Explain the Impairment of Property, Plant, and Equipment and Intangible Assets

An asset is said to be impaired when its carrying amount is greater than its recoverable amount or fair value. Impairment losses will be recognized whenever the asset’s carrying amount is not recoverable.

At the end of each reporting period, a company will assess whether there are indications of asset impairment. In the absence of any indication of impairment, the asset will not be tested for impairment. However, if there is an indication of impairment, such as evidence of obsolescence, a decline in demand for products, or technological advancements, the recoverable amount of the asset should be measured to test for impairment.

Rules of Impairment Recognition

Under IFRS, an impairment loss is recognized if the carrying amount exceeds the recoverable amount of the asset. The recoverable amount of an asset is defined as “the higher of the asset’s fair value minus costs of disposal and its value in use.” The value in use is a discounted measure of expected future cash flows.

Under US GAAP, an asset‘s carrying amount is considered unrecoverable when it exceeds the undiscounted expected future cash flows. If the asset‘s carrying amount is considered unrecoverable, the impairment loss is measured as the difference between the asset’s fair value and the carrying amount.

The amount of the impairment loss reduces the carrying amount of the asset on the balance sheet and reduces net income on the income statement. The impairment loss is a non-cash item and doesn’t affect cash from operations.

Impairment of Intangibles With Indefinite Lives

Intangible assets with indefinite lives are not amortized. Instead, they are carried on the balance sheet at the historical cost. Further, they are tested for impairment at least annually. Impairment exists when the carrying amount exceeds the asset’s fair value.

Impairment of Long-lived Assets Held for Sale

A long-lived (non-current) asset is reclassified as held for sale rather than held for use when it becomes obsolete and the management intends to sell it. For instance, if a building ceases to be used and management intends to sell it, the building is reclassified from property, plant, and equipment to non-current assets held for sale. At the time of reclassification, assets previously held for use are tested for impairment. If the carrying amount at the time of reclassification exceeds the fair value minus costs of disposal, an impairment loss is recognized and the asset is written down to fair value minus costs of disposal. Long-lived assets held for sale cease to be depreciated or amortized.

Reversals of Impairments of Long-lived Assets

IFRS does not permit the revaluation to the recoverable amount if the recoverable amount exceeds the previous carrying amount. Under US GAAP, the accounting for reversals of impairments depends on whether the asset is classified as held for use or held for sale. Under US GAAP, once an impairment loss has been recognized for assets held for use, it cannot be reversed. In other words, once the value of an asset held for use has been decreased by an impairment charge, it cannot be increased. For assets held for sale, if the fair value increases after an impairment loss, the loss can be reversed.

Question 1

Which of the following statements is the most accurate?

1. Impairment losses reduce the carrying amount of an asset on the balance sheet but increase net income on the income statement.
2. Impairment losses reduce the carrying amount of an asset on the balance sheet and reduce net income on the income statement.
3. Impairment losses increase the carrying amount of an asset on the balance sheet but reduce net income on the income statement.

Solution

The correct answer is B.

Impairment losses reduce the carrying amount of an asset on the balance sheet and reduce net income on the income statement.

Question 2

A company reporting under IFRS owns an asset with a carrying value of $100,000. Its estimated selling price is $80,000, the cost of disposal is $15,000 and the present value of the expected future benefits generated from the asset is $90,000. The company should most likely report an impairment loss of:

1. $10,000.
2. $15,000.
3. $20,000.

Solution

The correct answer is A.

Under IFRS, an impairment loss is recognized if the carrying amount exceeds the recoverable amount of the asset, which is the higher of its fair value minus costs of disposal ($80,000 – $15,000) or its value in use ($90,000). Since the impairment is the difference between the carrying amount and that value,

Impairment = $100,000 – $90,000 = $10,000