A to Z of Capital � What is Capital Expenditure?

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A to Z of Capital � What is Capital Expenditure? Powered By Docstoc
					A to Z of Capital – What is Capital


This session will cover …………
 Context
 Key Principle
 3 routes to qualification as capital
 Overview of categories of Fixed Assets
 Capitalisation Exercise.


Capital Expenditure - context
 Capital is big business:
    Assets are the second most costly resource for
     Councils to manage, after staff.
    English Council’s own an estimated £250 billion of
       Two-thirds of this is accounted for by council housing
        and schools.

    This book value has nearly doubled in the last
     decade and its market value is probably higher.

 Capital Rich, Revenue Poor
    Authorities have had easier access to capital
     resources than revenue                                             3

Capital Expenditure - context
 However, there are interesting times ahead…
   Sources of capital sources are reducing
   Capital investment is being reduced by half over the
    lifetime of this Parliament (from spend of £49bn in
    10/11 to £20.6bn projected spend in 14/15).
   Capital receipts are reducing

 But opportunities are opening
   Government to introduce Tax Incremental Financing


Capital – Key Principle
  Everything is revenue unless you can
             prove it’s capital
 Unless expenditure qualifies as capital it
  must be charged to revenue in the year
  it is incurred.
 3 ‘routes’ for qualification as capital.
 Just because it costs a lot doesn’t mean
  it’s capital!


Capital – 3 routes for qualification
1. Spending which results in the acquisition,
   construction or enhancement of fixed assets
   (tangible or intangible) in accordance with
   ‘proper accounting practices’.

2. Spending which meets one of the definitions
   specified in regulations made under the Local
   Government Act 2003.

3. The Secretary of State makes a directions that
   the spending can be treated as capital
   expenditure.                                           6

Route 1: Proper Accounting practices

 Generally (there are exceptions) assets are items held for
  use in the production or supply of goods and services, for
  rental to others, or for administrative purposes, and
  expected to be used during more than one period.
 Expenditure on new assets or subsequent expenditure
  on an existing asset can only be recognised as capital if:
      It is probable that future economic benefits or service potential
       associated with the item will flow to the entity; and
      The cost of the item can be measured reliably.

 For expenditure on qualifying assets to be capitalised, it
  must be directly attributable to bringing the asset to the
  location and condition necessary for it to be capable of
  operating in the manner intended by management.

Route 1: Proper Accounting practices

 Costs (acquisition and/or construction) which can be
  capitalised include:
    purchase price / cost of materials;
    other directly attributable costs such as:
       employee costs arising directly from the construction
        /acquisition of the asset;
       site preparation;
       initial delivery and handling costs;
       installation and assembly costs;
       costs of testing whether the asset is functioning properly;
       professional fees; and
       Finance (borrowing) costs (optional).
    The initial estimate of the costs of dismantling and
     removing the item and restoring the site on which it is
     located                                                          8

Route 1: Proper Accounting practices

 Subsequent expenditure
 must meet the same requirements as initial spend in order
  to be capitalised, i.e.:
    it is probable that the future economic benefits associated
     with the spend will flow to the entity; and
    the cost can be measured reliably.

 Examples include;
    replacement of components (component accounting),
     enhancement costs, major inspection or overhaul.

 Subsequent costs arising from day-to-day servicing of an
  asset (‘repairs and maintenance’), cannot be capitalised
  because such expenditure maintains the asset’s
  potential to deliver future economic benefits or service
  potential rather than adding to it.                                 9

Route 2: Capital expenditure defined
by regulation
 Capital Finance Regulations extend the
  definition of capital expenditure for either:
    to recognise that expenditure incurred by an
     authority has a wider, lasting public benefit than is
     reflected in the accounting rules for fixed assets
    to provide a disincentive for authorities to enter into
     certain transactions that would not otherwise have
     expenditure implications per the accounting rules.

 Revenue Expenditure Funded from Capital
  Under Statue (REFCUS)                                            10

Route 2: Capital expenditure defined
by regulation - REFCUS
 These include;
       Expenditure incurred on works to any land or building in which
       the authority does not have an interest,
         which would be capital expenditure if the authority had an interest
          in that land or building.

    Expenditure incurred on the acquisition or production of assets
     for use by a person other than the authority
         which would be capital expenditure if those assets were acquired
          or, as the case may be, produced for use by the authority.

    The giving of a loan, grant or other financial assistance to any
     person, whether for use by that person or by a third party,
     towards expenditure which would, if incurred by the authority,
     be capital expenditure
         (except for advances made to officers as part of their terms or
          conditions of employment or in connection with their appointment).

Route 3: Capitalisation Direction (1)
 Section 16(2)(b) of the Local Government Act 2003
 A capitalisation direction is a relaxation of the normal
  accounting requirement that long term borrowing or
  capital receipts should only be used to finance capital
 Enables authorities to apply for specified revenue
  expenditure to be treated as capital expenditure and
  funded from capital sources (e.g. borrowing or capital
  receipts), rather than revenue.
 Applications are considered against strict criteria issued
  annually by the CLG.


Route 3: Capitalisation Direction (2)
 General criteria includes
 Authorities in unavoidable situations incurring costs
  which are due largely to factors beyond an authority’s
  control, not for investment to secure future savings.
 Generally only appropriate for one-off payments (such
  as statutory redundancy).
 Separate process for equal pay back-pay.
 2010/11 deadline for applications to be submitted for
  2010-11 non-equal pay capitalisation is 29 October
 Even if successful, no guarantee that the direction will
  be for 100% of amount requested.


Categories of Fixed Assets under IFRS
   Property, plant and equipment (PPE)
   Investment property
   Intangible assets
   Assets held for sale
 All of the above must, as a minimum, meet the
  two asset recognition criteria;
    It is probable that future economic benefits or
      service potential associated with the item will
      flow to the entity; and
     The cost of the item can be measured reliably

  Categories of Fixed Assets
SORP 2009 title             IFRS Code title         Changes ?
Intangibles                 Intangibles             •Wider definition of intangible assets
                                                    under IFRS

Operational Land and        PPE                     • Detail subsumed into PPE total – but
Buildings                                           can split it out if want to
                                                    •May now includes PFI assets and
Infrastructure                                      finance lease assets put back on
                                                    balance sheet
Vehicles, plant and equip

Community assets

Investment properties       Investment properties   •Tighter definition
Assets under construction   PPE                     • Detail subsumed into PPE total – but
                                                    can split it out if want to
Surplus assets held for     Assets held for sale    •Strict definition of ‘assets held for sale’
disposal                                            •Excludes investment properties
                                                    •Sits as a current asset on balance
                                                    •If not asset held for sale then goes
                                                    back to PPE or investment property 15

Property, Plant and Equipment – IAS 16

 PPE asset classes include but are not limited to;
  Infrastructure assets, Community assets, Land,
  Buildings, Machinery, Office equipment, Assets
  under construction, Vehicles, aircraft.
 Including PFI assets and Finance Lease assets.
 Expectation that the asset will be used for more
  than 1 year.


Investment Property – IAS 40 & IPSAS 16
 An investment property is one that is used solely
  to earn rentals or for capital appreciation or both.
 Property that is used to facilitate the delivery of
  services or production of goods as well as to earn
  rentals or for capital appreciation does not meet
  the definition of an investment property and is
  accounted for as property, plant and equipment
  (PPE). For example:
    If earning rentals were an outcome of a regeneration
     policy, the properties concerned would be accounted
     for as PPE rather than investment property.
       Social housing is delivering a service and shall be
       accounted for as PPE.


Intangible Assets – IAS 38
 An identifiable non-monetary asset without
  physical substance. It must be controlled by the
  authority as a result of past events, and future
  economic or service benefits must be expected to
  flow from the intangible asset to the authority.
  E.g. computer software.
 Strict criteria must be met for internally generated
  intangible assets to be recognised.
 Development of Websites – an economic or service
  benefit must arise from the website in order for it
  to be recognised as an intangible asset.


Assets held for sale - IFRS 5
Criteria (all four must be met):
1. The asset must be available for immediate sale in its present
   condition subject to terms that are usual and customary for
   sales of such assets (or disposal groups).
2. The sale must be highly probable; the appropriate level of
   management must be committed to a plan to sell the asset
   and an active programme to locate a buyer and complete the
   plan must have been initiated.
3. The asset must be actively marketed for a sale at a price
   that is reasonable in relation to its current fair value.
4. The sale should be expected to qualify for recognition as a
   completed sale within one year from the date of
   classification and action required to complete the plan should
   indicate that it is unlikely that significant changes to the plan
   will be made or that the plan will be withdrawn.


Capital – Allowable or not?


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