CFM95970 - Interest restriction: group-interest: ANGIE: capitalised interest
TIOPA10/S413(3)(a), (b)
Capitalised interest needs careful treatment for calculating the net group-interest expense (NGIE) and the adjusted net group-interest expense (ANGIE) . It represents one of the most significant adjustments made between these two amounts.
Background
Under IAS, UK GAAP and other accounting frameworks it can be possible or mandatory to capitalise borrowing costs incurred in the acquisition, construction or production of certain qualifying assets. See, for example, section 25 of FRS 102.
Where such an accounting policy is adopted the borrowing cost is included as part of the ‘cost’ of the asset for accounting purposes. This means that borrowing cost is not recognised immediately to profit or loss, but is recognised in line with the asset in question. So, for example, in the context of property, plant or equipment this may be taken to the income statement as part of the depreciation cost. Or, in the context of inventory, taken to the income statement as part of the cost of sale.
The treatment of capitalised interest depends on the character of the asset in question. This is due to the calculation of group-EBITDA which already adds back depreciation in respect of relevant assets (broadly fixed assets and investments - see CFM96470 {#} ). There are also differences in the tax treatment under UK tax law, which are reflected in the treatment under the alternative calculation election.
Net group-interest expense
Amounts of capitalised interest in the carrying value of the asset are not included in the calculation of NGIE as an item of relevant income or expense at the time of capitalisation as they are not comprised in an amount recognised as an item of profit or loss in the group’s financial statements.
Where the asset is written off to profit or loss, then the treatment for NGIE will depend on the nature of the asset:
If the asset is a relevant asset as defined in S417(5), then no amount is included in NGIE in respect of the write off of the asset. This is to prevent difficulties with the calculation of group-EBITDA as these amounts should be included within depreciation and hence will already have been added back.
However, where the capitalised interest in not in respect of a relevant asset then NGIE will include the amounts recognised in profit or loss related to the writing off of the asset. This ensures that the amount of group-EBITDA excludes amounts that relate to interest expense and other similar financing costs.
Adjusted net group-interest expense
There are two adjustments made in respect of ANGIE for capitalised interest:
Firstly, where the group capitalises interest expense or other financing costs as part of the cost of an asset, this amount should be included in the calculation of ANGIE at the point in time it is capitalised.
Secondly, amounts relating to capitalised interest that are written off to the income statement which have been included in NGIE are to be excluded here. This is to ensure that amounts included in ANGIE in respect of capitalised interest at the time they are capitalised are not also included in ANGIE in subsequent periods.
These adjustments are only made in relation to non-financial assets and liabilities. In particular, no adjustments are made in respect of arrangement fees and similar amounts just because they are included in the carrying value of the financial asset or liability under an amortised cost basis of accounting. In these circumstances, the calculation of ANGIE will follow the amounts of financing costs recognised in the profit and loss. S413(5) contains the definition of a non-financial asset and a non-financial liability.
Alternative calculation election
The interest allowance (alternative calculation) election allows the group to calculate ANGIE on a different basis which is more closely aligned to the UK tax treatment of capitalised interest.
Examples
Example 1: Interest capitalised in fixed asset
JK plc prepares accounts to 31 March each year. It builds a factory for £40m as new premises for its widget manufacturing business. The company borrows money for this purpose and in doing so capitalises the interest of £4m incurred during the year ended 31 March 2018 during the construction of the factory. This borrowing cost increases the total value of the tangible fixed asset on the balance sheet to £44m. The factory is completed on 1 April 2018 and is subsequently depreciated over 10 years on a straight line basis.
JK plc has relevant interest expense amounts of £100m each year on other loans.
As the factory is classed as plant, property and equipment in the company’s accounts, the interest is recognised in the income statement through the depreciation charge.
The £4m of interest capitalised is not added into the calculation of the net group-interest expense for the year ended 31 March 2018 as this is not recognised in the income statement in the period.
The amount of £400k in the depreciation charge of £4.4m for the year ended 31 March 2019 is also not included in the calculation of net group-interest expense for the year ended 31 March 2019. This ensures that the interest expense is not double counted as it will have been included in the depreciation charge for the period and hence added back the group’s profit before tax in calculating group-EBITDA for the period. By excluding it from net group-interest expense, JK plc have avoided accounting for it twice. The total net group-interest expense (NGIE) remains as £100m.
When calculating the adjusted net group-interest expense (ANGIE), the £4m capitalised interest is included in the period in which it is capitalised. This therefore results in an ANGIE of £104m.
In summary:
| NGIE | ANGIE | |
|---|---|---|
| Year ended 31 March 2018 | £100m | £104m |
| Year ended 31 March 2019 | £100m | £100m |
The capitalised interest is included in ANGIE in the period in which it is capitalised.
Example 2: Interest capitalised in trading stock - development property
YZ plc are a property development company. In year ended 31 March 2018, the company builds a new development property as part of its trading stock. The actual construction cost of the building is £100m, and the associated interest that is capitalised is £10m. In year 2, the company manages to sell the property for £150m.
YZ plc has relevant interest expense amounts of £100m each year on other loans.
Year 1
In the first year, YZ plc capitalises the interest of £10m. As a result, this amount is not reflected in the group’s profit or loss for the period and hence is not included in calculating the NGIE.
The £10m is capitalised in the period and is therefore included in the ANGIE for the period.
Year 2
In the second year, YZ plc sells the property. The £10m is recognised in profit or loss as part of the cost of sale. As the £10m now relates to the writing off of an asset, the £10m is to be included in the NGIE because it is not a relevant asset. This ensures that this interest cost is excluded from the calculation of group-EBITDA. In this instance it is not duplicated in the depreciation charge as part of group-EBITDA.
In summary:
| NGIE | ANGIE | |
|---|---|---|
| Year ended 31 March 2018 | £100m | £110m |
| Year ended 31 March 2019 | £110m | £100m |