From the IFRS Institute – March 11, 2022
IFRS Standards have different accounting and disclosure requirements for real estate depending on whether it is held to be sold to customers, owner-occupied or an investment property. This distinction generally depends on the use of the property rather than the type of company that holds it. This means any company, not just real estate companies or funds, may have land and buildings that are investment property and can be fair valued under IFRS Standards. Here we explain how to identify investment property, how the accounting works, and top differences from US GAAP.
What is investment property?
IAS 401 defines ‘investment property’ as property (land and/or a building) that is held to earn rental income and/or for capital appreciation. It includes property that is owned or leased (right-of-use asset).
The definition includes any of the following situations:
- the property is under development for future use as investment property;
- the property is or will be leased out to others under an operating lease (even if currently vacant); or
- the property is land and its future use is undetermined.
The definition excludes property that is:
- owner-occupied, i.e. used in production or supply of goods or services or for administrative purposes – the standard guidance for property, plant and equipment (IAS 162) applies;
- held for sale in the ordinary course of business – the inventory guidance (IAS 23) applies; or
- leased out to others under a finance lease – the lease guidance (IFRS 164) applies.
It is therefore critical to properly determine the classification of the property and, ensure the appropriate accounting. Properties might have different uses to different holders and the intended use of a property may also change over time. The distinction between investment and owner-occupied property may involve complex judgments especially when the company provides services – e.g. hotels, retail areas, airports. Services provided must be a ‘relatively insignificant component of the arrangement as a whole’ for the definition of investment property to be met.
Owner-occupied vs investment property: what’s the accounting consequence?
Under IAS 40, investment property is initially measured at cost and the IAS 16 principles for attributing cost to property, plant and equipment apply equally to owner-occupied and investment property. The key differences in the accounting for these two types of property reside with subsequent measurement, presentation and disclosures.
After initial recognition, IAS 40 permits companies to choose between the cost model or the fair value model applying IFRS 135 (subject to limited exceptions). The same measurement model must be applied to all investment property as an accounting policy.
The cost model in IAS 40 is equivalent to that in IAS 16 – e.g. the asset is depreciated over its useful life and subject to impairment testing. Under the IAS 40 fair value model, investment property is not depreciated and changes in fair value are recognized in profit or loss. This is different from the revaluation model in IAS 16, under which the asset is depreciated and revaluation increases or decreases are recognized in other comprehensive income.
Finally, investment property is presented6 separately on the balance sheet and subject to the disclosure requirements in IAS 40. For example, even if the cost model is elected as an accounting policy, the investment property fair value must be disclosed as well as whether the valuation was performed by an independent valuer; this information is not required under IAS 16 for owner-occupied property. Additionally, the fair value disclosures under IFRS 13 are made for each class of assets, which could require companies to disaggregate their investment property portfolios instead of being disclosed as a single asset class.
How is investment property accounting under IAS 40 different from US GAAP?
- IFRS Standards provide specific guidance on investment property; US GAAP does not
Under IFRS Standards, the accounting for real estate generally depends on its use by a company. IAS 40 applies to all companies that hold investment property, regardless of industry.
Unlike IFRS Standards, US GAAP has no concept of investment property. This fundamental difference has various consequences depending on whether the company uses a cost model or qualifies to use a fair value model as an investment company (as defined under Topic 9467) or under certain industry-specialized accounting guidance.
- Real estate companies and funds apply IAS 40; under US GAAP, specific industry guidance and accounting practices prevail
IAS 40 makes no exception for real estate companies and funds. Therefore, these companies also have a measurement choice between the cost model or fair value model. In our experience most real estate companies and funds in the US choose the fair value model under IAS 40, to meet the demands of their foreign-based investors.
Under US GAAP, investment companies measure their investments at fair value through profit or loss. Real estate funds may meet the definition of an investment company and as such, unlike IFRS Standards, do not have a choice between the cost model or fair value model to measure their real estate . Although not investment companies, certain non-public real estate companies also measure their real estate at fair value through narrowly-scoped industry-specialized accounting practices (e.g. REIS8 model). However, in our experience, many real estate companies and funds cannot follow a fair value model under US GAAP – e.g. real estate funds that do not meet the definition of an investment company, or public REITs9. Instead, they apply the regular guidance described below (see differences #3 and #4).
- Other companies measure owned investment property at cost or fair value under IAS 40; always at cost under US GAAP
Under US GAAP, a company (other than those described above in difference #2) accounts for real estate it owns, for purpose other than sale in the ordinary course of business, using the principles for property, plant and equipment (Topic 36010). Accordingly, unlike IFRS Standards, investment property is measured using the cost model.
Additionally, even if the cost model is selected under IAS 40, there are differences from US GAAP in applying the cost model and performing impairment testing. Some of these differences are explained in KPMG IFRS Perspectives articles Accounting for PP&E under the IFRS component approach and Accounting for proceeds before an asset’s intended use.
- Leased real estate can be investment property under IAS 40; not under US GAAP
The definition of an investment property under IAS 40 also applies to leased (rather than owned) real estate. In such a case, the right-of-use asset is measured initially at cost under the lease guidance (IFRS 16), then is subsequently measured using either the cost model (IFRS 16) or fair value model, consistent with the entity’s accounting policy for other investment property.
Under US GAAP, a lessee accounts for real estate leases under Topic 84211, and is not permitted to measure the right-of-use asset at fair value.
- Presentation and disclosure requirements are more extensive under IAS 40 than US GAAP
IAS 40 requires that the fair value of investment property be disclosed regardless of the measurement model selected. The fair value measurement and disclosure requirements under IFRS 13 also apply to investment properties and such disclosures are required for each class of asset. Additionally, as noted above, investment property is presented separately on the balance sheet.
Unlike IFRS Standards, there is no requirement to disclose the fair value of property, plant, and equipment under US GAAP. However, investment companies that follow the guidance of Topic 946 and other entities that follow specialized industry accounting practices where real estate is measured at fair value are required to meet the fair value disclosure requirements under Topic 82012. Unlike IFRS Standards, there is no US GAAP requirement to present investment property separately on the balance sheet.
Although the definition of investment property might appear relatively straightforward, in practice, determining what is or is not investment property raises some difficult issues. Once identified, the accounting requirements go above and beyond US GAAP and dual preparers should be mindful of these differences.
All IFRS Standards preparers, including those not in the real estate industry, need to have processes and controls in place to continuously and carefully evaluate the definitional criteria and determine whether any of their real estate assets meet the definition of an investment property – and should therefore be accounted for under IAS 40. Companies with investment property also need to develop methodologies to measure fair value, because that information is at a minimum disclosed.
- IAS 40, Investment Property
- IAS 16, Property, Plant and Equipment
- IAS 2, Inventories
- IFRS 16, Leases
- IFRS 13, Fair Value Measurement
- IAS 1.54(b)
- Topic 946, Financial Services-Investment Companies
- Real Estate Information Standards (REIS)
- A Real Estate Investment Trust (REIT) is a company that owns, operates, or finances income-generating real estate
- Topic 360, Property, Plant, and Equipment
- Topic 842, Leases replaces Topic 840, Leases. It is already effective for Public Business Entities and certain other entities. It becomes effective for all other entities for annual periods in fiscal years beginning after December 15, 2021 and interim periods one year later.
- Topic 820, Fair Value Measurement