IAS 36 — Impairment of Assets

The International Accounting Standard 36 deals with the impairment of assets.

Impairment of Assets?seeks to ensure that an entity's assets are not carried at more than their recoverable amount (i.e., the higher of fair value less costs of disposal and value in use). Except for goodwill and certain intangible assets for which an annual impairment test is required, entities are required to conduct impairment tests where there is an indication of impairment of an asset. The test may be conducted for a 'cash-generating unit' where an asset does not generate cash inflows that are largely independent of those from other assets. This standard outlines the procedures that entities must follow to ensure their assets are carried at not more than their recoverable amount.

Purpose of Asset Impairment:

The asset impairment practice ensures that assets are reported on the balance sheet at their fair market value. The practice better reflects the financial picture of a company’s assets for users of the financial statements. Asset impairment can also smoothen the loss of sales when the asset is disposed of. Suppose an asset is continually depreciated at an underestimated amount. In that case, the asset will be reported at a book value that is higher than its market value, and this gap expands over time.

When the asset is sold at market value after several years, the company will realize a large loss. Instead, if the company records impairments periodically, the book value of the asset will better align with the market value, and the large loss will instead be recognized over several impairment losses.

Impairment losses:

When an asset’s carrying amount exceeds its recoverable amount, the asset is impaired and must be written down to its recoverable amount.

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Recognition of impairment loss:

Impairment losses are recognized immediately in profit or loss unless recognized in other comprehensive income against any revaluation surplus related to the asset. Impairment losses, except for those recognized in relation to goodwill, are generally capable of being reversed in subsequent accounting periods if indications arise that suggest the impairment may have decreased or no longer exists.

Scope

The requirements of IAS 36 are applied in accounting for the impairment of all assets other than:

• Inventories.
• Contract assets and assets arising from costs to obtain or fulfil a contract that are recognized in accordance with IFRS 15 Revenue from Contracts with Customers.
• Deferred tax assets.
• Assets arising from employee benefits.
• Financial assets within the scope of IFRS 9 Financial Instruments.
• Investment property measured at fair value.
• Biological assets related to agricultural activity within the scope of IAS 41 Agriculture that are measured at fair value less costs to sell.

Calculation of Impaired Asset:

Whether an asset should be impaired and how much should be impaired is determined by the accounting rules. IFRS and US GAAP apply different rules to impaired assets.

IFRS:

IFRS implements a one-step approach to identify and report impaired assets. For example, assuming an asset is expected to create BDT 10,000 cash income per year for the next three years at a discount rate of 2%, its value in use is BDT 28,839 in the current year. If the asset can be sold at BDT 30,000 with zero selling cost, the recoverable amount will be BDT 30,000. With a carrying amount of BDT 38,000, the asset will be written down by BDT 8,000, and an equal amount of impairment loss will be recognized.

GAAP Rules

US GAAP implements a two-step approach. The first step is a?recoverability test?to determine whether an asset should be impaired. The second step measures the impairment loss after passing the step one test. Using the same example above, the sum of undiscounted future cash flows is BDT 30,000, which is lower than the carrying amount of BDT 38,000. Thus, the recoverability test is passed, and the asset should be impaired. According to the second step, the impairment loss will be BDT 8,000 (BDT 38,000 – BDT 30,000). If the fair market value is unknown, the impairment loss will be BDT 9,161 (BDT 38,000 – BDT 28,839).

IAS 36 therefore applies to property, plant, and equipment, right-of-use assets, intangible assets, goodwill, and investment property carried at cost. The standard also applies to financial assets classified as subsidiaries, associates, and joint ventures being accounted for at cost or using the equity method.

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