Question

Vela ltd

Vela ltd purchased a machine on 30 June 2010 and paid $410,000:

Manufacturer´s list price 370,000

Trade discount ( 38,000)

332,000

Delivery charge. 6,800

Installation costs. 29,600

Maintenance charge for the to 30 June 2011. 27,000

Spare parts. 14,600

410,000

Walter ltd

Walter ltd purchased freehold property for $700,000 on January 2000. This consists

Of buildings $400,000 and $300,000 of land. Only the building is depreciated with the straight-line method,

with no residual value and a useful life of 40 years.

On 1 January 2010, a revaluation of building at $250,000 and revaluation of land at $350,000 was done.

These valuations are considered to be inserted into the firm´s accounts.

The mentioned conditions about the residual value and the useful life of the building stay the same.

  

a) The cost figure should be calculated at which the machine purchased by Vela ltd

should be initially measured according to IAS 16 . Then, the correct accounting treatment of components of the €410,000 expenditure

which are not possible to be seen as machine cost should be explained.

b) Explain the accounting treatment needed to revaluate Walter Ltd’s freehold property on 1 January 2010.

Compute the depreciation, which is charged in relation to the building

for the year to 31 December 2010.

Both companies Vela ltd and Walter ltd prepare accounts to 31 December.

Answer 1

Computation of cost of machine by Vella ltd:

Manufacturer list price = 370000

Less: Trade discount = (38000)

Add: Delivery cahrges = 6800

Installation costs = 29600

Total cost of machine 368400

According to IAS 16, the Equipment should be valued at cost. It includes all the charges which are made to bring the equipment into the working process. Such costs may include transportation, delivery charges, installation costs, setting up costs etc.

According to IAS 16, Maintenance charges are incurred after the purchase of the asset and thus not includible.

Purchase of spare parts also does not result into the working use of the machinery. These are repair items and are thus, not included in the cost of the purchase.

Maintenance charges for the year ending 31 December 2010, are for 6 months starting from july to december i.e. 27000 * 6 / 12 = $13500 and the remaining are prepaid expenses.

Hence, spare parts and maintenance charges for the year will be reported to income statement and the prepaid expenses will be reported to balance sheet for the year ending 31 december 2010.

For Walter ltd,

Depreciation on building = Cost value - salvage value / useful life of assets

Depreciation on building = ( 400000 - 0) / 40

Depreciation on building = $ 10000

Value of building as on 31 december 2010 = 400000 - 10000*10

Value of building as on 31 december 2010 = $ 300000

(b) Revaluation is the reassessment of the property to identify its changes in its value over a period of time.

Generally revaluation can be done to identify the sale value of the asset in the current year or to have a fair price while merging with other company.

Revaluation can be done by 2 models of accounting:

1. Cost model
2. Revaluation model

Under cost method, Fixed assets is recorded at cost value - accumulated depreciation - impairment losses.

Thus, walter ltd will consider the building value at 400000 - 100000 = $ 300000

Under revaluation model, The cost is basically recorded at cost but the carrying amount will decrease for any devaluation of the asset. The WDV of the building will be 300000. After revaluation, the value comes out to be $250000.

There is revaluation loss of 300000 - 250000 of $50000 to walter ltd.

Any revaluation loss will be transferred to debit of P&L account and building will be reported at fair value i.e. $250000

The value of land is free of depreciation and thus be calculated at fair value i.e. $350000.