IAS 23 – Borrowing Costs ( summary with examples )

Objective

IAS 23 prescribes the accounting treatment for borrowing costs, specifically when they should be capitalized as part of the cost of a qualifying asset versus recognized as an expense.

Borrowing costs are interest and other costs incurred in connection with borrowing funds.

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🧾 1. Scope

• Applies to all borrowing costs directly attributable to the acquisition, construction, or production of a qualifying asset.

• Qualifying asset: Asset that takes substantial time to get ready for intended use or sale (e.g., buildings, manufacturing plants, ships).

Examples of qualifying assets:

• Construction of factories

• Large-scale infrastructure projects

• Inventories requiring a long production period

Non-qualifying assets:

• Inventory that can be produced within a short period

• Assets ready for immediate use

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💡 2. Key Definitions

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⚙️ 3. Recognition and Capitalization

A. When to Capitalize

Borrowing costs directly attributable to a qualifying asset should be capitalized.

• Capitalization begins when:

  1. Expenditures for the asset are incurred

  2. Borrowing costs are incurred

  3. Activities to prepare the asset are in progress

• Capitalization ceases when the asset is substantially ready for use or sale.

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B. What to Capitalize

• Interest on specific borrowings for the asset

• Weighted average interest rate on general borrowings used to finance qualifying assets

Not included:

• Administrative costs unrelated to borrowing

• Costs during idle periods unrelated to construction

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C. Treatment of Borrowing Costs Not Capitalized

• Expensed in the period they are incurred.

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🧮 4. Examples

Example 1 – Specific Borrowing

• Borrowing $1,000,000 at 6% interest to construct a building

• Construction period = 2 years

Capitalized Interest per year:

$$1,000,000\times 6\%=60,000$$

Journal Entry:

• At the end of construction, the building’s cost includes $120,000 interest.

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Example 2 – General Borrowings

• Company has total borrowings = $2,000,000, interest = $100,000/year

• Funds used to construct qualifying asset = $1,000,000

Weighted average interest rate:

$$100,000÷2,000,000=5\%$$

Interest to capitalize:

$$1,000,000\times 5\%=50,000$$

Journal Entry:

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Example 3 – Non-qualifying Asset

• Borrowing to purchase inventory that can be sold immediately

• Interest = $5,000

Treatment: Recognize $5,000 as expense in profit or loss.

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⚖️ 5. Disclosure Requirements

Entities must disclose:

1. Accounting policy for borrowing costs

2. Amount of borrowing costs capitalized during the period

3. Qualifying assets in which borrowing costs were capitalized

Example Disclosure:

“Borrowing costs directly attributable to the construction of the factory ($120,000) were capitalized during the year. Borrowing costs relating to short-term assets are expensed.”

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🧩 6. Summary Table

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🎯 7. Key Points

• IAS 23 ensures borrowing costs are recognized in the cost of long-term assets, reflecting the true cost of acquisition or construction.

• Specific borrowings: capitalize directly

• General borrowings: capitalize proportionally

• Non-qualifying assets or idle periods: expense immediately

• Disclosure of capitalization policy and amounts is required