Nearly all current and non-current financial assets are subject to an impairment test, to ensure that they are not overstated on the balance sheet (IFRS – Statement of Financial Position). One of the objectives of IAS 36 is to ensure that an asset cannot be carried on the balance sheet above its recoverable amount.
Recoverable amount is described as the higher amount of the asset’s fair value less costs of disposal and its value in use:
“Fair value less costs of disposal” is ‘the price that would be received to sell an asset in an orderly transaction between market participants at the measurement date’ less costs of disposal.
“Value in use” requires management to estimate the present value of the future cash flows that are expected to be derived from the asset in its current condition.
The amount by which the carrying amount of an asset exceeds its recoverable amount is called “impairment loss”. The impairment loss is recognized in the profit or loss statement.
HOW DO WE CALCULATE AN IMPAIRMENT LOSS?
Let’s assume Company XYZ has a machine in its Statement of Financial Position at a carrying amount of #600,000.
The machine has been tested for impairment and found to have a recoverable value of #490,000.
”Impairment loss” = #600,000 less # 490,000 = #110,000.
Accounting entries to be passed
Debit: Profit or loss with #110,000
Credit: Property, plant, and equipment with #110, 000.
NOTE: Impairment applies to all assets, with the following exceptions set out in IAS 36 which are covered by other accounting standards;
✨Deferred tax asset
✨Investment property held at FV.
✨NCA classified as held for sale
You can read the other post where we will be talking about the Expected credit loss model (ECL), which deals with impairment losses for financial assets regulated under IFRS 9.