CA Intermediate · Advanced Accounting

AS 16 Borrowing Costs for CA Intermediate Advanced Accounting

AS 16 says borrowing costs directly attributable to acquiring, constructing or producing a qualifying asset are capitalised as part of its cost. All other borrowing costs are expensed. To solve a question, identify the qualifying asset, split specific and general borrowings, compute the eligible amount for the capitalisation period, and expense the rest.

What this chapter covers

AS 16 deals with one question: when does interest on borrowed money become part of an asset's cost, and when does it hit the statement of profit and loss? The Standard answers it with the idea of a qualifying asset, an asset that takes a substantial period of time to get ready for its intended use or sale. Interest on money used for such an asset is capitalised during the construction period. Everything else is an expense.

The chapter has a clear flow. First you learn the definitions: borrowing costs, qualifying asset and substantial period. Then you learn the recognition rule. Then comes the calculation part, which is where most exam marks sit: specific borrowings, general borrowings and the capitalisation rate. Last, you learn the timeline rules: when capitalisation starts, when it is suspended and when it ceases.

This chapter links to other parts of Advanced Accounting. Capitalised interest raises the cost of property, plant and equipment, so it connects with AS 10 and depreciation. It also affects inventories that take a long time to produce. In company accounts, the finance cost shown in the statement of profit and loss is only the amount that is not capitalised, and that is why the split matters.

AS 16 is a compact chapter and it suits numerical practice. It can be tested through MCQs and through numerical problems, for example on a construction project. ICAI has not announced a fixed weightage for it, so do not plan your time around a guess.

The calculation is mechanical once you know the steps. The theory points on qualifying assets and suspension are short, and they lend themselves to one-line MCQs. Practise varied problems until you can run through every step without looking at your notes.

AS 16 Borrowing Costs: topics in the order to study them

1AS 16 Scope, Definitions and Borrowing CostsStart here because every later rule depends on what counts as a borrowing cost and a qualifying asset.
2Recognition and Capitalisation of Borrowing CostsNext, learn the core rule of capitalise or expense. Also learn what is included in borrowing costs, for example that exchange differences arising from foreign currency borrowings are included only to the extent they are regarded as an adjustment to interest costs.
3Specific and General Borrowings: Computing CapitalisationTake this third because it is the numerical heart of the chapter and needs the rule and definitions first.
4Commencement, Suspension and Cessation of CapitalisationFinish with the timeline rules, which decide the period for which you apply the computation.

How to prepare AS 16 Borrowing Costs

This chapter is best prepared by mixing short theory reading with repeated numerical practice. Aim to finish it in a few focused sittings.

Read the definitions once and write your own one-line meaning of borrowing cost, qualifying asset and substantial period.
Learn the capitalise-or-expense rule, and list what is included in borrowing costs, such as interest, certain finance charges and exchange differences arising from foreign currency borrowings, included only to the extent they are regarded as an adjustment to interest costs.
Solve specific borrowing problems first. Capitalise actual interest on the specific loan, then deduct any income earned on temporary investment of unused funds.
Move to general borrowings. Compute the weighted average capitalisation rate and apply it to the expenditure on the qualifying asset to the extent it is financed by general borrowings, that is, the weighted average expenditure not covered by specific borrowings. Then cap the result at actual interest incurred.
Practise time-based questions. Mark the dates for start, suspension and cessation on a timeline, and count months only for the active period.
For MCQs, drill short statements on qualifying assets and suspension. For written answers, show the rate, the amount, the period and the final split between capitalised and expensed.
On the last day, redo two mixed problems from memory and check each step.

Common mistakes in AS 16 Borrowing Costs

Capitalising interest on an asset that is not a qualifying asset.
Fix: Always check first whether the asset takes a substantial period to get ready. If not, expense the interest.
Forgetting to deduct income earned on temporary investment of specific borrowings.
Fix: Read the question for any investment income and subtract it from the specific borrowing cost before capitalising.
Including specific borrowings when computing the capitalisation rate for general borrowings.
Fix: List specific loans separately. The weighted average rate uses only general borrowings outstanding during the period.
Capitalising for the whole year despite a suspension or an early completion date.
Fix: Draw a timeline and capitalise only for months of active development. Exclude suspended periods and the time after completion.
Capitalising more than the actual interest incurred on general borrowings.
Fix: After computing, compare with total actual borrowing cost for the period and take the lower amount.
Writing answers with only the final figure and no working.
Fix: Show the rate, the base amount, the period and the split between capitalised and expensed so that you earn step marks.

Last-day revision: AS 16 Borrowing Costs

A qualifying asset takes a substantial period to get ready for its intended use or sale.
Borrowing costs include interest, certain finance charges and exchange differences arising from foreign currency borrowings, but only to the extent they are regarded as an adjustment to interest costs.
Capitalise borrowing costs directly attributable to a qualifying asset. Expense the rest.
Specific borrowings: capitalise actual cost less income from temporary investment of the unused funds.
General borrowings: amount = expenditure on the asset financed by general borrowings (weighted average expenditure not covered by specific borrowings) × capitalisation rate.
Capitalisation rate = weighted average of borrowing costs on general borrowings, not the specific ones.
Capitalised general borrowing cost cannot exceed the actual borrowing cost for the period.
Capitalisation commences when ALL three conditions are met: expenditure on the asset is incurred, borrowing costs are incurred, and activities to prepare the asset for its intended use or sale are in progress.
Suspend capitalisation during extended periods when active development is interrupted.
Temporary delays or delays that are a necessary part of the process do not require suspension.
Capitalisation ceases when substantially all activities for intended use or sale are complete.
If parts of an asset are complete and usable separately, stop capitalising for that part.

AS 16 Borrowing Costs practice questions

AS 16 Borrowing Costs in other exams

The same ground in other exams, if you are preparing for more than one or want another angle on it.

AS 16 Borrowing Costs: frequently asked questions

What is a qualifying asset under AS 16?

It is an asset that necessarily takes a substantial period of time to get ready for its intended use or sale. Examples include a factory building under construction and inventory that needs a long production time. The Standard does not fix a number of months, so you judge it from the facts given.

How do I calculate the capitalisation rate?

Take the weighted average of the borrowing costs applicable to the general borrowings outstanding during the period. Apply that rate to the expenditure on the qualifying asset to the extent it is financed by general borrowings, that is, the part not covered by specific borrowings. Make sure the result does not exceed the actual borrowing cost incurred.

When does capitalisation of borrowing costs stop?

It stops when substantially all the activities needed to prepare the asset for its intended use or sale are complete. Minor modifications, such as decoration to the buyer's specification, do not delay cessation. If an extended pause in active development occurs, capitalisation is suspended in that period.

Is this chapter mostly theory or numericals?

It is both. The theory is short and tested well through MCQs, while the numerical on specific and general borrowings is the usual written question. Practise the numericals with dates so you can handle suspension and cessation.