by Carl Mortished
The International Accounting Standards Committee wants to make the capitalisation of borrowing costs compulsory for property assets. The proposal, IASC Exposure Draft 39, flies in the face of a growing UK trend which is to write off interest through the profit-and-loss account.
For example, Great Portland Estates recently abandoned its policy of capitalising interest; the change resulted in a trebling of its reported interest payable over three years. And a report by brokers Phillips & Drew in January highlighted capitalised interest as an accounting technique that enhanced earnings. “The level of capitalised interest has to be watched closely as it is possible for companies to run out of cash while, apparently, producing healthy pretax profits,” says P&D.
The committee, whose aim is to harmonise accounting standards, would like to see worldwide adoption of the US practice. Its Generally Accepted Accounting Principles (GAAP) require capitalisation of borrowing costs in certain cases but specify that it should stop when the property is ready for use. Under current UK rules companies often continue to capitalise after the building is complete but remains unlet.
Moreover, at present, UK companies are allowed to switch policies as it suits them. Property developers often used capitalisation to declare large profits in the boom years and switched to writing off their borrowing costs when their size threatened a write-down of the property assets themselves.
“This international draft attempts to bring it into line with US practice,” says Allister Wilson of Ernst & Young. “If US practice is the strictest in the world–which it is–then this cannot be bad.”
Geoff Caines, managing director of Property Security Investment Trust, would like to see the current regime tightened up. PSIT only capitalises interest relating to dealing properties. “In a bull market it’s possible to keep a lot of things hidden away by capitalising.”
However, the US practice was adopted by the American accounting standards body on a vote of only four to three. And the new IASC proposal follows an earlier Exposure Draft that recommended prohibition of interest capitalisation. This was greeted by widespread opposition from accounting bodies around the world.
“On a conceptual ground I don’t agree with the proposal,” says Wilson. “To make an allocation of borrowing costs to a particular asset is arbitrary … finance costs are an integral part of the cost of the business as a whole.”
