At the time of acquisition non-current assets are recorded at cost. After initial recognition however, entities can either continue to measure asset on historical-cost basis or change it to revaluation basis.
Under revaluation model non-current assets may be carried at revalued amount i.e. fair value of asset at the date of revaluation less subsequent accumulated depreciation and impairment losses.
Mathematically it can be expressed as following:
Revalued amount of asset = Fair value of asset – Accumulated depreciation – Impairment
If entity is unable to determine market-based evidence for any reason e.g. similar asset is not available as it is unique then we can use alternative methods like:
- income approach
- depreciated replacement cost approach
As the valuation is sometime complex, therefore, this task is usually carried out by independent professional valuers.
1 Accounting for revaluation of asset
Accounting for revaluation of non-current asset is a three step process:
- Adjusting the cost of asset i.e. account of asset
- Eliminating accumulated depreciation of asset being revalued
- Recognizing revaluation gain or loss
Lets understand the accounting process with the help of an example.
Suppose and entity bought a building three years ago for 100,000 with an estimated useful life of 10 years. Currently its accumulated depreciation is standing at 30,000. This gives the net book value of 70,000 (100,000 – 30,000)
Now fair value of asset can either be significantly more than the net book value of asset or significantly less. For example:
- Fair market value is 150,000; or
- Fair market value is 50,000
Lets see the accounting under both situations side by side under each of the three steps:
| FMV is 150,000 | FMV is 50,000 |
| Step 1: Compare cost of the asset with the fair market value of the asset to understand the increase or decrease required in the asset’s account | |
| FMV – Cost | FMV – Cost |
| 150,000 – 100,000 = 50,000 Increase | 50,000 – 100,000 = 50,000 Decrease |
| Debit: Building a/c 50,000 | Credit: Building a/c 50,000 |
| Step 2: Any existing accumulated depreciation at the time of revaluation can be treated in two ways but the most followed option is to eliminate any accumulated depreciation. | |
| This step remains the same under both situations i.e. revaluation increase or decrease | |
| Debit: Building accumulated depreciation a/c 30,000 | |
| Step 3: Compare carrying value with the fair market value to determine the amount of revaluation increase or revaluation decrease | |
| FMV – NBV | FMV – NBV |
| 150,000 – 70,000 = 80,000 Gain | 50,000 – 70,000 = 20,000 Loss |
| Credit: Revaluation Surplus a/c 80,000 | Debit: Revaluation loss a/c 20,000 |
| Complete journal entries under both situations are: | |
| Debit: Building a/c 50,000 Debit: Building accum. depreciation a/c 30,000 Credit: Revaluation surplus a/c 80,000 |
Debit: Building Accum. Depreciation a/c 30,000 Debit: Revaluation loss a/c 20,000 Credit: Building a/c 50,000 |
2 Presentation of Revaluation surplus
Revaluation gain or revaluation surplus is the increase in entity’s asset that it will realize over the useful life of asset or when its sold. Therefore instead of crediting the whole amount to profit and loss account in the period of revaluation increase, it is recorded under equity.
Entity has a choice to reduce the amount of revaluation surplus at the same rate used to calculate depreciation using excess depreciation concept or leave it as is.
Example: Revaluation of Non-current assets
Entity holds a machinery that was bought for 1.2 million few years back. To this date accumulated depreciation is $850,000. During the year, entity revalued all of its machinery. It is found that fair value of the machine is 1.5 million.
Show the workings and journal entries to record the revaluation
Solution:
Step 1: Comparing cost and FV:
= 1.5 – 1.2 = 0.3 million => 300,000
Step 2: Eliminate accumulated depreciation of 850,000
Step 3: Compare Carrying value with fair value to find revaluation gain
Revaluation gain = Fair value (FV) – Carrying value (CV)
CV = Cost – Accumulated depreciation
CV = 1,200,000 – 850,000 = 350,000
Revaluation gain = 1,500,000 – 350,000 = 1,150,000
The journal entry to record revaluation gain is:
| Machinery a/c | 300,000 | |
| Accumulated depreciation a/c | 850,000 | |
| Revaluation gain a/c | 1,150,000 |
2 Reversal of previously recognized revaluation gain or loss
Normally things are pretty straightforward and the accounting of revaluation concludes as mentioned above. However, if there was
- any previous revaluation loss before current revaluation increase; OR
- any revaluation gain before current revaluation decrease then step 3 will be amended as following:
If there is any previously recognized revaluation decrease (as revaluation loss in P&L a/c) then current revaluation increase will first be applied to reverse previous decrease and the remaining amount will then be credited to the revaluation surplus account.
If there is any previously recognized revaluation increase (as revaluation surplus under equity) then current revaluation decrease will first be applied to reverse any revaluation surplus and the remaining amount will then be debited to the profit and loss account
Example: Revaluation of asset with previously recognized gain/loss
Entity has a machinery the fair value of which is fluctuating rapidly. Management reviewed the asset again this year and found its fair value to be 100,000.
Give the journal entries to record the revaluation gain or loss if:
- Asset has a carrying amount of 160,000 with a previously recognized revaluation gain of 80,000. Accumulated depreciation is 10,000
- Asset has a carrying amount of 70,000 with a previously recognized revaluation loss of 20,000
Solution:
Asset has a carrying amount of 160,000 with a previously recognized revaluation gain of 80,000
In this case, this year’s revaluation to 100,000 has resulted in 60,000 loss as fair market value is less than net book value. As we have previously recognized gain of 80,000 in the books, therefore, it will be first adjusted against this.
With accumulated depreciation of 10,000 and net book value of 160,000 it means the revalued amount in asset’s account is 170,000.
| Amount as per account (balancing figure) | 170,000 |
| Less: Accumulated depreciation | 10,000 |
| Net book value | 160,000 |
Journal entry to record the revaluation loss will be:
| Revaluation surplus a/c | 60,000 | |
| Accumulated depreciation a/c | 10,000 | |
| Machinery a/c | 70,000 |
Asset has a carrying amount of 70,000 with a previously recognized revaluation loss of 20,000
In this case, previous revaluation loss will be reversed first and any amount of current gain over exceeding previous loss will be taken to revaluation surplus.
Current revaluation gain is 30,000 (100,000 – 70,000) [FMV – NBV]. 20,000 of which will reverse previous revaluation loss (by crediting profit and loss account) and 10,000 will be recorded as revaluation surplus. With no accumulated depreciation to be eliminated the amount as per account is same as carrying amount i.e. 70,000. Therefore increase in asset will be 30,000 (100,000 – 70,000) [FMV – Revalued amount]
Journal entry is following:
| Machinery a/c | 30,000 | |
| Profit and loss a/c | 20,000 | |
| Revaluation surplus a/c | 10,000 |