2 PK

Applying IFRS for the
real estate industry
May 2023
Real estate
This publication considers the main accounting issues encountered by real estate entities and the practices adopted in the
industry under International Financial Reporting Standards (IFRS). It covers issues that we believe are of financial reporting
interest due to their particular relevance to real estate entities and/or historical varying international practice.
Links to IFRS Standards and PwC Manual of Accounting (Standing text, FAQ & EX) work only for Viewpoint
subscribers.
Applying IFRS for the real estate

industry
What is the focus of this publication?
This publication considers the main accounting issues encountered by real estate entities and the practices adopted in the
industry under International Financial Reporting Standards (IFRS).
Who should use this publication?

This publication is intended for entities that construct and manage real estate property. Activities such as the construction of
properties on behalf of third parties, and holding or developing properties principally for sale or otherwise own use, are not
considered in this publication.
This publication is intended for:
• audit committees, executives and financial managers in the real estate industry;
• investors and other users of real estate industry financial statements, so that they can identify some of the accounting
practices adopted to reflect features unique to the industry; and
• accounting bodies, standard-setting agencies and governments throughout the world that are interested in accounting
and reporting practices and are responsible for establishing financial reporting requirements.
What is included?
This publication covers issues that we believe are of financial reporting interest due to their particular relevance to real
estate entities and/or historical varying international practice.
This publication has a number of sections designed to cover the main issues raised.
This publication is based on the experience gained from the worldwide leadership position of PwC in the provision of
services to the real estate industry. This leadership enables PwC’s Real Estate Industry Accounting Group to make
recommendations and lead discussions on international standards and practice.
We hope you find this publication helpful.
Applying IFRS for the real estate industry May 2023

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Contents
Real estate ....................................................................................................................................... 1
Applying IFRS for the real estate industry................................................................................... 1
What is the focus of this publication? ......................................................................................... 1
Who should use this publication? ............................................................................................. 1
What is included?....................................................................................................................... 1
1. Real estate value chain .............................................................................................................. 6
1.1. Overview of the investment property industry...................................................................... 6
1.2. Real estate life cycle ........................................................................................................... 6
1.2.1. Step 1: Acquisition or construction of real estate ...................................................... 6
1.2.2. Step 2: Leasing or subleasing of real estate ............................................................. 6
1.2.3. Step 3: Management of real estate .......................................................................... 6
1.2.4. Step 4: Sale or demolition of real estate .................................................................. 7
1.3. Relevant accounting standards .......................................................................................... 7
2. Acquisition or construction of real estate ................................................................................ 9
2.1. Overview............................................................................................................................ 9
2.2. Definition and classification................................................................................................. 9
2.2.1. Principles ................................................................................................................... 9
2.2.2. Ancillary services ..................................................................................................... 10
2.2.3. Properties under construction or development ......................................................... 10
2.2.4. Properties held to be leased out as investment property ......................................... 11
2.2.5. Properties with undetermined use............................................................................ 11
2.2.6. Properties with dual use .......................................................................................... 11
2.2.7. Group situations ...................................................................................................... 11
2.2.8. Properties held under leases ................................................................................... 12
2.3. Acquisition of investment properties: asset acquisition or business combination.............. 13
2.3.1. Accounting treatment for business combinations and asset acquisitions ............... 16
2.3.2. Accounting for deferred tax at initial recognition ..................................................... 17
2.3.3. Accounting for portfolio premiums/discounts ........................................................... 19
2.4. Asset acquisitions: measurement at initial recognition ...................................................... 19
2.4.1. Accounting for transaction costs, start-up costs and subsequent costs shortly after
acquisition .......................................................................................................................... 20
2.4.2. Accounting for forward contracts and options to acquire real estate ...................... 22
2.5. Special considerations: investment properties under construction ................................... 24
2.6. Accounting for rental guarantees ...................................................................................... 24
2.7. Development properties: accounting for the costs of construction ................................... 28
2.7.1. Capitalisation of construction costs ........................................................................ 28
2.7.2. Demolition costs ...................................................................................................... 28
2.7.3. Borrowing costs for properties under construction .................................................... 30

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2.7.4. Income arising on redevelopment of property ......................................................... 31
2.8. Loan investments in subsidiaries, joint ventures and associates ...................................... 31
2.8.1. Accounting at initial recognition............................................................................... 31
2.8.2. Impairment considerations ...................................................................................... 32
3. Subsequent measurement of investment property ............................................................... 33
3.1. Costs incurred after initial recognition ............................................................................... 33
3.2. Replacement of parts of investment property and subsequent expenditure..................... 34
3.3. Subsequent measurement: cost model ............................................................................ 35
3.3.1. Depreciation ............................................................................................................ 35
3.3.2. Component approach and depreciation .................................................................. 35
3.4. Impairment ........................................................................................................................ 38
3.4.1. Overview .................................................................................................................. 38
3.4.2. Impairment of individual assets and CGUs ............................................................. 39
3.4.3. Calculating the recoverable amount ....................................................................... 40
3.4.4. Key considerations when estimating value in use ................................................... 40
3.4.5. Special considerations: goodwill impairment for real estate entities ....................... 41
3.5. Subsequent measurement: fair value model .................................................................... 41
3.5.1. Application where fair value cannot be determined on a continuous basis ............ 42
3.5.2. Fair value measurement of assets held in corporate wrappers in consolidated
financial statements ........................................................................................................... 43
3.6. Fair value measurement of investment property: IFRS 13 ................................................ 43
3.6.1. Overview .................................................................................................................. 43
3.6.2. Principal market and unit of account for investment property ................................. 43
3.6.3. Valuation premise: highest and best use ................................................................. 45
3.6.4. Valuation techniques ............................................................................................... 46
3.6.5. Fair value hierarchy and valuation inputs ................................................................ 47
3.6.6. Application to developments in progress ................................................................. 49
3.7. Change in use of assets: transfers into and out of investment property........................... 50
3.7.1. Transfers out of investment property ........................................................................ 50
3.7.2. Transfers into investment property ........................................................................... 51
4. Rental income: accounting by lessors .................................................................................. 54
4.1. Overview of guidance ....................................................................................................... 54
4.2. Definition of a lease .......................................................................................................... 54
4.2.1. Lease term ............................................................................................................... 55
4.3. Rental income: lessor accounting ..................................................................................... 55
4.3.1. General principles ................................................................................................... 55
4.3.2. Rental income relating to an underlying variable: contingent rentals...................... 56
4.4. Impairment of trade and lease receivables: scope exception for applying the simplified
approach .................................................................................................................................. 58
4.4.1. Expected Credit Loss (‘ECL’) Impairment Model ..................................................... 58
4.4.2. Lease prepayments and cash collateral ................................................................... 62

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4.5. Premiums for properties in a prime location ....................................................................... 65
4.6. Surrender premiums.......................................................................................................... 65
4.7. Assumption of potential tenant’s existing lease ................................................................. 68
4.8. Key money......................................................................................................................... 68
4.9. Letting fees ........................................................................................................................ 68
4.10. Tenant deposits received ................................................................................................ 69
4.11. Tenant obligations to restore a property’s condition .......................................................... 71
4.12. Lease modifications......................................................................................................... 71
4.12.1. Accounting for lease concessions ......................................................................... 73
4.13. Revenue from managing real estate property ................................................................ 74
4.13.1. Overview ................................................................................................................ 74
4.13.2. Measurement of revenue ...................................................................................... 74
4.13.3. Revenue recognition ............................................................................................. 76
4.13.4. Principal/agent relationships .................................................................................. 76
5. Real estate structures and tax considerations...................................................................... 78
5.1. Consolidation .................................................................................................................... 78
5.1.1. Overview .................................................................................................................. 78
5.1.2. Definition of an investment entity............................................................................. 78
5.2. Joint arrangements .......................................................................................................... 82
5.2.1. Overview .................................................................................................................. 82
5.2.2. Classification and measurement of a joint arrangement ......................................... 83
5.3. Taxation ............................................................................................................................ 86
5.3.1. Overview .................................................................................................................. 86
5.3.2. Current tax ............................................................................................................... 86
5.3.3. Deferred tax ............................................................................................................. 86
5.3.4. Deferred tax on investment property measured at fair value ................................... 86
5.3.5. Deferred tax on investment property measured at cost ........................................... 89
5.3.6. Deferred tax on investment property held in a corporate wrapper .......................... 90
5.3.7. Uncertain tax positions............................................................................................. 91
6. Disposal of investment property ............................................................................................. 92
6.1. Classification as held for sale under IFRS 5 .................................................................... 92
6.1.1. Overview .................................................................................................................. 92
6.1.2. Property under construction ..................................................................................... 92
6.2. Sale of investment property .............................................................................................. 92
6.2.1. Deferred sales proceeds .......................................................................................... 93
6.2.2. Variable consideration on a sale of property ........................................................... 94
6.3. Sale of property under construction .................................................................................. 94
6.3.1. Recognise revenue over time or at a point in time ................................................... 95
6.3.2. Significant financing component ............................................................................. 96
6.3.3. Measuring the progress towards completion ............................................................ 96
7. Other reporting issues ............................................................................................................. 98

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7.1. Functional and presentation currency ............................................................................... 98
7.1.1. Overview .................................................................................................................. 98
7.1.2. Functional currency ................................................................................................. 98
7.1.3. Presentation currency.............................................................................................. 99
7.2. Cash flow statement ....................................................................................................... 100
7.2.1. Overview ................................................................................................................ 100
7.2.2. Definition of cash and cash equivalents................................................................ 100
7.2.3. Classification of lessor cash flows in the cash flow statement .............................. 102
8. Disclosures ............................................................................................................................. 103
8.1. Revenue and lease income ............................................................................................ 103
8.1.1. Revenue income disclosures................................................................................. 103
8.1.2. Lease income disclosures...................................................................................... 103
8.2. Segment disclosures ...................................................................................................... 104
8.2.1. Definitions .............................................................................................................. 104
8.2.2. Considerations for operating segments in real estate: managing properties on a
portfolio basis .................................................................................................................. 104
8.2.3. Considerations for operating segments in real estate: managing real estate on a
property-by-property basis ............................................................................................... 105
8.2.4. Matrix information provided to the CODM ............................................................. 105
8.2.5. Criteria used to determine operating segments..................................................... 105
8.2.6. Aggregation ........................................................................................................... 105
8.2.7. Future plans in determining reportable segments: abandonment of operations with
a view to reinvesting ........................................................................................................ 106
8.2.8. Transfers of investment property ........................................................................... 106
8.2.9. Change in the manner in which properties are managed...................................... 106
8.2.10. Use of non-IFRS information .............................................................................. 107
8.2.11. Measurement of reportable segments ................................................................. 107
8.2.12. Material items of income and expense to be reported ........................................ 107
8.2.13. Geographical information .................................................................................... 108
8.2.14. Major customers disclosure.................................................................................. 108
8.3. IFRS 13 disclosures ....................................................................................................... 108
8.3.1. Overview ................................................................................................................ 108
8.3.2. Fair value hierarchy................................................................................................ 108
8.3.3. Disclosure of valuation techniques ........................................................................ 109
8.3.4. Asset classes for disclosure purposes .................................................................... 109
8.3.5. Sensitivities and sources of estimation uncertainty ............................................... 110
8.4. Disclosure of fair value for properties accounted for using the cost model .................... 110
Contact us................................................................................................................................... 111

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1. Real estate value chain
1.1. Overview of the investment property industry
The investment property or real estate industry comprises entities that hold real estate (land and buildings) to
earn rentals and/or for capital appreciation.
Real estate properties are usually held through a variety of structures that include listed and privately held
corporations, investment funds, partnerships and trusts.
1.2. Real estate life cycle

The life cycle of real estate that is accounted for as investment property typically includes the following stages:
Acquisition or Leasing or Management Sale or

1 construction of real
estate
2 subleasing of
real estate
3 of real estate
4 demolition of
real estate
1.2.1. Step 1: Acquisition or construction of real estate

Step 1: Acquisition or construction of real estate
Control of real estate can be obtained through:
• direct acquisition of real estate;

• construction of real estate;
• leasing of real estate; or
• a combination of the above.
Entities normally perform strategic planning before the acquisition, construction or leasing, to assess the feasibility
of the project.
Entities might incur costs attributable to the acquisition, construction or leasing of real estate during this first step
of the cycle. Entities might also enter into financing arrangements to secure the liquidity required for the
acquisition or construction of real estate.
1.2.2. Step 2: Leasing or subleasing of real estate

Step 2: Leasing or subleasing of real estate
Most real estate entities primarily hold real estate for the purpose of earning rentals. They may also hold some
real estate for their own use.
For entities holding real estate for the purpose of earning rentals, lease agreements might contain a variety of
terms. The most common terms that will feature in all leases include matters such as the agreed lease term (and
any options to extend that term), as well as the agreed rental payments due. Additional items that might feature
include payments for maintenance services, utilities, insurance, property taxes and terms of lease incentives
provided to the tenant.
1.2.3. Step 3: Management of real estate

Step 3: Management of real estate
Real estate entities often provide management services to tenants who occupy the real estate that they hold, to
ensure that the property is in good condition and to preserve the value of the real estate. These services might be
performed by the real estate owners themselves, or they might be outsourced to other entities that are designed
to provide these services. Services might include maintenance of common areas, cleaning and security.

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1.2.4. Step 4: Sale or demolition of real estate
Step 4: Sale or demolition of real estate
Real estate entities might sell the real estate that they hold at the end of the life cycle to benefit from capital
appreciation. Alternatively, entities might proceed with demolition of the property, potentially with a view to
construction of a new property.
1.3. Relevant accounting standards

The acquisition and construction of real estate that is accounted for as investment property are governed by the
requirements of IAS 40, ‘Investment property’, IAS 16, ‘Property, plant and equipment’, and IAS 23, ‘Borrowing
costs’.
The requirements of IFRS 16, ‘Leases’, apply to both arrangements where an entity leases out real estate
property and real estate properties held under leases as a lessee.
The requirements of IFRS 15, ‘Revenue from contracts with customers’, apply to revenue generated by a real
estate entity for the provision of services to tenants, which are separated from that portion of income that relates
to the leased asset accounted for under IFRS 16.
The requirements of IFRS 9, ‘Financial Instruments’, apply to financial assets and liabilities recognised by real
estate entities.
This publication is based on accounting standards that are effective for annual periods beginning on or after 1
January 2022.
There are a number of new pronouncements, issued as of the date of this publication, that are not yet effective.
Their impact, where relevant, is presented in separate sections under each related area or otherwise referred to
specifically in the guide. These pronouncements are as follows:
• IFRS 17, ‘Insurance Contracts’, which replaces IFRS 4 (‘IFRS 17’) (effective 1 January 2023);
• Amendments to IAS 1, ‘Presentation of financial statements’ ’and IFRS Practice Statement 2 ‘Making
materiality judgements’, on the disclosure of accounting policies (effective 1 January 2023);
• Amendments to IAS 8, ‘Accounting Policies, changes in accounting estimates and errors’, on the definition of
accounting estimates (effective 1 January 2023);
• Amendments to IAS 12, ‘Income taxes’ and IFRS 1, ‘First-time adoption of International Financial Reporting
Standards’, on deferred taxes related to assets and liabilities arising from a single transaction (effective 1
January 2023);
• Amendments to IAS 1, ‘Presentation of financial statements’, on classification of liabilities as current or non-
current and non-current liabilities with covenants (effective 1 January 2024); and
• Amendments to IFRS 16 ‘Leases’, on lease liabilities in a sale and leaseback (effective 1 January 2024).
The following standards and interpretations, effective as at the date of this publication, are referred to in the guide:
• IFRS 3, ‘Business combinations’ (‘IFRS 3’);

• IFRS 5, ‘Non-current assets held for sale and discontinued operations’ (‘IFRS 5’);
• IFRS 7, ‘Financial instruments: disclosures’ (‘IFRS 7’);
• IFRS 8, ‘Operating segments’ (‘IFRS 8’);
• IFRS 9, ‘Financial Instruments’ (‘IFRS 9’);
• IFRS 10, ‘Consolidated financial statements’ (‘IFRS 10’);
• IFRS 11, ‘Joint arrangements’ (‘IFRS 11’);
• IFRS 13, ‘Fair value measurement’ (‘IFRS 13’);
• IFRS 15, ‘Revenue from contracts with customers’ (‘IFRS 15’);
• IFRS 16, ‘Leases’ (‘IFRS 16’);
• IAS 1, 'Presentation of financial statements' ('IAS 1');
• IAS 2, ‘Inventories’ (‘IAS 2’);
• IAS 7, ‘Statement of cash flows’ (‘IAS 7’);
• IAS 8, ‘Accounting policies, changes in accounting estimates and errors’ (‘IAS 8’);

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• IAS 12, ‘Income taxes’ (‘IAS 12’);
• IAS 16, ‘Property, plant and equipment’ (‘IAS 16’);
• IAS 21, ‘The effects of changes in foreign exchange rates’ (‘IAS 21’);
• IAS 23, ‘Borrowing costs’ (‘IAS 23’);
• IAS 27, ‘Separate financial statements’ (‘IAS 27’);
• IAS 28, ‘Investments in associates and joint ventures’ (‘IAS 28’);
• IAS 36, ‘Impairment of assets’ (‘IAS 36’);
• IAS 37, ‘Provisions, contingent liabilities and contingent assets’ (‘IAS 37’);
• IAS 38, ‘Intangible assets’ (‘IAS 38’);
• IAS 40, ‘Investment property’ (‘IAS 40’);
• IFRIC 22, ‘Foreign currency transactions and advance consideration’ (‘IFRIC 22’); and
• IFRIC 23, ‘Uncertainty over income tax treatments’ (‘IFRIC 23’).

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2. Acquisition or construction of
real estate
2.1. Overview
Real estate entities obtain real estate either by acquiring, constructing or leasing property. Property used for the
purpose of earning rentals or held for capital appreciation is classified as investment property under IAS 40.
2.2. Definition and classification

2.2.1. Principles
IAS 40 defines investment property as property that is held to earn rentals or capital appreciation, or both. [IAS 40
para 5]. The property might be land or a building (or part of a building), or both. Further guidance on scope and
classification can be found in the PwC Manual of Accounting chapter 23 paragraphs 1–15.
Investment property does not include the following:
• Property intended for sale in the ordinary course of business or for development and resale.
• Owner-occupied property, including property held for such use or for redevelopment prior to such use, and
property occupied by employees.
• Owner-occupied property awaiting disposal.
• Property that is leased to another entity under a finance lease.
[IAS 40 para 9].
Owner-occupied property is property that is used in the production or supply of goods or services or for
administrative purposes. [IAS 40 para 5]. A factory or the corporate headquarters of an entity would qualify as
owner-occupied property. During the life cycle of a property, real estate entities might choose to redevelop
property for the purposes of onward sale. Property held for sale in the ordinary course of business is classified as
inventory rather than investment property. [IAS 40 para 9(a)]. Transfers between investment property and both
owner-occupied property and inventory are dealt with in section 3.7.
Classification as investment property is not always straightforward. Factors to consider, when determining the
classification of a property, include but are not limited to:
• the extent of ancillary services provided (see section 2.2.2);

• the extent of use of the property in running an underlying business;
• whether the property has dual use (see section 2.2.6);
• the strategic plans of the entity for the property; and
• previous use of the property.
Example – Property leased out to hotel management entity

Reference to standard: IAS 40 para 9
Reference to standing text: 23.10
Industry: Real Estate
Background
Entity A owns property which it leases out under an operating lease to a hotel management entity. Entity A has
no involvement in the running of the hotel or any decisions made; these decisions are all undertaken by the
hotel management entity, which also bears the operating risk of the hotel business.
Does the property meet the definition of ‘investment property’ for entity A?

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Solution
Yes. Although the property is used as a hotel by the lessee, entity A uses the property to earn rentals, and so
the property meets the definition of ‘investment property’.
Example – Hotel management contract

Background
Entity A owns property that is operated as a hotel. The entity signed a contract with a hotel management
entity. Entity A has no involvement in the running of the hotel or any day-to-day operating decisions made;
these decisions have all been delegated to the hotel management entity which receives a fixed management
fee. However, the operating risk of the hotel business remains with entity A, because the returns received by
entity A include all of the variability of the performance of the hotel.
Does the property meet the definition of ‘investment property’ for entity A?
Solution
No. Although the management entity operates the property as a hotel, entity A bears the operational risk of the
hotel business and, thus, the contract with the hotel management entity is a management contract rather than
a lease contract. The property is classified as property, plant and equipment in the financial statements of
entity A.
Where an entity decides to dispose of an investment property without development, it continues to treat the
property as an investment property. [IAS 40 para 58]. The property will continue to be classified as investment
property until it meets the criteria to be classified as a non-current asset held for sale in accordance with IFRS 5
(see section 6).
2.2.2. Ancillary services

Where an entity provides insignificant ancillary services, such as maintenance, to the third party occupants of the
property, this does not affect the classification of the property as an investment property. [IAS 40 para 11].
Where ancillary services provided are more than insignificant, the property is regarded as owner-occupied,
because it is being used, to a significant extent, for the supply of goods and services. For example, in a hotel,
significant ancillary services (such as a restaurant, fitness facilities or spa) are often provided. IAS 40 provides no
application guidance as to what ‘insignificant’ means. Accordingly, entities should consider both qualitative and
quantitative factors in determining whether services are insignificant. Further guidance on Ancillary services can
be found in the PwC Manual of Accounting chapter 23 paragraphs 16–18.
Example – Serviced apartments

Background
An entity owns a number of apartments which it leases out to tenants under short-term leases. The entity is
also responsible for providing in- house cleaning services, and it undertakes to provide internet, telephone and
cable television to the tenants for an additional monthly fee. The additional fee charged for the services is
approximately 20% of the total monthly rental.
Does the property meet the definition of ‘investment property’?
Solution
No. The entity provides ancillary services to the tenants other than the right to use the property. The value of
these services represents around 20% of the income earned from the tenants. Therefore, these services
cannot be viewed as insignificant. The property is classified as property, plant and equipment in the financial
statements of the entity.
2.2.3. Properties under construction or development

Real estate that meets the definition of ‘investment property’ is accounted for in accordance with IAS 40, even
during the period when it is under construction. Further, an investment property under redevelopment for
continued future use as investment property also continues to be recognised as investment property.

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2.2.4. Properties held to be leased out as investment property
Real estate entities might hold investment properties that are vacant for a period of time. Where these properties
are held to be leased out under an operating lease, they are classified as investment property.
2.2.5. Properties with undetermined use

Land with undetermined use is accounted for as investment property. This is due to the fact that an entity’s
decision around how it might use that land (be it as an investment property, inventory or as owner-occupied
property) is, of itself, an investment decision. In turn, the most appropriate classification for such property is as
investment property. [IAS 40 para 8(b)].
2.2.6. Properties with dual use

A property might be partially owner-occupied, with the rest being held for rental income or capital appreciation.
If each of these portions can be sold separately (or separately leased out under a finance lease), the entity should
account for the portions separately. [IAS 40 para 10]. That is, the portion that is owner-occupied is accounted for
under IAS 16, and the portion that is held for rental income or capital appreciation, or both, is treated as
investment property under IAS 40.
If the portions cannot be sold or leased out separately under a finance lease, the property is investment property
only if an insignificant portion is owner-occupied, in which case the entire property is accounted for as investment
property. If more than an insignificant portion is owner-occupied, the entire property is accounted for as property,
plant and equipment. There is no guidance under the standards as to what ‘insignificant’ means; accordingly,
entities should consider both qualitative and quantitative factors in determining whether the portion of the property
is insignificant.
Example – Hotel resort with a casino

Reference to standing text: 23.16 – 23.18
Background
Entity A owns a hotel resort which includes a casino, housed in a separate building.
The entity operates the hotel and other facilities on the hotel resort, with the exception of the casino, which can
be sold or leased out under a finance lease. The casino is leased to an independent operator. Entity A has no
further involvement in the casino. The casino operator will only operate the casino with the existence of the
hotel and other facilities.
Does the casino meet the definition of ‘investment property’?
Solution
Yes. Management should classify the casino as investment property. The casino can be sold separately or
leased out under a finance lease. The hotel and other facilities would be classified as property, plant and
equipment.
If the casino could not be sold or leased out separately on a finance lease, the whole property would be
treated as property, plant and equipment.
2.2.7. Group situations

Within a group of entities, one group entity might lease property to another group entity for its occupation and use.
In the consolidated financial statements, such property is not treated as investment property; this is because, from
the group’s point of view, the property is owner-occupied. In the separate financial statements of the entity that
owns the property or holds it under a lease, the property will be treated as investment property if it meets the
definition in paragraph 5 of IAS 40. [IAS 40 para 15].
In contrast, property owned or held under a lease by a group entity and leased to an associate or a joint venture
should be accounted for as investment property in both the consolidated financial statements and any separate
financial statements prepared. Associates and joint ventures are not considered part of the group for
consolidation purposes. Further guidance on group considerations can be found in the PwC Manual of Accounting
chapter 23 paragraphs 19–20.

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2.2.8. Properties held under leases
Under IFRS 16, almost all leases must be brought on the balance sheet of the lessee. The lessee recognises a
right-of-use asset and a corresponding liability at the lease commencement date. [IFRS 16 para 22]. Further
guidance on lease recognition for leases of investment property can be found in the PwC Manual of Accounting
chapter 23 paragraph 36.
Real estate entities often hold investment properties that are located on leased land, and these ground leases are
often for long periods of time (for example, 99 years). These entities are lessees in respect of the ground lease
and, under IFRS 16, they must recognise a right-of-use asset and lease liability in relation to these leases. In turn,
the right-of-use asset is classified as an investment property, given that the leased land is held solely for the
purposes of holding the related investment property building. Further, where the real estate entity applies the fair
value model for its investment property, it will equally be required to apply this model to right-of-use assets that
meet the definition of investment property. [IFRS 16 para 34].
The right-of-use asset is measured on initial recognition in accordance with IFRS 16. [IAS 40 para 29A]. IFRS 16
requires a right-of-use asset to be measured at the amount of the initial measurement of the lease liability,
adjusted for any lease payments made at or before the commencement date and any lease incentives received.
Any initial direct costs incurred by the lessee and the estimated costs of decommissioning or restoration
obligations required by the lease are also added to the right-of-use asset. Where a ground lease is negotiated at
market rates, the fair value of the right-of-use asset, net of the market rents promised under the lease and the
expected outflows for any decommissioning or restoration obligations, should be zero. [IAS 40 para 41]. It follows
that the fair value of a newly negotiated ground lease at market rents should differ from the net of the initial
recognition amounts only in respect of any initial direct costs incurred by the lessee, since transaction costs are
not included in a fair value calculation in accordance with IFRS 13. Similarly, a lease interest purchased in an
arm’s length transaction (other than in a business combination) would be expected to have a fair value equal to
the purchase consideration paid (that is, the cost of the right-of-use asset), before any initial direct costs are
considered.
On subsequent measurement of the right-of-use asset at fair value, valuation models for investment property will
include ground lease payments as cash outflows and typically present the fair value on a net basis. However,
IFRS 16 requires the lease liability and the right-of-use investment property to be presented on a gross basis on
the balance sheet. To achieve this presentation, IAS 40 requires the amount of the recognised lease liability,
calculated in accordance with IFRS 16, to be added back to the amount determined under the net valuation
model, to arrive at the carrying amount of the investment property under the fair value model. Subsequent
accounting considerations in relation to subleases entered into with tenants, where the underlying investment
property is held under a lease, are discussed in section 4.2.
Example – Accounting for investment property held under a lease

Reference to standard: IFRS 16 para 22
Background
On 1 January 20X1, entity A pays C1,000 in an arm’s length transaction to obtain a leasehold investment
property, consisting of a building and land subject to a ground lease. The ground lease has a lease term of 70
years.
Entity A is required to pay an annual ground rent of C50 during the lease period. Entity A is unable to readily
determine the interest rate implicit in the lease and has calculated its incremental borrowing rate as 5%. Using
this discount rate, it has determined that the present value of the future ground lease payments is C967.
Entity A applies the fair value model in accordance with IAS 40 to subsequently measure its investment
properties. The amount of C1,000 paid by entity A represents the fair value of the leasehold investment
property at the date of acquisition. Entity A did not incur any initial direct costs.
Solution
Accounting at lease acquisition – 1 January 20X1
IAS 40 requires the initial recognition of investment properties to be at cost. The amount of C1,000 is the
consideration paid to acquire the leasehold investment property, including the assumption of the obligation to
pay ground rent to the lessor under the lease. However, under IFRS 16, a lease liability as well as a right-of-
use investment property must be recognised in respect of the ground lease. This results in the following entries
on initial recognition:

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Dr Investment property – C1,967
Cr Lease liability – C967
Cr Cash – C1,000
Accounting at 31 December 20X1

Entity A determines the fair value of the investment property (net of the future obligation to pay ground rent)
to be C1,080 at this date. The valuation approach used to determine this amount includes the future cash
outflows associated with the ground lease. Further, the valuation approach used assumes a market discount
rate of 6%. As a result, the valuation amount can be analysed as follows:
Present value of future lease net operating income discounted at 6% – C1,898
Present value of future ground lease payments discounted at 6% – (C818)
Fair value of investment property – C1,080
Under IFRS 16, a lease liability in respect of the ground lease is reflected on the balance sheet. During the
year, a ground lease payment of C50 was made, resulting in the following entries:
Dr Interest expense – C48
Dr Lease liability – C2
Cr Cash – C50
As a result, the carrying value of the lease liability as at 31 December 20X1 is C965 (being the initial carrying
value of C967 less the principal payment of C2). In line with paragraph 50(d) of IAS 40, since a separate
liability is recorded on the balance sheet in respect of the ground lease, the carrying value of the investment
property must reflect this. At 31 December 20X1, this would mean that the overall fair value of the investment
property would be reflected on the balance sheet as follows:
Investment property – C2,045
Lease liability – (C965)
Net fair value – C1,080
In turn, the following entries would be recorded to recognise the revaluation of the investment property from
C1,967 to C2,045:
Dr Investment property – C78
Cr Fair value gain – C78
The overall impact on the income statement is net income of C30 (being the fair value gain of C78 less the
interest expense of C48).
From the perspective of the cash flow statement, payments relating to the ground lease are reflected as a
financing cash outflow of C2 in respect of repayment of principal and an interest cash outflow of C48
(classified in accordance with the entity’s policy for interest cash outflows).
2.3. Acquisition of investment properties: asset acquisition or business

combination
Entities might acquire investment properties that meet the definition of an asset, or investment properties
(together with other inputs and processes) that meet the definition of a business under IFRS 3.
It is also common in the real estate industry to structure property acquisitions and disposals in a tax-efficient
manner. This often involves the transfer of a company, frequently referred to as a ‘corporate wrapper’, which
holds one or more properties.
The accounting treatment for an acquisition depends on whether it is a business combination or an asset
acquisition.
A ‘business’ is defined as an ‘integrated set of activities and assets that is capable of being conducted and
managed for the purpose of providing goods or services to customers, generating investment income (such as
dividends or interest) or generating other income from ordinary activities’. [IFRS 3 App A].

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The legal form of the acquisition is not a determining factor when assessing whether a transaction is a business
combination or an asset acquisition. For example, the acquisition of a single vacant investment property is not a
business combination simply because it is purchased through a corporate wrapper. Similarly, a transaction is not
an asset acquisition simply because the acquiring entity purchases a group of assets directly rather than
purchasing shares of a company.
A transaction will qualify as a business combination only where the assets purchased constitute a business.
Significant judgement is required in the determination of whether the definition of a business is met.
To be considered a business, an acquisition would have to include an input and a substantive process that
together significantly contribute to the ability to create outputs. Not all of the elements need to be present for the group
of assets to be considered a business:
• Outputs are not required for an integrated set to qualify as a business. [IFRS 3 App B para B7].
• A business does not need to include all of the inputs or processes that the seller used in operating that
business. However, to be considered a business, an integrated set of activities and assets must include, at a
minimum, an input and a substantive process that together significantly contribute to the ability to create
output. [IFRS 3 App B para B8].
The guidance provides a framework to evaluate when an input and a substantive process are present, and it
considers an optional concentration test that, if met, eliminates the need for further assessment.
Concentration test: Is
substantially all of fair Yes
value in one asset or Asset
similar assets?
No (or concentration test bypassed)
Are there outputs?
Yes No
Process critical to producing Process critical to ability to

No outputs and workforce acquired convert inputs acquired and No
Asset or process is unique, scarce or other inputs that workforce can Asset
cannot be replaced without convert to outputs acquired?
significant cost/effort/delay?
Yes Yes
Business
The concentration test

Under the concentration test, companies consider whether substantially all of the fair value of the gross assets
acquired is concentrated in a single asset (or a group of similar assets). If so, the assets acquired would not
represent a business and no further analysis is required. Gross assets acquired exclude cash, deferred tax assets
and any goodwill that results from the effects of deferred tax liabilities. The fair value of the gross assets acquired
can usually be determined based on the consideration transferred (plus the fair value of any non-controlling
interest and previously held interest, if any) plus the fair value of any liabilities assumed, other than deferred tax
liabilities. In order to compare like with like, any items excluded from the ‘gross assets acquired’ would also be
excluded from the ‘fair value of gross assets acquired’ calculation.

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The optional concentration test includes the concept of aggregating ‘similar’ assets. In the real estate industry, it is
common for acquisitions to include several properties. Entities should carefully consider the specific facts and
circumstances, including class of property and location, when concluding whether assets purchased in a
transaction are similar. A group of properties are not similar if they have significantly different risk characteristics.
[IFRS 3 App B para B7B(f)(vi)].
Example – Acquisition of a residential real estate portfolio

Background
Property Co purchases a portfolio of 10 residential homes. Each home is considered to be a separate
investment property for accounting purposes. All homes are leased out to separate tenants and comprise land
and buildings. Each home has a different design and layout, but all homes are located in the same
geographical area and the risk profile of the real estate market across that area is similar. No employees, other
assets or other activities are transferred. Is the arrangement the acquisition of a business?
Solution
No. Property Co elects to apply the optional concentration test and would conclude that this is an asset
acquisition, because substantially all of the fair value is concentrated in a group of similar assets. Property Co
would treat this as an asset acquisition.
A transaction is not automatically a business combination if the optional concentration test does not result in
an asset classification. An entity would then need to assess the transaction under the full framework.
Framework in IFRS 3
IFRS 3 requires a business to include, as a minimum, an input and a substantive process that together
significantly contribute to the ability to create output. The guidance provides a framework to evaluate when an
input and a substantive process are present, differentiating between transactions with outputs and those with no
outputs. Outputs are defined as ‘the results of inputs and processes applied to those inputs that provide goods or
services to customers, generate investment income (such as dividends or interest) or generate other income from
ordinary activities’. [IFRS 3 App B para B7].
Without outputs
An acquired process is considered substantive where the process is critical to the ability to convert an acquired
input to an output. In addition:
• the inputs acquired include an organised workforce that has the necessary skills, knowledge and experience to
perform that process; and
• other inputs are acquired that can be developed or converted into outputs by the organised workforce (for
example, intellectual property, other economic resources that could be developed to create outputs, or rights to
obtain materials that enable future output to be created).
With outputs
An acquired process is considered substantive where, either:
• the process is critical in continuing to produce outputs and the input includes an organised workforce with the
necessary skills, knowledge or experience to perform that process; or
• the process significantly contributes to the ability to continue to produce outputs and is unique or scarce or
cannot be replaced without significant cost.
Contracted workforce
An acquired contract could give access to an organised workforce (for example, outsourced property
management services). The entity needs to assess whether the organised workforce provides a substantive
process that it controls. Factors to consider include: the service is not ancillary or minor; it would be difficult to
replace the workforce; and the duration of the contract and renewal terms.

PwC 15
Example 1 – Acquisition of a residential and office real estate portfolio
Background
Property Co purchases a portfolio of 10 residential homes (the nature of these homes being as outlined in the
example above), as well as an office park containing five fully let office buildings. In addition, an outsourcing
contract for maintenance services for the office park is also acquired. The maintenance services are
considered ancillary or minor in the context of generating rental income at the office park. No employees, other
assets or other activities are transferred. Is the arrangement the acquisition of a business?
Solution
No, Property Co would conclude that this is an asset acquisition.
The concentration test is not passed, since all of the fair value is not concentrated in a single identifiable asset
or a group of similar identifiable assets. This is because two dissimilar classes of real estate with different risk
profiles (that is, residential and office) are acquired.
Since there are leases in place for both the residential homes and office park buildings, Property Co would
then analyse the transaction, referring to the framework with outputs and considering whether the acquired
processes are substantive. No organised workforce is acquired and the maintenance services are considered
ancillary or minor in the context of generating rental income. Further, the maintenance services do not
significantly contribute to the ability to generate rental income and also could be replaced without significant
cost.
Would the answer be different if there were no in-place lease contracts and, therefore, no outputs?
Analysis
No, Property Co would still conclude that this is an asset acquisition.
In order for the definition of a business to be met where there are no outputs, an organised workforce with the
necessary skills critical to the ability to develop and convert the inputs into outputs would need to be present.
Since no such organised workforce is acquired, the definition of a business is not met.
Example 2 – Acquisition of a residential and office real estate portfolio

Background
Property Co acquires a portfolio of residential and office assets (the nature of these assets being as outlined in
the example above), and it also acquires employees that are responsible for operational management of the
assets as well as all tenant management and leasing activity. Is the arrangement the acquisition of a
business?
Solution
Yes. Property Co would conclude that this is a business combination.
The concentration test is not met, because the fair value of the assets acquired is not concentrated in a single
asset or a group of similar identifiable assets. Further analysis is required, following the framework with
outputs, to assess whether a process is acquired and whether the process is substantive. A business is
acquired, because the organised workforce is a substantive process with the necessary skills that is critical to
the ability to develop and convert the inputs (that is, the land, buildings and in-place leases) into outputs.
2.3.1. Accounting treatment for business combinations and asset acquisitions

The accounting treatment for an acquisition that is a business combination differs from the accounting when
acquiring a group of assets that does not meet the definition of a business (that is, an asset acquisition).

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The key considerations are explained below:
Assest acquisition Business combination

Standard IFRS 3 – apply scope exemption IFRS 3
explained in paragraph 2(b) and apply
the relevant standards for the acquired
assets/liabilities1
Assets and liabilities Allocate the purchase price to the Recognise and measure the identifiable
individual identifiable assets and assets and liabilities at their acquisition
liabilities on the basis of their relative date fair values
fair values
Deferred tax No deferred tax is recognised under Deferred tax is recognised in
IAS 12, given the initial recognition accordance with IAS 12
exception [IAS 12 para 15(b)]
Goodwill Not recognised Recognise any related goodwill or
negative goodwill
Contingent liabilities Not recognised, although the presence Contingent liabilities that are a present
of contingent liabilities might impact obligation arising from past events and
transaction price and asset valuation can be reliably measured should be
recognized at fair value. This is the
case even if it is not probable that a
future outflow of economic benefits will
occur
Transaction costs Form part of the cost of the Expensed in the period incurred
asset
Subsequent Follow relevant standards for each Follow relevant standards for each
measurement asset asset
implications For contingent liabilities, these should
be measured at the higher of:
• the amount that would be
recognised under IAS 37; and
• the amount initially recognised, less
(if appropriate) the cumulative
income recognised
Annual impairment test for any
recognised goodwill is required (see
section 3.4.5 )
2.3.2. Accounting for deferred tax at initial recognition

One of the more important features for the real estate industry, in respect of the accounting for deferred tax, is the
initial recognition exemption in paragraph 15(b) of IAS 12, which applies for property acquisitions outside a
business combination.
Deferred tax is recognised for all taxable temporary differences, except to the extent that the deferred tax liability
arises from the initial recognition of goodwill or the initial recognition of an asset or liability in a transaction that is
not a business combination and that, at the time of the transaction, affects neither accounting profit nor taxable
profit [IAS 12 para 15], often referred to as the initial recognition exemption. Further guidance on the recognition
of deferred tax can be found in the PwC Manual of Accounting chapter 14 paragraph 18.
1
Paragraph 2(b) of IFRS 3 removes from the scope of the standard the acquisition of an asset or a group of assets that does not meet the
definition of a business. In such cases, the acquirer recognises the acquired assets and assumed liabilities in accordance with the relevant
standards. The cost should be allocated to the individual identifiable assets and liabilities on the basis of their relative fair values at the purchase
date.

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For periods beginning on or after 1 January 2023, IAS 12 was amended to include an additional condition
where the initial recognition exemption is not applied. Under the amendment, a temporary difference that
arises on initial recognition of an asset or liability is not subject to the initial recognition exemption if that
transaction gave rise to equal amounts of taxable and deductible temporary differences. An example of this
would be the acquisition of investment property held by way of a lease if initial recognition of the lease liability
and corresponding right-of-use asset gives rise to equal amounts of taxable and deductible temporary
differences. The recognition guidance in IAS 12 for deferred tax assets and deferred tax liabilities is applied to
these deductible and taxable temporary differences, respectively.
It is important therefore to determine whether or not the transaction is a business combination or an asset
acquisition (see section 2.3).
Asset acquisition Business combination

Background An investment property with a fair value of C100 is acquired in a ‘corporate
wrapper’ (see section 2.3). The purchase price amounts to C90. The discount is
the result of the seller and the buyer negotiating the price, based on the fact that
the property’s tax base in the ‘wrapper’ is C50. For simplicity, it is assumed that
there are no transaction costs and that the blended tax rate is 40%
Solution In the group accounts, the investment In the group accounts, the investment
property is recognised at its cost of property is recognised at its fair value
C90. At the point of acquisition, there is of C100. At the point of acquisition,
a temporary difference of C40 (being there is a temporary difference of C50
the carrying value of C90 less the tax (being the carrying value of C100 less
base of C50). No deferred tax liability is the tax base of C50). This results in a
recognised, because this is prohibited deferred tax liability of C20 (C50
by the initial recognition exemption in × 40%) that must be recognised as part
paragraph 15(b) of IAS 12. of the business combination
accounting.
The following entries are recorded at acquisition:
Dr (C) Cr (C) Dr (C) Cr (C)

Investment 90 100
property
Goodwill 10
Cash 90 90
Deferred tax 20
liability
Subsequent to initial recognition, the investment property must be recorded at its fair value of C100, resulting in
the following entries in the case of an asset acquisition (assuming no change in the tax base):
Dr (C) Cr (C) Dr (C) Cr (C)

Investment 10 - - -
property
Deferred tax - 4 - -
liability
Gains or losses - 10 - -
from fair value
change
Deferred tax 4 - - -
expense (CU10 ×
40%)

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Goodwill that arises on the acquisition of an investment property that is a business might result (partially) from the
recognition of deferred tax. Such goodwill must be tested for impairment annually (see section 3.4.5).
2.3.3. Accounting for portfolio premiums/discounts

Entities acquire real estate properties either individually or in a portfolio. The price paid to acquire a portfolio of
properties in a single transaction could differ from the sum of the fair values of the individual properties.
Portfolio premiums (discounts) are the excess (shortfall) of the market value of a portfolio of properties compared
to the aggregate market value of the properties taken individually. Such premiums (discounts) affect the allocation
of consideration.
Portfolio premiums could arise as a result of a purchaser’s ability to build a portfolio immediately rather than over
a period of time, short supply in the market, or because of saved transaction costs. In some instances, expected
portfolio synergies might also result in portfolio premiums. In such a case, it is important to consider whether the
existence of a portfolio premium is an indicator of a business combination as opposed to the acquisition of a
group of assets.
Portfolio discounts could be granted by a seller in order to encourage a single buyer to purchase a large number
of properties, and thereby avoid future marketing and other administrative costs associated with selling properties
one-by-one.
The accounting for such portfolio premiums (discounts) at initial recognition differs, depending on whether the
transaction qualifies as a business combination or not.
The following table summarises the principles of accounting for portfolio premiums and discounts paid when
acquiring a portfolio of real estate properties:
Portfolio premiums Asset acquisition Business combination

Initial measurement The consideration is allocated to the The assets and liabilities acquired are
underlying assets proportionately to recognised at fair value, so any
their fair value. Premiums (discounts) premiums or discounts affect the
might result in a higher (lower) amount amount of goodwill arising from
being allocated to the investment acquisition accounting.
property when compared to its fair
value. If the discount results in negative
goodwill (bargain purchase), the gain is
recognised in profit or loss.
2.4. Asset acquisitions: measurement at initial recognition

The rules for recognition of real estate that meets the definition of investment property are similar to those for all
other assets. Investment properties (that are not a business) are initially recognised at cost, including transaction
costs. [IAS 40 para 20].
Cost is generally the amount of cash or cash equivalents paid, or the fair value of other consideration given, to
acquire an asset at the time of its acquisition or construction. [IAS 40 para 5].
An entity might acquire investment property for an initial payment, plus agreed additional payments contingent on
future events, outcomes or the ultimate sale of the acquired asset at a threshold price. The entity will usually be
contractually or statutorily obligated to make the additional payment if the future event or condition occurs. This is
often described as variable or contingent consideration for an asset.
These types of arrangements need to be analysed carefully to determine whether or not the future variable or
contingent payment is related to the cost of the asset. Payments which are not related to the cost of the asset
should be expensed as incurred. The accounting for contingent consideration of an asset has been discussed by
the IFRS Interpretations Committee although it has currently not provided further guidance in the form of an
interpretation or an agenda decision that explains how the existing guidance is applied. An entity should therefore
develop an accounting policy for contingent consideration related to the cost of acquiring an investment property
that is consistently applied in accordance with IAS 8. There is diversity in practice in accounting for contingent
consideration of an asset, with three acceptable approaches.
1. Financial liability model

Investment property is initially recognised including the fair value of the future contingent payments, and a
financial liability is recognised at the same fair value of contingent payments. Subsequently, the financial
liability is measured at amortised cost, following the requirements of IFRS 9. The entity should adjust the

PwC 19
carrying amount of the financial liability to reflect actual and updated estimated cash flows whenever the cash
flow estimates are revised. The entity recalculates the carrying amount of the liability by computing the
present value of estimated future cash flows at the financial instrument’s original effective interest rate or,
where applicable, the revised effective interest rate calculated in accordance with IFRS 9 paragraph B5.4.6.
Subsequent changes in the measurement of the liability are unrelated to the cost of the asset. Those
adjustments are therefore recognised in profit or loss as income or expense.
2. Cost accumulation model
Investment properties are initially recognised, at the date of acquisition, at the amount of consideration paid.
Variable payments contingent on future events are not included in the carrying amount of the asset on day 1,
and no liability is recognised for these payments. The entity does not recognise a liability because, following
the agenda decision by the IFRS Interpretations Committee to not include the accounting for contingent
consideration to acquire an asset to its agenda because it is too broad, it is not clear that there is an
obligation before the uncertainty is resolved. The IFRS Interpretations Committee also noted, in the 2016
agenda decision, that there are unanswered questions about the accounting for subsequent payments. An
entity could therefore choose to capitalise the variable payments as part of the cost of the asset when paid,
on the basis that these payments represent the direct cost of acquisition. This treatment is typically only
acceptable if a change in the variable payment is as a consequence of the utility of the asset. If the variation
is as a consequence of another factor not associated with the asset, the accounting for that aspect of the
variable payment would generally follow the applicable guidance in IFRS.
3. Analogy to IFRIC 1 approach
Investment properties are initially recognised at cost, at the date of acquisition, which includes an estimate for
the future anticipated variable costs. A liability will be recognised at the same time. The liability is
subsequently measured at amortised cost, in a similar way to approach 1 above. However, subsequent
changes in the liability will be recognised against the cost of the asset. This treatment is typically only
acceptable if a change in the variable payment is as a consequence of the utility of the asset. If the variation
is as a consequence of another factor not associated with the asset, the change in cost would generally
follow the applicable IFRS guidance.
2.4.1. Accounting for transaction costs, start-up costs and subsequent costs shortly
after acquisition
Cost is the purchase price, including directly attributable expenditures. Such expenditures include transaction
costs (such as legal fees and property transfer taxes) and, for qualifying properties under construction not
subsequently measured under the fair value model, borrowing costs in accordance with IAS 23.
Except for transaction costs relating to acquisitions that meet the definition of a business combination, external
transaction costs are included in the cost of acquisition of the investment property.
The cost of acquired investment property excludes internal transaction costs (for example, the cost of an entity’s
in-house lawyer who spends a substantial amount of time drafting the purchase agreement and negotiating legal
terms with the seller’s lawyers). The entity cannot apportion the in- house lawyer’s salary and include an
estimated amount related to the work on the acquisition of a property in the cost of that property. The in-house
lawyer’s employment-related costs are internal costs that relate to ‘general and administrative costs’, and they are
not directly attributable to the acquisition of the property.
Example – Market study research costs (1)

Background
Entity Y purchased an investment property in Lisbon. It performed a study of the real estate market in Portugal
before it purchased the property. Management proposes to capitalise the costs of this study.
Can management capitalise the real estate study costs?
Solution
No. The costs cannot be capitalised, since the costs of the market study are not directly related to the acquired
property. Such costs are pre- acquisition costs, and they are expensed as incurred.

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Example – Market study research costs (2)
Background
Entity A has a 31 December year end, and it adopts the fair value model for its investment properties (see
section 3.5).
Entity A acquired a property in December 20X1 at a cost of C100, and it incurred transaction costs amounting
to C5. There is no movement in the underlying market value of the property between the acquisition date and
the year-end date, so the fair value of the investment property at 31 December 20X1 is C100.
How should the entity account for the transaction costs incurred?
Solution
Investment property is initially measured at the cost of C105, including the transaction costs of C5. [IAS 40
para 20]. Transaction costs include legal fees, property transfer taxes etc that are directly attributable to the
acquisition of the property. [IAS 40 para 21]. However, investment property measured subsequently at fair
value cannot be stated at an amount that exceeds its fair value. At 31 December 20X1, entity A should report
its investment property at the fair value of C100, and it should recognise a loss of C5 in its income statement.
The cost of an investment property excludes items such as:
• start-up costs, unless they are necessary to bring the property to its working condition;
• initial operating losses incurred before the investment property achieves the planned level of occupancy; and
• abnormal amounts of wasted material, labour or other resources incurred in constructing or developing the
property.
Such costs, incurred in the period after the acquisition or completion of an investment property, do not form part of
the investment property’s carrying amount, and they should be expensed as incurred. [IAS 40 paras 21–23].
An entity might incur costs subsequent to completion of a property but before it can be put to its intended use (for
example, where a regulatory approval must be obtained first). Costs incurred subsequent to the completion of the
property are either:
• expensed, where they relate to maintenance of the building and attracting new tenants; or
• capitalised, where they enhance the value of the asset or where they help to bring the asset to an operational
condition.
Example – Costs incurred subsequent to completion: prior to being fully let

Background
Entity M develops an office building for rental. Subsequent to completion of the building, it incurs expenses
(such as security, utilities and marketing) before the building has secured a reasonable level of occupancy.
The time between the building’s completion and securing a reasonable number of tenants is three months.
Management considers capitalising these operating costs that are incurred in this period.
Can entity M capitalise costs that are incurred after the date of completion of the property and prior to it being
fully let?
Solution
No. The costs should be expensed as incurred. These costs relate to maintaining the building and attracting
tenants. They are not necessary in bringing the asset to an operational condition.

PwC 21
Example – Costs incurred subsequent to completion and prior to approval by relevant government agency
Background
Entity N develops an office building for rental, and it incurs expenses (such as security and utilities)
subsequent to completion. The building was physically completed on 31 March, but the local health and safety
regulator did not clear the property for use until 30 June, when the security system met the required conditions.
The delay of three months in receiving health and safety approval is standard for the type and location of the
building. Entity N incurred C100,000 security expenses in the period between 31 March and 30 June. These
costs were necessary in order to ensure that the required conditions for health and safety approval could be
satisfied.
Can entity N capitalise those costs in the period between the date of completion and the date when the
building receives approval for use from the relevant government agency?
Solution
Yes. The security expenses incurred during the period from 31 March to 30 June should be capitalised. The
legal requirement to receive the regulatory clearance meant that the building could not be put to its intended
use, although construction was completed on 31 March.
2.4.2. Accounting for forward contracts and options to acquire real estate
Entities might enter into forward contracts or options for purchasing investment property. Contracts to buy a non-
financial asset (such as property) that are entered into for the purposes of receipt of that non-financial asset, and
that cannot be settled net in cash or another financial instrument, are outside the scope of IFRS 9. [IAS 32 para
8]. Since the contract will be settled by physical delivery of property (typically land) rather than by delivery of a
financial asset or exchange of financial instruments and cannot be settled net in cash, it is not accounted for as a
derivative.
Entities usually make a small initial deposit payment to enter into these contracts. This initial deposit payment is
recognised in the balance sheet if it meets the definition of an asset. The cost can be measured reliably, since it is
the amount paid. If it is probable that the acquisition of the property will occur in the future, or economic benefits
could be derived from this option in some other way (for example, if it is possible to sell the option to a third party),
the recognition criteria for an asset are met.
The contract does not meet the definition of investment property, since it has not yet represented a current
interest in property. In substance, it is the first payment to secure the future acquisition of the property. If the
property is subsequently acquired, the amount paid for the option (or forward) would form part of the cost of that
property.
The amount paid to the owner of the property for the option or forward is recognised as a non-financial asset. If
future economic benefits are no longer expected to occur, for example, if acquisition of the property is no longer
probable, and economic benefits cannot be derived from the option in any other way, such as the absence of the
ability to sell the option to another party or obtain a refund, the asset is derecognised. The asset would also need
to be assessed for indicators of impairment in accordance with IAS 36.
Where the asset is denominated in a foreign currency, an entity will need to determine whether the asset is
monetary or non-monetary in the context of IAS 21. For example, if the asset is non-refundable, it will be treated
as a non-monetary item; whereas, if the amount is fully refundable, it will be treated as a monetary item.
Judgement might be required in determining whether or not the asset is a monetary or non-monetary item,
considering the terms of the specific contract. On initial recognition, the asset should be translated to the entity’s
functional currency using the spot rate at the date of the transaction. For a non-monetary asset, the date of the
transaction, should be the date on which an entity initially recognises the non- monetary asset arising from the
advance deposit or prepayment. [IFRIC 22 para 8]. If there are multiple payments or receipts in advance of
recognising the related item, the entity should determine the date of the transaction for each payment or receipt.
[IFRIC 22 para 9]. Non-monetary items are not remeasured to reflect changes in foreign currency. If the asset is a
monetary item, it will need to be remeasured at each reporting date, using the closing rate. If it is a non-monetary
item, no remeasurement should be performed.

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Example – Land options
Background
Entity A made a one-off payment to entity B for the option to buy entity B’s land within the next 10 years,
subject to planning permission for development being achieved. The price of the land will be based on market
value at the time of exercise, less the initial one-off payment already made. The initial one-off payment for the
option is non-refundable. Entity A plans to develop the land into investment property when it is acquired. Entity
A has a high expectation of purchasing the underlying land.
How should the initial payment for the land option be accounted for?
Solution
Provided that it is probable that entity A can derive future economic benefits from the land option, the one-off
payment is recognised as a non- financial asset in the statement of financial position. The subsequent
measurement is at cost and will be assessed for impairment under IAS 36.
Example – Purchase of an investment property: share deal

Background
Entity A enters into a forward contract to purchase 100% of the outstanding shares of entity X in six months’
time. Entity X holds a single property that is currently rented out to a single lessee on a long-term lease
contract.
The final purchase price is calculated as the pro rata share of the equity presented in the balance sheet of
entity X at the settlement date. The investment property held is accounted for under the fair value model in
entity X’s financial statements. The contract does not contain any net settlement provisions.
Entity A will be required to consolidate entity X when control is transferred (see section 5.1). Entity A intends to
use the property as investment property.
Should entity A account for the forward purchase contract as a derivative within the scope of IFRS 9?
Solution
There are two permissible accounting approaches in this case. Entity A should select an accounting policy
approach and apply that approach consistently.
Accounting policy 1 – Forward purchase contract is accounted for as the purchase of an investment
property, based on the economic substance of the contract
The forward purchase contract has the economic substance of a contract to purchase investment property,
and it is outside the scope of IFRS 9 as a result of the own use exemption. [IFRS 9 para 2.4]. The economic
substance needs to be considered; this is because the legal form of the purchase contract, being a contract to
purchase shares rather than an asset, should not impact the accounting.
Accounting policy 2 – Forward purchase contract is accounted for as a derivative, based on the legal
structure of the contract
Entity A intends to purchase the outstanding shares of an entity. Therefore, the forward purchase contract is
within the scope of IFRS 9. Entity A has the right to receive 100% of the shares of entity X, and it has the
obligation to pay the purchase price at the settlement date. Accordingly, the forward purchase contract is within
the scope of IFRS 9.
Note that, if entity A had entered into a contract to purchase 50% of the outstanding shares of entity X resulting
in entity X being a joint venture, the above accounting policy choice would not apply. Where entity A has
entered into a joint venture arrangement, the substance of the transaction would be broader than just purchase
of an investment property. As a result, such a contract would be accounted for as a derivative within the scope
of IFRS 9. [IFRS 9 para 2.1(a)].

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Example – Purchase of an investment property: asset deal
Background
Entity A enters into a contract to purchase a property in six months’ time. Entity A is required to pay the fixed
purchase price for the property, and the counterparty is required to transfer all rights attached to the property at
the future settlement date. The contract does not contain any net settlement provision. Entity A pays a small
signing fee to the seller in order to enter into the purchase contract. The non-refundable deposit is deductible
from the final amount that entity A pays at the settlement date, and it is considered by the entity as a down
payment.
Entity A intends to use the property, which is rented out to a single lessee on a long-term lease contract, as an
investment property in accordance with IAS 40.
Should entity A account for the forward purchase contract to buy an investment property as a derivative within
the scope of IFRS 9?
Solution
Entity A enters into a contract to purchase a non-financial instrument which cannot be settled net in cash and
which has been entered into and is held for the purpose of delivery of the investment property for its own use.
Thus, the forward purchase contract is not within the scope of IFRS 9. The non-refundable deposit should be
recognised as a prepayment on the balance sheet.
2.5. Special considerations: investment properties under construction

An entity might enter into a binding forward purchase agreement to purchase a completed property after
construction is completed. Where the contract requires the entity to pay a fixed purchase price, the entity will need
to consider whether the contract is onerous. A provision for onerous contracts is recognised if the unavoidable
costs of meeting the obligations under the contract or exiting from it exceed the economic benefits expected to be
received under it. [IAS 37 paras 66–69].
For example, if this fixed price has a net present value of CU100 million at the reporting date, and the estimated
economic benefits of the completed investment property at the reporting date is below that (say, CU80 million), a
loss of CU20 million is recognised immediately in the income statement. The resulting provision is recognised on
the balance sheet, unless there is an asset dedicated to the contract.
If there is an onerous contract as defined above, an impairment test is performed on any asset dedicated to the
contract (for example, prepayments made in relation to the purchase). Such an asset relating to an onerous
contract is written down to the recoverable amount (see section 3.4 for further guidance on impairment), if this is
less than the carrying amount. [IAS 37 para 69]. A provision is recognised only after such an asset is reduced to
zero.
Regardless of the assessment as to whether or not there is an onerous contract, contractual obligations to
purchase, construct or develop investment property, or for repairs, maintenance or enhancements, should be
disclosed.
[IAS 40 para 75(h)].
2.6. Accounting for rental guarantees

Sellers of real estate might provide guarantees to the potential buyers. A typical rental guarantee contract usually
has the following characteristics:
• The seller guarantees a minimum tenancy level of the building.

• The buyer does not need to meet certain requirements to be eligible to receive payment.
• The payments under the guarantee do not change based on market yields, but rather they represent a
percentage of the initial purchase price of the building.
From the buyers’ perspective, contracts with the above characteristics are contingent consideration for the asset
classified as financial assets measured at fair value through profit or loss in accordance with IFRS 9. This is
because a rental guarantee contract with the features above will not comprise solely payments of principal and
interest. The fair value of the contract is separated from the purchase price on initial recognition of the property.
Subsequently, the rental guarantee asset is measured at fair value at each reporting date, with changes either
recognised in profit or loss or added to the property cost. Both approaches for the subsequent measurement are
acceptable. This is a policy choice that should be applied consistently to all similar transactions and appropriately
disclosed. See section 2.4 for more information on asset acquisition with variable or contingent consideration.

PwC 24
From the sellers’ perspective, there is diversity in practice in accounting for rental guarantees, with two
approaches observed.
The first approach is that contracts with the above characteristics might be viewed as a financial liability assumed
in the transaction and classified in accordance with IFRS 9 as an ‘other financial liability’ (or a derivative, if
appropriate). This approach might be appropriate where the rental guarantee is dependent on market factors,
such as the fair value of the asset. The liability is initially recognised at its fair value for the consideration to be
paid under the rental guarantee, reducing revenue for the sale of the real estate. Changes to the expected cash
flows are subject to the provisions of paragraph B5.4.6 of IFRS 9 as follows:
• The entity should revise its estimates of receipts by adjusting the carrying amount of the financial liability.
• The difference between the carrying value and the revised amount, using the revised cash flows discounted at
the original effective rate, is recognised in profit or loss.
The second approach is that the rental guarantee could be accounted for as variable consideration within the
scope of IFRS 15. If the rental guarantee is related to the performance and quality of the property being sold and
is contingent on the occurrence or non-occurrence of a future event, sellers apply the variable consideration
guidance in IFRS 15 (see section 4.13.2). In this case:
• The estimated rental guarantee payment (as determined following the variable consideration guidance in IFRS
15 will reduce the transaction price.
• A refund liability for this amount will be recognised, reducing the revenue or net gain on sale as appropriate.
• Any subsequent changes in the rental guarantee liability will be adjusted against revenue or the net gain on
sale as appropriate.
There is judgement involved in determining which approach is appropriate for each specific fact pattern and
whether the variability arises from market factors, the performance/quality of the property, or a mixture of the two.
Factors to consider include whether the rental guarantee payment is dependent on:
• future fair value of the building and property in the market (that is, market factors) – this might suggest a
financial liability approach;
• current and/or future tenancy level of the building – this might suggest a variable consideration approach; or
• current and/or future total rent receivable amount of the building – this might suggest a variable consideration
approach.
This judgement should be applied consistently to all similar transactions and appropriately disclosed.
Example – Rental guarantees: buyer’s perspective

Background
On 1 January 20X1, entity A acquired an investment property from entity B, a property developer, for C100.
Entity B provided a rental guarantee to entity A as follows:
• Entity B guarantees to entity A that, if the property is not fully rented during the first three years post
acquisition, entity B will compensate entity A.
• The maximum amount of compensation payable to entity A is 5% of the total purchase price paid by entity
A; if entity A is unable to rent the building to any tenants and the building remains vacant for each of the first
three years, entity B will pay C5 (being 5% of the purchase price) to entity A.
• Compensation for part occupancy of the building is calculated as the proportionate amount of the maximum
guarantee; for example, for 20% vacancy, the guarantee amount to be paid would be C1 (that is, 20% of
C5).
At the acquisition date, the property is partially rented out (80%). Entity A expects the vacancy rates to be
constant over the next three years. Accordingly, entity A expects to receive C3 over the next three years (C1
per year).
The fair value of the rental guarantee has been determined to be C3 (for simplicity, the time value of money
has been ignored).
The fair value of the property, without the guarantee, at the acquisition date is C97. On 31 December 20X1,
the fair value of the property without the guarantee is C95. There are no transaction costs, no VAT and no
transfer tax. Entity A has an accounting policy to measure investment property at fair value.
On 31 December 20X1, entity A received payment of C1 compensation for the first year. Due to a change in
market conditions, the estimated vacancy rate for the second year increased to 40%. Entity A expects that this

PwC 25
will also be the case for the third year. The new cash flow projection estimates a payment of C2 per year for
the next two years, resulting in a fair value of the rental guarantee at 31 December 20X1 of C4.
How should entity A account for the rental guarantee provided by entity B?
Solution
Entity A recognises the property and a rental guarantee financial asset on initial recognition. The financial
guarantee is recognised at fair value on initial recognition (C3), and the remaining amount is allocated to the
investment property.
On initial recognition, the following is recorded:

Dr (C) Cr (C)
Investment property (allocated cost) 97 -
Rental guarantee (financial asset at fair value through profit or 3 -
loss)
Cash - 100
As at 31 December 20X1, the investment property is measured at fair value, and fair value changes are
recognised in profit or loss.
Dr (C) Cr (C)
Profit or loss 2 -
Investment property - 2
Entity A receives a payment of C1 from entity B, since the vacancy rate for the first year was 20%.
Dr (C) Cr (C)
Cash 1 -
Rental guarantee (financial asset at fair value through profit or - 1
loss)
The fair value of the rental guarantee would be C4 (ignoring discounting). Entity A could select an accounting
policy to record the subsequent changes from rental guarantee through profit or loss.
Dr (C) Cr (C)
Rental guarantee (financial asset at fair value through profit or 2 -
loss)
Profit or loss - 2
Alternatively, entity A could select an accounting policy to record the subsequent changes from rental
guarantee as part of the property cost. In this case, since the investment property is measured at fair value,
the corresponding changes will be reflected as fair value changes in investment properties in profit or loss.
This accounting policy choice would be applied consistently to all property asset acquisitions.

PwC 26
Example – Rental guarantees: seller’s perspective
Background
The facts are as in the above example.
Entity B is a property developer, so the property is classified as inventory, because the property has been
constructed with the view to sell. The cost of construction is C95 and it is assumed that costs to sell are nil.
How should entity B account for the rental guarantee provided to entity A?
Solution
Approach one: accounting under IFRS 9
Entity B has assessed the fact pattern to determine whether the variability arises from market factors, the
performance/quality of the property, or a mixture of the two, to determine which standard to apply. Entity B
concludes that IFRS 9 is appropriate in this instance, and it accounts for the rental guarantee as an other
financial liability.
Entity B derecognises the property and recognises a rental guarantee financial liability at fair value of C3 on
initial recognition.
On initial recognition, the following is recorded:

Dr (C) Cr (C)
Cash 100 -
Revenue - 97
Rental guarantee (financial liability) - 3
Cost of sales 90 -
Inventory - 90
As at 31 December 20X1, entity B makes a payment of C1 to entity A, since the vacancy rate for the first year
was 20%.
Dr (C) Cr (C)
Rental guarantee (financial liability) 1 -
Cash - 1
As at 31 December 20X1, entity B revises the rental guarantee financial liability using the revised cash flows
(C4) discounted at the original effective interest rate. Assume that the revised carrying value is C4 (ignoring
the effect of discounting).
Dr (C) Cr (C)
Profit or loss 2 -
Rental guarantee (financial liability) - 2
Approach two: accounting under IFRS 15
Entity B has assessed the fact pattern to determine whether the variability arises from market factors, the
performance/quality of the property, or a mixture of the two, to determine which standard to apply. Entity B
concludes that IFRS 15 is appropriate in this instance.
Entity B derecognises the property and recognises a refund liability, following the variable consideration
guidance in IFRS 15. The revenue from the sale of the property must be constrained to ensure that it is highly
probable that a significant reversal in the amount of cumulative gain recognised will not occur when the
uncertainty associated with the rental guarantee is resolved. Assuming that the rental guarantee payment is
initially measured at C6 based on the variable consideration guidance, on initial recognition, the following is
recorded:
Dr (C) Cr (C)
Cash 100 -
Revenue - 94
Refund liability (rental guarantee) - 6
Cost of sales 90 -

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Inventory - 90
As at 31 December 20X1, entity B makes a payment of C1 to entity A, since the vacancy rate for the first year
was 20%.
Dr (C) Cr (C)
Refund liability (rental guarantee) 1 -
Cash - 1
As at 30 December 20X1, entity B revises its estimated rental guarantee payment based on variable
consideration guidance under IFRS 15. Assume that the revised carrying value is C4.5 (ignoring the effect of
discounting). This is adjusted through the same income statement line item as at contract inception.
Dr (C) Cr (C)
Revenue 0.5
Refund liability (rental guarantee) 0.5
See section 4.13.2 for further guidance on accounting for variable consideration, and section 6.2.1 for guidance
on deferred sales proceeds with significant financing components.
2.7. Development properties: accounting for the costs of construction

2.7.1. Capitalisation of construction costs
Investment property under construction is initially measured at cost. Cost is usually the price paid to the developer
to construct the property, together with any directly attributable costs of bringing the asset to the condition
necessary for it to be capable of operating in the manner intended by management.
Costs that are eligible for capitalisation include, but are not limited to:
• contract costs with the developer;

• architect fees;
• civil engineer fees; and
• staff costs for employees employed specifically for the construction process.
Costs that are not eligible for capitalisation include, but are not limited to:
• abnormal amounts of wasted materials and labour or other resources, such as for errors (including design
errors);
• storage and leasing costs of equipment located at construction sites that continue to be incurred during a
pause in construction (other than pauses that are directly attributable to bringing the asset to the condition
necessary for it to be capable of operating in the manner intended by management);
• feasibility studies in identifying development opportunities; and
• staff costs for project management if these would be incurred irrespective of any development.
2.7.2. Demolition costs

An entity might acquire a property and demolish some of the existing buildings in order to construct new buildings.
Demolition costs are capitalised as part of the investment property if they are directly attributable to bringing the
asset to the location and condition for its intended use. [IAS 16 paras 16(b), 17(b)]. Depending on the condition of
the acquired property, these costs might be recognised as part of the cost of the land or the cost of the building.
Correct classification will impact future depreciation where the cost model is applied and the land and buildings
are subject to different depreciation rates.

PwC 28
Example – Demolition of a building (1)
Background
Entity A acquires a property for C100.
The fair value of the property (land and a building) is represented by the value of the land only, because the
current building on the land is derelict and unusable.
The building is demolished after purchase, in order to construct a new building in its place. Entity A incurs
demolition costs of C3.
How should entity A account for the acquisition cost of the property and the costs of demolition?
Solution
Entity A should recognise C100 as the cost of the land, and it should not allocate any part of the purchase
price to the building. The purchased building is derelict and does not have stand-alone value, since no market
participant would be willing to pay consideration for an unusable building. [IAS 16 para 7]. The economic
rationale behind the purchase was to acquire land, rather than land and a building. The sole purpose of the
demolition was to bring the land to its intended use because it would not be available for use until the building
was demolished. Therefore, all consideration paid (C100 million) should be allocated to the land.
The demolition costs of C3 are capitalised as part of the cost of the land. In accordance with paragraphs 16(b)
and 17(b) of IAS 16, this represents costs directly attributable to bringing the land to the condition necessary
for it to be capable of being developed. Without demolishing the existing building, the intended use of the land
cannot be realised.
Cost of Land (C) Building (C)
Initial acquisition costs 100 -
Demolition 3 -
Cost – post demolition 103 -
Example – Demolition of a building (2)

Background
Entity B purchases land together with a building. The purchase price is C200. The fair value of the property is
C190 for the land and C10 for the building. The building has value because a market participant would
normally use the building rather than demolish it.
Entity B plans to demolish the building immediately after purchase, in order to construct a new building in its
place. The costs of demolishing the old building will be C3.
How should entity B account for the acquisition cost of the property and the demolition costs?
Solution
Entity B should recognise C190 as the cost of the land and C10 as the cost of the purchased building. This is
because the purchased building has value, based on the fact that a market participant would normally use the
building rather than demolish it. The intended use of the land has already been achieved – in contrast to the
previous example, where the intended use had not been achieved, because of the presence of the derelict
building on the land. On demolition, the carrying value of the building is derecognised and expensed to the
income statement.
The demolition costs of C3 are capitalised as part of the cost of the new building. In line with paragraphs
16(b) and 17(b) of IAS 16, this represents costs directly attributable to constructing the new building, and they
are capitalised when incurred.
Cost of Land (C) Building (C)
Initial acquisition costs 190 10
Demolition of old building (Profit or loss) (10)
Demolition costs – part of new building 3
Cost – post demolition 190 3

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2.7.3. Borrowing costs for properties under construction
The cost of investment property might include borrowing costs incurred during the period of construction.
Under IAS 23, borrowing costs are capitalised if an asset takes a substantial period of time to get ready for its
intended use. Capitalisation of borrowing costs is optional for qualifying assets that are measured at fair value (for
example, investment property under IAS 40). [IAS 23 para 4(a)].
Borrowing costs include, but are not limited to:
• interest expense calculated using the effective interest method, as described in IFRS 9;
• finance charges in respect of leases in accordance with IFRS 16; and
• exchange differences arising from foreign currency borrowings, to the extent that they are regarded as an
adjustment to interest costs.
Borrowing costs should be capitalised while construction is actively underway.
These costs include the costs of:
• specific funds borrowed for the purpose of financing the construction of the asset; and
• general borrowings, being all borrowings that are not specific borrowings for the purpose of obtaining a
qualifying asset. The general borrowing costs attributable to an asset’s construction should be calculated by
reference to the entity’s weighted average cost of general borrowings.
Capitalisation starts when all three of the following conditions are met:
• expenditures for the asset are incurred;

• borrowing costs are incurred, and
• the activities necessary to prepare the asset for its intended use are in progress.
Capitalisation of borrowing costs in respect of real estate developments can commence before the physical
construction of the property (for example, when obtaining permits, completing architectural drawings, or
performing other activities necessary to prepare the property for its intended use).
Example – Capitalisation of borrowing costs

Background
Entity A contracts a third party for the construction of a building. Entity A will make progress payments to the
third party over the construction period of the building.
Entity A obtains a loan from the bank to finance the progress payments made to the third party, and it incurs
borrowing costs on this loan.
How should entity A account for the borrowing costs incurred?
Solution
The borrowing costs incurred by entity A, to finance prepayments made to a third party to construct the
property, are capitalised on the same basis as the borrowing costs incurred on an asset that is constructed by
the entity itself.
Capitalisation should start when:

• expenditures are incurred – that is, when the prepayments are made;
• borrowing costs are incurred – that is, when borrowing is obtained; and
• the activities necessary to prepare the asset for its intended use are in progress – that is, when a third party
has started the construction process; determining whether construction is in progress will likely require
information directly from the contractor.
An entity should suspend capitalisation of borrowing costs during extended periods in which it suspends active
development of a qualifying asset. Where construction activities are interrupted, but the cessation is a necessary
and foreseeable part of the process, capitalisation of borrowing costs can continue. In addition, if substantial
technical and administrative work continues during a suspension in physical construction, borrowing costs would
likely continue to be capitalised.

PwC 30
For other suspensions such as revised business plans or certain unanticipated government-imposed restrictions,
the assessment of whether or not the suspension results in an extended period in which active development on a
qualifying asset has ceased is a matter of judgement. IAS 23 does not provide guidance regarding what it
envisages to be an ‘extended period’. Management may consider, among other things, the expected total period
of suspension, including the possibility of the suspension being extended, and the projected length of the delay
relative to the time period ordinarily expected for the construction of the specific asset. The shorter the projected
length of delay relative to the project as a whole, the more likely it is that borrowing costs should continue to be
capitalised.
2.7.4. Income arising on redevelopment of property

Properties might need to be redeveloped following initial acquisition. Redevelopment might include structural
changes to the building, renovations or construction of new facilities. Property owners usually contract property
developers to run the redevelopment process.
Depending on the extent of redevelopment, property owners might be unable to lease out the property to tenants
and generate income during the redevelopment period. Developers might undertake to compensate the property
owners for their loss of income during the period by agreeing to refund the owners for a ‘licence’ or ‘interest’ fee.
The fee is normally paid throughout the period of redevelopment, and its payment usually reduces the total
development cost payable to the developer. Such payment is neither revenue nor rental income, provided that it
does not relate to a promised separate performance obligation of the owner. It represents a deduction from the
total redevelopment cost to the property owner, similar to a discount, and it should be deducted from the total
property cost.
Example – Development contracts: treatment of ‘interest’ or ‘licence’ fee

Background
Entity A acquired a real estate property, and has decided that the property needs to undergo redevelopment
activity to continue to be used as investment property. It has entered into a five-year development contract with
a developer. Under the terms of the agreement:
• The property will not generate any rental income from tenants during this period.
• The developer will pay a ‘licence’ fee to entity A over the five years as compensation for the loss of rental
income.
• The fee is calculated based on a rental yield.
• The fee is invoiced on a typical rental payment date, but remains unpaid.
• The developer will deduct the total fee from the final payment due from entity A to the developer.
How should entity A account for the fee income?
Solution
The fee income is part of the negotiated cost for the redevelopment of the property. The income should be
recognised as a deduction from the cost for the redevelopment of the property.
2.8. Loan investments in subsidiaries, joint ventures and associates

Entities might make investments in subsidiaries, joint ventures and associates as a method of acquiring
direct/indirect interests in investment properties. These investments might be made using a mix of equity and debt
finance. The accounting treatment for any equity investment would follow IAS 27 in separate financial statements,
and IFRS 10 (for subsidiaries) or IAS 28 (for joint ventures and associates) in consolidated/economic interest
financial statements. However, any debt finance provided through repayable loans would fall within the scope of
IFRS 9. The guidance within IAS 32 should be considered in determining whether an instrument meets the
definition of debt or equity.
2.8.1. Accounting at initial recognition

Intra-group loans made to subsidiaries within the scope of IFRS 9, and loans to joint ventures and associates
(‘funding’), are required to be measured at fair value on initial recognition. Funding might sometimes be either
interest-free or provided at below-market interest rates. In those cases, the amount lent is, therefore, not fair
value.
Funding at below-market or nil-interest rate is not advanced at fair value. Practically, this means that the cash
advanced will not be the receivable recorded. Instead, the receivable will be recorded at a lower amount, to take
into account the impact of discounting at a market interest rate.

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A day 1 difference arises between the cash advanced and the recorded receivable. If the funding is advanced
from a parent entity to its subsidiary, this difference is added to the cost of investment in the subsidiary, because it
is the nature of the relationship that gives rise to the off-market/interest- free loan. For loans to joint ventures and
associates, this difference would also generally be added to the cost of investment, since the relationship
between the investor and the joint venture or associate is often the reason for the loan being off-market/
interest-free.
2.8.2. Impairment considerations

The impairment model in IFRS 9 is based on a forward-looking, expected credit loss (‘ECL’) impairment model
outlined further below:
• Stage 1 includes financial instruments that have not had a significant increase in credit risk since initial
recognition or that have low credit risk at the reporting date. For these assets, 12-month ECLs are recognised
and interest revenue is calculated on the gross carrying amount of the asset.
• Stage 2 includes financial instruments that have had a significant increase in credit risk since initial recognition
(unless they have low credit risk at the reporting date) but are not credit-impaired. For these assets, lifetime
ECLs are recognised, and interest revenue is still calculated on the gross carrying amount of the asset.
• Stage 3 consists of financial assets that are credit-impaired (that is, where one or more events that have a
detrimental impact on the estimated future cash flows of the financial asset have occurred). For these assets,
lifetime ECLs are also recognised, but interest revenue is calculated on the net carrying amount (that is, net of
the ECL allowance).
Impairment: Intra-group loans and loans to joint ventures and associates

IFRS 9 contains simplifications to this model for certain types of receivable; however, intra-group loans and loans
to joint ventures and associates do not qualify for these simplifications. As such, the full impairment model needs
to be applied and a 12-month ECL will be recorded on the day when funding is advanced. The impact of IFRS 9
on intra-group funding might often be dismissed, because it is eliminated on consolidation. However, the impact in
separate financial statements could be significant.
Subsequently, if there is a significant increase in credit risk (for example, if the trading performance of the
subsidiary, joint venture or associate declines), the impairment loss will be increased to a lifetime ECL.
In order to apply the above model, entities will need to ensure that they implement adequate processes for
collection of the information needed for impairment. For example:
• Indicators for a significant increase in credit risk must be developed.

• Forward-looking information, as well as past events, must be incorporated.
• The contractual period over which to assess impairment might not be clear.

PwC 32
3. Subsequent measurement of
investment property
The standard permits an entity to adopt either the fair value model or the cost model as its accounting policy for
subsequent measurement of investment property. The policy selected must be applied to all of the entity’s
investment property, irrespective of whether the properties are owned or held under a lease. [IAS 40 para 30].
3.1. Costs incurred after initial recognition

Subsequent expenditure should be recognised in the carrying amount of the investment property if it is expected
to produce future economic benefits to the entity and its costs can be reliably measured. [IAS 40 para 16].
Such costs are usually capitalised within the carrying amount of an investment property where they increase the
investment property’s originally assessed standards of performance.
If an entity acquires a property that requires renovation, the price and initial carrying amount would reflect this and
would be lower than the cost of a fully renovated property. The cost of renovation work would be capitalised when
incurred, because the renovation costs give rise to additional future economic benefits.
Investment property often includes parts, such as lifts or an air-conditioning system, which have shorter useful
lives than the rest of the property and might require regular replacement. The replacements give rise to future
economic benefits, because the carrying amount takes into account the loss of economic benefits from the
deterioration of the originally acquired assets, and the new assets give rise to new economic benefits. Parts that
require regular replacement are often called ‘components’, and the accounting applied to them is referred to as
the ‘component approach’ (see section 3.3.2).
Subsequent costs of day-to-day servicing and maintaining a property are not recognised as an asset. Instead,
they are expensed as incurred. Such costs normally include costs of labour and consumables and the cost of
replacing minor parts. They are normal repairs and maintenance and, as such, they do not meet the criteria for
recognition as an asset, because they do not add future economic benefits. [IAS 40 para 18].
A provision for such subsequent expenditure should be recognised only when an entity has a present obligation,
an outflow of resources is probable, and a reliable estimate can be made of the amount of the obligation.
[IAS 37 para 14].
Example – Provision for repair and maintenance

Background
Entity L has acquired an investment property for C100. The building’s sewage system was not operating, and
entity L decided to incur the minimum expenditure that would make the sewage system operational (which is
C5), and to undertake major upgrade of the system at the end of year 5.
Entity L uses the cost model and is proposing to initially recognise this investment property at C115 (being cost
of C100, expenditure of C5, and the present value of the planned expenditure at the end of year 5 of C10).
Can an investment property entity establish a provision for planned major expenditure on an investment
property?
Solution
No. A provision should be recognised when:
1. an entity has a present obligation;

2. an outflow of resources is probable; and
3. a reliable estimate can be made of the amount of the obligation.
The major maintenance expenses that will arise at the end of year 5 do not meet the definition of a present
obligation, so a provision in accordance with IAS 37 cannot be established
Entity L should recognise the investment property at C100 and will capitalise the C5 expenditure to make the
sewage system operational when incurred, as this expenditure is expected to produce future economic

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benefits over five years as the building can only be used with an operational sewage system. The sewage
system component, should be depreciated over five years. At the end of year 5, when the sewage system will
be replaced, C10 will be capitalised and depreciated over its useful life.
3.2. Replacement of parts of investment property and subsequent

expenditure
Subsequent expenditure on an investment property is added to the investment property’s carrying amount when it
is probable that future economic benefits will flow to the entity. All other subsequent expenditure is expensed in
the period in which it is incurred. [IAS 40 paras 16 - 18]. The cost of a replacement part is recognised as an asset,
and the carrying amount of the replaced part is derecognised. This applies irrespective of whether the cost
method or the fair value method is used. [IAS 40 para 68]. However, where the fair value model is used, it needs
to be carefully assessed whether the fair value already reflects the loss in value of the part to be replaced, or
whether it is too difficult to discern how much fair value should be reduced for the parts being replaced. An
alternative approach could be used which allows for the cost of the replacement to be included in the carrying
amount of the asset and for the fair value to be reassessed afterwards. [IAS 40 para 68].
Under the cost method, it is compulsory to recognise every replacement of a part, and derecognise the replaced
part, if the recognition criteria are met. It is not relevant whether a replacement was planned or not. For example,
the unplanned replacement of a significant portion of the windows of a building should not be treated as a repair
expense. The carrying amount of the replaced windows is derecognised, and the cost of the new windows is
recognised.
The significance of the cost of the part, compared to the cost of the total item, is not a criterion for determining the
parts of a building for recognition and derecognition purposes. Significance is relevant for the identification of the
parts that need to be depreciated separately where the cost model is applied. [IAS 16 para 43]. (See section
3.3.2.1.)
Where the cost model is applied, management should document the historical cost of the parts of a building that
are not depreciated separately. An entity should derecognise the carrying amount of a replaced part, regardless
of whether the replaced part had been depreciated separately or not. [IAS 16 para 70]. In order to ensure the
correct derecognition of replaced parts, the entity might need to determine the carrying amount of the replaced
parts. To do so, the entity depreciates the historical cost of each part over its useful life.
If it is not possible to determine the carrying amount of the replaced part based on historical cost, the cost of a
replacement might be a good indication of the cost of the replaced part at the time when it was acquired or
constructed. [IAS 16 para 70].
Example – Change of a roof: cost model

Background
Entity A acquired an investment property on 1 January 20X0. During 20X9, entity A spent a significant amount
of money to install a modern upgraded glass roof on this property. Management believes that it is important for
the property to have a modern roof system, to attract and retain tenants and resist downward pressure on
rents. It also enables management to reduce electricity costs.
Entity A’s management would like to capitalise the expenditure.
Can subsequent expenditure on investment properties carried at cost be capitalised if it enhances the
property’s future income-earning potential?
Solution
Yes. The roof is usually replaced during the life of a building. The new roof should be capitalised. It is
considered likely that the new roof will provide future economic benefits for entity A. The existing roof must be
derecognised. The roof of a building is a separate component of the building, and it should be depreciated
separately. [IAS 16 para 43].

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Example - Change of a roof: fair value model
Background
The facts are as in the above example, except that entity A applies the fair value model to its investment
properties. Entity A did not establish the components of the investment property, and it concluded that it is not
possible to determine the amount by which the fair value should be reduced for the roof to be replaced.
Can subsequent expenditure on an investment property carried at fair value be capitalised if it enhances the
property’s future income-earning potential?
Solution
Yes. Subsequent expenditure relating to an investment property is added to the investment property’s carrying
amount where it is probable that future economic benefits will flow to the entity. All other subsequent
expenditure is expensed in the period in which it is incurred. [IAS 40 paras 16 - 18]. The new roof should be
capitalised, because it is considered likely to provide future economic benefits for entity A. On the next
reporting date, the building’s new fair value will be assessed, and any gains/losses will be adjusted accordingly
through the income statement. Under this approach, there is no need to derecognise the existing roof or to
establish the components of an investment property carried at fair value.
3.3. Subsequent measurement: cost model

Entities that choose the cost model should apply the requirements in IAS 16 for property, plant and equipment
measured at cost. Investment properties that meet the criteria to be classified as held for sale, or that are included
in a disposal group that is classified as held for sale, should be measured in accordance with IFRS 5 (see
section 6).
3.3.1. Depreciation
Under the cost model, an entity will need to separately depreciate each component part of investment property
which is significant in relation to the total cost of the property.
Depreciation should be recognised over the useful life of each individual component. Further guidance on
depreciation under the cost model can be found in the PwC Manual of Accounting chapter 22 paragraphs 79–
102.
3.3.2. Component approach and depreciation

Under the component approach, each part of an investment property with a cost that is significant in relation to
the total cost of the property is depreciated separately.
The objective of the component approach is to reflect more precisely the pattern in which the asset’s future
economic benefits are expected to be consumed by the entity.
To apply the component approach, it is necessary to identify the various parts of an asset. There are two reasons
for identifying the parts: depreciation; and the replacement of parts. IAS 16 requires separate depreciation only for
significant parts of an item of property, plant and equipment with different useful lives or consumption patterns.
However, the principles regarding replacement of parts (that is, subsequent cost of a replaced part) apply
generally to all identified parts, regardless of whether they are significant or not.
On replacement of a part, the remaining book value of the replaced part is derecognised, and the cost of the new
part is recognised, irrespective of whether the part was depreciated separately or not. Further guidance on the
depreciation of components can be found in the PwC Manual of Accounting chapter 22 paragraphs 85–87.

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The diagram below illustrates the steps required by the ‘component approach’.
3.3.2.1. Identification of significant parts of an asset

The significance of a part of a building for depreciation purposes is determined based on the cost of the part in
relation to the total cost of the building at initial recognition. [IAS 16 para 43].
The standard is silent on how to determine the parts of a building. The asset’s specific circumstances need to be
taken into account.
Separation between interior and exterior parts would normally not be sufficient for all types of building and across
all regions, depending on the type of building.
Management should carefully evaluate whether separation into interior and exterior truly reflects the significant
parts of the building, taking into account the need to make replacements during the useful life of the building. For
example, solid walls, floors and ceilings can be used over a longer term, and they can be replaced later than
plasterboard walls and the heating system.
In practice, the first step in determining the parts of a building should be analysis of the construction contracts, the
inspection report or the invoice (being parts of the acquisition cost). If these documents do not provide sufficient
information, other sources such as construction catalogues should be taken into account. For construction
catalogues to be a sufficient source, they need to be a standard that is commonly used in the economic
environment in which the entity operates. It would be expected that such standards take into account the specifics
of the geographical area as well as type of building.
It might be necessary to request an expert opinion (for example, construction experts) in order to determine the
parts of a building.
The following practices are commonly used to identify the parts of a building:
Example practice 1 Example practice 2

• Exterior walls • Structural design
• Interior walls • Membrane
• Windows • Exterior doors and windows
• Ceiling • Interior walls, doors and windows
• Roof • Heating and other technical systems
• Staircase • Sanitary facilities
• Lifts
• Air-conditioning system
• Heating system

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Example practice 1 Example practice 2
• Water system
• Electrical system
• Major inspections
3.3.2.2. Replacement of parts

When a part of an asset is replaced and the recognition criteria are met, the entity needs to derecognise the
carrying value of the replaced item and recognise the cost of the replacement (see section 3.2).
Note that, for insignificant parts that are replaced, the carrying amount of the replaced parts should be
derecognised, regardless of whether the replaced part had been depreciated separately. [IAS 16 para 70].
3.3.2.3. Depreciation principles

Determining the useful life of the building
An entity is required to estimate the useful life of a building as a whole, in addition to estimating the useful lives of
the parts of the building. The entity might include, in its accounting manual, guidance on how the useful life of a
building as a whole is estimated.
An entity should estimate the useful economic life of the building, to ensure that the individual useful economic
lives of the individual components are reasonably determined within the context of the overall utility of the building
to the entity.
Management should estimate the useful life of a building as a whole on a stand-alone basis, taking into account
only the expected utility to the entity. [IAS 16 para 57]. The average of the useful lives of the parts is not a
sufficient basis to estimate the useful life of the building as a whole.
However, to estimate the useful life of the building as a whole, it might be necessary to consider the useful life or
the economic life of significant parts, and whether these parts are so significant that they could affect the useful
life of the building as a whole. Management should carefully evaluate situations where the useful life of a building
is considered to be longer than the useful life of the structure of the building, such as the walls and roof. Further
guidance on the determination of useful life can be found in the PwC Manual of Accounting chapter 22
paragraphs 88–90.
Determining the useful life of significant parts

The cost of a part is depreciated on a systematic basis over its useful life. The asset management policy of the
entity might involve disposal of significant parts after a specified time, or after consumption of a specified
proportion of the future economic benefits embodied in the asset. Therefore, the useful life of the asset could be
shorter than its economic life. The estimation of useful life is a matter of judgement, based on the entity’s
experience with similar assets.
An entity should review the useful life (and the residual value) of an asset at least at each financial year end.
However, an entity can choose to evaluate the estimated useful life of an asset additionally at each interim
reporting date. [IAS 16 para 51].
In principle, the useful life of a part of a building should not be longer than the useful life of the building as a
whole. For example, it would be unlikely for a building with a useful life of 25 years to have interior walls with a
useful life of 30 years. However, an entity should carefully assess whether parts might be transferred to another
building for further use. In those cases, the useful life of the parts might reasonably be longer than the useful life
of the building as a whole.
Significant parts can be grouped and depreciated together if their useful life and the depreciation method are the
same. [IAS 16 para 45].
Determining the useful life of the remainder

An entity is obliged to depreciate significant parts of a building and the ‘rest of the building’ separately. The ‘rest of
the building’ consists of parts that are not individually significant. An entity groups these parts to one depreciation
unit: the ‘remainder’ (see the diagram in section 3.3.2).
The remainder consists of those parts of the building that are not individually significant but could have a useful
life significantly different from the useful life of the building as a whole.
The applicable useful life of the remainder, as well as the depreciation method used, needs to be determined in a
way that faithfully represents the consumption pattern and/or useful life of its parts. [IAS 16 para 46]. One

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acceptable method to determine the useful life of the remainder could be the average of the useful life of its parts,
rather than the useful life of the building as a whole.
The standard is silent on whether one remainder is sufficient where the useful lives of insignificant parts differ
significantly (for example, parts with five years and parts with 20 years of useful life). In such a case, it would be
appropriate to have more than one remainder. Further, applying a depreciation rate – calculated based on the
average useful life of the parts in the remainder – in that instance might not faithfully represent the consumption
pattern and/or the useful life of the parts. [IAS 16 para 46].
3.4. Impairment
3.4.1. Overview
Under the cost model, investment properties should be tested for impairment whenever indicators of impairment
exist. Impairment is recognised if the carrying amount of an asset or a cash-generating unit (CGU) exceeds its
recoverable amount, which is the higher of fair value less costs of disposal and value in use.
A CGU is defined as the smallest identifiable group of assets that generates cash inflows that are largely
independent of the cash inflows from other assets or groups of assets. [IAS 36 para 6]. Management needs to
define the CGU at an appropriate level. In the case of investment property, it is likely that an individual investment
property, and its associated assets, would meet the definition of a CGU, since it is usually able to generate
independent cash inflows.
Impairment indicators relevant to the real estate sector include, but are not limited to:
• decline in property prices;

• decline in market rental prices;
• decline in the share prices for property companies;
• market oversupply of properties;
• decline in building permits, in the event that this limits the options for use of the property;
• unfavourable changes in market interest rates;
• increase in country risk;
• cost overruns for property under construction;
• newly constructed properties that might be more attractive to existing tenants of an entity’s property; and
• physical or other damage caused to the property.
Properties measured under the fair value model are not tested for impairment.
An impairment test is performed for investment property under construction, accounted for at cost in accordance
with IAS 40, where there is an indication (triggering event) that the property is impaired. At each reporting date,
management assesses whether there is a triggering event, irrespective of whether cost accounting is a result of
management’s decision to apply the cost model or due to the fact that fair value cannot be determined reliably in
accordance with paragraph 53 of IAS 40.

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The impairment process in accordance with IAS 36 is illustrated in the diagram below:
3.4.2. Impairment of individual assets and CGUs

IAS 36 requires a bottom-up, rather than a top-down, approach for impairment testing, and the order in which the
testing is performed is crucial.
First, any individual CGUs with indicators of impairment must be tested, and any impairment loss must be
recorded in the individual CGU.
The bottom-up approach is applied where there are indications of impairment for individual assets. If those assets
do not generate independent cash flows (that is, they are not individual CGUs), they need to be grouped with
other assets to determine the CGU (that is, the lowest level at which independent cash inflows arise).
For the purposes of testing goodwill, indefinite-lived intangible assets and corporate asset CGUs might need to be
grouped together. The amended carrying values of any individual CGUs that have been adjusted for an
impairment charge are used as part of this impairment test. Impairment testing for goodwill is specifically
considered in section 3.4.5. It is therefore important to test the individual properties (or CGUs in which the
properties are included) for impairment first of all, before testing goodwill for impairment.
If the impairment test shows that the recoverable amount of the group of CGUs exceeds the carrying amount of
that group of CGUs, there is no impairment to recognise. However, if the recoverable amount is less than the
combined carrying value, the group of CGUs is impaired.
Where goodwill is allocated to the group of CGUs, the impairment charge is allocated first to the goodwill balance
to reduce it to zero, and then pro rata to the carrying amount of the other assets within the group.
Example – Investment properties measured using the cost model: portfolio basis
Reference to standard: IAS 40
Background
Entity A is a real estate entity that holds real estate properties with only one operating segment. It purchases a
portfolio of investment properties at an amount higher than the aggregated amount of the individual assets’ fair
value. The portfolio does not constitute a business. However, entity A intends to manage the portfolio together,
and it has a clear plan to dispose of the portfolio as a whole in the future.
Management accounts for investment properties using the cost model.
Can entity A test the portfolio of assets, whose carrying value is higher than its fair value, for impairment on a
portfolio basis?
Solution
No, each property is a CGU, and so it should be separately tested for impairment.

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3.4.3. Calculating the recoverable amount
The recoverable amount is computed as the higher of value in use and fair value less costs of disposal. Fair value
assumes recovery of the asset through its sale. Fair value is an objective, market participant, value, which is
independent from the specific company, where market prices and market information are incorporated in its
determination. Further guidance on fair value measurement is contained in section 3.6.
Value in use assumes recovery of the asset through its use. Value in use is an entity-specific measure,
determined in accordance with the entity’s view of use of the investment property. It is a present value measure,
in which cash flows incorporate the estimates of the entity rather than the market. Nevertheless, an entity should
place greater reliance on market data and corroborate its estimates with external information.
3.4.4. Key considerations when estimating value in use

3.4.4.1. Cash flows
Cash flow forecasts should be based on the latest management-approved budgets or forecasts for the investment
property. Assumptions made in the cash flows should be reasonable and supportable. [IAS 36 para 33]. For
example, cash flows should be derived by contractual agreements, and they should take property yields into
consideration. They should represent management’s best estimate of the economic circumstances that will prevail
over the remaining life of the property.
Greater weight should be given to external evidence. For example, the cash flows/forecasts should be compared
with external information, such as analysts’ reports, the views of other third party experts and economic
forecasters.
3.4.4.2. Carrying amount: like with like

Cash flows being used in the recoverable amount should be consistent with the assets being tested in the
carrying amount of the CGU. The impairment test should compare like with like. Working capital and tax are two
key areas to consider.
IAS 36 permits cash flows from the settlement of working capital balances to be unadjusted if they are included in
the budgets/forecast, provided that the carrying value of the CGU is increased/reduced by the amount of the
working capital assets/liabilities. Assets arising from incentives or prepayments should be carefully considered, to
avoid double counting.
Cash flow forecasts should exclude cash flows relating to financing (including interest payments). Cash flows
should exclude cash flows relating to tax losses, because these do not affect the recoverable amount of the CGU
being tested. Current and deferred taxes are excluded from value in use cash flows. [IAS 36 para 50(a)].
When assessing impairment for any leased investment properties, cash flows should exclude lease payments if
they are captured as part of the lease liability. The discount rate would be impacted as a result of the inclusion of
the lease liability, which will increase the debt to equity ratio.
3.4.4.3. Terminal value

Cash flows are projected over the life of the property. If the investment property is part of a CGU with an indefinite
life, a terminal value is required in the cash flow forecast. This represents what an investor might pay for the cash
flows beyond the specific forecast period.
This is usually calculated using a perpetuity formula which takes the last year of cash flows into consideration.
Careful consideration is needed as to whether the business is cyclical. It is important to ensure that the forecast
period is long enough to achieve normalised growth and margin levels.
The long-term growth rate should be reasonable in comparison to long-term inflation expectations. Nominal long-
term growth rates in excess of long- term nominal GDP growth imply that the business will eventually grow larger
than the economy itself. This is unlikely to be appropriate.
3.4.4.4. Discount rates

The discount rate used is the rate that reflects the specific risks of the investment property or the CGU to which it
relates. Different CGUs might warrant different discount rates (for example, properties held in different countries
are likely to be subject to different political and currency risks).
The discount rate should not be adjusted for risks that have already been considered in projecting future cash
flows. Management should also consider country risk, currency risk and cash flow risk.
Value in use is calculated on pre-tax cash flows using a pre-tax discount rate.

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3.4.5. Special considerations: goodwill impairment for real estate entities
3.4.5.1. Testing goodwill on a portfolio basis
Goodwill is tested for impairment at least annually, where there is an indicator that it is impaired or where there is
an indicator that the CGU(s) to which it is allocated is impaired. Where the impairment indicator relates to specific
CGUs, those CGUs are tested for impairment separately, before testing the group of CGUs and the goodwill
together.
Goodwill is tested at the lowest level at which it is monitored by management. The lowest level cannot be higher
than the operating segment as defined in IFRS 8 (see section 8.2).
If management monitors goodwill on an individual CGU basis, testing goodwill for impairment should be
performed on that individual basis. However, where management monitors goodwill based on a group of CGUs,
the impairment testing of the goodwill should reflect this.
Example – Testing of goodwill arising on a business combination on a portfolio basis

Background
Entity A is a real estate entity that holds investment properties with only one operating segment. It purchases a
portfolio of investment property at an amount higher than the aggregated amount of the individual assets’ fair
value. The portfolio is an individually managed portfolio and constitutes a business.
Entity A recognises each identifiable asset at its fair value at the date of acquisition. [IFRS 3 para 18]. The
entity first considers whether the premium has been paid to gain control over any other identifiable and reliably
measurable intangible assets, and then the remaining difference is accounted for as goodwill in accordance
with paragraph 32 of IFRS 3. Goodwill is monitored at the portfolio level. Entity A needs to test the recognised
goodwill annually for any impairment.
At which level should goodwill be tested?
Solution
The portfolio is the group of CGUs that represents the lowest level at which the entity monitors the goodwill,
and it cannot be higher than the operating segment level. Therefore, the goodwill is tested on a portfolio basis,
and the recoverable amount of the portfolio needs to be considered, to determine whether or not goodwill is
impaired. This would apply equally to companies applying the fair value model and the cost model.
3.4.5.2. Goodwill arising from deferred tax

Where a property acquisition meets the definition of a business, the entity should apply IAS 12, and it might need
to recognise a deferred tax liability on acquisition. The corresponding debit entry will increase goodwill.
Deferred tax liabilities on investment properties in a business combination might be significant, because there
might be no tax deduction for these assets. This leads to the recognition of a higher amount of goodwill.
A value in use calculation, which is a pre-tax value, might indicate an impairment charge soon after an acquisition
is made, due to the higher amount of goodwill that is recorded as a result of recognising a deferred tax liability.
In order to address this anomaly, a test should be performed using fair value less costs of disposal. The fair value
less costs of disposal is a post-tax measure of recoverable value. The carrying value of a CGU under the fair
value less costs of disposal method should include the deferred tax liabilities. The comparison of discounted post-
tax cash flows and the CGU’s carrying value, including deferred tax liabilities, might eliminate or reduce the
amount of any impairment charge.
3.5. Subsequent measurement: fair value model

An entity that chooses to apply the fair value model for its investment property measures its properties at fair
value, with any resulting gain or loss being recognised in the income statement. The measurement of fair value of
investment properties is within the scope of IFRS 13. Fair value measurement is a market-based measurement. It
is the price that would be received to sell an asset in an orderly transaction between market participants. Market
participants are independent, knowledgeable buyers that would be willing to transact with the entity in an orderly
transaction.
Management measures the property at fair value until disposal or change in use (for example, the property
becomes owner-occupied, see section 3.7.1), even if comparable market transactions become less frequent or
market prices become less readily available. [IAS 40 para 55]. In this case, management uses alternative

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valuation methods, such as discounted cash flow projections. [IAS 40 para 46(c)]. It is prohibited to change from
the fair value model to the cost model. [IAS 40 para 31; IAS 8 para 14(b)].
3.5.1. Application where fair value cannot be determined on a continuous basis

Fair value measurement is applied if the fair value is considered to be reliably measurable. [IAS 40 para 53]. The
general presumption for investment properties, including properties under construction, is that fair value can be
reliably determined. [IAS 40 para 53]. This presumption can only be rebutted on initial recognition. [IAS 40 para
53B]. We would expect rebuttal of this presumption to be rare.
The fair value of the investment property is not reliably determinable on a continuing basis only where comparable
market transactions are infrequent and alternative reliable estimates of fair value (that is, based on discounted
cash flow projections) are not available. [IAS 40 para 53]. Where there is a clear expectation or other evidence
that the market transactions are not orderly, little if any weight should be placed on the expected disorderly
transaction prices. [IFRS 13 App B para B44]. Where an entity does not have sufficient information to know if the
market transactions are orderly, the anticipated transaction prices should be taken into account, but it will be
given less weight than those market transactions known to be orderly. Once an investment property has been
measured at fair value, it continues to be measured at fair value, even if comparable market transactions become
less frequent or unavailable.
Excluded from the fair value measurement requirement are investment properties for which:
• the fair value cannot be reliably determined whilst the property is under construction, but for which the entity
expects the fair value to be reliably determinable when construction is completed; or
• in exceptional cases, there is clear evidence, when an entity first acquires or initially recognises the investment
property, that the fair value cannot be determined reliably on a continuing basis.
In order to evaluate whether the fair value of an investment property under construction can be determined
reliably, management considers the following factors, among others:
• The provisions of the construction contract.
• The stage of completion.
• Whether the project/property is standard (that is, typical for the market) or non-standard.
• The level of reliable information as to cash inflows after completion.
• The development risk specific to the property.
• Past experience with similar developments.
• The status of construction permits.
In the event that the presumption that fair value can be reliably determined is rebutted for investment property
under construction, management applies the cost model in accordance with IAS 16 for that property (or IFRS 16
where the investment property is held by a lessee as a right-of-use asset and IFRS 16 has been adopted).
However, the property is required to be measured at fair value at the earlier of the date when a reliable fair value
can be determined for the property and the date when construction is completed. [IAS 40 para 53A]. Once a
property has been measured at fair value, the entity cannot later conclude that the fair value of the property
cannot be determined reliably. [IAS 40 para 53B].
In the rare event that the fair value of a property that is not a property under construction cannot be reliably
determined on a continuing basis, management:
a. applies the cost model in accordance with IAS 16 for that property [IAS 40 para 53] (or IFRS 16 where the
investment property is held by a lessee as a right- of-use asset and IFRS 16 has been adopted); and
b. accounts for its remaining investment properties at fair value, if their fair value can be determined reliably.
An entity continues to apply IAS 16 (or IFRS 16) until the investment property is disposed of. The property cannot
subsequently be measured at fair value.

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3.5.2. Fair value measurement of assets held in corporate wrappers in consolidated
financial statements
Entities might carry an investment property in a separate legal entity (that is, a corporate wrapper). Usually, this
structure is used for tax purposes, as quite often it is more tax beneficial for the entity to sell the corporate
wrapper rather than the underlying property itself. The implications of such structures for the recognition of
deferred tax are discussed in section 5.3.6.
Similar to the accounting for deferred tax, for the purposes of consolidated financial statements, there is no
guidance on how to determine fair value of investment properties where they are held in corporate wrappers. In
our view, management should determine fair value based on the underlying investment property itself, which is
the unit of account for consolidated financial statement purposes, and not by reference to the expected sale of the
property in a corporate wrapper. The fair value should exclude any benefits from the legal structure. For further
guidance on the unit of account, see section 3.6.2.
3.6. Fair value measurement of investment property: IFRS 13

3.6.1. Overview
As mentioned in section 3.5, entities look to the guidance in IFRS 13 in determining fair value. Fair value is the
price that would be received to sell an asset in an orderly transaction between market participants. A fair value
measurement takes into account the characteristics of the asset. Applying this to real estate, those characteristics
could be the condition and location of the asset, and restrictions on its use. The overall fair value approach in
IFRS 13 is summarised in the following diagram:
3.6.2. Principal market and unit of account for investment property

IFRS 13 requires management to identify the relevant market in which a typical transaction of the asset would
take place. A fair value measurement assumes that the transaction to sell an asset takes place in the principal
market for the asset or, in the absence of a principal market, in the most advantageous market for the asset. The
principal market is the market with the greatest volume and level of activity for the asset or liability that can be
accessed by the entity.
In the absence of evidence to the contrary, the market in which the entity would normally enter into a transaction
to sell the asset or to transfer the liability is presumed to be the principal market or, in the absence of a principal
market, the most advantageous market. However, management does not need to continuously monitor different
markets to identify the most advantageous market at the measurement date.

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The identification of the principal market requires, first, the identification of the unit of account which is subject to
transactions in this market. IFRS 13 refers to the unit of account as it is defined by the respective IFRS that
requires or permits fair value measurement:
Fair value measurement: unit of account

Unit of account for investment ‘Whether the asset or liability is a stand-alone asset or liability, a group
properties is defined according to of assets, a group of liabilities or a group of assets and liabilities for
IAS 40 recognition or disclosure purpose depends on its unit of account. The
unit of account for the asset or liability shall be determined in
accordance with the IFRS that requires or permits the fair value
measurement, except as provided in this IFRS’. [IFRS 13 para 14].
According to paragraph 5 of IAS 40, ‘investment property is property (land or building, or part of a building, or
both) held (by the owner or by a lessee under a finance lease) to earn rentals or for capital appreciation or both ’.
As a result, the unit of account – the single property (for example, land and building) – is the relevant level at
which to measure an investment property.
IFRS 13 allows fair value to be determined in combination with other assets, where this would result in the highest
and best use of the asset. The fair value might be the same, whether the asset is used on a stand-alone basis or
in combination with other assets. This conclusion is based on the assumption that the use of the assets as a
group in an ongoing business would generate synergies that would be available to market participants.
As a result, market participants would judge the synergies on a stand-alone basis, as well as in an asset group on
the same basis. However, for real estate assets, the valuation of the investment property is almost always on a
stand-alone basis. Only in extremely rare circumstances ‘the entity might measure the asset at an amount that
approximates its fair value when allocating the fair value of the asset group to the individual assets of the group’.
[IFRS 13 App B para B3(e)].
Sometimes, an entity expects to sell a number of properties together as a portfolio, resulting in a portfolio
premium being negotiated for the transaction. However, each investment property should continue to be valued
on a stand-alone basis. It would not be appropriate to allocate an expected portfolio premium to the fair value of
individual investment properties.
3.6.2.1. Comparing like with like

When determining the fair value of investment property, entities need to avoid double counting of assets or
liabilities that are separately recognised in the balance sheet. [IAS 40 para 50].
For example, the impact of prepayments should be considered. If the cash flow projections include the impact of
prepayments, the carrying value should include the related prepayment together with the investment property.
Conversely, if the cash flows do not include the effect of prepayments, the carrying value should also exclude
such impact. Whereas the above principles, if applied correctly, should produce the same answer, the decision to
include or exclude certain assets from the valuation might also be driven by regulatory requirements.
Example – Adjustments for prepayments and accruals

Background
Entity Z rents a building to third parties under operating leases. It has accrued lease payments of C1 in its
balance sheet as a result of certain rent incentives that it gave to its tenants during the first year of the leases.
Entity Z uses the fair value model for measuring its investment properties. The valuation of its investment
properties is based on discounted cash flows. The fair value of the building at the balance sheet date is C10.
Should management adjust the carrying value of a property to avoid double counting of the accrued lease
payments?
Solution
Yes. Management should make an adjustment to the fair value of investment property to the extent of any
separately recognised element of revenue not yet received in cash. Fair value calculations will not take into
account the fact that an asset has already been recognised for a portion of the future cash flows. The carrying
amount of the building is therefore C9, adjusted for the C1 already recognised in the balance sheet.

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3.6.3. Valuation premise: highest and best use
The valuation premise for non-current assets is the concept of ‘highest and best use’. This is particularly relevant
for real estate valuations, because land values depend significantly on the assumptions about the land’s potential
use.
Fair value measurement of a non-financial asset takes into account a market participant’s ability to generate
economic benefits by using the asset in its highest and best use, or by selling it to another market participant that
would use the asset in its highest and best use. The highest and best use takes into account the use of the asset
that is physically possible, legally permissible and financially feasible. [IFRS 13 para 27].
An entity’s current use of a non-financial asset is presumed to be its highest and best use, unless market or other
factors suggest that a different use by market participants would maximise the value of the asset.
In cases where the current use differs from the highest and best use, management should estimate a fair value
based on the hypothetical exit price, assuming the asset’s highest and best use by market participants. This issue
will arise from time to time in the real estate industry, because the way in which an entity uses land sometimes
differs from the use of surrounding land.
When determining the highest and best use of a non-financial asset, management should take into account two
possibilities: the highest and best use of an asset when used in combination with other assets as a group (as
installed or otherwise configured for use); and in combination with other assets and liabilities (for example, a
business).
If the highest and best use of the asset is to use the asset in combination with other assets, or with other assets
and liabilities, the asset’s fair value is the price that would be received, assuming that the asset would be used
with other assets, or with other assets and liabilities, and that those complementary assets and liabilities would be
available to market participants.
However, the fair value measurement of a non-financial asset assumes that the asset is sold consistently with the
unit of account specified in the standard requiring fair value measurement, being IAS 40 in the case of investment
property (see section 3.6.2). This is the case, even where the fair value measurement assumes that the highest
and best use of the asset is to use it in combination with other assets, or with other assets and liabilities.
The estimation of an exit price is not based on a transaction including the complementary assets and liabilities; it
assumes that the market participant already holds the complementary assets and the associated liabilities.
Example – Highest and best use (1)

Reference to standard: IFRS13
Background
A piece of land being developed for industrial use as a site for a factory could be developed as a site for high-
rise apartment buildings if there is a future change in legislation (for example, a new zoning).
How should management estimate the highest and best use?
Solution
As a starting point, the current use of land is presumed to be its highest and best use, unless market or other
factors suggest a different use. Highest and best use is determined from the perspective of market
participants. According to paragraph BC 69 of IFRS 13, ‘a fair value measurement can assume a different
zoning if market participants would do so (incorporating the cost to convert the asset and obtain that different
zoning permission, including the risk that such permission would not be granted)’. See Illustrative Example 2 of

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IFRS 13. In this case, there would need to be appropriate supporting evidence that the potential re-zoning
would be considered by market participants when determining the fair value. Furthermore, the use of the asset
must be physically possible and financially feasible.
Example – Highest and best use (2)

Background
Entity X holds an undeveloped plot of land (without street access) as investment property. In front of the plot,
there are industrial sites with street access. There are three companies located next to the undeveloped plot
which are strongly in need of additional storage space. For those three market participants, the undeveloped
plot – although hinterland – is very valuable, whereas for all others it is all but worthless.
How should management estimate the highest and best use for the purposes of determining its fair value?
Solution
The market participants in the market for the plot are the three industrial companies located next to the plot.
The value of the plot would be the exit price that one of the industrial companies would be willing to pay.
3.6.4. Valuation techniques

IFRS 13 sets out three approaches that can be used to derive fair value:
• The income approach: under this approach, future amounts are converted into a single current amount using
discounted cash flows.
• The market approach: under this approach, prices and other information generated by market transactions of
similar assets are used to determine fair value.
• The cost approach: this approach reflects the amount that would be required to replace the asset.
Management should use valuation techniques consistent with one or more of these approaches. The valuation
techniques used should be those that are appropriate in the circumstances and those for which sufficient data is
available. Management should use techniques that maximise the use of relevant observable inputs and minimise
the use of unobservable inputs (see further section 3.6.5). Valuation techniques should be applied consistently.
However, a change in the valuation technique or its application can be appropriate if the result is equally or more
representative of fair value.
Paragraph 40 of IAS 40 requires fair value to reflect rental income from current leases in addition to assumptions
that market participants would use when determining the price of investment property. Market participants would
usually estimate the price of an investment property based on their expectations about future income. On that
basis, a market or income approach will, therefore, almost always be more appropriate. For specific
considerations for property under development, see section 3.6.6.
IFRS 13 encourages an entity to apply multiple valuation techniques if appropriate. In this case, the results (that
is, the respective indications of fair value) should be evaluated, considering the reasonableness of the range of
values indicated by those results.
The fair value measurement is the amount that is most representative of fair value in the circumstances. This
approach obviously requires significant judgement, and the results of the multiple valuation techniques should be
evaluated carefully.
3.6.4.1. The income approach

The fair value of an investment property can be measured using discounted cash flow projections based on
reliable estimates of future rental income and expenditure, supported by the terms of the existing lease and other
contracts. External evidence should also be used, such as current market rents for properties of a similar nature,
condition and location. Discount rates that reflect current market participant assessments of uncertainty regarding
the amount and timing of cash flows should be used to discount the projected future cash flows.
Using the income approach to measure the fair value of investment property is likely to result in a Level 3
measurement, because the most significant input will be the projected cash flows (see section 3.6.5).
3.6.4.2. The market approach

The best evidence of fair value is usually provided by current prices in an active market for similar property in a
similar location and condition and subject to similar lease terms and other conditions. Clearly, such conditions are
not always present, and so an entity should take account of, and make allowances for, differences from the
comparable properties in location, nature and condition of the property, or in contractual terms of leases and other

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contracts relating to the property. For example, if the property is leased by the entity under a lease that contains
restrictions on the uses to which a property can be put by present and future lessees, that could significantly
affect its fair value, because it might restrict the entity’s ability to obtain the optimum market rentals.
Where current prices in an active market are not available, entities should consider evidence from alternative
sources, such as:
• Current prices in an active market for properties of a different nature, condition or location or that are subject to
different lease or other contractual terms, adjusted to reflect the differences.
• Recent prices from transactions on less active markets, adjusted to reflect changes in economic conditions
since the date of those transactions.
Using the market approach to measure the fair value of investment property might, in some cases, be a Level 2
measurement. If significant adjustments are made to the observable data inputs to the valuation, the
measurement will be classified as Level 3 (see section 3.6.5).
3.6.4.3. Expenditures included in fair value measurement

Fair value measurement of a property requires the use of estimates and judgements.
Estimates and judgements should be made on the basis of a market participant’s expectations. A key issue
arising, in measuring fair value of investment properties, is whether future capital expenditures for the
development of a property should be considered.
As a general rule, such expenditure should be considered only when a market participant would be reasonably
expected to consider these in valuing the property.
This expectation becomes more prominent for properties under development, in which case a market participant
would indeed be reasonably expected to complete the development of the property. In this case, it can be
considered that the related expenditure is part of the strategic construction plan for the property.
3.6.5. Fair value hierarchy and valuation inputs

Fair value measurements are categorised into a three-level hierarchy based on the type of inputs. The hierarchy
is defined as follows:
• Level 1 inputs are unadjusted quoted prices in active markets for items identical to the asset being measured.
• Level 2 inputs are inputs other than quoted prices in active markets included within Level 1 that are directly or
indirectly observable.
• Level 3 inputs are unobservable inputs that are usually determined based on management’s assumptions.
However, Level 3 inputs have to reflect the assumptions that market participants would use when determining
an appropriate price for the asset.
Entities are not free to choose which level of inputs to use; they must select the most appropriate valuation
techniques that maximise the use of observable inputs and minimise the use of unobservable inputs. [IFRS
13 para 61].

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In some cases, the inputs used to measure fair value might be categorised within different levels of the fair value
hierarchy. In such instances, the fair value measurement is categorised in its entirety based on the lowest level
input that is significant to the measurement.
Due to the nature of real estate assets – which are often unique and not traded on a regular basis – and the
subsequent lack of observable input data for identical assets, value measurements of real estate will be
categorised as Level 2 or Level 3 valuations. All observable market data is given higher priority and should be
preferred over unobservable inputs.
The table below gives examples of inputs to real estate valuations and their typical categorisation in the fair value
hierarchy:
Level 2 – Valuation inputs Level 3 – Valuation inputs

• Sale prices per square metre for similar properties • Yields based on management estimation
in similar locations
• Significant yield adjustments based on
• Observable market rent per square metre for management’s assumptions about uncertainty/risk
similar properties
• Assumptions about future development or
• Property yields derived from latest transactions parameters (for example, vacancy, rent) that are
not derived from the market
• Cash flow forecast using the entity’s own data
The use of unobservable inputs is a complex and judgmental area. An entity should develop unobservable inputs
using the best information available in the circumstances. An entity might begin with its own data, but it should
adjust that data if reasonably available information indicates that other market participants would use different
data, or there is something particular to the entity that is not available to other market participants, such as an
entity-specific synergy.

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An entity does not need to undertake exhaustive efforts to obtain information about market participant
assumptions. It is, however, expected to take into account all information about market participant assumptions
that is reasonably available. [IFRS 13 para 89].
So, unobservable inputs should still be adjusted for market participant assumptions, but the information gathered
to determine market participant assumptions should be limited to the extent that it is reasonably available.
Information that becomes known after the measurement date is only taken into account where reasonable and
customary due diligence would have identified the additional information at the measurement date. An entity
should revise its fair value estimates if reasonably available information at the measurement date indicates that
other market participants would use different data. [IFRS 13 para 89].
When valuing businesses and most non-financial assets, entities in practice use an expected cash flow model.
Even if management is not explicitly modelling scenarios, it is implicitly assigning a probability weighting to
possible scenarios to arrive at a single forecast. Another approach is to use a forecast that is not an expected
cash flow forecast, for example, management’s best estimate. IFRS 13 requires the use of a discount rate that is
consistent with the risk inherent in the cash flows. This means that the discount rate applied to the expected cash
flows and ‘best estimate’ cash flows are not the same. If the cash flow forecasts do not fully reflect multiple
scenarios capturing the range of relevant outcomes, an entity may need to add a company-specific risk premium,
also known as an alpha, to the discount rate. This will result in a higher discount rate that reflects the risks in the
forecast. A multiple scenario approach may eliminate the need for the alpha adjustment since discount rates
should not be adjusted for risks that are already reflected in the cash flows.
If management moves from a single set of cash flows to a probability weighted set of cash flows, this represents a
change in accounting estimate in accordance with IAS 8, which should be accounted for as such. However, in
accordance with IFRS 13 paragraph 66, the disclosures in IAS 8 for a change in accounting estimate are not
required for revisions resulting from a change in a valuation technique or its application. However, IFRS 13
requires that a change in valuation technique is disclosed, along with the reasons for making that change. IFRS
13 paragraph 65 cites changing market conditions as an example of a circumstance where a change in valuation
technique or its application may be appropriate.
Additionally, IFRS 13 deals with uncertainty in relation to Level 3 fair value measurements through providing
users with appropriate disclosure. For example, including a description of the valuation techniques used, how
decisions are made in relation to valuation procedures and for recurring fair value measurements, the sensitivity
of fair value measurements to significant unobservable inputs.
3.6.6. Application to developments in progress

Developments in progress are the most challenging, from a valuation perspective, because there is normally very
little, if any, market evidence which would be representative of fair value. Forced sales are not viewed as
representative of fair value.
The lack of transactions and the property-specific nature of development often rule out the use of a market
approach for valuation. Instead, the valuation of development properties is typically based on the expected future
cash flows, and so it is effectively an income approach.
The first and perhaps most important step when estimating future cash flows is to identify the optimal
development scheme to maximise the value of the site (that is, its highest and best use, as described in section
3.6.3). The estimation of the end value and the development costs will then be based on this conceptual scheme.
It is important that the assumptions made regarding the proposed development scheme are realistic and
achievable, having regard to the site constraints, planning restrictions, project economics and market demand.
Once the construction phase has started, the future cash flows will normally be based on the actual scheme in
progress, unless it clearly fails to deliver optimal value.
In the very early stages of a development project (for example, at the conception/feasibility stage), a question
arises as to whether the fair value can be reliably measured (see section 3.5.1) or whether costs incurred to date
are representative of fair value. This approach will only be robust in a stable market with constant values where
the site was originally acquired at fair value and the major value accretive steps in the development process have
yet to begin.
Two common approaches are followed when determining the fair value of property under construction:
1. The static approach (traditional residual method).

2. The discounted cash flow approach (dynamic approach).

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3.6.6.1. Static approach (traditional residual method)
The methodology for valuing development properties is reasonably well established in many countries, although it
is primarily used for appraising development opportunities prior to acquisition.
Historically, the principal methodology used to value development properties was known as the ‘residual method’
(alternatively known as the ‘static approach’), which is summarised as follows:
Development
costs to
+ =
Value of the completion (B)
Market value of
development in Notional financing
the completed
progress costs to
development (A)
(A – (B + C + D)) completion (C)
Profit margin for
developer (D)
This methodology has traditionally been applied using the mathematical formula above, which involves a number
of simplifications and needs to be applied with caution. The use of this approach is likely to be most appropriate in
the feasibility stages of a project, when the future cash flows have yet to be quantified in detail.
3.6.6.2. Discounted cash flow approach (dynamic approach)

A dynamic discounted cash flow (DCF) method will often be a more robust approach to determine a development
property’s fair value, compared to the traditional (static) approach.
The inputs into a DCF methodology will typically be more explicit, both in terms of quantification and timing, than
those applied in the traditional approach. The net present value derived from the DCF calculation will represent
the current value of the development. The internal rate of return will also be visible. It provides a helpful sense
check and indicates whether the implied return is commensurate with the risks involved, having regard to other
potential investment opportunities with a similar risk profile.
The fair value measured by applying a dynamic valuation approach has to include the developer’s profit that has
accrued until the valuation date. The estimation of this profit portion should consider the level of risk that has been
mitigated until the valuation date, as well as the level of outstanding risk. For example, such an estimation can be
based on a risk matrix approach. Nevertheless, the identification and detailed assessment of individual risk
factors will arguably be a complex and difficult process.
3.7. Change in use of assets: transfers into and out of investment

property
Transfers into, or out of, investment property are made where there is an evidenced change in use. To conclude
that there is a change of use, there should be an assessment of whether or not the definition of investment
property is met. This change must be supported by evidence. A change in management’s intention, in isolation,
does not provide evidence of a change in use. Paragraph 57 of IAS 40 provides a non-exhaustive list of examples
of when a change in use might be evidenced.
Changes in use of an existing asset are not changes in accounting policies, and so they are accounted for
prospectively. [IAS 8 para 16]. No changes in comparatives should be made.
3.7.1. Transfers out of investment property

Investment property to owner-occupied property
An investment property is transferred to property, plant and equipment (PP&E) when owner-occupation
commences or if the investment property is redeveloped with a view to owner-occupation. [IAS 40 para 57(a)].
However, if an entity begins to redevelop an existing investment property for continued future use as investment
property, the property is not reclassified as owner-occupied property during the redevelopment.
Investment property to inventory

An investment property is transferred to inventory at the time of commencement of development with a view to
sale. [IAS 40 para 57(b)].

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If a property is to be disposed of without development, there has been no change in use, and the property is not
transferred to inventory. It is retained as investment property. The property might be reclassified as a non-current
asset held for sale and accounted for in accordance with IFRS 5 where the relevant criteria are met (see section
6).
Example – Property under construction

Background
Entity D is engaged in two lines of business: developing property for sale; and holding real estate property for
rental purposes. Two of the properties currently classified as investment property are to be sold in the near
future.
Property X is going to be redeveloped prior to sale. The redevelopment will significantly improve and enhance
the property. Property Y will also be sold, but significant redevelopment is not necessary, although some basic
repairs will be undertaken.
Entity D wishes to transfer both properties from investment property to inventory at the date when the
redevelopment and basic repair works commence.
How should entity D account for the properties?
Solution
Entity D should transfer property X to inventory at the commencement of the redevelopment. Property Y
should continue to be classified as investment property until the criteria in IFRS 5 are met, at which point the
property should be classified as held for sale.
Paragraph 57(b) of IAS 40 requires an investment property to be transferred to inventory only when it is being
developed with a view to sale. Developments, in this context, should substantially modify or otherwise enhance
the property; basic repairs would typically not qualify as a substantial modification.
3.7.2. Transfers into investment property

Property, plant and equipment to investment property
An item of owner-occupied property is transferred to investment property when owner-occupation ceases. [IAS 40
para 57(c)].
Example – Change in use of an existing asset

Background
Entity A owns an office building that it has previously used for its own administrative purposes. The building
has been classified as PP&E.
During the year, management moved the workforce to a new building and leased the old building to a third
party.
Should the building be reclassified to investment property?
Solution
Yes. The building should be reclassified to investment property when management moves to the new building
and owner-occupation ceases. The change represents a change in use of the property, and so no restatement
of the comparative amounts should be made. The fact that different accounting treatment is applied to the
same property in the current year and the prior year is appropriate, because the building was used for different
purposes in the two years.
Inventory to investment property

Property held as inventory is transferred to investment property on commencement of an operating lease with a
third party.
A property under construction, that was previously classified as inventory, is not transferred to investment
property solely when the intention to sell changes. The inventory will be transferred to investment property when
there is a change in use evidenced, for example, by signing an operating lease to lease all or part of the property
to a third party. [IAS 40 para 57(d)].

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Example – Transfer of inventory (1)
Background
Entity A, a property developer with a history of developing properties for sale immediately after completion,
constructs a residential apartment block for sale. It decides to lease out individual apartments when
construction is completed, to increase the possibility of selling the entire property after completion. The tenants
move in before the property in its entirety is completed and sold. For the purpose of this example, it is
assumed that entity A still ‘controls’ the asset within the meaning of paragraph 31 of IFRS 15.
How should entity A account for the property?
Solution
Entity A should continue to classify the property as inventory, because this is consistent with the entity’s
principal activities and its strategy for the property, even after the commencement of leases. The leases are
intended to increase the possibility of selling the property, rather than to earn rental income on a continuing
basis, and the property is not held for capital appreciation.
The entity’s intention to sell the property immediately after completion has not changed, because the property
continues to be held exclusively with a view to sale in the ordinary course of business; it does not therefore
meet the definition of investment property. [IAS 40 para 9(a)].
Example – Transfer of inventory (2)

Renting until market activity improves
Background
Entity B, a property developer with a history of developing properties for sale immediately after completion,
constructs a residential property for sale. However, as property prices are at a multi-year low and there are few
buyers/transactions in the market, entity B decides to rent out the property until market activity improves.
How should entity B account for the property?
Solution
Entity B needs to carefully assess whether the property should continue to be classified as inventory or be
transferred to investment properties in accordance with paragraph 57 (d) of IAS 40. The property should
continue to be classified as inventory if this is consistent with entity B’s strategy for this property. However, it
should be transferred to investment property if there is a change in management’s intention to hold the
property for future rentals or for capital appreciation (for example, until market prices recover).
Determining the correct classification of such a property requires judgement. The inception of a lease with third
parties, in itself, does not automatically require reclassification as investment property, although it might be
indicative of a change in management’s intention.
The property can, therefore, continue to be classified as inventory to the extent that it is available for
immediate sale in its present condition, at a current market price, in the ordinary course of business.
Factors to consider include:

• Is the property actively marketed for sale?
• Is the property available for sale at a price that is reasonable relative to its current market value?
• Does a market exist for properties with sitting tenants, with longer lease terms, such that the property is in a
condition to be sold immediately?
• Where there is no market for properties with sitting tenants, are the terms of any leases less than the length
of the period that other similar properties take to be sold in the ordinary course of business under current
market conditions?
If the entity is unwilling to sell the property at the current depressed market price, it is likely that the property’s
intended use has changed to meet the definition of an investment property – that is, held to earn rental income
and for capital appreciation. Factors to consider are:
• Has the board decided to postpone the sale of the property until the market price recovers?
• Is there a change in the business plan that takes into account the rental income earned and the necessary
future maintenance expenses?
• Has this change in business plan been publicly announced?

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• Is the property no longer actively marketed for sale?
• Is there currently no active market for similar properties?
• Is the property available for sale only at a price that is not reasonable relative to its current market value?

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4. Rental income: accounting by
lessors
4.1. Overview of guidance
Owners of investment property lease out property to tenants. Guidance on lessor accounting and lease incentives
is contained in IFRS 16.
4.2. Definition of a lease

Under IFRS 16, a contract is, or contains, a lease if the contract conveys the right to control the use of an
identified asset for a period of time in exchange for consideration. A contract contains a lease if fulfilment depends
on an identified asset and it conveys the right to control the use of that identified asset throughout the period of
use.
IFRS 16 requires a lessor to account for the lease and non-lease components of a contract separately. [IFRS 16
para 12]. The lessor should also assess whether there are separate lease components in the lease (for example,
lease of property, furniture and electrical equipment). [IFRS 16 para 12 and App B paras B12, B32].
Non-lease components in a property lease contract might be the provision of building maintenance services, lift
services or concierge services.
The allocation of the consideration between lease and non-lease components is performed in accordance with
IFRS 15. [IFRS 16 para 17]. The lessor should allocate the transaction price to each component on the basis of
relative stand-alone selling prices. This is achieved as follows:
• At contract inception, the lessor determines the stand-alone selling price of each component.
• The stand-alone selling price is the price at which an entity would sell the service separately to a customer.
Paragraphs 76 to 80 of IFRS 15 provide further guidance on how to estimate the stand- alone selling price.
• The lessor allocates the consideration in proportion to the stand-alone selling prices.
The non-lease components would then need to be accounted for in accordance with the relevant standard. For
example, security or cleaning services would be accounted for in accordance with IFRS 15. The lease
components would be accounted for in accordance with IFRS 16.
Special consideration is required where contracts include payments related to property taxes and insurance.
Where property taxes and insurance do not constitute a separate component, no consideration is allocated to
them separately; consideration (including any payment received as reimbursement of property taxes or insurance)
is allocated only to the identified lease and non-lease components.
As noted in section 2.2.8, investment property might be held under a lease. This raises the question of how to
account for the subsequent lease of the land and/or building to tenants. There are two potential situations that
could arise: a building situated on leased land might be sublet to multiple tenants, or to a single tenant.
Where different floors in a building are sublet to multiple tenants, it is necessary to determine whether there is a
lease of land as a separate component of the lease arrangement with each tenant. Whether the land on which the
building is situated is a separate lease component needs to be determined in light of the lease contract between
the lessor and its tenants, to determine if there are any specific provisions in relation to the underlying land lease.
If the land is used by multiple tenants located on different floors of a building, there is unlikely to be a lease in
place for a separate land component. This is analogous to common areas such as foyers and lifts in a building,
which are not considered separate lease components, because the tenant cannot direct the use of these
elements. [IFRS 16 App B para B9]. This is also similar to capacity portions of an asset where a portion of an
asset that is not physically distinct is not an identified asset and, therefore, does not meet the definition of a lease.
[IFRS 16 App B para B20]. Given this, the land would not be generally considered to be a lease component. The
ground lease is effectively an input required by the lessor to enable leasing of the building. The lessor would
classify the building lease as operating or financing, considering the indicators in paragraphs 62 to 66 and B53
and B54 of IFRS 16.

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Where the land and building have been leased to one tenant only, or where there are multiple tenants in distinct
sections of a single-storey building, both the land and building are identified assets being leased by the tenant.
Real estate entities will need to assess the classification of the land and building elements as a finance lease or
an operating lease separately. [IFRS 16 App B para B55]. Given that the land and building are held under a
lease, any sublease is classified by reference to the right-of-use asset arising from the head lease, rather than by
reference to the underlying asset. [IFRS 16 App B para B58(b)]. In the context of the land element, the fact that
land normally has an indefinite life would be disregarded, and classification would be based on the term of the
ground lease.
In order to classify each element of the lease, the lessor will need to allocate lease payments between the land
and the building elements on a relative fair value basis. If it is not possible to allocate lease payments between
the two elements on a reliable basis, the entire lease would be classified as a finance lease, unless it is clear that
both the land and building elements are operating. [IFRS 16 App B para B56]. Real estate entities typically
conclude that the building element is an operating lease which, in turn, confirms the classification of the land
lease as operating.
4.2.1. Lease term

The lease term is the non-cancellable period for which the lessee has agreed to lease the asset from the lessor,
together with periods covered by options to extend the lease that the lessee is reasonably certain to exercise, and
periods covered by options to terminate the lease that the lessee is reasonably certain not to exercise. [IFRS 16
App A]. The non-cancellable period of a lease is any period during which the lessee is unable to terminate the
contract. However, lessees of property often have the option either to extend the lease or to cancel the lease
earlier than the contractual lease term. For example, a lessor and a lessee enter into a lease agreement for five
years. The lessee might have the option to cancel the lease after three years at no significant penalty. The lessee
might also have the option to extend the lease for an additional five years. When determining which periods
covered by options are included in the lease term in order to account for the lease income in the case of an
operating lease, the lessor needs to consider what the lessee might reasonably be expected to do. If the lessee
can reasonably be expected to cancel the lease, the lease term would be three years. If the lessee can
reasonably be expected to extend the lease, the lease term would be 10 years. If the lessee is reasonably
expected to neither extend nor cancel, the lease term would be five years. An entity should consider all facts and
circumstances that create an economic incentive for the lessee to exercise an extension option (or not to exercise
a termination option) in order to assess whether the exercise (or the non-exercise) is reasonably certain. These
could include, among other factors, contractual terms, market conditions, significant leasehold improvements
undertaken or expected to be undertaken by the lessee, the importance of the underlying asset to the lessee’s
operations, the lessee’s costs relating to the termination of the lease and any conditionality associated with the
exercise of the options.
A lessor does not reassess, after the commencement date, whether or not an option is reasonably certain to be
exercised by the lessee. A lessor would reassess the lease term only upon a change in the non-cancellable
period of the lease or a lease modification.
4.3. Rental income: lessor accounting

The table below summarises the requirements for lessor accounting under IFRS 16. The key matter, in
determining the accounting for lessors, is whether the leases entered into are classified as finance or operating
leases.
4.3.1. General principles

Finance leases Operating leases
Classification A lease is classified as a finance lease if A lease is classified as an operating lease if
substantially all the risks and rewards substantially all the risks and rewards
incidental to ownership of an underlying incidental to ownership of an underlying
asset are transferred to the lessee. [IFRS asset are retained by the lessor. [IFRS 16
16 para 62]. para 62].
Initial A receivable is recognised at an amount The underlying asset remains recognised in
recognition equal to the net investment in the lease. the lessor’s balance sheet. [IFRS 16 para
[IFRS 16 para 67]. 88].

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Initial direct Initial direct costs in negotiating and Initial direct costs in negotiating and
costs arranging the lease are included in the arranging the lease are added to the
initial measurement of the finance lease carrying amount of the leased asset, and
receivable, and they reduce the amount of they are subsequently recognised as an
income recognised over the lease term. expense over the lease term. [IFRS 16 para
[IFRS 16 para 69]. 83].
Subsequent Finance income is recognised based on a Lease income is recognised on a straight-
measurement pattern reflecting a constant periodic rate of line basis over the lease term, unless
and lease return. [IFRS 16 para 75]. another systematic basis is more
income representative of the time pattern in which
benefit derived from the leased asset is
diminished. [IFRS 16 para 81].
Appendix A to IFRS 16 defines lease payments in the same way for both lessees and lessors, comprising the
following components:
• fixed payments (including in-substance fixed payments), less any lease incentives receivable by the tenant;
• variable lease payments that depend on an index or a rate;
• amounts expected to be payable by the lessee under residual value guarantees;
• the exercise price of a purchase option (if the lessee is reasonably certain to exercise that option); and
• payments of penalties for terminating the lease (if the lease term reflects the lessee exercising the option to
terminate the lease).
For the lessor, lease payments also include any residual value guarantees provided to the lessor. The definition in
Appendix A to IFRS 16 of lease payments also specifically excludes payments allocated to non-lease
components, and lessors are required to account for these components separately from lease components.
IFRS 16 paragraph 81 requires a lessor to recognise lease payments from operating leases as income on either a
straight-line basis or another systematic basis. If a lessor assesses some rents on an operating lease to be
increasingly uncertain, IFRS 16 does not specify a collectability criterion that must be met in order for a lessor to
recognise operating lease income. A lessor could therefore continue to recognise operating lease income.
However, a lessor is required to apply IFRS 9’s impairment requirements to lease receivables. Impairment losses
on lease receivables should be recognised separately as an expense. For guidance on modifications of operating
leases, refer to section 4.12.
4.3.2. Rental income relating to an underlying variable: contingent rentals

Payments due under lease agreements entered into between real estate entities and tenants might be calculated
based on an underlying variable. For example, rental income might be calculated as a percentage of future sales,
or it might vary depending on a rate or index.
IFRS 16 distinguishes between three kinds of contingent payments, depending on the underlying variable and the
probability that they actually result in payments:
1. Variable lease payments based on an index or a rate. Variable lease payments based on an index or a rate
(for example, linked to a consumer price index, a benchmark interest rate or a market rental rate) are part of
the lessor’s lease payments and accounted for as part of the lease liability. These payments are initially
measured using the index or the rate at the commencement date (instead of forward rates/indices).
2. Variable lease payments based on any other variable. Variable lease payments not based on an index or a
rate are not part of the lessor’s lease payments, such as payments of a specified percentage of sales made
from a retail store. Such payments are recognised in profit or loss in the period in which the event or condition
that triggers those payments occurs.
3. In-substance fixed payments. Lease payments that, in form, contain variability but, in substance, are fixed are
included in the lessor’s lease payments. The standard states that a lease payment is in-substance fixed if
there is no genuine variability.
For lessees, in relation to payments initially excluded from the lease liability, if the variability is resolved at a later
point in time so that the payments become fixed for the remainder of the lease term (for example, insurance
premiums or taxes that become known and unavoidable for the upcoming year), they may become in-substance
fixed payments at that point in time in accordance with paragraph B42 of IFRS 16.

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However, there is no similar explicit requirement in IFRS 16 for a lessor under an operating lease. Lessors could
apply the guidance as for lessees or, alternatively, they could recognise the variable lease payments in the
periods in which they occur. The method applied is an accounting policy choice, and it should be applied
consistently in accordance with IAS 8.
IAS 8 requires that, in the absence of specific guidance, users should consider whether other IFRSs deal with
similar issues. Lessee accounting requires contingent rent to be recognised as the event or condition that triggers
those payments occurs. In our view, it would be appropriate for lessor accounting for contingent rent to mirror that
of lessee accounting.
Example – Variable lease payment based on an index or a rate

Reference to standard: IFRS 16 para 81, IFRS 16 para 42(b)
Reference to standing text: 15.134, 15.77, EX 15.134.5
Background
A lessor agrees an operating lease of office space with a lessee on the following terms:
• Lease term: 10-year non-cancellable term.
• Annual payment: C100,000 in the first year, with a CPI increase in every following year.
• Market rent review: beginning of year 6, with a CPI increase in every following year.
• At the start of year 2, CPI has increased by 2% so the lease payment for year 2 will be CU102,000.
In year 1, the lessor initially measures lease income as C100,000.
Question
How should the lessor determine the lease income to be recognised in year 2?
Answer
Paragraph 81 of IFRS 16 requires lessors to recognise lease payments from operating leases as income on
either a straight-line basis or another systematic basis. When determining in year 2 the (revised) lease
payments for years 6–10, we believe that the lessor has an accounting policy choice between the following two
approaches:
1. not revising the lease payments for years 6–10; or

2. revising the lease payments for years 6–10.
This accounting policy choice is similar to the one available for the lessee which is further explained and
illustrated in EX 15.77.3. However, there is no explicit requirement in IFRS 16 for a lessor to remeasure the
lease payments in the same way as a lessee measures the lease liability.
Approach 1
The rental income recognised by the lessor in year 2 would be C100,888 (being total lease payments of
C908,000/9 years), reflecting recognition of income without revising the lease payments for years 6–10 on a
straight-line basis, in line with paragraph 81 of IFRS 16.
Year 2 3 4 5 6–10
(annual)
Lease payments (C) 102,000 102,000 102,000 102,000 100,000
Approach 2
The rental income recognised by the lessor in year 2 would be C102,000 (being total lease payments of
C918,000/9 years), reflecting recognition of income based on the revised lease payments for years 6–10 on a
straight-line basis, in line with paragraph 81 of IFRS 16.
Year 2 3 4 5 6–10
(annual)
Lease payments (C) 102,000 102,000 102,000 102,000 102,000
The policy chosen should be consistently applied and disclosed. If this choice represents a critical accounting
judgement, the entity should consider the IAS 1 disclosure requirements. See chapter 4 para 152 for further
details.

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Example – Rent reviews
Background
Entity V, a tenant, has entered into a lease with entity Q. The terms of the lease are as follows:
• The rent for the year ended 31 December 20X1 is C10,000, payable on a monthly basis.
• By 28 February 20X2, entity Q has the right to review the rent charged for the year ended 31 December
20X1 and compare it to market prices for the period. Accordingly, entity Q could request a catch-up
payment from entity V, to compensate for any lost income. The catch-up payment needs to be agreed by
both parties.
• The determination of the catch-up payment was completed by 31 January 20X2, and the amount was
determined to be C500. The payment was agreed with entity V on 15 February 20X2 and paid on the same
date.
• When should entity Q recognise the catch-up rent payment?
Solution
The payment should be recognised when incurred (that is, when the lessor has the contractual right to receive
payment). On 31 December and 31 January, entity Q does not have the right to receive payment. The right to
receive payment is established on 15 February 20X2, and the rent review catch-up payment is recognised on
that date.
4.4. Impairment of trade and lease receivables: scope exception for

applying the simplified approach
4.4.1. Expected Credit Loss (‘ECL’) Impairment Model
Lessors will need to determine whether lease balances are lease receivables (that is, net investments in finance
leases and operating lease receivables) that are within the scope of IFRS 9’s expected credit loss (ECL) model,
or whether lease balances are accrued lease payments, such as those that arise from accounting for lease
incentives under IFRS 16, that are within the scope of IAS 36’s impairment model. Accrued lease payments are
not in scope of IFRS 9 impairment guidance and are within the scope of IAS 36’s impairment model. Further
guidance on the principles of impairment under IAS 36 can be found in the PwC Manual of Accounting chapter 24
paragraph 6.
For those lease receivables that are within the scope of IFRS 9, the standard contains a forward looking ECL
impairment model. The general impairment model includes some operational simplifications for trade receivables,
contract assets and lease receivables, because they are often held by entities that do not have sophisticated
credit risk management systems.
These simplifications eliminate the need to calculate 12-month ECL and to assess when a significant increase in
credit risk has occurred.
For trade receivables or contract assets that do not contain a significant financing component, the loss allowance
should be measured at initial recognition and throughout the life of the receivable, at an amount equal to lifetime
ECL. As a practical expedient, a provision matrix could be used to estimate ECL for these financial instruments.
For trade receivables or contract assets that contain a significant financing component (in accordance with IFRS
15) and lease receivables, an entity has an accounting policy choice: either it can apply the simplified approach
(that is, to measure the loss allowance at an amount equal to lifetime ECL at initial recognition and throughout its
life), or it can apply the general model. An entity can apply the policy election for trade receivables, contract
assets and lease receivables independently of each other, but it must apply the policy choice consistently.

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What does this mean for the real estate industry?
FAQ – What are the expected credit loss requirements for an operating lease receivable?
Reference to standard: IFRS 9, 5.5.1, 5.5.18, B5.5.44, IAS 36 para 2
Reference to standing text: 15.134, 45.54, 45.55, FAQ 45.54.2
Question 1
What type of lease balances are subject to IFRS 9’s expected credit loss requirements?
Answer
Lessors will need to determine whether lease balances are lease receivables (that is, net investments in
finance leases and operating lease receivables) that are within the scope of IFRS 9’s expected credit loss
(ECL) model, or whether lease balances are accrued lease payments, such as those that arise from
accounting for lease incentives under IFRS 16, that are within the scope of IAS 36’s impairment model.
See FAQ 15.134.2 for further discussion of the accounting for lease incentives.

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Question 2
If a lessor expects a lessee to pay all operating lease receivables in full but later than the contractual due date,
does this give rise to an expected credit loss (ECL)?
Answer
It depends. Where contractual payments are expected to be received in full but later than contractually due, in
isolation this might not give rise to an ECL provision on the operating lease receivables; this is because
operating lease receivables are recognised on an undiscounted basis, and so the effective interest rate can be
considered to be 0%.
However, more broadly, regardless of the specific considerations regarding time value of money arising from
the expected payment delay, paragraph 5.5.18 of IFRS 9 requires an entity to always consider the risk or
probability that a credit loss occurs.
4.4.1.1. Provision matrix

IFRS 9 allows an operational simplification whereby entities can use a provision matrix to determine their ECL
under the impairment model. A provision matrix method uses past and forward information to estimate the
probability of default of lease and trade receivables.
Step 1
The first step, when using a provision matrix, is to define an appropriate period of time to analyse the proportion of
lease and trade receivables written off as bad debts. This period should be sufficient to provide useful information:
too short might result in information that is not meaningful, while too long might mean that changes in market
conditions or the tenant base make the analysis no longer valid. In the example below, a period of one year has
been selected, with a focus on lease receivables. The overall lease receivables were C10,000 and the
receivables ultimately written off were C300 in that period.
Total lease income C10,000

Bad debts written off out of this lease income C300
Step 2
In step 2, the amount of receivables outstanding at the end of each time bucket is determined, up until the point at
which the bad debt is written off. The ageing profile calculated in this step is critical for the next step, when
calculating default rate percentages.
Total lease income(C) 10,000 Total paid Ageing profile of lease

income (step 3)
Paid in 30 days (2,000) (2,000) 8,000
Paid between 30 and 60 (3,500) (5,500) 4,500
days
Paid between 60 and 90 (3,000) (8,500) 1,500
days
Paid after 90 days (1,200) (9,700) 300 (written off)
Step 3
In this step, the entity calculates the historical default rate percentage. The default rate for each bucket is the
quotient of the defaulted receivables at each bucket over the outstanding lease income for that period. For
example, in the above information, C300 out of the C10,000 lease income for the period was written off.

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Current lease income: historical rate of default
Since all of the receivables relating to the lease income for the period and those written off were current at some
stage, it can be derived that, for all current amounts, the entity might incur an eventual loss of C300. The default
rate would therefore be 3% (C300/C10,000) for all current amounts.
Lease income outstanding after 30 days

An amount of C8,000 was not paid within 30 days. An eventual loss of C300 was a result of these outstanding
receivables. Therefore, the default rate for amounts outstanding after 30 days would be 3.75%.
Remaining buckets
The same calculation is then performed for 60 days and after 90 days. Although the amount outstanding reduces
for each subsequent period, the eventual loss of C300 was, at some stage, part of the population within each of
the time buckets, and so it is applied consistently in the calculation of each of the time bucket default rates.
The historical default rates are determined as follows:
Current lease Lease payments Lease payments Lease payments

income outstanding after outstanding after outstanding after
30 days 60 days 90 days
Ageing profile of lease 10,000 8,000 4,500 1,500
income (1)
Loss (2) 300 300 300 300
Default rate: (2)/(1) (%) 3 3.75 6.67 20
Step 4
IFRS 9 is an ECL model, so consideration should also be given to forward-looking information. Such forward-
looking information would include:
• changes in economic, regulatory, technology and environmental factors (such as industry outlook, GDP,
employment and politics);
• external market indicators; and
• tenant base.
For example, the entity concludes that the defaulted receivables should be adjusted by C100 to C400 as a result
of increased retail entity failures, given that its tenant base is primarily retail focused. The entity also concludes
that the payment profile and amount of lease income are the same. Each entity should make its own assumption
of forward-looking information. The provision matrix should be updated accordingly.
The default rates are then recalculated for the various time buckets, based on the expected future losses.
Current lease Lease payments Lease payments Lease payments

income outstanding after outstanding after outstanding after
30 days 60 days 90 days
Ageing profile of 10,000 8,000 4,500 1,500
lease income (1)
Loss (2) 400 400 400 400
Default rate: 4 5 8.9 27
(2)/(1) (%)

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Step 5
Finally, take the default rates from step 4 and apply them to the actual receivables, at the period end, for each of
the time buckets. There is a credit loss of C12 in the example illustrated.
Total Current lease Lease Lease Lease

income payments payments payments
outstanding outstanding outstanding
after 30 days after 60 days after 90 days
Lease receivable 140 50 40 30 20
balances at year end:
(1)
Default rate: (2) (%) - 4 5 8.9 27
Expected credit loss: C12 C2 C2 C3 C5
(1) x (2)
4.4.2. Lease prepayments and cash collateral

Lease accounting might give rise to prepayments as a result of the straight-line recognition of rental income (for
example, lease contracts that contain fixed escalation clauses).
• The entity should classify the prepayment as current if it expects to realise, sell or consume the prepayment
during its normal operating cycle or within 12 months after the reporting period. Otherwise, the prepayment
should be classified as non-current. Refer to section 4.10 for further guidance on tenant deposits received.
4.4.2.1. Overview
Lessors often give incentives to tenants to occupy property. Examples of incentives include rent-free periods and
discounts during the initial periods of the lease. All incentives for the agreement of a new or renewed operating
lease should be recognised as an integral part of the net consideration agreed for the use of the leased asset.
The lessor should recognise the aggregate cost of incentives as a reduction of rental income over the lease term.
This should occur on a straight-line basis, unless another systematic basis is more representative of the time
pattern over which the benefit of the leased asset is diminished. [IFRS 16 para 81]. In practice, the use of an
allocation basis other than straight-line is rare.
All incentives for the agreement of a new or renewed operating lease should be recognised as an integral part of
the net consideration agreed for the use of the leased asset, irrespective of the incentive’s nature or form, or the
timing of payments. [IFRS 16 para 81].
Lease incentives could take the form of reimbursements of a tenant’s cost of leasehold improvements. As part of
negotiating a new or renewed lease, a lessor might agree to pay to the tenant an allowance for leasehold
improvements, either through an upfront payment or by requiring a tenant to submit invoices to support
expenditures on leasehold improvements. The lessor will need to determine when it has an obligation under the
lease contract to pay the tenant for the allowance, because this will determine the recognition point for both the
inclusion of the lease incentive in the reduction of rental income under IFRS 16 and accrual for the reimbursement
of these costs to the tenant.
Except in circumstances where the lessor has substantive discretion to accept or reject future claims under the
allowance, the past transaction that obligates the lessor is the commencement of the lease arrangements, rather
than the submission of the claim for reimbursement by the tenant or payment of the allowance. The lessor has
promised to reimburse the tenant for certain items as part of the net consideration agreed for the use of the
leased asset, and that use starts on the commencement date of the lease. Whether or not the tenant submits
claims for reimbursement is outside the control of the lessor, and it would usually be considered probable that the
tenant would claim all, or a substantial portion, of the reimbursement rights. The expected amount of
reimbursement should be accrued on the commencement date of the lease and included as a reduction of rental
revenue over the lease term.

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Example – How should lease incentives be accounted for?
Reference to standard: IFRS 16 para 81
Reference to standing text: 15.134, EX 15.134.2
Payments made by a lessor to a lessee associated with a lease, or the reimbursement or assumption by a
lessor of costs of a lessee, as incentives for the agreement of new or renewed operating leases are included in
the lease payments (as defined in IFRS 16 appendix A). They are not considered to be part of the initial costs
that are added to the carrying amount of a leased asset. Instead, they are deducted from the lease payments ,
and allocated together with them, on either a straight-line basis or another systematic basis.
Example 1 – Operating lease incentive: rent-free period

Under a 10-year lease agreement, the lessor gives a one-year, rent-free period followed by a fixed rent of
C1.1m per annum for nine years. This is equivalent to 10 years’ rent of C0.99m per annum. The cost of the
incentive should be spread over the lease term. Therefore, C0.99m of rental income will be recognised each
year in the income statement. At the end of the first year, the lessor will recognise accrued lease payments of
C0.99m, which will be reduced by C0.11m each year for the next nine years.
Example 2 – Operating lease incentive: lessor contribution to lessee fit-out costs

Alternatively, the lessor agrees with the lessee to make an upfront cash payment of C1m to contribute towards
the lessee's own fit-out costs, with a fixed annual rental of C1.1m per annum for the 10-year lease. This is also
equivalent to an annual rent of C1m per annum without the incentive. Therefore, C1m will be recognised as
rental income each year of the lease. The C1m incentive will initially be recognised as an asset for accrued
lease payments, which will be amortised by C0.1m each year to the income statement.
Accrued lease payments are not in scope of IFRS 9 impairment guidance and are within the scope of IAS 36’s
impairment model. See chapter 24 paragraph 6 for further details on the basic principles of impairment under
IAS 36.
4.4.2.2. Loans issued to tenants at off-market terms as a rent incentive
Example –Loans issued to tenants at off-market terms as a rent incentive

Reference to standard: IFRS 16 para 81 and App B para B2
Reference to standing text: 15.134, EX 15.134.6
Background
Entity A entered into a five-year operating lease agreement over office property with tenant B. To persuade
tenant B to rent the property, entity A issued a low-interest rate loan (5%) of C100,000 to tenant B as an
incentive. The term of the loan is equal to the term of the lease (that is, five years), with equal annual
payments of interest of C5,000, and the principal will be repaid at the end of the five years. The market interest
rate is 10%. Entity A has assessed the loan contract to be a separate unit of account from the rights and
obligations under the lease, and it is accounting for the loan under IFRS 9. [IFRS 16 App B para B2].The fair
value of the loan on initial recognition is C81,050, which is the fair value for a loan with a market interest rate of
10%.
Question
How should entity A account for the difference between the market interest rate and the interest rate on the
issued loan?
Answer
The cost of incentives given in acquiring a lease should be recognised as a reduction of rental income over the
lease term. [IFRS 16 para 81]. In this case, the cost of the incentive is C18,950, which is the off-market
element of the loan.
This cost should be amortised over the lease term on a straight-line basis.
This incentive cost should be amortised over the lease term on a straight-line basis.
[Note that numerical entries are rounded for simplicity.]

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Initial recognition (issue of the loan):
Dr (C) Cr (C)
Loan recognised on the 81,050 -
balance sheet (BS) – fair value
of the loan
Lease incentive (BS) 18,950 -
Cash - 100,00
Subsequent measurement: loan at amortised cost (using the effective interest method)
The loan will be measured at amortised cost using the effective interest method. The journal entries for year 1
will be as follows:
Dr (C) Cr (C)
Loan (BS) (C8,105 – C5,000) 3,105 -
Cash (BS) – payment of 5,000 -
annual interest
Interest income (P&L) – - 8,105
(Carrying amount × Interest
rate = 81,050 × 10%)
Amortisation of lease incentive (on a straight-line basis)
Dr (C) Cr (C)
Rental income (P&L) – 3,790 -
(C18,950 / 5 years)
Lease incentive (BS) - 3,790
4.4.2.3. Accounting for assets arising from operating lease incentives

Assets arising from operating lease incentives are not in scope of IFRS 9 as financial assets, except to the extent
that the recovery of any incentive is included in operating lease receivables recognized. However, where these
assets are denominated in a foreign currency, they are considered monetary assets for the purposes of applying
IAS 21, as they will be received in a fixed number of units of currency as specified in the lease contract.
Example – Rent incentives in foreign currency

Background
Entity A entered into a 10-year operating lease with entity B on 1 January 20X1. To persuade entity A to sign
the lease, entity B has granted to entity A an initial rent-free period of two years. The rent for the remaining
eight years is C750 per year. Entity B’s functional currency is CAU. The C:CAU exchange rates are as follows:
Throughout 20X1 and as at 31 December 20X1 1:2
Throughout 20X2 and as at 31 December 20X2 1:3
How should entity B recognise rental income for 20X1 and 20X2?
Solution
Entity B should recognise rent incentives on a straight-line basis as follows:
Entries for the year ended - 31 December 20X1

C CAU
Rent income (C750 x 8/10) (600) (1,200)
(C600 * 2)
Rent incentive asset 600 1,200
(C600 * 2)

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Entries for the year ended - 31 December 20X2
C CAU
Rent income (C750 * 8/10) (600) (1,800)
(C600 * 3)
Rent incentive asset 600 1,800
(C600 * 3)
Rent incentive asset: revaluation of balance 600
Difference between (C600+C600) * 3 = CAU3,600 and CAU1,200
+ CAU1,800 = CAU3,000)
Foreign exchange gain on revaluation of rent incentive asset (600)
4.5. Premiums for properties in a prime location

Real estate entities might receive initial premiums from tenants over and above annual rents, in order for a tenant
to gain access to property in a prime location. In such cases, all incentives for the agreement of a new or renewed
operating lease should be recognised as an integral part of the net consideration agreed for the use of the leased
asset, irrespective of the incentive’s nature or the form or timing of payments. [IFRS 16 para 81]. Similar to other
lease incentives, real estate entities should recognise the aggregate amount of premiums received in rental
income over the lease term.
Example – Initial premium

Background
Entity A has developed a state-of-the-art shopping, entertainment and dining complex, which is the only one in
its region.
Tenant B has entered into a 10-year lease with entity A. The tenant has agreed to pay an initial premium of C2
million in addition to the annual rental of C1 million.
Can entity A recognise the entire initial premium received in the first year of the lease?
Solution
No, entity A should recognise the premium received on a straight-line basis over the lease term. This would
result in lease income of C1.2 million per annum ((C1 million × 10 years) + C2 million)/10).
4.6. Surrender premiums

Payments between the lessor and the former lessee, also known as ‘surrender premiums’, are common in the
real estate industry where, for example, the lessor needs to provide an incentive to existing tenants to vacate the
property in order to redevelop it. Depending on the specific facts and circumstances, such costs might need to be
expensed or capitalised by the lessor. The following table addresses two scenarios that are common in the real
estate industry:
Surrender premium paid to remove existing tenants to allow …

… redevelopment of a recently Redevelopment costs are costs incurred subsequent to the acquisition of
acquired or existing investment the investment property, to add to or replace part of it.
property
An entity should determine whether subsequent expenditure is capitalised,
using a test similar to the test used for owner-occupied property in IAS 16.
[IAS 40 para BC B40].
Since no redevelopment is possible in the presence of the existing tenant,

the surrender premium paid to incentivise the tenant to move out is a cost
of bringing the investment property to the condition necessary for it to be
capable of operating in the manner intended by management. [IAS 40 para
BC B41; IAS 16 para 16(b)].

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The surrender premium is therefore capitalised as part of the investment
property. This applies to entities using both the cost model and the fair
value model for investment properties. See ‘Example – Surrender
premiums paid to remove existing tenants to allow redevelopment of a real
estate property’ below.
… new tenants to occupy Capitalisation of costs on the carrying amount of an item of property
recently acquired or ceases when the item is in the condition necessary for it to be capable of
existing investment property operating in the manner intended by management. The investment
property is already in use as intended by management (no redevelopment
is necessary), and so the incurred costs cannot be capitalised.
In addition, IFRS 16 requires initial direct costs incurred by lessors in

negotiating an operating lease to be added to the carrying amount of the
leased asset and expensed over the lease term. Based on this principle,
the surrender premium should be expensed, because it is not a cost of
entering into the (new) operating lease.
If the surrender premium is payable as a result of a modification of the

lease contract, the payment should be accounted for from the effective
date of the modification (see further section 4.12). This applies to entities
using both the cost model and the fair value model for investment
properties.
If the surrender premium is payable as a result of an existing break clause

term contained in the lease contract, this would result in a change in the
lease term. In addition, the lessor previously should not have included the
surrender premium payment within lease payments unless it was
reasonably certain to be exercised but, given exercise of the break clause,
the premium would now form part of lease payments to be recognised.
In accordance with paragraph 81 of IFRS 16, lease payments from

operating leases should be recognised as income on premium payable
from an existing break clause either a straight-line basis or another
systematic basis, if that basis is more representative of the pattern in which
benefit from the use of the underlying asset is diminished. There are
therefore two possible approaches for the recognition of the surrender
premium payable from an existing break clause based on the guidance in
paragraph 81.
One approach would be to recognise the surrender premium prospectively

on a straight-line basis over the new lease term. Although not a
modification, since the surrender premium and break clause were already
included in the original lease contract, this straight-line approach is
consistent with modification guidance in paragraph 87 of IFRS 16 (see
further section 4.12).
Another approach would be to calculate the overall lease payments

(including the surrender premium) that would have been recognised if the
reduced lease term had been determined at the commencement date. Any
difference between the lease payments recognised prior to notification of
the exercise of the break clause and the revised lease payments calculated
assuming the new, shorter lease term would be recognised as a
cumulative catch-up adjustment. The lessor would then recognise the
remaining revised lease payments over the remaining lease term. Because
the lease term has now been reduced, the overall benefit from the use of
the leased asset has been accelerated, and so applying a catch-up
adjustment reflects the revised pattern of benefit from the lessee’s use of
the asset.
In our view, either approach could be followed, and an entity therefore has
an accounting policy choice. The policy chosen should be consistently
applied and disclosed where material. See ‘Example – Termination
premiums paid to remove existing tenants to allow new tenants to occupy
the real estate property’ and ‘Example – Termination premiums paid on
exercise of an existing break clause within the lease contract’ below.

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Example – Surrender premiums paid to remove existing tenants to allow redevelopment of a real estate
property
Background
Entity A obtained all of the necessary authorisations to significantly redevelop an existing investment property
for continued future use as an investment property. The redevelopment is only possible if the property is
vacant. After redevelopment, the previously assessed standard of performance of the property will be
enhanced, with significantly more rentable space. Entity A negotiates a termination premium to remove the
existing tenants, to enable it to perform the redevelopment. The entity has chosen to apply the cost model to
its investment properties.
Does the termination premium paid to the existing tenants represent an integral part of the costs of
redeveloping the property in accordance with paragraph 17 of IAS 40?
Solution
The termination premiums are costs that are directly attributable to the redevelopment, and they should be
capitalised as part of the investment property. [IAS 16 para 16(b)]. The termination premium paid to incentivise
the tenants to move out is a cost of bringing the investment property to the condition necessary for it to be
capable of operating in the manner intended by management. [IAS 40 para BC B41].
Example – Termination premiums paid to remove existing tenants to allow new tenants to occupy the real
estate property
Background
Entity A pays termination premiums to remove the existing tenants, to allow it to rent out the property to new
tenants on lease contracts with more favourable terms and conditions. The entity has chosen to apply the cost
model to its investment properties.
Does a termination premium paid to existing tenants represent an integral part of the costs of the property in
accordance with paragraph 17 of IAS 40?
Solution
No. The investment property is already in use as intended by management, and so the incurred costs cannot
be capitalised. [IAS 40 para BC B41]. The termination premium is recognised as part of rental income, because
it is not a cost of entering into the (new) operating lease. If the surrender premium is payable as a result of a
modification of the lease contract, the payment is accounted for from the effective date of the modification (see
further section 4.12).
If the surrender premium is payable as a result of an existing term contained in the lease contract, entity A
could apply the guidance in paragraph 81 of IFRS 16, either by accounting for the premium as if it was the
result of a modification, or by recognising a cumulative catch-up adjustment. The approach selected is an
accounting policy choice that should be consistently applied and disclosed where material. Both approaches
are illustrated further in the example below.
Example – Termination premiums paid on exercise of an existing break clause within the lease contract
Background
Entity A enters into a lease contract with a tenant where the lease term is 10 years. The lease contract contains
a break clause at year 5 which, if exercised, would require payment of a surrender premium. At
commencement of the lease, entity A considered that the break clause was reasonably certain not to be
exercised and, as such, determined that the lease term was 10 years. At the end of year 3, due to unforeseen
circumstances, the tenant has formally communicated that it will exercise the break clause in year 5.
In line with paragraph 21 of IFRS 16, this would result in a change in the lease term. In addition, the lessor
previously did not include a surrender premium payment within lease payments but, given exercise of the break
clause, the premium would now form part of lease payments to be recognised.
How should the lessor account for the surrender premium, now that the break clause has been exercised and
the lease term shortened?
Solution
Although not a modification, since the surrender premium and break clause were already included in the
original lease contract, there are two possible approaches for the recognition of the surrender premium based

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on the guidance in paragraph 81 of IFRS 16. Entity A could account for the payment as if it was the result of a
lease modification (see further section 4.12), which would result in the surrender premium balance being
recognised prospectively over the new revised lease term of two years, along with the remaining lease
payments receivable.
Alternatively, a cumulative catch-up adjustment could be recognised. Under this approach, entity A would
calculate the overall lease payments (including the surrender premium) that would have been recognised if the
lease term had been determined to be five years at the commencement date. Any difference between the lease
payments recognised prior to notification of the future exercise of the break clause and the revised lease
payments calculated assuming the new, shorter lease term would be recognised as a cumulative catch-up
adjustment. Entity A would then recognise the remaining revised lease payments over the remaining lease
term.
The approach that entity A selects is an accounting policy choice that should be consistently applied and
disclosed where material.
4.7. Assumption of potential tenant’s existing lease

Real estate entities might enter into agreements with prospective tenants, to assume the tenant’s existing lease
with a third party, in order to incentivise the tenant to enter into a new lease agreement for their own property.
For example, entities A and B own properties A and B respectively. Entity B has a lease agreement with tenant C
over property B. Entity A might undertake to pay any remaining lease payments of tenant C under that lease, in
exchange for tenant C entering into a new lease agreement for property A. In accordance with lessee accounting
under IFRS 16, entity A must recognise a right-of-use asset and a corresponding liability at the commencement
date of assuming tenant C’s lease. [IFRS 16 para 22].
4.8. Key money

An entity looking to move to a sought-after location might make payments to the lessor in order to take over the
lease. Such payments are often referred to as ‘key money’. From the lessor’s perspective, such payments are
considered as part of the lease income and would be recognised over the term of the lease.
Example – Key money

Background
Entity B entered into a five-year operating lease with entity A for a store in a prime location. Entity A has paid
an amount of C500 to entity B to obtain the lease.
How should entity B account for the amounts received?
Solution
Entity B should recognise the payment as part of the lease income to be received under the lease agreement.
The key money payment would be recognised as deferred rental income on the balance sheet, and it would be
amortised over the lease term of five years, resulting in additional rent of C100 per year (C500 over five years).
4.9. Letting fees

Initial direct costs are often incurred by lessors in negotiating and arranging a lease. They are defined as
‘Incremental costs of obtaining a lease that would not have been incurred if the lease had not been obtained …’.
[IFRS 16 App A].
Under this definition, only incremental costs can be treated as initial direct costs. Internal costs that are not
incremental – such as administration, selling expenses and general overheads – should be recognised as an
expense as incurred. Incremental external costs, in the form of agent commissions and legal, arrangement and
professional fees, normally qualify as initial direct costs.
Initial direct costs incurred by lessors in obtaining an operating lease are added to the carrying amount of the
leased asset, and they are recognised as an expense over the lease term on the same basis as the lease income.
[IFRS 16 para 83]. It is important to amortise initial direct costs separately from the asset, because they will be
recognised as an expense over the lease term rather than over the life of the asset. The lease term is likely to be
a significantly shorter period than the life of the asset. Recognition of initial direct costs as an immediate expense
is not acceptable.

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If an entity measures investment property at fair value, it should carefully assess all effects of letting fees incurred
on the calculated fair value, so that no double counting occurs. Valuers might consider the impact of letting fees
when determining the fair value of the property. If letting fees are included, the entity will not need to add the
impact of letting fees. By contrast, if the valuation excludes the impact of letting fees, the entity will need to add
the letting fees when determining the fair value, to ensure that it compares like with like. [IAS 40 para 50(d)]. This
is illustrated in the example below.
Example – Letting fees incurred, fair value model

Background
Entity A leases out investment property under an operating lease, and it pays letting fees to an agent for
attracting new tenants. The agent receives a commission for this service when the tenant enters into a contract
to rent the property. The letting fees paid to the agent are directly attributable to the lease agreement with that
specific tenant. The lease term is three years.
Entity A initially measures its investment property on acquisition at cost (including transaction costs), and it
adopts a policy of fair value for subsequent measurement in accordance with IAS 40.
The acquisition cost of the property is C158. The fair value of the property as at the year end is C159.70.
Should entity A capitalise letting fees under the fair value model?
Solution
Yes. The letting fees incurred should be added to the carrying amount of the investment property and
recognised on a straight-line basis over the lease term. Given that entity A applies the fair value model, the
effect of capitalisation of letting fees on subsequent measurement of the property is illustrated below:
C Description
Acquisition cost 158
Capitalised letting fees 3 Fair value of the property
immediately after letting = C161
Amortisation of capitalised letting (1) Amortisation over 3 years
fees
Fair value gains/(losses) (0.30) The fair value gain/(loss) illustrated
is effectively the residual
movement in the property’s value
over the year, after taking into
account the effect of capitalising
and amortising letting fees (159.70
– 158 – 3 + 1 = –0.30)
Carrying value at 31/12/X1 159.70 Fair value of property at year

end, according to the valuation
report = 159.70
4.10. Tenant deposits received

The terms of a property lease contract typically require the lessee to provide a security deposit to the lessor. The
security deposit is held by the lessor throughout the term of the lease and carries no, or a low rate of, interest.
The deposit is refunded to the lessee at the end of the lease term if the lessee has fully performed and observed
all of the conditions set out in the lease contract. If the lessee has not abided by the relevant conditions, the lease
terms generally permit the lessor to apply the security deposit to remedy the breach and to indemnify the lessor
from any consequential costs and losses incurred.
The amount of the deposit to be paid is usually determined during the negotiations between landlord and
prospective tenant regarding the terms of the lease and the rental payments. In some jurisdictions, for example, it
is not unusual for a landlord to accept a lower rental if the tenant is willing to provide a large security deposit.
Tenant deposits will generally meet the definition of cash for the lessor if they are held in a bank account
belonging to , and accessible on demand to, the lessor. Restrictions on the use of amounts held as a deposit
arising from a contract with a third party lessee do not result in the deposit no longer being cash, unless those
restrictions change the nature of the deposit in a way that it would no longer meet the definition of cash in IAS 7.
This was clarified in an IFRS Interpretations Committee Agenda Decision in April 2022.

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Often tenant deposits qualify as financial instruments where the contract gives rise to a financial asset of one
entity (the lessee) and a financial liability of another entity (the lessor). [IAS 32 para 11].
However, an alternative view to the above is that security deposits paid by a lessee could be considered to be
within the scope of IFRS 16. IFRS 9 excludes rights and obligations under leases to which IFRS 16 applies. In
light of the interdependency of the amounts of deposit and monthly rental, the deposit – and its refund at the end
of the lease term – could be viewed as lease payments.
Consistent with other lease incentives, the amount received from the tenant, and the amount to be repaid to the
tenant at the end of the lease, would be included in the total lease payments to be recognised on a straight-line
basis over the lease term.
Example – Accounting for tenant deposits

Reference to standard: IFRS 9 para 3.2.3, 5.1.1, 5.3.1, 4.2.1, IFRS 16 para 81, IAS 32 para 11, 43
Reference to standing text: 15.134, FAQ 15.134.7
Background
Entity A has received a security deposit from tenant X of C500,000. Entity A is required to pay interest of 2% to
tenant X on the deposit received. Tenant X could receive interest of 5% from a similar type of instrument with
similar credit risk in the market. (The determination of the market interest rate considers whether there are any
security or collateral arrangements specified in the agreement, or if tenant X is exposed to unsecured credit
risk of entity A.) The deposit is repayable at the end of the five-year lease agreement. The lessor can apply the
security deposit to remedy any breach in contractual conditions and to indemnify the lessor from any
consequential costs and losses incurred, or the deposit can be used to settle lease receivables outstanding at
the end of the lease. The lease is classified as an operating lease by entity A.
Question
How does entity A account for the refundable tenant deposit received?
Answer
An entity will have to determine whether the security deposit paid by a lessee is accounted for under IFRS 9 as
a separate unit of account from the rights and obligations under the lease, or whether it is within the scope of
IFRS 16 (for example, as a prepaid lease payment). For lessors, IFRS 9 excludes rights and obligations under
operating leases to which IFRS 16 applies, except for the impairment and derecognition of operating lease
receivables, and embedded derivatives within leases.
Accounting under IFRS 9

Tenant deposits qualify as financial instruments where the contract gives rise to a financial asset of one entity
(tenant X) and a financial liability of another entity (entity A) [IAS 32 para 11], where this instrument is
considered to be separate from the lease rights and obligations. [IFRS 9 para 2.1(b)]. Under IFRS 9, entity A’s
liability is initially recognised and measured at fair value, and then subsequently at amortised cost using the
effective interest method. [IFRS 9 paras 5.1.1, 5.3.1, 4.2.1]. The fair value is calculated as the present value of
the future cash flows, using the market interest rate of 5%, being the interest rate that would be received from
a similar type of instrument in the market. The fair value of the C500,000 deposit is C435,058.
The difference between the nominal value and the fair value of the liability of C64,942, at initial recognition,
would be treated as an initial lease payment and recognised on a straight-line basis over the lease term of five
years.
Accounting under IFRS 16

Tenant deposits qualify as part of the rights and obligations under the lease when they are considered to
represent an integral part of the lease contract rather than a separate unit of account that would be within the
scope of IFRS 9.
Consistent with other payments made, the amount received from the tenant, less the amounts to be repaid to
the tenant over the lease term and at the end of the lease, would be included in the total lease payments to be
recognised on a straight-line basis over the lease term.
Regardless of the approach taken in accounting for the tenant deposit, the receipt of the deposit might affect
accounting for any operating lease receivables recognised under the lease. For example, it could be taken in
account when measuring expected credit losses under the impairment model, and in determining whether the
cash collateral received under the deposit arrangements results in derecognition of any operating lease
receivable balances in accordance with paragraph 3.2.3 of IFRS 9. However, in most cases, it is unlikely that
the receipt of cash collateral in the form of a security deposit would result in settlement of operating lease
receivables and hence in their derecognition under paragraph 3.2.3 of IFRS 9.

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4.11. Tenant obligations to restore a property’s condition
Lease agreements might include a clause requiring tenants, at the conclusion of the lease, to restore the
property’s condition to the same level as existed at commencement of the lease. In such cases, a tenant might
make monthly payments to the lessor in respect of bringing the building to its original pre-lease condition on the
tenant’s behalf. These monthly payments should be recognised as revenue by the lessor on a straight-line basis
over the lease term.
Example – Reimbursement of recondition expenses

Background
Entity T receives a monthly payment from tenant V for tenant V’s contractual obligation to bring the building to
its original (pre-lease) condition. This payment is included in the monthly lease payment from tenant V.
Entity T is planning to refurbish the property after the end of tenant V’s lease.
How should entity T account for any payments received from tenant V for bringing the property to its pre-lease
condition?
Solution
Tenant V has agreed to pay a higher lease payment each period in lieu of having to restore the building to its
pre-lease condition at the end of the lease. As such, the monthly payments should be recognised on a straight-
line basis over the lease term.
The fact that entity T is planning to refurbish the property prior to leasing it again does not impact the timing of
recognition of lease income, because it does not represent an obligation that entity T must perform under the
lease contract with tenant V.
4.12. Lease modifications

IFRS 16 provides guidance on modifications of operating leases by lessors. Modifications to an operating lease
should be accounted for from the effective date of the modification, considering any prepaid or accrued lease
payments relating to the original lease as part of the lease payments for the new lease. [IFRS 16 para 87]. IFRS
16 defines the effective date of a modification as the date on which the parties agree to the modification.
IFRS 16 defines a lease modification as ‘A change in the scope of a lease, or the consideration for a lease, that
was not part of the original terms and conditions of the lease (for example, adding or terminating the right to use
one or more underlying assets, or extending or shortening the contractual lease term)’. [IFRS 16 App A]. This
definition includes agreements to terminate a right of use, including terminations which reduce the remaining
lease term to a short period, such as three or six months. Therefore, lessors will need to follow the modification
guidance to account for lease payments included in termination agreements.
Modifications to an operating lease should be accounted for from the effective date of the modification,
considering any prepaid or accrued lease payments relating to the original lease as part of the lease payments for
the new lease. [IFRS 16 para 87]. IFRS 16 provides clarity as to the effective date of a modification and defines
this as the date on which the parties agree to the modification.
Initial direct costs and lease modifications

Where the guidance in IFRS 16 is applied, while paragraph 87 specifies the accounting treatment for any prepaid
or accrued lease payments, it does not set out the treatment for any initial direct costs associated with the lease.
This might imply that initial direct costs relating to the original lease are derecognised on modification, and only
prepaid or accrued lease payments can be considered as payments related to the new lease. However, IFRS 16
requires a lessor to account for a lease modification as a new lease, and so incremental costs incurred in
modifying the lease that fit within the initial direct costs definition could be capitalised, given that they are costs of
obtaining the modified lease. These incremental costs would not have been incurred if the lease had not been
modified. An alternative view is that, whilst IFRS 16 requires a lessor to account for a modification as a new lease,
it contemplates a link to the previous lease by allowing previously recognised prepaid or accrued lease payments
to be accounted for as consideration for the modified lease. On this basis, it would follow that any initial direct
costs associated with the original lease would equally relate to the modified lease and, therefore, would continue
to be recognised and amortised over the remaining term of the modified lease. However, since the definition of
initial direct costs refers to costs of obtaining the lease initially, any incremental costs incurred in modifying the
lease should therefore be recognised as an expense. Given the absence of specific guidance in IFRS 16, either
approach could be followed. An entity therefore has an accounting policy choice. The policy chosen should be
consistently applied and disclosed where material.

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If non-lease components exist within a contract, a change in the contract terms may modify both the lease and
non-lease components. The non-lease component modification would be dealt with under the other relevant
standard (for example, IFRS 15 for non-lease services).
For guidance on changes in lease payments that arise as a result of existing terms within a lease contract (for
example, exercise of a termination clause that was previously assessed as reasonably certain not to occur), see
section 4.6.
Example – Accounting for lease modification where the initial lease contained a rent-free period
Background
Entity A owns and operates a shopping mall. It leases out the shopping mall space to a number of retailers
under non-cancellable leases.
Entity A has provided rent-free periods to the lessees during the initial lease period, the effect of which has
been accounted for over the lease term in accordance with paragraph 81 of IFRS 16. The leases are classified
as operating leases in entity A’s financial statements.
Due to a market downturn, entity A has agreed with a number of its lessees to modify their lease agreements,
reducing the fixed rental payments and increasing the contingent rent component.
Prior to the modification, entity A had recognised an accrued lease payment balance that arose from the initial
rent-free period. This balance is not considered impaired. Entity A did not have any outstanding operating
lease receivables due from tenants at the effective date of the modification.
Question
How should entity A account for the accrued lease payment balance that arose from the initial lease
agreement containing the rent-free period following a lease modification?
Answer
The accrued lease payment balance from the original leases represents part of the lease payments for the
new lease agreements and, accordingly, it should be deferred and amortised over the new lease terms in
accordance with paragraph 81 of IFRS 16.
Example – Accounting for lease modification where payments are received from the tenants on signing a lease
termination
Reference to standard: IFRS 16 para 87, IFRS 16 para 81
Reference to standing text: 15.134, 15.136, FAQ 15.136.3
Background
Entity A owns a commercial investment property and leases out office space to a number of tenants. The
leases are generally for 10 years and do not contain any lessee or lessor extension or termination options. The
lessor classifies the leases as operating leases.
One of entity A’s tenants starts negotiations to exit their leases early. On 1 December, entity A and tenant X
sign an agreement to terminate their lease. Tenant X agrees to pay a termination penalty of C300, payable on
31 December. Tenant X will vacate the premises on 31 May (six-month notice period) and will continue to pay
rent of C100 per month (the normal monthly lease payments) each month until it vacates the property.
Question
How should entity A account for a lease modification where payments are due from the tenants on signing a
lease termination?
Answer
The amount payable as a termination penalty is in respect of a modification to the lease agreement. The
termination was negotiated and amends the original lease agreement, shortening the lease period significantly.
The original lease terms have term has been changed in a manner that meets the definition of a lease
modification: the lease term has been shortened and there is an additional payment made under the
agreement. Under IFRS 16, modifications of operating leases are accounted for as ‘new leases’ from the
effective date of the modification (being 1 December) [IFRS 16 para 87]. Any payments under the modified
lease, including the termination penalties, are lease payments that are recognised as income on a straight-line
basis over the term of the lease [IFRS 16 para 81].

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This would result in entity A recognising the following amounts for the period to 31 December:
C150 in respect of December rental revenue (= (300 penalty + 6 x 100 monthly rent)/6 months).
4.12.1. Accounting for lease concessions

In certain situations, for example government interventions, economic recession or tenant-specific factors, lessors
may grant concessions to lessees. Such concessions might take a variety of forms, including payment holidays,
cash rebates and deferral of lease payments. Judgement might be needed to determine the appropriate
accounting treatment for these lease concessions. Depending on the facts and circumstances, the substance of
the concession might be appropriately accounted for as (negative) variable lease payments, forgiveness of some
of the lease payments, deferral of some of the lease payments or a lease modification. Factors to consider in
exercising this judgement include the following:
• Pre-existing clauses in lease contracts. Some lease contracts contain pre-existing force majeure or similar
clauses. Where such a clause applies and results in reduced payments, the substance might be appropriately
accounted for as negative variable lease payments that are not dependent on an index or a rate. Under IFRS
16, the effect is recognised by the lessor in the period in which the event or condition, that triggers the reduced
payments, occurs.
• Actions of governments. IFRS 16 paragraph 2 requires an entity to consider both the terms and conditions of
contracts and all relevant facts and circumstances. Relevant facts and circumstances might include contract,
statutory or other law or regulation applicable to lease contracts. When applying IFRS 16, an entity treats a
change in lease payments in the same way, regardless of whether the change results from the contract itself or
from applicable law and regulation. Accordingly, the impact of a lease concession imposed only by law,
regulation or government actions might be similar to the impact of a concession required by a pre-existing
clause in the lease contract as described above. This might also be appropriately accounted for as negative
variable lease payments that are not dependent on an index or a rate, with the effect being recognised by the
lessor in the period in which the event or condition, that triggers the reduced payments, occurs.
• Forgiveness of lease payments. Where the concession takes the form of a forgiveness of some of the
payments, the required accounting for the lessor will depend upon whether the forgiven payments have been
recognised as operating lease receivables at the point of forgiveness. IFRS 9 paragraph 2.1(b) requires IFRS
9’s impairment and derecognition requirements to be applied to lease receivables. Consequently, prior to
forgiveness, the lessor should consider if any expected credit loss provision is required based on its
expectations of forgiving lease payments recognised as lease receivables. Upon forgiveness of any amounts
already recognised as lease receivables should be accounted for by derecognising the receivable and
recognising a loss in the income statement. Any amounts forgiven that relate to future payments that have not
been recognised as an operating lease receivable should be accounted for applying the lease modification
requirements in IFRS 16. The lessor accounts for a lease modification as a new lease. The concession will
impact the total consideration to be received by the lessor over the term of the lease and, as a result, it will
change the amount of revenue that the lessor records on a straight- line basis over the lease term. The periods
in which no payments are owed by the lessee would be similar to a rent free period granted by the lessor, and
similar accounting would result.
• Deferral of lease payments. Some concessions might be in the form of the lease payments being
rescheduled rather than reduced – such that, in nominal terms, the consideration for the lease has not
changed. An entity might judge that, where such a deferral is proportionate, it is not a lease modification, since
there is no change in either the scope of the lease or the consideration for the lease. In this case, an operating
lessor would account for the nominal payments due under a lease over the lease term on the same basis as
before the change (which, for operating leases, is typically straight-line), without considering the impact of the
time value of money on the related revenue. Since the modification does not change the total consideration,
the amount of revenue to be recognised in each period throughout the lease will not change. However, to the
extent that the deferrals result in a build-up of an accrued rent receivable relating to straight-line rent
recognition, the lessor should apply the relevant impairment requirements under IAS 36 (for further guidance
please refer to section 4.4).
Entities should also consider what disclosures are required to enable users to understand what the accounting
consequences have been of significant lease modifications and any judgements made [IAS 1 paras 77, 79].

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4.13. Revenue from managing real estate property
4.13.1. Overview
Real estate entities often provide management services to tenants that occupy the real estate that they hold.
Management of real estate might be performed by the real estate owners or by entities designed to provide this
service. Real estate management aims to preserve the value of the real estate. The manager is responsible for
the oversight of the property, payment of service charges (such as rates, security services and insurance),
ensuring that the property is in good condition and performing repairs and maintenance. Any related costs are
usually recharged back to tenants. In turn, the manager earns management fees, which can be fixed or directly
linked to the performance of the property.
The rendering of services, such as the provision of management services, to customers by real estate managers
is within the scope of IFRS 15. IFRS 15 requires the real estate entity to:
• identify the contract(s) with the customer(s);

• identify separate performance obligations in the contract(s);
• determine the transaction price;
• allocate the transaction price; and
• recognise revenue when the performance obligation is satisfied.
Further guidance on these steps and their application can be found in the PwC Manual of Accounting chapter 11
paragraphs 18–197.
Step 1: Identify the contract(s) with the customer(s)

IFRS 15 applies only to contracts with customers. A contract is defined as a written, verbal or implied (for
example, by customary business practice) agreement between two or more parties that creates enforceable rights
and obligations.
Step 2: Identify separate performance obligations in the contract(s)

Performance obligations are promises in a contract to transfer distinct services, including those that a landlord
can resell or provide, to its tenant. A series of distinct services that are substantially the same and have the same
pattern of transfer to the tenant (for example, management services) are a single performance obligation, if the
following criteria are met:
• each service in the series meets the criteria for a performance obligation satisfied over time; and
• the same method would be applied to measure progress towards satisfaction of the performance obligation to
transfer each distinct service in the series to the tenant.
Step 3: Determine the transaction price

The transaction price can be based on the expected value or the most likely amount, but it is constrained up to
the amount that is highly probable of no significant reversal in the future. The transaction price is also adjusted for
the effects of the time value of money if the contract includes a significant financing component.
Step 4: Allocate the transaction price

The transaction price should be allocated to distinct performance obligations, based on their relative stand-alone
selling prices.
Step 5: Recognise revenue when the performance obligation is satisfied

Revenue should be recognised when control over the promised goods or services is transferred to the customer.
The amount of revenue recognised is the amount allocated to the satisfied performance obligation.
It is common for real estate entities to involve third parties in providing services to tenants. Where another party is
involved in providing services to tenants, entities must assess whether they are acting as principal or agent (see
section 4.13.4).
4.13.2. Measurement of revenue

Revenue for a performance obligation satisfied is recognised in the amount of the transaction price. [IFRS 15 para
46].
Further guidance on the measurement of revenue can be found in the PwC Manual of Accounting chapter 11
paragraphs 72–73.

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The transaction price is the consideration that the seller expects to be entitled to in exchange for satisfying its
performance obligations, excluding amounts collected on behalf of third parties. Management must determine the
amount of the transaction price at contract inception and at each reporting date, taking into account the terms of
the contract and its customary business practice. The nature, timing and amount of the consideration promised by
the customer determines the transaction price; thus, special consideration is required if contracts contain:
• variable consideration;
• a significant financing component;
• non-cash consideration; or
• consideration payable to the customer.
Variable consideration
Variable consideration should be estimated and included in the transaction price to the extent that it is highly
probable that there will be no significant subsequent reversal in the cumulative amount of revenue recognised.
This threshold for recognising variable consideration is often referred to as the ‘constraint’ that must be met in
order to recognise the variable consideration as revenue.
Variable consideration should be estimated using the expected value approach (probability-weighted average) or
the most likely amount, whichever is more predictive in the circumstances. The approach used is not a policy
choice, but management should use the approach that it expects will best predict the amount of consideration to
which the entity will be entitled, based on the terms of the contract and taking into account all reasonably
available information.
The following indicators suggest that including an estimate of variable consideration in the transaction price could
result in a significant reversal of cumulative revenue:
• The amount of consideration is highly susceptible to factors outside the entity’s influence.
• Resolution of the uncertainty about the amount of consideration is not expected for a long period of time.
• The entity has limited experience with similar types of contract.
• The entity has a practice of offering a broad range of price concessions or changing payment terms and
conditions in similar circumstances for similar contracts.
• There is a large number and broad range of possible consideration amounts.
[IFRS 15 para 57].
Management will need to determine if there is a portion of the variable consideration (that is, some minimum
amount) that should be included in the transaction price, even if the entire estimate of variable consideration is not
included because it does not pass the highly probable threshold. Management’s estimate of the transaction price
will be reassessed each reporting period, including any estimated minimum amount of variable consideration.
Example – Variable consideration: performance fees

Background
A real estate fund manager has a management contract with a fund to provide investment management
services for three years. In addition to a base management fee, the manager is entitled to a performance fee
that is equal to 20% of profits generated by the investments in the fund when it achieves a return of over 8%
per annum. The management agreement states that the performance fee should be calculated, and paid, on
the last business day of the third calendar year.
Solution
The contractual measurement period is based on the terms of the contract, which in this case is three years.
In determining whether to include an amount of variable consideration in the transaction price at the end of the
first financial period, the manager must assess whether it is highly probable that the amount included will not
result in a significant reversal of revenue in future periods (the ‘constraint’). In other words, it is not an ‘all or
nothing’ assessment, and entities must always record the highest amount that is highly probable not to result
in a significant future revenue reversal. This determination will require judgement and, to the extent that the
variable consideration constraint is not met until the end of the year when the performance fee is known, the
entire performance fee will only be recognised on the last day of the third calendar year.
Amounts received before the constraint criteria are met might need to be recognised as unearned revenue
liability (that is, a contract liability).

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Significant financing component
In determining the transaction price, an entity should adjust the promised amount of consideration for the effects
of the time value of money if the payment includes a significant financing component. In most cases, payments for
a service do not include a significant financing component, because an entity (as a practical expedient) does not
have to account for such effects if the payment is received within one year after the service has been completed.
4.13.3. Revenue recognition

Revenue is recognised when a performance obligation is satisfied, which occurs when control of a service
transfers to the customer. Control transfers either at a point in time or over time, based on a range of criteria.
Recognise revenue over time or at a point in time

Entities should consider whether they meet any of the three criteria necessary for recognition of revenue over
time. A performance obligation is satisfied over time where at least one of the following criteria is met:
• The customer receives and consumes the benefits of the entity’s performance as the entity performs.
• The entity’s performance creates or enhances a customer-controlled asset.
• The asset being created has no alternative use to the entity, but the entity has a right to payment for
performance completed to date.
For real estate management services, these will very likely satisfy the first criterion only, since the nature of the
services being provided does not create or enhance a customer’s asset.
A performance obligation is satisfied at a point in time if it does not meet the criteria above.
Measuring performance obligations satisfied over time

An entity should measure progress of a performance obligation that is satisfied over time using the method that
best depicts the transfer of services to the customer. Note that, for a series of distinct goods or services that are
accounted for as a single performance obligation (such as a management fee), the same method must be applied
to measure progress in satisfying the obligation.
The method selected should be applied consistently to similar contracts with customers. Once the metric to
measure the extent to which control has transferred is calculated, it must be applied to total contract revenue, to
determine the amount of revenue to be recognised.
4.13.4. Principal/agent relationships

It is common for real estate entities to charge tenants for service costs. Service costs billed to tenants are
generally presented gross in the income statement of the real estate entity, unless the entity is acting as an agent
on behalf of a third party (for example, as a collector for garbage fees). In line with IFRS 15, property managers
will need to reconsider whether they are acting as principal or agent in relation to goods or services that they
provide to their tenants. The assessment of whether the landlord is acting as an agent or as a principal with
respect to such service costs is to be done on a case-by-case basis, and might depend on the specific jurisdiction
of operations.
Paragraphs B34 to B38 of IFRS 15 provide clear guidance on identification of principal-agent relationships. Where
another party is involved in providing goods or services to a customer, the entity determines whether the nature of
its promise is:
• a performance obligation to provide the specified goods or services itself (principal); or to

• arrange for the other party to provide those goods or services (agent).
An entity is a principal if the entity controls a promised good or service before the entity transfers the good or
service to a customer. However, an entity is not necessarily acting as a principal if the entity obtains legal title of a
product only momentarily before legal title is transferred to a customer.
The assessment of whether the landlord is acting as principal or as agent is to be determined by applying the two-
step approach in paragraph B34A of IFRS 15:
• Step 1: Identify the specific goods or services to be provided to the customer by another party.
• Step 2: Assess whether the landlord controls each specific good or service before that good or service is
transferred to the customer.

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In some areas, it might be obvious when a landlord is acting as a principal or as an agent. If this is not the case,
IFRS 15 provides the following indicators that the entity is a principal:
• The entity is primarily responsible for fulfilling the promise to provide the specified good or service.
• The entity has inventory risk before or after transfer of control to the customer.
• The entity has discretion in establishing prices for the specified good or service and, therefore, obtains
substantially all of the remaining benefits.
The indicators in paragraph B37 of IFRS 15 might be more or less relevant
Example – Service costs billed to tenants

Background
Entity A is the owner and lessor of an office building. It is contractually obliged to maintain the premises’ car
park and provide cleaning, tenants’ insurance and security for the building under the terms of its lease
contracts with its tenants. The tenants are not charged separately for these services.
Entity A is proposing to report revenue net of the costs incurred to provide the above services.
Is this appropriate, given that these costs are not separately reimbursed by tenants?
Solution
No. Revenue includes only the gross inflows of economic benefits received and receivable by the entity on its
own account. Amounts collected on behalf of third parties are excluded from revenue. However, entity A is not
acting as an agent, because it is itself contractually obliged to provide these services to its tenants. As such, it
should report revenue on a gross basis.
Entity A is required to assess what lease components and service components are in the contract. Lessors are
required to account for the lease and non-lease components of a contract separately. In the case of non-lease
components such as service charges, these are accounted for under IFRS 15.
Equally, entity A should also report the costs associated with providing these services gross in the income
statement.
Entity A should provide an analysis of the different components of revenue, separating revenue from the sale
of services from rental income, either on the face of the income statement or in the notes.
Example – Treatment of taxes and rates received from lessee

Background
Entity A collects local property taxes and water rates, and it pays these to the municipal authorities. These
payments are not part of the rental payments receivable by entity A and, in this jurisdiction, tenants retain the
primary obligation to the municipality.
Can entity A recognise the receipt and payment of property taxes and water rates on a net basis?
Solution
Yes. Entity A should present the amounts received from its tenants for property taxes and water rates net of
the payments that it makes to the municipal authorities. This presentation is appropriate, because entity A acts
as an agent on behalf of the authorities. The amounts collected are not revenue, and they are presented in the
income statement net of the amounts paid to the municipal authorities. [IFRS 15 para 47].

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5. Real estate structures and tax
considerations
5.1. Consolidation
5.1.1. Overview
A reporting entity prepares consolidated financial statements where it meets the definition of a group as set out in
IFRS 10. The ‘group’ is ‘a parent and its subsidiaries’. IFRS 10 provides a single definition of control that applies
to all entities. This definition is supported by extensive application guidance that explains the different ways in
which a reporting entity (investor) might control another entity (investee).
The key principle is that control exists, and consolidation is required only if the investor possesses power over the
investee, has exposure to variable returns from its involvement with the investee, and has the ability to use its
power over the investee to affect its returns. Power over an investee is present where the entity has the right to
direct the decisions over relevant activities (that is, the decisions that affect returns).
Relevant activities for a real estate entity include, but are not limited to:
• decision to purchase investment property;

• approval of entering into finance agreements;
• approval of budgets, including maintenance and renovation plans;
• selection of tenants and the approval of lease contracts;
• approval of sale of investment property; and
• investment decisions around investment property.
IFRS 10 provides certain exceptions to the consolidation requirements. One of these exceptions is where the
reporting entity is an investment entity. Investment entities are required not to consolidate particular subsidiaries;
those subsidiaries are measured at fair value through profit or loss in accordance with IFRS 9.
Determining whether a real estate entity meets the definition of an investment entity requires significant
judgement, for which all relevant facts and circumstances (including the purpose and design of the entity) should
be considered.
5.1.2. Definition of an investment entity

An investment entity is an entity that:
• obtains funds from one or more investors for the purpose of providing the investor(s) with investment
management services;
• commits to its investor(s) that its business purpose is to invest funds solely for returns from capital
appreciation, investment income, or both; and
• measures and evaluates the performance of substantially all of its investments on a fair value basis. [IFRS 10
para 27].
The definition encompasses the following key elements:
• business purpose including investment-related services;

• exit strategies;
• earnings from investments; and
• fair value measurement.

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5.1.2.1. Services
Part of an entity’s business purpose might be to provide investment-related services (including investment
advisory services, investment management, and investment support and administrative services), either directly
or through a subsidiary. These services could be provided to investors and/or third parties. Participating in such
investment-related services does not disqualify an entity from being an investment entity, even if these services
form a substantial part of its business; this is because such services are an extension of its operations.
The provision of other services that are not investment-related services (such as providing strategic advice or
financial support to investees) is one of the factors that differentiates investment entities from other entities. These
activities need to be undertaken to maximise investment returns (capital appreciation and/or investment income)
from the entity’s investees. They must not represent a separate substantial business activity or a separate
substantial source of income.
Examples of permissible management and other services for real estate structures are:
• providing management services and strategic advice to an investee;

• providing financial support (such as a loan, capital commitment or guarantee) to an investee;
• other incidental services increasing or enhancing the value of investments; and
• other administrative services (that is, accounting at property level).
[IFRS 10 App B paras B85C, B85D and para BC 240].
For real estate structures, permitted services include the management of the structure and the properties within it,
acquisitions, arranging external financing, market analysis, strategic decisions, and marketing of assets for lease
or sale.
Typical structures normally use third party service providers (such as property managers) to manage and run the
properties, and real estate agents for capital transactions. This has no impact on whether the investment entity
exemption is met. Other structures appoint related service providers, especially in portfolio management, who are
remunerated at arm’s length.
Management services to third party investment property owners should not be a separate substantial business
activity, or a separate substantial source of income, for the investment entity definition to be met.
Outside management services, it is often the case that financing (in the form of equity or debt) or guarantees are
granted to related holding or property companies within the structure.
5.1.2.2. Business purpose

The definition of an investment entity requires the entity to commit to its investor(s) that its business purpose is to
invest funds solely for returns from capital appreciation, investment income, or both. For real estate structures,
capital appreciation is synonymous with the increase in fair value of the properties, culminating in the gains from
disposal, whilst rental income from lease contracts is considered as investment income.
The business purpose is normally presented in offering memorandums, prospectuses, term sheets, partnership
agreements, deeds or other corporate documents. The objectives are essential in assessing the structure’s
purpose and whether this purpose is consistent with the business purpose of an investment entity.
Example – Business purpose of an investment entity

Background
A real estate fund, fund F, is a closed-ended fund set up for a limited life of 10 years. The mandate and
objective of fund F, set up at inception, is to maximise total returns on capital by seeking consistent recurring
income and capital appreciation through acquiring and realising a diverse portfolio of income-producing
industrial properties. As such, fund F will be focused on maximising the fair value of its investments and rental
income growth. The investments are owned through wholly owned property subsidiaries.
Does the above meet the business purpose of an investment entity criterion?
Solution
Yes. The objective of the fund is to invest funds solely for returns from both capital appreciation and
investment income.

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5.1.2.3. Exit strategy
Real estate structures are required to have a documented exit strategy for their assets, in order to meet the
definition of an investment entity. The presence of an exit strategy is essential evidence of an investment entity’s
business purpose.
The fact that the investment entity does not plan to hold its investments indefinitely differentiates it from other
entities. An entity’s objective of investing for capital appreciation is not generally consistent with an objective of
holding the investments indefinitely. [IFRS 10 App B para B85F].
An example of an exit strategy includes the sale of the real estate through specialised property dealers or the
open market. [IFRS 10 App B para B85G].
Closed-ended real estate structures generally have a limited life, which is expressed in their offering documents,
and so the disposal timeframe is transparent. This can be documented in many different ways and in many
different types of document (for example, prospectus, marketing material, investor reports and term sheets).
There is no guidance within the standard on the period or the number of years for the exit strategy.
5.1.2.4. Fair value measurement

An essential element of the definition of an investment entity is that the entity measures and evaluates the
performance of substantially all of its investments on a fair value basis. Accordingly, presenting its investments at
fair value results in more relevant information than consolidation or using the equity method. [IFRS 10 App B para
B85K].
To meet this criterion, an investment entity:
• provides investors with fair value information;

• measures substantially all of its investments at fair value in its financial statements whenever it is required or
permitted in accordance with IFRS; and
• reports fair value information internally to the entity’s key management personnel, who use the fair value as the
primary measurement attribute to evaluate the performance of substantially all of its investments and to make
investment decisions.
[IFRS 10 App B para B85K].
A detailed analysis of the management decision-making process and of the reporting to investors might be
required, to understand the primary measurement attributes used.
Some real estate structures, while having other measures, might still use fair value as their primary measurement
attribute to evaluate and make investment decisions.
However, where a real estate structure generates substantial investment income (for example, rental income),
management might not measure and evaluate the performance of substantially all of its investments on the basis
of fair value. In such a case, management and investors might measure the entity’s returns in absolute terms,
which would include fair value, but fair value would not be the sole primary measurement attribute used in making
investment decisions. Yield would typically be another primary measurement attribute. In addition, other
measures (such as the internal rate of return, equity multiple, earnings ratio, net present value and EBITDA) might
be used. This indicates that the definition of an investment entity is not met, and that consolidation or the equity
method would provide more relevant financial information.
5.1.2.5. Typical characteristics of an investment entity

In assessing whether an entity meets the definition described above, it should be considered whether the
following typical characteristics of an investment entity are present:
a. it has more than one investment;

b. it has more than one investor;
c. it has investors that are not related parties of the entity; and
d. it has ownership interests in the form of equity or similar interests.
[IFRS 10 para 28].
Further guidance on these characteristics can be found in the PwC Manual of Accounting chapter 27 paragraphs
33–40.

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The absence of one or more of these typical characteristics does not necessarily disqualify the entity from being
an investment entity. However, it is highly unlikely that the definition of an investment entity will be met without
having any of these typical characteristics. [IFRS 10 para BC 234]. The typical characteristics have to be seen as
a supplement to the definition, and real estate structures have to consider whether they display these
characteristics.
More than one investment

The purpose of an investment entity is to hold several investments to diversify its risk and maximise its returns.
This condition is met if a real estate entity is investing, via a holding company, into several properties or several
property-holding entities. [IFRS 10 App B para B85O].
Entities might qualify as investment entities even if they have just one single investment, although the purpose for
which the real estate structure has been set up must be taken into consideration.
For example, an entity might have just one single investment in the following situations: during its start-up period,
when it only has seed money available; when it is in the course of finding replacements for disposals; or when it is
in the process of liquidation. [IFRS 10 App B para B85P]. This can also occur where the entity is established to
pool funds from a number of investors to invest in an investment unobtainable by individual investors (for
example, a club deal to acquire a substantial iconic property in a core location). Typically, the investment would
be out of reach for any single investor, due to its size and risk, but not for a pool of investors.
More than one investor

Typically, an investment entity would have several unrelated investors. However, paragraph B85R of IFRS 10
permits a single investor that represents or supports the interests of a wider group of investors (for example, a
pension fund or family trust). Other examples where an investment entity might have only a single investor include
the following situations, where an entity:
a. is within its initial offering period, and is actively identifying other suitable investors;
b. has not yet identified suitable investors to replace ownership interests that have been redeemed; or
c. is in the process of liquidation.
[IFRS 10 App B para B85S].
Other typical situations might include master-feeder structures, where there are multiple investors in the feeder
funds.
Example – Real estate fund

Background
A real estate fund is set up to invest in real estate assets for the benefit of institutional and retail investors. It is
set up and managed by an investment manager experienced in the real estate business. The fund invests in
real estate companies and other real estate investment funds which own, manage and lease out real estate
assets.
The investment manager has a policy of acquiring and disposing of its real estate investments over a 5 to 10-
year timeframe. The fund earns dividends and it realises capital gains from its real estate investments.
The fund reports (internally and externally) all of its investments at fair value, and its performance is assessed
based on those fair values.
The fund issues redeemable participating units which are redeemable at a share of the fund’s net asset value.
The founding documents of the fund confirm its objectives and strategy as stated.
Is the fund an investment entity?
Solution
Yes. The fund meets the definition of an investment entity for the following reasons:
Its objective is to generate returns from capital appreciation and investment income through investment
management services.
It manages its investments on a fair value basis, which is reported to its investors.
It displays the typical characteristics of an investment entity, which are: it has more than one unrelated
investor; it holds multiple investments; and it has ownership interests in the form of fund units which represent
a proportionate share of its underlying assets.

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Example – Real estate entity
Background
Real Estate Investments (‘REI’) was formed in order to develop, own and operate retail, office and other
commercial properties.
REI usually holds each of its properties in separate wholly owned subsidiaries. Those subsidiaries have no
substantial assets or liabilities other than borrowings used to finance the related investment property.
REI and each of its subsidiaries report their investment properties at fair value.
REI does not have a set timeframe for disposing of properties, although it uses fair value to help identify the
optimal time for disposal.
REI and its investors also use measures other than fair value (including information about expected cash
flows, rental revenues and expenses) to assess performance and to make investment decisions.
The directors and managers of REI do not consider fair value information to be the primary measurement
attribute in evaluating investment performance; rather, they see that information as part of a group of equally
relevant key performance indicators.
REI undertakes extensive property and asset management activities (including property maintenance, capital
expenditure, redevelopment, marketing and tenant selection), some of which it outsources to third parties. This
includes the selection of properties for refurbishment, development, and the negotiation with suppliers for the
design and construction work to be done to develop such properties. This development activity forms a
separate substantial part of REI’s business activities.
Is REI an investment entity?
Solution
No. REI is not an investment entity for the following reasons:
It has a separate substantial business activity that involves the active management of its property portfolio,
including lease negotiations, refurbishments and development activities, and marketing of properties, to
provide benefits other than capital appreciation and/or investment income.
Its investment plans do not include specified exit strategies for its investments. As a result, it plans to hold
those property investments indefinitely.
Although it reports its investment properties at fair value under IAS 40, fair value is not the primary
measurement attribute used by management to evaluate the performance of its investments. Other
performance indicators are used to evaluate performance and make investment decisions.
(See also IFRS 10 para IE9, example 3.)
5.2. Joint arrangements

5.2.1. Overview
Entities in the real estate industry commonly use joint arrangements in structuring their business and operations.
Joint arrangements exist when joint control is present. Joint control is the agreed sharing of control where
decisions over relevant activities require the unanimous agreement of the parties sharing control. It provides
entities with a mechanism by which to:
• manage their exposure to particular geographical regions and asset classes;

• share risks in relation to the ownership and/or development of property; and/or
• leverage the expertise, experience and knowledge of the joint arrangement partners.
The structuring of joint arrangements in the real estate industry varies from straightforward arrangements (for
example, direct joint ownership of property assets) to more complicated arrangements (for example, joint
arrangements to develop and construct property structured through separate vehicles and subject to various
contractual agreements).

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5.2.2. Classification and measurement of a joint arrangement
Under IFRS 11, there are two types of joint arrangement: joint operations and joint ventures. A joint arrangement
is classified as a joint operation where the investors have direct rights to the assets and obligations for the
liabilities of the arrangement. A joint arrangement is classified as a joint venture where the investors have rights to
the net assets of the arrangement.
Classification of an arrangement determines its accounting treatment: joint operations are accounted for by
recognising the operator’s relevant share of assets, liabilities, revenues and expenses; joint ventures are
accounted for using equity accounting.
Entities need to assess their rights and obligations under the joint arrangement in order to determine the
appropriate classification as either a joint operation or a joint venture.
Investment property that is directly owned as ‘tenants in common’, and not through a separate vehicle, meets the
joint operation classification, where joint control exists.
Investment property or development projects undertaken through a separate vehicle (such as a trust, company or
unincorporated partnership) will need to be carefully assessed. The accounting for a joint arrangement is not
driven solely by its legal form. Operators will account for their involvement in a joint arrangement in a manner that
is consistent with their rights and obligations. As such, it is important to understand the contractual terms of the
agreements.
Example – Joint arrangements with no separate legal structure

Background
An investment property with a value of C90 was purchased by three investors. Each investor has an equal
interest in the property and is listed on the title deed as a tenant in common. Each investor has funded their
interest individually, either through external borrowings or through capital. A joint ownership agreement has
been signed between the investors to govern their joint ownership of the investment property.
The arrangement is depicted as follows:
• All parties must agree to decisions relating to:

- the appointment/removal of the property manager;
- capital expenditure, including the decision to redevelop part or all of the investment property;
- signing/re-signing major leases;
- entering into service contracts greater than C0.10 in relation to the property (for example, for cleaning
services); and
- the approval of building insurance.
• Each party is liable for obligations and claims against the property.
• The net property income (NPI) will be distributed to investors based on their ownership interest. NPI is
rental income collected by the property manager, less property expenses not recovered by the tenants.
Is the arrangement a joint operation or a joint venture?
Solution
The above is a joint operation under IFRS 11.

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The fact that the investors share in the NPI of the investment property does not preclude it from being a joint
operation, because each investor has direct rights to the investment property and is liable for obligations and
claims arising. Each investor recognises its share of:
• investment property;
• tenants’ receivables outstanding at period end;
• trade creditors and accruals outstanding at period end;
• property expenses incurred during the period; and
• rental income generated during the period.
Each investor will also recognise the respective borrowings or additional capital obtained in order to fund the
acquisition in their financial statements.
Paragraph BC 27 of IFRS 11 clarifies that it is possible for parties to a joint arrangement, which is not
structured through a separate vehicle, to establish terms in the contractual arrangement under which the
parties have rights only to the net assets of the arrangement. However, such structures would be very rare in
practice.
Example – Joint arrangements structured in a company

Background
Company X was established in the current year by investors A and B, who own 60% and 40% respectively.
The company owns and operates a diversified property portfolio, which it has funded through external
borrowings and capital contributed by investors A and B. The legal form of the company restricts the liability of
investors to any unpaid capital contributions. Creditors of the company have no recourse against the investors.
The company’s articles of association outline that an 85% majority is required for decisions regarding the
relevant activities of the company. Each investor votes in proportion to their ownership interest; as such, both
investors A and B must unanimously agree on decisions in relation to the company.
Is the arrangement a joint venture or a joint operation?
Solution
The above is a joint venture under IFRS 11. The company is a separate vehicle, which confers separation
between the investors and the company itself − that is, the investors are only entitled to their share of the net
assets of the company.
Both investors apply equity accounting to their interest in the joint venture.
Example – Joint arrangements structured in an unincorporated partnership

Background
Companies A and B have entered into an arrangement to construct an office building on a parcel of land.
Company A currently owns the land that will be developed as part of the joint arrangement. It will also
undertake the development activities in order to construct the office building for a fee. Company A will retain
legal title of the land. A development deed is entered into between both companies that provides a beneficial
interest in the land to company B. As a result, both companies A and B will have a direct right to the land.
Company B identified the opportunity to partner with company A and will provide capital to the arrangement.
Companies A and B have established an unincorporated partnership to undertake the activities of the joint
arrangement. The unincorporated partnership does not create legal separation between the entity itself and
companies A and B.
Third party financing has been obtained by companies A and B trading as the A&B Partnership. The financing
is secured against the land subject to development; however, companies A and B still have a direct obligation
for the third party financing.
A bank account has also been established by companies A and B trading as the A&B Partnership. All
payments for the development and receipt of income will pass through this bank account.

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Separate books and records are maintained for the A&B Partnership, and financial statements are prepared on
an annual basis for distribution to both companies.
Is the arrangement a joint venture or a joint operation?
Solution
The above is a joint operation. While the A&B Partnership is a separate vehicle, companies A and B have
direct rights to the assets and obligations for the liabilities of the partnership, because the legal form does not
confer separation. Each company will recognise its share of the arrangement’s assets, liabilities, revenues and
expenses.
The legal structure of an arrangement is not the most significant factor in determining the accounting.
Understanding the respective rights and obligations can be challenging, and arrangements need to be
carefully considered.
A summary of the requirements is as follows:
Type Rights and obligations Accounting

Joint Direct rights to the A joint operator will recognise its interest based on its involvement
operations assets and obligations in the joint operation (that is, based on its direct rights and
for the liabilities of the obligations) rather than on the participation interest that it has in
arrangement. the joint arrangement. The balance sheet and income statement
will be presented gross.
‘A joint operator shall recognise in relation to its interest in a
joint operation:
• Its assets, including its share of any assets held jointly.
• Its liabilities, including its share of any liabilities incurred jointly.
• Its revenue from the sale of its share of the output arising from
the joint operation.
• Its share of the revenue from the sale of output arising from the
joint operation.
• Its expenses, including its share of any expenses incurred
jointly.'
[IFRS 11 paras 20, 26(a)].
Joint ventures No rights to individual Joint ventures are accounted for using the equity method in
assets or obligations for accordance with IAS 28 unless a scope exclusion applies. [IFRS
individual liabilities. 11 para 24].
Instead, joint venturers
share in the net assets In the consolidated financial statements, the net investment in the
and the profit or loss of venture, reflecting the share of net assets, is a single line in the
the arrangement. balance sheet; and the share of profit or loss appears as a single
line in the income statement.

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5.3. Taxation
5.3.1. Overview
The general principles of recognition and measurement of income taxes are set out in IAS 12. IAS 12 applies to
all domestic and foreign taxes that are based on taxable profits or taxes on distributions from subsidiaries, joint
ventures or associates, such as withholding taxes. [IAS 12 para 2].
5.3.2. Current tax

Current tax is generally recognised as income or expense, unless it arises from a transaction or event that is
recognised in other comprehensive income or equity. [IAS 12 para 58]. Since gains or losses on investment
property are recognised in the income statement, tax relating to the sale or use of investment property is
recognised in the income statement.
Current tax liabilities are recognised for any unpaid tax expense for the current and prior periods. They are
measured at the tax rates enacted or substantively enacted at the reporting date.
5.3.3. Deferred tax

Deferred tax arises when expenditure, gains and losses, assets and liabilities are recognised in one period but
are included in the computation of taxable profits in future periods. For example, fair value movements on
investment property measured at fair value in accordance with IAS 40 are often not taxed until the property is
disposed of. The approach to determining a deferred tax asset or liability can be found in the PwC Manual of
Accounting chapter 14 paragraph 18.
This can broadly be summarised as follows:
1. Determine tax base.

2. Calculate temporary difference, being the difference between accounting carrying value and tax base.
3. Assess any deductible temporary difference for recoverability.
4. Determine the tax rate that is expected to apply when the temporary difference reverses.
5. Calculate deferred tax, being the temporary difference multiplied by the tax rate.
Deferred tax normally arises from:
a. fair value movements recognised on investment property carried at fair value; and
b. the difference between the tax base and carrying value of investment property measured at cost as a result of
different depreciation rates being used for tax and accounting purposes.
5.3.4. Deferred tax on investment property measured at fair value

The general principle in IAS 12 is that entities should measure deferred tax using the tax bases and tax rates that
are consistent with the manner in which the entity expects to recover or settle the carrying amount of the item. For
assets, the carrying amount of an asset is normally recovered through use, or sale, or use and sale. The
distinction between recovery through use and sale is important since, in some jurisdictions, different rates might
apply for income (recovery through use) and capital gains (recovery through sale). However, for investment
property carried at fair value, there is a rebuttable presumption that recovery will be entirely through sale, even
where the entity earns rentals from the property prior to its sale. [IAS 12 para 51C].
In order to rebut this presumption, investment property must be depreciable and held as part of a business model
whose objective is to consume substantially all of the economic benefits embodied in the property through use
over time. An investment property might not qualify for tax depreciation, and no part of the property’s cost is
deductible against taxable rental income. Instead, the cost of the property (uplifted by an allowance for inflation,
where applicable) is allowed as a deduction against sales proceeds for the purpose of computing any taxable gain
arising on sale. [IAS 12 para 51C].
Deferred tax for investment properties carried at fair value should generally be measured using the tax base and
rate that are consistent with recovery entirely through sale, and using capital gains tax rules (or other rules
regarding the tax consequences of sale, such as rules designed to claw back any tax depreciation previously
claimed in respect of the asset). If the presumption is rebutted, deferred tax should be measured reflecting the tax
consequences of the expected manner of recovery.

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The presumption also applies where investment property is acquired in a business combination and the acquirer
later uses fair value to measure the investment property. [IAS 12 para 51D].
The freehold land component of an investment property can be recovered only through sale.
Example – Deferred tax on investment property at fair value: clawback of tax depreciation and 0% capital
gains tax
Background
On 1 January 20X1, entity A in jurisdiction X purchased an investment property for C100. The investment
property does not have a freehold land component. The investment property is subsequently measured at fair
value.
At 31 December 20X3, the fair value of the investment property is C120. The tax written-down value is C88
(that is, the accumulated tax depreciation is C12).
The tax legislation in jurisdiction X is as follows:
1. A tax allowance equal to purchase cost is claimed in annual instalments on an investment property held
for use.
2. The income tax rate is 30%.
3. Cumulative tax depreciation claimed previously will be included in taxable income if the investment
property is sold for more than tax written-down value.
4. Sale proceeds in excess of original cost are not taxed.
What would the deferred tax liability be in each of the following scenarios?
a. Entity A expects to dispose of the investment property within the next year.
b. Entity A’s business model is to consume substantially all of the economic benefits of the investment
property over time, rather than through sale.
c. Entity A has no specific plans to sell the investment property and holds it to earn rental income, although
the investment property might be sold in the future.
Solution
a. There is a rebuttable presumption that the carrying amount of an investment property measured at fair
value will be recovered entirely through sale. This presumption is consistent with management’s expected
manner of recovery. Entity A recognises a deferred tax liability as follows:
C
At 31 December 20X3
Carrying amount at fair value 120
Tax base (88)
Taxable temporary difference 32
Clawback of tax depreciation below cost (C100-C88 = C12 at 30%) 3.60
Fair value in excess of cost (C120 = C100 = C20) at 0% 0
Deferred tax liability 3.60
b. If entity A’s business model is to consume substantially all of the economic benefits of the property over
time, the presumption of recovery through sale may be rebutted. If the presumption of recovery through
sale is rebutted, Entity A recognises a deferred tax liability as follows:
C
At 31 December 20X3
Carrying amount at fair value 120
Tax base (88)
Taxable temporary difference 32
Deferred tax liability at 30% 9.60

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c. Entity A has no specific plans to sell the investment property and no business model to consume
substantially all of the economic benefits of the property over time, so the presumption of recovery through
sale is not rebutted. Deferred tax is determined based on the tax consequences of sale as in scenario A,
which is a deferred tax liability of C3.60.
Example – Deferred tax on investment property at fair value: clawback of tax depreciation and capital gains tax
Background
Entity B owns an investment property in jurisdiction Y. The investment property does not have a freehold land
component. Entity B has a policy of carrying properties at fair value, and the carrying amount of the investment
property is C50 at 31 December 20X0. Entity B acquired the investment property originally for C100 and has
claimed tax deductions to date of C40, hence the tax base is C60.
The tax legislation in jurisdiction Y is as follows:
1. Tax deductions claimed are clawed back when the property is sold.
2. Capital gains tax is charged at 15% on the excess of the selling price over the original purchase price.
3. Income is taxed at 30%.
4. Capital losses can only be offset against capital gains.
What would the deferred tax liability be in each of the following scenarios?
a. Entity B expects to dispose of the investment property within the next year.
b. Entity B’s business model is to consume substantially all of the economic benefits of the investment
property over time, rather than through sale.
c. Entity B has no specific plans to sell the investment property and holds it to earn rental income, although
the investment property might be sold in the future.
Solution
a. Entity B expects to recover the carrying amount of the investment property from sale, which will result in a
clawback of the previously claimed allowances of C40. The deferred tax asset (DTA) and deferred tax
liability (DTL) are calculated as follows:
Taxable deductible) Tax rate DTL/(DTA)

temporary
difference
Tax depreciation clawback 40 30% 12
Capital losses (fair value of C50 less (50) 15% (7.50)

purchase price of C100)
The tax relief on capital losses can only be utilised if there are sufficient capital gains to offset the loss. As
such, the deferred tax asset can only be recognised if the criteria in paragraph 24 of IAS 12 are met. Note that,
in line with paragraph 74 of IAS 12, the deferred tax liability and deferred tax asset cannot be offset in this
case, since jurisdiction Y only allows capital losses to be offset against capital gains.
b. Entity B is able to rebut the presumption if it has a business model that it will consume substantially all of
the property’s economic benefits over time, rather than through sale. In this case, entity B will recognise a
deferred tax asset of C3 [(C50 – C60) × 30%], subject to the criteria in paragraph 24 of IAS 12.
c. Entity B has no plans to sell the investment property, and no business model to consume substantially all
of the economic benefits of the property over time, so presumption of recovery through sale is not
rebutted. Deferred tax is determined based on the tax consequences of sale, as in scenario A.

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Example – Deferred tax on investment property at fair value: no tax depreciation with capital gains tax
Background
Entity C acquired an investment property on 1 January 20X0. The investment property does not have a
freehold land component. The entity’s accounting policy is to measure investment properties at fair value. The
cost of the investment property is C50, which is its tax base for capital gains tax purposes.
Management expects to use the property for 10 years, to generate rental income, and to dispose of the
property at the end of year 10. The property’s residual value at the end of 10 years is estimated to be C20. The
fair value of the property is C60 at 31 December 20X0.
The tax legislation in jurisdiction Z is as follows:
1. The cost of an investment property is not deductible against rental income, but any sales proceeds are
taxable after deducting the acquisition cost.
2. The tax rate is 30% for taxable income and 40% for capital gains.
3. No annual tax allowance is available on an investment property held for use.
What is the deferred tax liability on initial recognition and at the end of year 1?
Solution
Entity C’s business model is not to consume substantially all of the economic benefits of the property over
time, given its intention to sell the property in year 10. As a result, the entire property is presumed to be
recovered through sale. There is a tax base available on sale, being the purchase price of the property of C50
at acquisition. There is no temporary difference on initial recognition.
At the end of year 1, the fair value of the investment property has increased to C60, with no change in the tax
base on disposal. There is a taxable temporary difference of C10. Entity C would recognise a deferred tax
liability of C4 (C10 × 40%) at the end of year 1.
5.3.5. Deferred tax on investment property measured at cost

Investment property carried at cost is depreciated over its useful life for accounting purposes. The rebuttable
presumption that the asset will be recovered through sale (noted in section 5.3.4) does not apply to investment
property measured at cost. The expected manner of recovery might be through a combination of use and sale.
The asset’s carrying amount is split between the use and sale elements, and these carrying amounts are
compared to their respective tax bases. If the only tax deduction available for the property is on sale, the tax base
of the building’s use element carried at cost would be nil on initial recognition and in all future periods. [IAS 12
para 51].
Example – Deferred tax on investment property at cost

Background
Entity E in jurisdiction E acquired 100% of the shares in entity S for C500 on 31 December 20X0. The
identifiable assets acquired included an investment property with a fair value of C250 and other net assets with
a fair value of C100.
Entity S purchased the investment property for C180. The cumulative tax depreciation at 31 December 20X0 is
C45.
The tax legislation in jurisdiction E is as follows:
1. Gains on disposal (sales proceeds over the original purchase price) are not taxed, but the previously
claimed tax allowance is clawed back.
2. The income tax rate is 30%.
What would be the impact, in the consolidated financial statements of entity E, on the recognition of deferred
tax on the property and on the goodwill at acquisition, where entity E applies the cost model and assumes
recovery of the property through use?
Solution
Entity E should apply the expected manner of recovery principle when the cost model is applied. Since
recovery of the property is assumed to be through use, entity E recognises a deferred tax liability on
acquisition of C34.50 ((C250 – C180 + C45) × 30%). The corresponding debit is recognised in goodwill.

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5.3.6. Deferred tax on investment property held in a corporate wrapper
In some jurisdictions, investment properties are held in individual legal entities, often referred to as ‘corporate
wrappers’.
This allows entities to buy and sell properties without the need to change the legal title or incur any associated
stamp duties. Specific structures might also give rise to differences in tax treatment, particularly where the tax rate
for the sale of property is different from the tax rate for the sale of shares. These structures give rise to accounting
issues around transaction costs and deferred tax.
5.3.6.1. Consolidated financial statements

IAS 12 does not explicitly provide guidance on how to account for deferred taxes where investment properties are
held in corporate wrappers. However, in our view, consistent with an agenda decision issued by the IFRS
Interpretations Committee in July 2014, management should apply a two-step approach to considering provisions
for deferred taxes:
• Level of the legal entity that is the corporate wrapper: management should determine the expected manner of
recovery of the underlying property (that is, whether the underlying property will be recovered through use or
sale by the corporate wrapper). Management should then determine the temporary difference based on the
expected manner of recovery (referred to as the ‘inside basis’ difference) and calculate the deferred tax in the
books of the corporate wrapper.
• Level of the consolidated financial statements: management should also identify any additional ‘outside basis’
difference between the accounting carrying value of the subsidiary and its tax base. Deferred tax on the
outside basis difference should be recognised if required by paragraph 39 of IAS 12.
This applies even where the group expects to recover its investment in the corporate wrapper without an impact
on taxable profit, or with a lesser impact than from selling the property itself (for example, by selling the corporate
wrapper). Deferred tax is recognised on the inside basis difference, being the difference between a property’s
carrying amount and its tax base. The property itself (not the investment in the corporate wrapper) is recognised
in the consolidated balance sheet, so the relevant tax base is that of the asset and not that of the investment.
The outside basis difference arises where the carrying amount of the subsidiary in the consolidated financial
statements is different from the tax base, which is often the cost of the investment at the date of acquisition.
Outside basis differences usually arise where undistributed profits in the investee increase the carrying value of
the parent’s investment in the investee above its tax cost, where the investment’s carrying amount is impaired, or
where the investment’s carrying amount changes as a result of changes in foreign exchange rates (for example,
where the investee has a functional currency different from the reporting currency). In the context of corporate
wrappers, unrealised profits might arise when the underlying property is remeasured to fair value.
However, deferred tax on the outside basis difference might not need to be recognised, because IAS 12 provides
an exception from recognising the deferred tax arising on the outside basis difference. The exception applies if:
• the parent controls the timing of the reversal of the temporary difference; and
• it is probable that the temporary difference will not reverse in the foreseeable future.
[IAS 12 para 39].
The carrying amounts for such investments or interests can be recovered through distributions or disposal.
Therefore, if the parent has determined that the subsidiary’s profits or reserves will not be distributed in the
foreseeable future and the entity will not be disposed of, no deferred tax is recognised on the outside basis
difference.
5.3.6.2. Separate financial statements

In the separate financial statements of the entity holding the investment in the corporate wrapper, prepared under
IAS 27, deferred tax would be determined on the basis of the carrying value of the investment in the corporate
wrapper, since this is the asset recognised on the balance sheet.
Example – Deferred tax on properties held within corporate wrappers

Background
Entity Y holds property X within a corporate wrapper, entity W. The fair value of the property recognised in the
consolidated financial statements of entity Y is C10 million and its tax base is C5 million. Entity Y’s
management expects the eventual disposal of property X to take place through a sale of entity W, giving rise to
a tax charge of C750,000 relating to sale of the investment. If entity Y decided to sell the property by itself, this
would give rise to a tax charge in entity W of C1.5 million. This is based on the assumption that the expected
manner of recovery of the property is through sale. In addition, entity Y has determined that the exception in

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paragraph 39 of IAS 12 applies, so deferred tax is not recognised on any outside basis differences in relation
to entity Y’s investment in entity W.
How should entity Y recognise deferred tax:

a. in its consolidated financial statements?
b. in its separate financial statements?
Solution
a. Entity Y should record a deferred tax liability of C1.5 million in its consolidated financial statements. In the
consolidated financial statements, the property is an asset that gives rise to a temporary difference, and
the expected manner of recovery is through selling the asset.
b. Entity Y should record a deferred tax liability of C750,000 (unless the exemptions in para 39 of IAS 12
apply). In the separate financial statements, it is the investment balance in entity W that gives rise to a
temporary difference. Note that, in cases where the investment in a subsidiary is measured at cost and
has not been remeasured subsequent to initial recognition, the deferred tax liability might be nil.
5.3.6.3. Deferred tax on initial recognition of corporate wrappers

IAS 12 does not permit the recognition of deferred tax on initial recognition of an asset. [IAS 12 paras 15, 24].
Note that, in consolidated financial statements, this exception does not apply where assets held in corporate
wrappers are acquired as part of a business combination (see section 1.1). In the case of an asset acquisition, in
line with an agenda decision issued by the IFRS Interpretations Committee in July 2014, the exceptions in IAS 12
in respect of recognition of deferred tax apply. Regardless of whether the acquisition price takes into
consideration the benefit of tax implications, no deferred taxes should be recognised. The acquisition price should
be allocated solely to the acquired assets pro rata, ignoring any deferred taxes.
5.3.7. Uncertain tax positions

An uncertain tax position is any tax treatment applied by an entity where there is uncertainty over whether that
treatment will be accepted by the tax authority. For example, a decision to claim a deduction for a specific
expense, or not to include a specific item of income in a tax return, is an uncertain tax position if its acceptability is
uncertain under tax law.
IFRIC 23 applies to all aspects of income tax accounting where there is an uncertainty regarding the treatment of
an item, including taxable profit or loss, the tax bases of assets and liabilities, tax losses and credits and tax rates:
• If an entity concludes that it is probable that the tax authority will accept an uncertain tax treatment that has
been taken or is expected to be taken on a tax return, it should determine its accounting for income taxes
consistently with that tax treatment.
• If an entity concludes that it is not probable that the treatment will be accepted, it should reflect the effect of the
uncertainty in its income tax accounting in the period in which that determination is made (for example, by
recognising an additional tax liability or applying a higher tax rate). The entity should measure the impact of the
uncertainty using the method that best predicts the resolution of the uncertainty (that is, the entity should use
either the most likely amount method or the expected value method when measuring an uncertainty).
Each uncertain tax treatment is considered separately or together as a group, depending on which approach
better predicts the resolution of the uncertainty. IFRIC 23 requires consistent judgements and estimates to be
applied to current and deferred taxes.

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6. Disposal of investment
property
6.1. Classification as held for sale under IFRS 5

Investment property is classified as held for sale under IFRS 5 where its carrying amount will be recovered
principally through a sale transaction rather than continuing use. [IFRS 5 para 6].
6.1.1. Overview
For a property to be classified as held for sale, the following conditions need to be met:
the asset must be available for immediate sale in its present condition; and the sale must be highly probable.
[IFRS 5 para 7].
For a sale to be highly probable, management must be committed to a plan to sell the property and have an
active programme to locate a buyer and complete the plan. The property must be actively marketed at a price that
is reasonable in relation to its current fair value, and the sale should be expected to complete within one year of
classification. [IFRS 5 para 8].
For investment property carried at fair value, the measurement provisions of IFRS 5 do not apply. [IFRS 5 para
5(d)]. For investment property under the cost model, measurement under IFRS 5 is at the lower of the carrying
amount and fair value less costs to sell. However, for both – investment property under the cost model as well as
the fair value model – the presentation and disclosure requirements in IFRS 5 apply.
6.1.2. Property under construction

For property under construction to be classified as a non-current asset held for sale, it is required to be available
for immediate sale in its present condition, and the sale should be highly probable and it should occur under
normal market conditions.
The criterion of marketability should be particularly scrutinised. If the property cannot be sold as property under
construction but only following completion, the investment property is not available for immediate sale in its
present condition, because completion is required to reach marketability. If there is, in exceptional cases, a
possibility to dispose of the property before the construction is completed, meaning that the property is
transferable ‘as it is’, presentation as held for sale is required, provided that all other conditions in IFRS 5 are met.
6.2. Sale of investment property

Revenue is recognised when a performance obligation is satisfied, which occurs when control of the property
transfers to the buyer. The standard provides a list of indicators to consider when determining the point in time at
which control passes to the customer, including but not limited to whether:
• the entity has a present right to payment;
• the customer has obtained legal title to the asset;
• the entity has transferred physical possession of the asset to the customer;
• the customer has significant risks and rewards of ownership of the asset; and
• the customer has accepted the asset.
[IFRS 15 para 38]. Further guidance on the satisfaction of performance obligations can be found in the PwC
Manual of Accounting chapter 11 paragraphs 188.
Gains on disposal are the difference between the net disposal proceeds, measured in accordance with IFRS 15,
and the carrying value of the assets. Such gains are recognised in the income statement (unless IFRS 16
requires otherwise on a sale and lease back). [IAS 40 para 69].

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Whereas, in most cases, the disposal proceeds are readily determinable, complications might arise where:
• the agreement includes deferred consideration;
• consideration for the sale includes contingent consideration (that is, consideration dependent on the
occurrence of a specific event);
• consideration is variable (for example, consideration that is a percentage of revenue); or
• additional services are provided to the buyer as part of the sale transaction. For example, a vendor might
provide transition or other management services to the buyer on an ongoing basis. The vendor might also
make head lease payments on vacant space.
The amount of consideration to include in the gain or loss arising from derecognition of an investment property is
determined in accordance with the requirements for determining the transaction price in IFRS 15. The transaction
price is the amount of consideration to which an entity expects to be entitled in exchange for transferring the
property to the customer. [IFRS 15 para 47]. Non-cash consideration received is measured at fair value. [IFRS 15
para 66]. The transaction price does not include amounts collected on behalf of third parties. [IFRS 15 para 47].
The consideration promised in a contract to purchase an investment property might include fixed amounts,
variable amounts, or both. If the consideration promised in a contract includes variable amounts, an entity
estimates the amount of consideration to which it will be entitled in exchange for transferring the property to the
customer, excluding amounts for which it is not highly probable that a significant reversal in the amount of
cumulative revenue recognised will not occur when the uncertainty associated with the variable consideration is
subsequently resolved.
[IFRS 15 para 56].
See section 2.6 for further information on accounting for variable consideration associated with rental guarantees.
6.2.1. Deferred sales proceeds

Deferred consideration receivable at a later date, for the sale of an investment property that is highly probable of
being received and includes a significant financing component, is discounted to present value to arrive at the cash
price equivalent using the discount rate that would be reflected in a separate financing transaction at contract
inception. This requires the discount rate to include the market interest rate at contract inception as well as the
customer’s credit risk. The discount rate is not adjusted for changes in interest or other circumstances at a later
stage. [IFRS 15 para 64]. The difference between this amount and the amount receivable is treated as interest
income, and it is recognised, over the period until the actual receipt, using the effective interest method.
[IFRS 15 para 65].
However, for deferred consideration to include a significant financing component, the criteria in paragraph 61 of
IFRS 15 need to be met. A significant financing component does not exist if:
• the amount or timing of the deferred consideration varies on the basis of the occurrence or non- occurrence of
a future event that is not (substantially) in the control of either the customer or the entity; or
• the deferred consideration arises from reasons other than the provision of finance to either the customer or the
entity, and the difference between the promised consideration and the cash selling price is proportional to the
reason for the difference.
[IFRS 15 para 62].
As a practical expedient, an entity need not adjust for the promised amount of consideration, for the effects of a
significant financing component, if the entity expects the financing period to be one year or less. [IFRS 15 para
63].

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Example – Treatment of deferred sales proceeds that contain a financing component
Background
Investment property entity T has recently sold a property for C12 million. The sale agreement provides for C10
million to be remitted at the date of legal completion of the sale, with the remaining C2 million payable after
one year. The market rate of interest for 12-month loans to entities with a similar credit rating to the buyer is
7%.
Is entity T required to discount deferred sales proceeds to their net present value?
Solution
Yes, the arrangement effectively constitutes a financing transaction. Entity T should record an amount
receivable of C1,869,159 (C2,000,000/1.07). It would recognise the difference between C1,869,159 and
C2,000,000 as interest income over the 12-month period using the effective interest method.
6.2.2. Variable consideration on a sale of property

Example – Treatment of deferred sales proceeds that are in proportion to an outstanding service
Background
Investment property entity U has recently sold a property for C12 million. The sale agreement provides for C10
million to be remitted at the date of legal completion of the sale, with the remaining C2 million payable after the
completion of the outdoor facilities. The amount held back is equivalent to the calculated stand-alone selling
price for the outstanding construction works.
Is entity U required to discount deferred sales proceeds to their net present value?
Solution
No, the arrangement does not constitute a financing transaction. Entity U should assess whether the transfer
of the completed outdoor facilities is part of a separate performance obligation, or whether it is part of the
single performance obligation that transfers the property as a whole. Furthermore, the entity needs to assess
whether the performance obligation is, or the performance obligations are, satisfied at a point in time or over
time.
If the entity concludes that there are two performance obligations (being the transfer of the property followed
by the completion of the outdoor facilities at the property), it would account for C10 million as revenue when
the property is transferred. The remaining C2 million would be recognised as revenue over time, because the
completion of the outdoor facilities enhances an asset that the customer controls.
If the entity concludes that the amount has been deferred with a view to protecting the customer from the entity
inadequately completing the outdoor facilities, the entity recognises C12 million if it expects to complete all of
its obligations under the contract.
The entity needs to consider the accounting for more complicated recognition and measurement items in
accordance with relevant standards.
6.3. Sale of property under construction

Cash receipts do not necessarily indicate that the entity is able to recognise revenue. Revenue is recognised
under IFRS 15 when a performance obligation is satisfied, which occurs when control of a good or service
transfers to the customer. Control can transfer either at a point in time or over time, based on a range of criteria.
An entity should determine at contract inception whether control of a good or service is transferred over time or at
a point in time.
An entity might begin activities on an anticipated contract, prior to the arrangement meeting the criteria of IFRS 15
to be recognised as a contract with a customer. Revenue should be recognised on a cumulative catch-up basis if
subsequent reassessment indicates that the criteria are met. This cumulative catch-up should reflect the
performance obligation(s) that are partially satisfied, or satisfied on the contract reassessment date. An entity will
need to determine the goods or services that the customer controls and, therefore, what portion of the costs are
included in any measure of progress, to determine the cumulative revenue recognised.

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6.3.1. Recognise revenue over time or at a point in time
Real estate developers will need to consider whether they meet any of the three criteria necessary for recognition
of revenue over time.
A performance obligation is satisfied over time where at least one of the following criteria is met:
• The customer receives and consumes the benefits of the entity’s performance as the entity performs.
• The entity’s performance creates or enhances a customer-controlled asset.
• The asset being created has no alternative use to the entity, but the entity has a right to payment for
performance completed to date.
Without discussing all of the indicators above, a common judgement in the real estate industry is whether the
entity has an enforceable right to payment for performance completed to date. This is discussed in the example
below.
A performance obligation is satisfied at a point in time if it does not meet the criteria above.
Determining when control transfers will require significant judgement. Indicators that might be considered in
determining the point in time at which control of the good or service (asset) passes to the customer include, but
are not limited to whether:
• the entity has a present right to payment;

• the customer has obtained legal title to the asset;
• the entity has transferred physical possession of the asset to the customer;
• the customer has significant risks and rewards of ownership of the asset; and
• the customer has accepted the asset.
Example – Right to payment

Background
A property developer signed sales and purchase agreements to sell specific apartments in an apartment block
to different customers during the construction phase. Once the contract has been signed, the developer cannot
redirect the unit to another customer. All customers are required to pay a 10% non-refundable deposit, and
pay the remainder of the transaction price based on milestones as determined in the contract. The
performance does not create an asset with an alternative use.
If a customer defaults, the property developer will be entitled to 10% of the contract price, and it can retain the
work in progress completed to date. Any cash received above 10% will be refunded to the customer. How
should the developer recognise revenue from the sale of the apartment to the customer?
Solution
Revenue is recognised over time if the apartment being constructed has no alternative use and the seller has
a right to payment for the duration of the contract. While this assessment will need to be made on a contract-
by-contract basis, in this example the apartment will meet the ‘no alternative use’ test, because the specific
unit cannot be redirected contractually.
The second criterion is that of a right to payment for performance to date. The entity must be entitled to an
amount that at least compensates it for performance completed to date, at all times throughout the duration of
the contract, if the contract is terminated by the customer or another party for reasons other than the entity’s
failure to perform as promised. The right to receive a penalty and the right to retain the work in progress are
not considered to provide the developer with a right to payment for work completed to date, but are merely a
payment of a deposit or a payment to compensate the entity for inconvenience of loss of profit. There is
therefore no right to payment for work completed to date established in this contract. The entity should
evaluate when control passes to the customer, and it should recognise revenue on this date.

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6.3.2. Significant financing component
An entity adjusts the promised amount of consideration where there is a significant financing component. If the
contract contains a significant financing component, the transaction price should reflect the time value of money.
An entity is not required to consider the time value of money if the period between payment and the transfer of the
promised goods or services is one year or less, as a practical expedient.
In assessing whether a contract contains a significant financing component, an entity should consider various
factors, including:
• the length of time between when the entity transfers the goods or services to the customer and when the
customer pays for them;
• whether the amount of consideration would substantially differ if the customer paid cash when the goods or
services were transferred; and
• the interest rate in the contract and prevailing interest rates in the relevant market.
Example – Time value of money

Background
A contractor enters into a contract for the construction of a building on the customer’s land. This construction
of the building is a single distinct performance obligation. Control passes to the customer over the contract
term. The contract terms indicate specific dates on which the customer is required to make certain payments.
These payments do not necessarily coincide with the performance by the contractor. The following milestones
are established:
Month of payment Amount paid Month in which the associated
construction is performed
1 C10 million 0–6
15 C50 million 7–13
13 C20 million 14–18
The contract is set up in this way so that the contractor has the necessary funds to cover the cost of
construction.
Solution
The contractor charges the customer in advance. Management will need to consider the time period between
payment and the completion of the related performance, where the contractor is performing over time rather
than at a specific point in time, to assess whether there is a significant financing component, taking into
account the 12-month practical expedient offered by the standard. For example, the contractor might receive
payment in month 5 but would perform over the period between month 7 and month 13, and thus there might
not be a 12-month period between the date of payment and the associated performance. However, if there is a
significant financing component, the contractor will need to assess whether a significant financing transaction
exists. If a significant financing transaction does exist, the entity should calculate this finance component.
6.3.3. Measuring the progress towards completion

An entity should measure progress toward satisfaction of a performance obligation that is satisfied over time using
the method that best depicts the transfer of goods or services to the customer. Methods for recognising revenue,
when control transfers over time, include the following:
• Output methods that recognise revenue on the basis of direct measurement of the value to the customer of the
entity’s performance to date (for example, surveys of goods or services transferred to date, contract
milestones, or appraisals of results achieved).
• Input methods that recognise revenue on the basis of the entity’s efforts or inputs to the satisfaction of a
performance obligation (for example, cost-to-cost, labour hours, labour cost, machine hours, or material
quantities).
The method selected should be applied consistently to similar contracts with customers. Once the metric is
calculated to measure the extent to which control has transferred, it must be applied to total contract revenue to
determine the amount of revenue to be recognised.

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Example – Measure of progress towards complete satisfaction of performance obligation
Background
A developer is constructing a high-rise apartment building. All units have been sold off-plan before construction
commenced. The ground floor units are completed in December 20X1, but the top floor apartments are
completed in June 20X2. There is a restriction on the purchasers from occupying the units until the entire
building is complete, and the safety inspection, which is required by the relevant regulations, has been
performed.
Assume that there is only one performance obligation (the unit). Further, assume that the criteria for
recognising revenue over time have been met (since the units have no alternative use), and the developer has
an enforceable right to payment for work completed to date, based on the contractual terms and an
assessment of applicable legislation and legal precedent in the jurisdiction where the property is located. How
should the developer recognise revenue from the sale of the units?
Solution
The developer has sold the individual units to individual customers. Each individual unit is a separate contract
that includes a performance obligation that is satisfied over time. The developer would account for each
contract separately; however, in practical terms, the progress towards completion for each unit could be
calculated by reference to the stage of completion of the apartment block as a whole.
The analysis would be different if the developer had not sold all of the units off-plan before construction
commenced. Revenue would not be recognised on unsold apartments, and costs associated with unsold
apartments would be recorded as inventory.
It is also unlikely that this method would be appropriate if the developer was selling detached houses in a new
estate, rather than apartments in a single building. This is because the completion of one house would
probably not be dependent on the completion of another. Provided that the criteria for revenue recognition over
time are met for the sale of each individual house, revenue would be measured based on the stage of
completion assigned to each individual house, rather than a single stage of completion being assigned to the
development as a whole, as in the case of an apartment block.
Example – Partial satisfaction of performance obligations

Background
An entity begins constructing an apartment building and pre-sells 60% of the units. The asset has no
alternative use, and the entity has a right to payment for work completed to date from the time at which the
contract is signed. The remaining 40% of the units are constructed for inventory. At a later date, after the shell
of the rooms of all floors of the apartment building has been completed, the entity enters into a new contract
with a customer to sell one of the remaining units on the same terms as the original contracts. Thus, at
inception of the new contract, a portion of the new customer’s unit is already completed.
Solution
A cumulative catch-up adjustment is consistent with the principle of the standard of recognising revenue to
depict an entity’s performance in transferring control of goods or services to the customer. Thus, if activities
performed prior to the contract establishment date have resulted in progress towards satisfying a performance
obligation, the entity would recognise the revenue that it expects to be entitled to for that progress completed
to date.

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7. Other reporting issues
7.1. Functional and presentation currency
7.1.1. Overview
IAS 21 requires an entity to determine its functional currency and to measure its results and financial position in
that currency. The functional currency serves as the basis for determining whether the entity is engaging in
foreign currency transactions. IAS 21 defines foreign currency as a currency other than the functional currency.
Identifying the functional currency has a direct impact on which transactions are foreign currency transactions that
give rise to exchange gains and losses and, thereby, on the reported results.
The standard permits an entity to present its financial statements in a currency other than its functional currency.
The currency in which the financial statements are presented is referred to as the ‘presentation currency’.
7.1.2. Functional currency

The functional currency is the currency of the primary economic environment in which the entity operates. [IAS 21
para 8]. The primary economic environment in which an entity operates is normally the one in which it primarily
generates and expends cash.
The functional currency determination is generally straightforward for a simple investment property entity
operating in a single country. As investment property entities become more complex, this can also increase the
complexity of determining the functional currency.
A listed investment property fund might be domiciled in a particular country, its shares traded on the country’s
stock exchange and denominated in the local currency. However, it might not hold all or any of its investment
properties in that country. The currency of the primary operating environment is the most relevant factor in
determining functional currency.
Further guidance on determining functional currency can be found in the PwC Manual of Accounting chapter 49
paragraph 10. The primary indicators of functional currency are:
• It is the currency that mainly influences the sale prices of goods and services. For example, if an entity owns
only one property in country X, by which it earns rental in country X’s currency, this would indicate that country
X’s currency would be the functional currency of the entity.
• It is the currency of the country whose competitive forces and regulations mainly influence the sales prices of
goods and services. In the above example, the competitive forces in country X would drive the determination of
sales price.
• It is the currency that mainly influences labour, material and other costs.
[IAS 21 para 9].
Where the above factors are not clear, the following factors are also considered:
• It is the currency in which funds from financing activities (such as issuing debt or equity) are generated.
• It is the currency in which receipts from operating activities are retained (that is, the currency in which the entity
maintains its working capital balance).
IAS 21 provides the following additional factors for consideration when determining the functional currency of
foreign operations held as subsidiaries:
• The degree of autonomy of a foreign operation from its parent entity.

• Whether transactions with the parent are significant.
• Whether cash flows of the foreign operation are readily available for remittance to the parent.
• Whether the foreign operation can meet its debt obligations without the support of the parent.
[IAS 21 para 11].
Further guidance on determining the functional currency of foreign operations can be found in the PwC Manual of
Accounting chapter 49 paragraph 11.

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7.1.3. Presentation currency
An entity can choose to present its financial statements in any currency. There is no requirement in the standard
for an entity to present its financial statements in its functional currency.
Where the entity has a different presentation currency from its functional currency, it translates its financial
statements from functional currency to presentation currency as follows:
• assets and liabilities are translated at the closing rate;

• income and expenses are translated at exchange rates at the transaction dates; for practical reasons, most
entities use average rates of the period as an approximation; and
• all resulting differences are recognised in other comprehensive income.
Example – Determination of functional currency: operations and capital in different countries

Background
Entity X invests primarily in investment properties in the United States. Entity X is incorporated in the
Netherlands. All acquisitions and divestments of properties are undertaken in US dollars (USD). Entity X is an
autonomous entity and makes all operational decisions in relation to the investment properties that it holds.
Rental agreements are in USD. The entity is financed in euros (EUR); reporting to the European-based
investors is also in EUR. The shareholder base of Entity X is relatively fixed, and changes in shareholders are
infrequent.
What is the appropriate functional currency for an investment property entity with operations in different
countries?
Solution
The appropriate functional currency for entity X is USD. It represents the most relevant currency, because it is
the currency that mainly influences its rental revenue and expenses.
Given the nature of the entity, the primary indicators for this type of entity are significant. Provided that these
indicators are conclusive, there is no need to consider the currency in which its financing activities are
generated and in which its receipts from operating activities are usually retained.
Entity X can choose to present its financial statements in EUR.
Example – Determination of functional currency: investment properties in various countries (1)

Background
Investment property entity Y is domiciled in Switzerland. Entity Y’s shares are denominated in Swiss francs
(CHF) and are traded on the local stock exchange. Entity Y invests principally in investment properties in
countries having EUR as their national currency. The entity also invests, directly, approximately 10% of its
funds in Russia, but 90% of its income and revenue expenditure is determined and denominated in EUR.
Entity Y is an autonomous entity. Its debt is denominated in EUR and its financial statements are presented in
CHF.
What is the appropriate functional currency for an investment property entity with investments in various
countries?
Solution
The appropriate functional currency for entity Y is EUR. It represents the most relevant currency, because it is
the currency that mainly influences its rental revenue and related expenses.

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Example – Determination of functional currency: investment properties in various countries (2)
Background
A real estate entity operates in Russia. It owns several office buildings in Moscow and St Petersburg that are
rented to Russian and foreign entities. All lease contracts are denominated in USD, but payments can be
made either in USD or in Russian roubles (RUB). However, almost all of the lease payments are settled in
RUB. This has also been the historical pattern of payment.
What is the appropriate functional currency for the investment property entity?
Solution
The ‘sales and cash inflows’ indicators produce a mixed response:
a. The currency that mainly influences the pricing of the lease contracts is USD, whereas the cash inflows
are in RUB.
b. Cash outflows (such as the principal operating costs, management of properties, insurance, taxes and
staff costs) are likely to be incurred and settled in RUB.
The lease payments are denominated in USD, but US dollars are not considered to be significant to the
entity’s operation, because:
a. most of the collection is in RUB, which is subject to short-term changes in USD/RUB exchange rates; and
b. it is the local conditions and circumstances in Russia, and not in the US, that determine the rental yields of
properties in Moscow and St Petersburg that mainly influence the pricing of the lease contracts, which are
merely denominated in USD.
It is, therefore, the currency of the Russian economy, rather than the currency in which the lease contracts are
denominated, that most faithfully represents the economic effects of the real estate activity in Russia.
Example – Functional currency of a special purpose entity

Background
Entity B is a real estate entity that has been set up by a European-based investor to serve the specific
business needs of this investor. The functional currency of the investor is EUR.
In accordance with the agreed investment strategy set by the investor, entity B invests 85% of its net assets in
US property. The remaining investments are widespread. The redemption of shares will be executed in USD.
Solution
The functional currency of entity B is EUR. Although the entity is mainly invested in the US market, its activities
are simply an extension of the activities of the investor. The entity does not operate with a significant degree of
autonomy. Consequently, its functional currency is that of the investor.
7.2. Cash flow statement

7.2.1. Overview
IAS 7 requires all entities to prepare a cash flow statement as an integral part of their financial statements for
each period for which financial statements are presented. The cash flow statement reports changes in cash and
cash equivalents in the period, classifying these as arising from operating, investing or financing cash flows.
7.2.2. Definition of cash and cash equivalents

Cash and cash equivalents comprise cash on hand and demand deposits, as well as short-term, highly liquid
investments that are readily convertible to known amounts of cash and which are subject to an insignificant risk of
changes in value. [IAS 7 para 6]. Cash and cash equivalents are held for the purpose of meeting short-term cash
commitments rather than for investment or other purposes. [IAS 7 para 7].
Cash and cash equivalents must be readily convertible to known amounts. Funds subject to restrictions on use,
such as deposits received from lessees, or cash held in blocked accounts, will be presented as cash and cash
equivalents in the statement of financial position and in the cash flow statement when they meet the definition of
either cash or cash equivalents, which will depend on the nature and severity of the restrictions. An entity may
disaggregate cash and cash equivalents subject to contractual restrictions in the statement of financial position

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when this information is relevant to an understanding of the financial position. Disclosure of restrictions on cash or
cash equivalents may also be required.
Example – Accounting for blocked accounts in the statement of cash flows

Background
Entity A is generating property rental income. On 31 December 20X1, it sold real estate property X for C10, of
which:
• C8 is transferred from the purchaser directly to a blocked account;
• and the remaining C2 is paid to entity A at the sale date.
The amounts in the blocked account will be used to settle Entity A's bank borrowings for property X in six
months' time. This will legally release Entity A from its obligation to settle the liability. Entity A is not able to use
the amounts transferred to the blocked account for any other purpose than to repay the bank borrowings and
therefore, the bank's approval is required for release of funds. The entity does not routinely sell real estate
property.
How should the amounts held in the blocked account be recorded in Entity A's statement of cash flows?
Solution
Entity A will first assess whether the funds in the blocked account meet the definition of cash. As they are not
available on demand by Entity A and require approval by a third party the funds do not meet the definition of
cash. Given the nature of Entity A's operating activities, it should disclose the cash inflow of C10 from the sale
of the investment property as part of investing activities. However, the amount of C8 should be recorded as a
non-cash transaction in investing activities, with adequate disclosure given in the notes. [IAS 7 para 43]. When
the entity receives the cash and repays the loan in the following year, it should recognise the remaining
proceeds and the repayment of borrowings.
Extract from the cash flow statement as of 31 December 20X1

Cash flow from investing activities Current year
Proceeds from sale of investment property + C2
Cash outflow from non-cash equivalent investment –
Cash flow from investing activities C2
Extract from the cash flow statement as of 30 June 20X2

Proceeds from sale of investment property + C8

Cash outflow from repayment of long-term borrowings – C8
Further guidance on cash flows from operating activities can be found in the PwC Manual of Accounting chapter 7
paragraphs 19–26.
Further guidance on cash flows from investing activities can be found in the PwC Manual of Accounting chapter 7
paragraphs 27–29.
Further guidance on cash flows from financing activities can be found in the PwC Manual of Accounting chapter 7
paragraphs 30–32.

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7.2.3. Classification of lessor cash flows in the cash flow statement
Generally, acquisitions and disposals of long-term assets would be classified as investing cash flows; however,
entities that routinely acquire or manufacture assets with a view to rent and subsequent sale should classify the
relevant cash flows as operating cash flows. Whether assets are ‘routinely’ held for sale is a matter of judgement.
[IAS 7 para 16]. [IAS 7 para 14].
For example, if a real estate entity routinely acquires investment property with a view to rent and then
subsequently sell or lease under finance leases (as part of the business model in making the investment), cash
flows such as finance lease receipts, payments to purchase the investment property and receipts from
subsequent sale of the property would be classified as operating cash flows. Occasional or opportunistic sales of
investment property within a portfolio alone would not indicate a business purpose to rent and subsequently sell
investment property upon acquisition.
If entities do not routinely acquire investment properties with a view to rent and subsequent sale, for example, the
business model in acquiring the property is for long term rentals, the cash flows associated with the original
purchase or the sale of the underlying property would be investing. Similarly, if the property is disposed of through
a finance lease, receipts representing repayment of the principal would also be investing. This is on the basis that
they are, in substance, the disposal of a long-term asset, because the fair value of the underlying asset is
recovered through regular payments over time with the same counterparty. For operating leases, since they do
not involve the disposal of a long-term asset, lease receipts would generally be considered operating cash
inflows.
Paragraph 14 of IAS 7 requires cash flows that are primarily derived from the principal revenue-producing
activities of the entity to be classified as operating activities. Paragraph 16 of IAS 7 requires acquisitions and
disposals of long-term assets to be classified as investing cash flows. So a contradiction arises when an entity
has leasing as its principal operating activity: paragraph 16 of IAS 7 would suggest that the cash outflow in
acquiring assets to lease out would be investing, but paragraph 14 of IAS 7 suggests that the cash outflow
deriving from an entity’s primary operating activities would be operating. In this case, we consider it acceptable for
entities either to classify the cash outflow as investing (in line with Paragraph 16 of IAS 7) and the rental inflow as
operating, or to deem both the cash inflow and outflow as operating. An accounting policy should be developed
and applied on a consistent basis.

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8. Disclosures
8.1. Revenue and lease income
The objective of the disclosure requirements is for an entity to disclose sufficient information in the notes that,
together with the information provided in the statement of financial position, income statement and statement of
cash flows, enables users of financial statements to:
• understand the nature, amount, timing and uncertainty of revenue and cash flows arising from contracts with
customers; and
• assess the effect that leases have on the financial position, financial performance and cash flows of the lessor.
Additional information on the disclosure requirements

Please refer to PwC’s Illustrative IFRS consolidated financial statements 2022 for Investment Property.
8.1.1. Revenue income disclosures

Revenue income disclosures consist of qualitative and quantitative information about all of the following:
• an entity’s contracts with customers;
• the significant judgements, and changes in the judgements, made in applying IFRS 15 to those contracts; and
• any assets recognised from the costs to obtain or fulfil a contract with a customer.
[IFRS 15 para 110].
For a real estate entity, this requires revenues recognised from contracts with customers to be disclosed
separately from its other sources of revenue and separately from the lease income received. [IFRS 15 para
113(a)]. The real estate entity also provides disclosure on revenue that it disaggregates into categories. The
extent to which an entity’s revenue is disaggregated for the purpose of this disclosure depends on facts and
circumstances and the nature of the entity’s contracts with its customers.
Further information to be disclosed includes:
• contract balances, such as opening and closing balances for receivables, contract assets and contract
liabilities;
• performance obligations (for example, a description of when the company typically satisfies its performance
obligations, and the significant terms and conditions);
• the allocation of transaction prices, including the aggregate amount of the transaction price allocated to the
performance obligations that are unsatisfied at the end of the reporting period;
• significant judgements in the application of the standard; and
• assets recognised from the costs to obtain or fulfil a contract with a customer.
8.1.2. Lease income disclosures

IFRS 16 includes a number of disclosure requirements relating to leasing activity by lessors. Lessors must
disclose qualitative and quantitative information about leasing activities, namely:
• the nature of the lessor’s leasing activities; and
• how the lessor manages the risk associated with any rights that it retains in underlying assets.
For operating leases, a lessor presents – in a tabular format – the lease income received, separately disclosing
the income relating to variable lease payments that do not depend on an index or rate. [IFRS 16 paras 90(b), 91].
The lessor also discloses a maturity analysis of lease payments. [IFRS 16 para 97]. This maturity analysis is of
the undiscounted lease payments to be received on an annual basis for a minimum of each of the first five years,
and a total of the amounts for the remaining years. The lessor is also within the scope of disclosure requirements
in IAS 16, IAS 36, IAS 38 and IAS 40 for the underlying assets provided under these leases. [IFRS 16 paras 95–
96].
With respect to finance leases, the lessor discloses a qualitative and quantitative explanation of the significant
changes in the carrying amount of the net investment in finance leases. [IFRS 16 para 93]. With respect to the

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maturity analysis for a finance lease, the lessor also reconciles the undiscounted lease payments to the net
investment in the lease. [IFRS 16 para 94].
These disclosures are in addition to the disclosure requirements in IFRS 7 which requires disclosures for all
finance lease receivables as well as operating lease receivables. This requires, among other things, disclosure of
information on the credit risk of lease receivables and the maximum exposure to credit risk.
8.2. Segment disclosures

Public entities are required to disclose, in their financial statements, information regarding the nature and financial
effects of activities in which they engage and the economic environments in which they operate. The disclosures
should be consistent with the information presented to the entity’s chief operating decision-maker (CODM).
Information is presented for the entity’s reportable segments.
8.2.1. Definitions
An operating segment is a component of an entity:
• that engages in business activities from which it can earn revenues and incur expenses;
• whose operating results are regularly reviewed by the entity’s CODM to make decisions about resources to be
allocated to the segment and assess its performance; and
• for which discrete financial information is available.
[IFRS 8 para 5].
A reportable segment is an operating segment that:
• generates revenue – from both sales to external customers and inter-segment sales or transfers – exceeding
10% of combined revenues;
• has an absolute net profit of 10% of the combined reported profit of the segments that report a profit;
• has an absolute net loss of 10% of the combined reported loss of the segments that report a loss; or
• has assets exceeding 10% of combined assets of all operating segments.
Management discloses information about each reportable segment. Once an entity has identified the reportable
operating segments, it can combine information about the remaining operating segments to produce a reportable
segment. This is possible only if the operating segments have similar economic characteristics and share a
majority of the aggregation criteria in IFRS 8. [IFRS 8 para 14].
8.2.2. Considerations for operating segments in real estate: managing properties on

a portfolio basis
A real estate entity might have only one operating segment – for example, if the entity’s only business activity is
that of investing in similar real estate properties in a specific geographical area with similar tenants. In such a
case, the properties might be managed together, and the CODM might regularly review the portfolio’s operating
results and performance on a combined basis, with decisions about resources to be allocated also being made at
that level.
Even if the real estate entity comprises less uniform properties, the CODM might review the performance of, and
allocate resources to, the portfolio together. Ultimately, an entity’s operating segments are determined ‘through
the eyes of management’.
Even if a real estate entity has only one operating segment, it will still need to present segment information to
satisfy the minimum requirements of IFRS 8. [IFRS 8 para 31]. Disclosure is required of revenues from external
customers for each product or service, or each group of similar products and services. However, if a real estate
entity has only one operating segment, it would not be required to disclose revenue on a property-by-property
basis. [IFRS 8 para 32].

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8.2.3. Considerations for operating segments in real estate: managing real estate on
a property-by-property basis
In some cases, real estate entities manage their real estate portfolio on a property-by-property basis.
Each property would be an operating segment if the CODM reviews the results and performance of the properties
on a property-by-property basis and makes decisions about resources to be allocated to the properties on the
same basis.
However, if only the day-to-day management is performed on a property-by-property basis, but the CODM does
not use this information and does not assess performance on a property-by-property basis, the entity’s operating
segments would be determined on the same basis as that used by the CODM.
There is, in theory, no limit on the number of operating segments that an entity can have, given that these are
based on reporting to the CODM. However, IFRS 8 states that an entity with more than 10 reportable segments
should consider whether a practical limit of reportable segments has been reached. [IFRS 8 para 19]. Entities
with a significant number of reportable segments should consider aggregating segments.
Examples of single properties which might be operating segments are as follows:

• A single asset in the US could be an operating segment, if all other real estate assets are located in Europe
and information about the asset is reported separately to the CODM.
• A single logistics asset could be a stand-alone operating segment, if all other assets in the real estate entity’s
portfolio are office buildings, and information about the logistics asset is reported separately to the CODM.
8.2.4. Matrix information provided to the CODM

The CODM of a real estate entity might receive information that aggregates the portfolio of property according to
different criteria. Such information might be distinguished by property type or by geographical area.
If the CODM uses more than one set of segment information, the real estate entity needs to determine which
component constitutes the operating segment. Factors that can be considered include the nature of the business
activities of each component, the risks and rewards profile, the existence of managers responsible for them, and
information presented to the board of directors. [IFRS 8 para 8].
If the CODM uses overlapping sets of components (for example, it manages the company’s activities on a matrix
basis), the entity should determine which set of components best constitutes the operating segments by reference
to the core principle in IFRS 8. [IFRS 8 para 10].
8.2.5. Criteria used to determine operating segments

Depending on how a real estate entity is managing its properties, the CODM might receive information on the
following basis:
• Types of property: office buildings, logistics, retail areas, warehouses, hotels, retail housing, etc.
• Nature of the attached business model: developed properties, properties under development, non-
development property.
• Nature of management: individually managed properties, properties managed on a portfolio basis.
• Location of properties: Europe/US/Asia, town centre/inner suburbs/outer suburbs.
• Types of tenant: retail, corporate, governmental.
• Number of tenants: multiple-tenant property, single-tenant property.
• Types of investment: direct property investments, indirect property investments.
8.2.6. Aggregation
Aggregation
Operating segments that meet the quantitative threshold (as explained in section 8.2) could be aggregated into a
single operating segment if aggregation is consistent with the core principle of paragraph 12 of IFRS 8, the
economic characteristics are similar, and segments are similar with regard to:
a. nature of services and products sold;

b. nature of production processes;
c. type or class of customers;

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d. methods used to distribute products or provide services; and
e. nature of regulatory environment.
In some cases, the aggregation characteristics in IFRS 8 are not as relevant to a real estate entity as they would
be for other entities outside the industry (for example, the nature of the regulatory environment being similar). In
such cases, a real estate entity could still aggregate operating segments, provided that the other criteria that are
relevant or meaningful, when applied, are met.
In assessing the areas listed in paragraph 12 of IFRS 8 for a real estate entity, management should consider the
relevant attributes of the segments, including the nature of the investment properties and how they are managed,
the economic environment of the properties’ location, and the different types of tenant.
IFRS 8 requires disclosures of judgements relating to aggregation of segments, specifically the economic
indicators that have been assessed to determine that the aggregated segments share similar economic
characteristics.
[IFRS 8 para 22].
8.2.7. Future plans in determining reportable segments: abandonment of operations

with a view to reinvesting
A real estate entity might sell all of its investment properties that are in one specific location, but have plans to buy
another property in the same location in the future.
The entity might continue to report the respective segment, even though it contains no assets. If the CODM
continues to review this segment and expects that the absence of assets in this segment will be temporary,
management might choose to continue to report a segment in the current period, even though separate reporting
of the segment is no longer required. [IFRS 8 para 17].
However, if the purchase of the new property takes more than one year, such that the segment results for all
periods presented are zero, management should assess whether continued reporting of this segment provides
useful information for users.
8.2.8. Transfers of investment property

A real estate entity might reclassify a property from investment property to inventory, due to the commencement
of development with a view to sale. The operating segment which now includes this inventory might not have
previously met the quantitative thresholds for separate reporting. If, after reclassification, the operating segment
now meets the quantitative thresholds, the entity is required to disclose the operating segment containing
inventory as a separate segment, with prior year comparative information.
Note that this does not mean that the entity should restate the comparative information to show the property as
inventory in the prior year. The property was investment property in the prior year, and the transfer only affects
the current period. Further, the property was not reflected as inventory in the reporting to the CODM in the
previous year.
The transfer of one property to another segment is not a change in the internal structure of the entity in a manner
that causes the composition of the reportable segments to change. [IFRS 8 para 29].
8.2.9. Change in the manner in which properties are managed

A real estate entity might change the way that it manages its investments for various reasons (for example, due to
increasing risk related to property investments in a geographical area). This might require a change in the
reporting to the CODM, which will result in a change of the composition of the reportable segments.
If the change in the internal organisation results in a change to the information that the CODM reviews to assess
performance of operating segments and allocate resources, the entity will need to change the composition of its
operating and reportable segments.
This requires a restatement of prior year segment data, unless this information is not available and the cost to
develop the information would be excessive. [IFRS 8 para 29]. In the latter case, the entity must disclose that fact
and present segment information on both the new and the old basis in the year in which the segment changes
occur. [IFRS 8 para 30].

PwC 106
8.2.10. Use of non-IFRS information
An entity should report information using the same measures that are used in the reports regularly provided to the
CODM.
If the report to the CODM uses non-IFRS information, the entity is required to use this information for its segment
reporting. For example, management in the industry often reviews performance of the business on a ‘look-
through’ basis – that is, it analyses and reviews the performance of not only the portfolio that is directly held but
also those held jointly through separate vehicles.
The amount of each segment item reported should be the measure reported to the CODM for the purpose of
making decisions about allocating resources to the segment and assessing its performance. [IFRS 8 para 25].
8.2.11. Measurement of reportable segments

An entity should report information on reportable segments as presented to the CODM. Disclosures should be
presented to explain:
• the basis of accounting for inter-segment transactions;
• the nature of differences between reportable segments’ profit or loss before tax from continuing operations and
the reported IFRS profit;
• the nature of differences between reportable segments’ assets/liabilities and the assets/liabilities reported in
the balance sheet;
• any changes from prior years in measurement methods; and
• the nature/effect of asymmetrical allocations to segments.
[IFRS 8 para 27].
If the CODM uses only one measure to allocate resources and assess performance, and this single measure is
based on non-GAAP information, this measure should be used for the purpose of segment reporting. In this case,
the explanations of the measurements used (as required by para 27 of IFRS 8) gain additional significance, and a
reconciliation of the segments’ financial information to the consolidated IFRS financial statements will be
necessary. [IFRS 8 para 28].
If the CODM uses both non-IFRS and IFRS-compliant information, the entity should report measures that are
determined in accordance with the principles most consistent with those used in measuring the corresponding
amounts in the entity’s financial statements. For example, if the CODM uses both net profit excluding unrealised
fair value gains or losses on investment property and net profit before tax, the latter measure would be more
consistent with the profit figures used in the financial statements. [IFRS 8 para 26].
8.2.12. Material items of income and expense to be reported

A real estate entity should disclose several different financial measures if they are reviewed by the CODM when
measuring the performance of the segment. [IFRS 8 para 23]. The following are examples of typical financial
information that a real estate entity might disclose:
• rental income from external customers;
• interest income;
• interest expenses;
• depreciation and amortisation;
• net gains or losses from fair value adjustments;
• income tax;
• property operating expenses; and
• ground rents paid.
An entity might report items to the CODM on a net basis, although these are recorded on a gross basis in the
income statement – for example, the CODM reviews rental income net of rental expenses, but rental income is
presented on a gross basis in the income statement. In such cases, the entity should disclose the fact that the
amounts are regularly provided to the CODM on a net basis. It should present the amounts of revenue net and
then reconcile those to the consolidated IFRS revenue.

PwC 107
A similar example would be where a real estate entity enters into swap agreements to economically hedge the
interest rate cash flow risk of variable interest borrowings that finance its property investments.
Example – Presentation of interest income

Background
The information reviewed by the CODM only presents the interest received from the swap, since the entity
presents the interest payments on the borrowings, and the interest received and paid from the swap, net.
Solution
Even though the standard requires an entity to report interest income separately from interest expense for
each reportable segment, in the above scenario the interest expense should be presented net. This is because
the CODM relies primarily on the net interest expense to assess the interest rate cash flow risk. The entity
should reconcile the net interest expense to the figures presented in the primary financial statements.
8.2.13. Geographical information

Disclosure of revenue from external customers and certain non-current assets, such as investment properties, is
required for the entity’s country of domicile, and in total for all other countries. Revenue from external customers
and non-current assets attributed to an individual foreign country are disclosed separately, if they are material.
Disclosure of revenue by continent would normally not be acceptable. [IFRS 8 para 33].
8.2.14. Major customers disclosure

Entities should disclose the extent to which they rely on major customers. If the revenue of the real estate entity is
driven by a single tenant (10% or more of revenue), the entity is required to disclose that fact, and to state the
total amount of revenue from that tenant. However, the standard does not require disclosure of the name of the
tenant or the property that it relates to. If the revenue is driven by a large number of tenants, and no single tenant
or group under common control contributes more than 10% of the entity’s revenue, the real estate entity does not
need to give this disclosure. However, the entity should state that fact. [IFRS 8 para 34].
8.3. IFRS 13 disclosures

8.3.1. Overview
IFRS 13 requires entities to disclose detailed quantitative and qualitative information about assumptions made
and processes used when measuring assets or liabilities at fair value. Further guidance on the measurement
requirements of IFRS 13 is contained in section 3.6.
8.3.2. Fair value hierarchy

As noted in section 3.6.5, fair value measurements in IFRS 13 are categorised into a three-level hierarchy. The
hierarchy is based on the type of inputs and is defined as follows:
• Level 1 inputs are unadjusted quoted prices in active markets for items identical to the asset being measured.
An entity uses that price without adjustment when measuring fair value. A quoted price in an active market is a
Level 1 input.
• Level 2 inputs are inputs other than quoted prices in active markets included within Level 1 that are directly or
indirectly observable.
• Level 3 inputs are unobservable inputs that are usually determined based on management’s assumptions.
However, Level 3 inputs have to reflect the assumptions that market participants would use when determining
an appropriate price for the asset.
• Fair value measurements of real estate are usually categorised as Level 2 or Level 3 valuations, with Level 3
being the most common categorisation. This is because of:
- the nature of real estate assets, which are often unique and not traded on a regular basis; and
- the lack of observable input data for identical assets.
Certain IFRS 13 disclosures are only required for fair value measurements categorised as Level 2 or Level 3. For
example, Level 3 disclosures include a description of the valuation techniques used, how decisions are made in
relation to valuation procedures and for recurring fair value measurements, the sensitivity of fair value
measurements to significant unobservable inputs.

PwC 108
Further guidance on the fair value hierarchy can be found in the PwC Manual of Accounting chapter 5 paragraphs
88–105.
8.3.3. Disclosure of valuation techniques

Paragraph 93(d) of IFRS 13 requires the following disclosures for recurring and non-recurring fair value
measurements categorised within Level 2 and Level 3 of the fair value hierarchy:
• a description of the valuation technique(s) used; and
• the inputs used in the fair value measurements.
Description of the valuation technique

As noted in section 3.6.4, IFRS 13 sets out three valuation techniques:
• the income approach;
• the market approach; and
• the cost approach.
Whilst IFRS 13 does not indicate a preferred valuation technique, the standard requires an entity to choose
valuation techniques that are appropriate to the specific circumstances and to maximise the use of observable
inputs. An income or market approach will almost always be more suitable to measure fair value for real estate.
This is because market participants would usually estimate the price of an investment property based on their
expectations about future income. The entity should disclose information on the valuation techniques applied and
how it determined that these are the most suitable valuation techniques.
Since IFRS 13 encourages an entity to apply multiple valuation techniques, if appropriate, information should be
provided on how it evaluated the fair value out of a range of values.
Inputs used in the valuation technique

For fair value measurements categorised within Level 3 of the fair value hierarchy, an entity should provide
quantitative information about the significant unobservable inputs used in the fair value.
The direct capitalisation method and the discounted cash flow method are the most commonly used valuation
techniques within the income approach category. These methods are types of present value technique. The fair
value is determined on the basis of future income to be earned from the asset. A wide range of quantitative inputs
are used in those valuation techniques. Such inputs can generally be grouped into categories, for example:
• income/growth rate;
• yield/discount rate;
• construction and other costs;
• inflation rate;
• capital value; and
• vacancy rate.
8.3.4. Asset classes for disclosure purposes

For the purposes of presenting disclosures, entities are required to determine appropriate classes of asset on the
basis of the following:
1. the nature, characteristics and risks of the asset; and

2. the level of the fair value hierarchy in which the fair value measurement is categorised.
[IFRS 13 para 94].
The number of classes is expected to be greater for fair value measurements categorised within Level 3 of the fair
value hierarchy, because those measurements have a greater degree of uncertainty and subjectivity. Judgement
is required for the determination of appropriate classes of investment property for which disclosures about fair
value measurements should be provided.
Companies often disaggregate the classes of properties in accordance with their disclosed segments.
Companies might also disaggregate properties on a basis other than their disclosed segments, usually providing
more detail compared to the segment reporting information. Quite often, companies disaggregate disclosures by
geography, or class of property, or both.

PwC 109
8.3.5. Sensitivities and sources of estimation uncertainty
Paragraph 93(h) of IFRS 13 requires the following disclosures to be provided for investment properties measured
at fair value categorised within Level 3 of the fair value hierarchy:
‘… a narrative description of the sensitivity of the fair value measurement to changes in unobservable inputs if a
change in those inputs to a different amount might result in a significantly higher or lower fair value measurement.
If there are interrelationships between those inputs and other unobservable inputs used in the fair value
measurement, an entity shall also provide a description of those interrelationships and of how they might magnify
or mitigate the effect of changes in the unobservable inputs on the fair value measurement. To comply with that
disclosure requirement, the narrative description of the sensitivity to changes in unobservable inputs shall include,
at a minimum, the unobservable inputs disclosed when complying with (d).’
IFRS 13 requires companies, at a minimum, to include a narrative description of the sensitivity to changes in
significant unobservable inputs used in the fair value measurement. The guidance does not explicitly require a
quantitative sensitivity analysis. However, such sensitivity analysis might be necessary in order to satisfy the
requirements of IAS 1.
Paragraph 125 of IAS 1 requires that ‘an entity shall disclose information about the assumptions it makes about
the future, and other major sources of estimation uncertainty at the end of the reporting period, that have a
significant risk of resulting in a material adjustment to the carrying amounts of assets and liabilities within the next
financial year. In respect of those assets and liabilities, the notes shall include details of: (a) their nature; and (b)
their carrying amount as at the end of the reporting period’.
Where assumptions made in determining the fair value of investment property are significant assumptions in the
context of IAS 1, further information should be provided within the financial statements so that users understand
the effect of estimation uncertainty. The disclosure of the sensitivity of carrying amounts to significant
assumptions is an example of information to be provided in accordance with paragraph 129 of IAS 1. The format
of the disclosure might be in a tabular or narrative format.
8.4. Disclosure of fair value for properties accounted for using the cost
model
The disclosure of the fair value of investment property accounted for under the cost model is required, except for
those properties where the fair value cannot be determined reliably. In such a case, in addition to a description of
the investment property, management is required to explain why the fair value cannot be determined reliably and,
if possible, the range of estimates within which the fair value is highly likely to lie. [IAS 40 para 78(a)–(c)].

PwC 110
Contact us
To have a deeper discussion on the content of this publication, please contact:
Territory Name E-mail

Switzerland David Baur [email protected]
Switzerland Robel Ghebressilasie [email protected]
Switzerland Philipp Gnädinger [email protected]

PwC 111
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Applying IFRS for the

real estate industry

Applying IFRS for the real estate

Who should use this publication?

This publication is intended for:

We hope you find this publication helpful.

Applying IFRS for the real estate industry May 2023

Applying IFRS for the real estate industry May 2023

Applying IFRS for the real estate industry May 2023

Applying IFRS for the real estate industry May 2023

Applying IFRS for the real estate industry May 2023

1.2. Real estate life cycle

Acquisition or Leasing or Management Sale or

1.2.1. Step 1: Acquisition or construction of real estate

• direct acquisition of real estate;

1.2.2. Step 2: Leasing or subleasing of real estate

1.2.3. Step 3: Management of real estate

Applying IFRS for the real estate industry May 2023

1.3. Relevant accounting standards

• IFRS 3, ‘Business combinations’ (‘IFRS 3’);

Applying IFRS for the real estate industry May 2023

Applying IFRS for the real estate industry May 2023

2.2. Deﬁnition and classiﬁcation

Investment property does not include the following:

[IAS 40 para 9].

• the extent of ancillary services provided (see section 2.2.2);

Example – Property leased out to hotel management entity

Applying IFRS for the real estate industry May 2023

Example – Hotel management contract

2.2.2. Ancillary services

Example – Serviced apartments

Does the property meet the definition of ‘investment property’?

2.2.3. Properties under construction or development

Applying IFRS for the real estate industry May 2023

2.2.5. Properties with undetermined use

2.2.6. Properties with dual use

Example – Hotel resort with a casino

Does the casino meet the definition of ‘investment property’?

2.2.7. Group situations

Applying IFRS for the real estate industry May 2023

Example – Accounting for investment property held under a lease

Applying IFRS for the real estate industry May 2023

Cr Lease liability – C967

Accounting at 31 December 20X1

Present value of future lease net operating income discounted at 6% – C1,898

Present value of future ground lease payments discounted at 6% – (C818)

Fair value of investment property – C1,080

Dr Interest expense – C48

Investment property – C2,045

Lease liability – (C965)

Net fair value – C1,080

Dr Investment property – C78

Cr Fair value gain – C78

2.3. Acquisition of investment properties: asset acquisition or business

Applying IFRS for the real estate industry May 2023

No (or concentration test bypassed)

Are there outputs?

Process critical to producing Process critical to ability to

The concentration test

Applying IFRS for the real estate industry May 2023