Revaluations of property, plant and equipment
In this session we shall look at how a revaluation of property, plant or equipment in a financial period will affect the main financial statements.
The rules governing revaluations will be covered in section 5 of this course but in this section we will cover how an upward revaluation of an asset is recorded and how a downward revaluation of a previously revalued asset is recorded.
Valuations of property, plant and equipment
IAS 16 Property, Plant and Equipment permits these types of assets to measured and recorded using either the Cost Model (where the asset’s carrying value is its cost less accumulated depreciation) or the Revaluation Model (where the asset’s carrying value is its most recent fair value less any subsequent accumulated depreciation).
Whilst any class of property, plant and equipment can be revalued, the Revaluation Model is most commonly used to value land and buildings as these types of assets tend to increase in value over time.
Recording an upward revaluation of an asset
In order to record an upward revaluation (i.e. where the carrying value of an asset will be increased) we follow the following process:
- Restate the asset’s cost to its fair value
- Eliminate the asset’s accumulated depreciation up to the date of the revaluation
- Send the increase in the asset’s carrying value to the Revaluation Reserve
Illustration
The directors of Tethus plc have decided to value its property using the Revaluation Model as from its financial year-end of 30/06/2020. The property cost £3.0m and as at 30/06/2020 accumulated depreciation of £0.5m had been charged against the property. The property’s fair value at 30/06/2020 was £5.8m
Process:
- Restate the asset’s cost to its fair value
- The property’s cost must be increased from £3.0m to £5.8m (an increase of £2.8m)
- Eliminate the asset’s accumulated depreciation up to the date of the revaluation
- Accumulated depreciation must be reduced by £0.5m
- Send the increase in the asset’s carrying value to the Revaluation Reserve
- The carrying value must be increased from £2.5m (i.e. £3.0m less £0.5m) to £5.8m (an increase of £3.3m)
This will be achieved by recording the following postings
Dr Property at cost £2.8m
Dr Property accumulate depreciation £0.5m
Cr Revaluation reserve £3.3m
Question
A company owns a building that cost £129,600 and against which £41,520 of depreciation has been charged since it was acquired. The property is to be revalued to its fair value of £395,000.
What revaluation surplus will be created as a result of valuing the property at its fair value?
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The answer is £306,920. This has been calculated as the property’s fair value of £395,000 less its carrying value of £88,080 (i.e. £129,600 less £41,250)
Question
A company is to revalue its property. The property cost £962,000 and has accumulated depreciation of £173,000 charged against it. The fair value of the property has been estimated at £1,500,000.
Prepare a journal to record the revaluation
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Debit Property at cost £538,000
Debit Property – accumulated depreciation £173,000
Credit Revaluation reserve £711,000
Journal to record the revaluation of property to its fair value
Effects on the Statement of Profit or Loss and Other Comprehensive Income
The increase in the carrying value of the asset (i.e. £3.3m) will be recorded as a Gain on Revaluation in the Other Comprehensive Income section of the Statement. The Statement would be changed as follows:
Effects on the Statement of Financial Position
There would be two main effects on the Statement of Financial Position. First, the company’s Property, Plant and Equipment in Non-current Assets will be increased by gain on revaluation (i.e. £3.3m). Secondly, the company’s Revaluation Reserve in Equity will be increased by the same amount. If the company did not have a Revaluation Reserve before, one will be created.
These parts of the Statement would be amended as follows:
Effects on the Statement of Changes in Equity
The Gain on Revaluation will be added to the Revaluation Reserve as shown below:
Recording a downward revaluation of a previously revalued asset
If a company revalues an asset it will be required to carry out regular revaluations in the future. If a subsequent revaluation results in an increase in the asset’s carrying value we will simply follow the process detailed above, but what should we do when the asset’s value has fallen?
- Restate the asset’s cost to its fair value (by cost we mean the asset’s last recorded fair value)
- Eliminate the asset’s accumulated depreciation up to the date of the latest revaluation
- Send the decrease in the asset’s carrying value to the Revaluation Reserve but note that if the decrease is greater than the revaluation reserve associated with that asset we would:
- Record a Loss on Revaluation in the amount of the revaluation reserve associated with that asset in the Other Comprehensive Income; and
- Any remaining loss will be recorded as an expense in the Statement of Profit or Loss and will therefore reduce the company’s retained earnings
Illustration
At its year-end of 31/05/2020 Rhodis Ltd has a single property that is valued using the Revaluation Model (all other assets are valued using the Cost Model). Details regarding the property are as follows:
- Its fair value when it was last revalued was £950,000
- Accumulated depreciation charged up to 31/05/2020 is £80,000
- It carrying value at 31/05/2020 is £870,000 (i.e. £950,000 less £80,000)
- The company’s Revaluation Reserve is £300,000 (all of which relates to the property)
- Its fair value at 31/05/2020 was £750,000
Process:
- Restate the asset’s cost (i.e. its last recorded fair value) to its fair value
- The property’s cost must be reduced from £950,000 to £750,000 (a reduction of £200,000)
- Eliminate the asset’s accumulated depreciation up to the date of the revaluation
- Accumulated depreciation must be reduced by £80,000
- Send the decrease in the asset’s carrying value to the Revaluation Reserve
- The carrying value must be reduced from £870,000 (i.e. £950,000 less £80,000) to £750,000 (a reduction of £120,000). Note that this reduction is less than the revaluation reserve of £300,000 associated with the property – as such all the reduction can be set against the Revaluation Reserve
The postings used to record the downward revaluation are shown below:
Cr Property at cost £200,000
Dr Property accumulated depreciation £80,000
Dr Revaluation reserve £120,000
Question
A company owns a property that is valued using the revaluation model. Its was last valued three years ago when its fair value was £35m. Since then accumulated depreciation of £3m has been charged against the property. The property has a revaluation reserve associated with it of £9m.
The property is to be revalued to its current market valuation of £25m.
a) Calculate the fall in the property’s carrying value
b) Prepare a journal to record the revaluation
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- a) The fall in the property’s carrying value is £7m. This is calculated as its carrying value before the revaluation of £32m (i.e. £35m less £3m) less its current market value of £25m
- b) Journal to record the revaluation of property
- Credit Property at cost £10m
- Debit Property – accumulated depreciation £3m
- Debit Revaluation reserve £7m
Question
Two years ago, a company revalued a piece of land from its cost of £1.5m to its fair value of £1.9m. It has now obtained a current market valuation of the land which says it is worth £1.2m.
a) What is the total loss on revaluation?
b) How will the loss on revaluation calculated in part (a) be recorded in the company’s Statement of Profit or Loss and Other Comprehensive Income?
- a) The loss on revaluation is £0.7m (i.e. £1.9m less £1.2m)
- b) When the land was originally revalued a revaluation reserve of £0.4m was created. The loss on revaluation of £0.7m will therefore be recorded as follows:
- i. A Loss on Revaluation of £0.4m will be recorded in Other Comprehensive Income
- ii. The remaining loss of £0.3m will be recorded as an expense in the Statement of Profit or Loss.
Effects on the Statement of Profit or Loss and Other Comprehensive Income
The fall in the carrying value of the revalued asset will be recorded as a Revaluation loss in the Other Comprehensive Income section of the Statement as shown below.
Effects on the Statement of Financial Position
The loss of £120,000 will be deducted from the value of Property, Plant and Equipment and from the value of the Revaluation Reserve as shown below.
Effects on the Statement of Changes in Equity
The loss of £120,000 will be deducted from the Revaluation Reserve.
