cash/payable
To derecognise provision as premises is made good 50,000
50,000
At 1 July 2010 the provision is derecognised as the premises are made good at the end of the lease. Where estimates have been incorrect and the full provision is not derecognised when the entity vacates, the provision reversal will be recognised in profit and loss, in accordance with Interpretation 1.7.
The entity will also recognise depreciation expense of $6,209 for years 1-5. This is derived from the cost of restoration included in the cost of the asset of $31,046 depreciated on a straight-line basis over the term of the lease (5 years).
1 July 2006-10 – Depreciation of Asset Debit Credit
Dr. Depreciation expense
(leasehold improvements)
Cr. Accumulated depreciation
(leasehold improvements) 6,209
6,209
Note: Other Provisions
2005/06 2006/07 2007/08 2008/09 2009/10
Carrying amount at 1 July 200X (opening)
Additional provisions made
Provisions no longer required
Unwinding of discounted amount
arising from the passage of time
Carrying amount at 30 June 200X (closing) 0
-
If however at 1 July 2010 the entity extends its lease at the property and therefore does not make good the property, rather than derecognising the provision the entity is required to revalue the provision to take into consideration the delay in the outflow of the resources (refer to paragraphs 8 and 9). The leasehold asset is fully depreciated therefore it will not be required to be depreciated over this new period.
Illustrative example 2 – Recognising an increase in make-good provisions in profit or loss
Information:
An entity enters into an operating lease on 1 July 2004 for a period of 20 years
(i.e. until 1 July 2024). The entity makes $500,000 of leasehold improvements. The expected cost to make good the premises at the end of the lease is $100,000. A discount rate of 10% applies.
On 1 July 2008 the entity makes changes to the building, creating a number of new offices/meeting rooms, which leads to an increase of $70,000 in the expected cost to make good the premises, as the entity will now need to remove the internal structures upon vacating the premises.
In accordance with the FMOs, the entity measures PPE under the revaluation model and no credit balance exists in the asset revaluation reserve in respect to leasehold improvements.
Answer:
At 1 July 2004 the entity recognises a provision for make good of:
100,000 / (1.10)20 = $14,864.
1 July 2004 – Recognition of provision Debit Credit
Dr. Leasehold Improvements*
Cr. Provision for restoration
Cr. Cash/Accounts Payable/Appropriations
* $500,000 + 14,864 = $514,864 514,864
14,864
500,000
The adjusted depreciable amount of the asset is depreciated over its useful life (under both the cost and revaluation method). Where the related asset is at the end of its useful life, all subsequent changes are recognised in profit and loss (Interpretation 1.7).
Disclosure requirements
Make good provisions are a separate class of provision requiring the following disclosure under AASB 137.84:
a. The carrying amount at the beginning and end of the period;
b. Additional provisions made in the period, including increases to existing provisions;
c. Amounts used (i.e. incurred and charged against the provision) during the period;
d. Unused amounts reversed during the period; and
e. The increase during the period in the discounted amount arising from the passage of time and the effect of any change in the discount rate.
Practical Guidance
→ Illustrative examples 1 & 2 demonstrate the practical application of disclosures required under AASB 137.84.
28. In accordance with AASB 101.85 the changes in the asset revaluation reserve resulting from changes in make good provisions may be a separate line item in other comprehensive income, where entities consider it is relevant to an understanding of the entity’s financial performance.
Budget Implications
Transaction Fiscal Balance1 Underlying Cash Balance
1. Recognise provision Worsen
(due to movement in non-financial assets) Nil impact
(no effect on net cash receipts)
2. Unwinding of discount Worsen
(interest expense reduces net operating balance) Nil impact
(no effect on net cash receipts)
3. Decrease in provision (recognised in ARR) Nil impact
(no impact on net operating balance or non-financial assets) Nil impact
(no effect on net cash receipts)
4. Decrease in provision (recognised in P&L) Nil impact
(as decrease in provision recognised as ‘other economic flow’ there is no impact on net operating balance or non-financial assets) Nil impact
(no effect on net cash receipts)
5. Increase in provision (recognised in ARR) Nil impact
(no impact on net operating balance or non-financial assets) Nil impact
(no effect on net cash receipts)
6. Increase in provision (recognised in P&L) Nil impact
(as increase in provision recognised as ‘other economic flow’ there is no impact on net operating balance or non-financial assets) Nil impact
(no effect on net cash receipts)
7. Derecognition of provision Nil impact
(no impact on net operating balance from operations or non-financial assets) Worsen
(decrease in cash resulting from restoration/decommissioning)
1. The impact of make good is currently being reviewed by Finance in consultation with the ABS.
Note: The Australian Bureau of Statistics (ABS) Government Finance Statistics (GFS) would only record a provision where there was a legal obligation to identified counterparties or groups of counterparties.
Appendix 1
Illustrative examples
The following illustrative examples provide practical application of the accounting for decommissioning, restoration and similar provisions (‘make good’):
Illustrative example 1: Recognition of provision to make good a building at the end of an operating lease;
Illustrative example 2: Recognising an increase in make-good provisions in profit or loss; and
Illustrative example 3: Recognising an increase in make-good provisions in the asset revaluation reserve.
While these examples illustrate changes in a provision resulting from a revision in the estimated amount required to settle the obligation, the same accounting requirements would be applied if the change in the provision was the result of a revision to the discount rate.
In addition, although the examples illustrate changes in a provision where the related asset is measured using the revaluation model, the same accounting requirements would be applied under the cost method except that changes in the provision would be added to or deducted from the carrying amount of the related asset, rather than recognised in the asset revaluation reserve or in profit or loss.
Illustrative example 1 – Recognition of provision to make good a building at the end of an operating lease (including illustration of disclosure requirements)
Information:
An entity enters into an operating lease for an office block on 1 July 2005 for a period of 5 years and makes $200,000 worth of leasehold improvements. The contract specifies that the entity must make good the premises at the end of the lease term. Assume the entity depreciates PPE on a straight-line basis, a discount rate of 10% applies and inflation is 4.564% at 1 July 2005.
Answer:
In accordance with AASB 116.16(c) the cost of the asset, being the leasehold improvements of $200,000, will include an estimate of the cost of making good the premises at the end of the lease.
The entity estimates that at 1 June 2005 it would cost approximately $40,000 to return the building to its original condition. To determine the expenditure required at the end of the lease (30 June 2010), the entity projects the current value using an inflationary measure (such as CPI or building index) of 4.564%.
Future Value = Present Value x (1 + inflation rate) Time period
Future Value = $40,000 x (1 + 0.04564)5
= $50,000
As the time value of money is material, the provision will be discounted to its present value.
1 July 2005 – Recognition of Asset/Provision Debit Credit
Dr. Leasehold Improvements
Cr. Provision for make good
Cr. Cash/Accounts Payable/Appropriations
$50,000 / (1.10)5 = $31,046 231,046
31,046
200,000
30 June 2006 – Unwinding of discount Debit Credit
Dr. Interest expense
Cr. Provision for make good
$50,000 / (1.10)4 - $50,000 / (1.10)5 = 3,105 3,105
3,105
30 June 2007 – Unwinding of discount
Dr. Interest expense
Cr. Provision for make good
$50,000 / (1.10)3 - $50,000 / (1.10)4 = $3,415 3,415
3,415
30 June 2008 – Unwinding of discount
Dr. Interest expense
Cr. Provision for make good
$50,000 / (1.10)2 - $50,000 / (1.10)3 = $3,756 3,756
3,756
30 June 2009 – Unwinding of discount
Dr. Interest expense
Cr. Provision for make good
$50,000 / (1.10)1 - $50,000 / (1.10)2 = $4,133 4,133
4,133
30 June 2010 – Unwinding of discount
Dr. Interest expense
Cr. Provision for make good
$50,000 - $50,000 / (1.10)1 = $4,545 4,545
4,545
1 July 2010 – Derecognise provision
Dr. Provision for make good
Cr. Cash/payable
To derecognise provision as premises is made good 50,000
50,000
At 1 July 2010 the provision is derecognised as the premises are made good at the end of the lease. Where estimates have been incorrect and the full provision is not derecognised when the entity vacates, the provision reversal will be recognised in profit and loss, in accordance with Interpretation 1.7.
The entity will also recognise depreciation expense of $6,209 for years 1-5. This is derived from the cost of restoration included in the cost of the asset of $31,046 depreciated on a straight-line basis over the term of the lease (5 years).
1 July 2006-10 – Depreciation of Asset Debit Credit
Dr. Depreciation expense
(leasehold improvements)
Cr. Accumulated depreciation
(leasehold improvements) 6,209
6,209
Note: Other Provisions
2005/06 2006/07 2007/08 2008/09 2009/10
Carrying amount at 1 July 200X (opening)
Additional provisions made
Provisions no longer required
Unwinding of discounted amount
arising from the passage of time
Carrying amount at 30 June 200X (closing) 0
31,046
-
3,105
34,151 34,151
-
-
3,415
37,566 37,566
-
-
3,756
41,322 41,322
-
-
4,133
45,455 45,455
-
(50,000)
4,545
-
3,105
34,151 34,151
-
-
3,415
37,566 37,566
-
-
3,756
41,322 41,322
-
-
4,133
45,455 45,455
-
(50,000)
4,545
-
If however at 1 July 2010 the entity extends its lease at the property and therefore does not make good the property, rather than derecognising the provision the entity is required to revalue the provision to take into consideration the delay in the outflow of the resources (refer to paragraphs 8 and 9). The leasehold asset is fully depreciated therefore it will not be required to be depreciated over this new period.
Illustrative example 2 – Recognising an increase in make-good provisions in profit or loss
Information:
An entity enters into an operating lease on 1 July 2004 for a period of 20 years
(i.e. until 1 July 2024). The entity makes $500,000 of leasehold improvements. The expected cost to make good the premises at the end of the lease is $100,000. A discount rate of 10% applies.
On 1 July 2008 the entity makes changes to the building, creating a number of new offices/meeting rooms, which leads to an increase of $70,000 in the expected cost to make good the premises, as the entity will now need to remove the internal structures upon vacating the premises.
In accordance with the FMOs, the entity measures PPE under the revaluation model and no credit balance exists in the asset revaluation reserve in respect to leasehold improvements.
Answer:
At 1 July 2004 the entity recognises a provision for make good of:
100,000 / (1.10)20 = $14,864.
1 July 2004 – Recognition of provision Debit Credit
Dr. Leasehold Improvements*
Cr. Provision for restoration
Cr. Cash/Accounts Payable/Appropriations
* $500,000 + 14,864 = $514,864 514,864
14,864
500,000
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