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Audit readiness (3)

Investment Property

Adequate documentation must be in place to support the assumption that Investment properties reflect the existing business circumstances and economic conditions in accordance with the accounting policies being used.

The subject matter for discussion on audit readiness this week is Investment Property. This item falls within the scope of IAS 40 Investment property.

Investment property is property (land or a building – or part of a building or both) held (by the owner or by the lessee under a finance lease) to earn rentals or for capital appreciation or both, rather than for:

a) Use in the production or supply of goods or services or for administrative purposes; or
b) Sale in the ordinary course of business.”

Included within this definition are: [IAS 40:8]

  • Land held for long-term capital appreciation, and not for short-term sale in the ordinary course of business;
  • Land held for a currently undetermined future use. If an entity has not decided whether land will be used for owner-occupation or for short-term sale in the ordinary course of business, it should be regarded as held for capital appreciation;
  • A building owned or held under a finance lease by an entity and leased out under operating lease(s);
  • A vacant building that is being held to be leased out under an operating lease (or leases); and
  • Property that is being constructed or developed for future use as investment property.

Examples of items that are not investment property include: [IAS 40:9]

  • Property that is being held for sale in the ordinary course of business, or that is under construction or development for such sale (within the scope of IAS 2 Inventories). This means that properties acquired specifically for the purpose of subsequent disposal in the near future, or for development and resale, are excluded from the scope of IAS 40;
  • Property being constructed or developed on behalf of third parties (within the scope of IAS 11 Construction Contracts);
  • Owner-occupied property, which includes property held for future development and subsequent use as owner-occupied property, property held for future use as owner occupied property, employee occupied property (whether or not the employees pay rent at market rates) and owner-occupied property awaiting disposal; and
  • Property leased to another entity under a finance lease.

The Standard acknowledges that judgement is often required to determine whether a property qualifies as an investment property and requires entities to develop criteria to enable them to make that determination in a consistent manner. The criteria used for the classification must be documented for the entity's Auditors review. This criteria may be tested by the Auditors to ensure that it complies with the provisions of IAS 40 as set out above.

External Auditors will be interested in reviewing the policies and controls around acquiring investment properties, depreciating investment properties that are carried at cost, measurement of investment properties that are carried at fair value, management of investment properties, disposal of investment properties, and managing investment properties ledgers/master files. The various sub-processes under these principal business areas may be subjected to further control testing.

The objectives for testing the sub processes are:

Acquiring Investment Properties

Recorded investment properties acquisitions represent Investment properties acquired by the organization.

All acquisitions are accurately recorded and in the appropriate period.

All pre-acquisition and project costs associated with investment properties under development are approved and recorded accurately.

Depreciating Investment Properties (where 'cost' is the measurement policy)

Depreciation charges are valid and are accurately calculated and recorded.

All depreciation charges are recorded in the appropriate period.

Disposing Of Investment Properties

Recorded Investment properties disposals represent actual disposals. All Investment properties disposals are recorded.

Investment properties disposals are accurately calculated and recorded in the appropriate period.

Investment properties to be disposed of that required regulatory approval are communicated to the respective regulatory agency for necessary approval. The External Auditors would always want to ensure compliance with International Standard on Auditing 250 on consideration of laws and regulations in a financial statement audit.

Managing Investment Properties

The Auditors may also test the effectiveness of the entity's internal controls to ensure that investment properties are adequately safeguarded.
Adequate documentation must be in place to support the assumption that Investment properties reflect the existing business circumstances and economic conditions in accordance with the accounting policies being used.

Financial information is appropriately presented and all information that is necessary for fair presentation and compliance with professional standards or legal requirements is disclosed.

For Investment properties that are carried at cost, Impairment losses are identified and appropriately accounted for. The policies and procedures for impairment should comply with the provisions of IAS 36 Impairment of Assets. The bases and assumptions for valuation of investment properties that are carried at fair value must be documented for the auditor's review since the information also constitute a significant disclosure in the financial statement. The bases and assumptions must comply with IFRS 13 Fair Value Measurement.

Occasionally, entities my transfer to or from investment properties. These transfers are made when there is a change in the use evidenced in one of the following:

  • Commencement of owner - occupation, for a transfer from investment property to owner occupied property
  • Commencement of development with a view to sale, for a transfer from investment property to inventories
  • End of owner-occupation, for a transfer from owner-occupied property to investment property;
  • Commencement of an operating lease to another party, for a transfer from inventories to investment properties

Some of these activities may require Board or Executive Management approval. The Auditors may also request to site such approvals to ensure validity.

Transfers of Assets also have different recognition and measurement implications. Auditors always flag these activities as risk areas in view of the potential impact on policy consistency and measurement.

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