Knowledge check –

Multiple choice
FINANCIAL REPORTING

VERSION 15A
FINANCIAL REPORTING CONTENTS | 2

Contents
QUESTIONS 7
Question 1.1 7
Question 1.2 7
Question 1.3 7
Question 1.4 8
Question 1.5 8
Question 1.6 8
Question 1.7 9
Question 1.8 9
Question 1.9 9
Question 1.10 10
Question 1.11 10
Question 1.12 10
Question 1.13 11
Question 1.14 11
Question 1.15 11
Question 1.16 12
Case note 13
Question 1.17 13
Question 1.18 13
Question 2.1 14
Question 2.2 14
Question 2.3 15
Question 2.4 15
Question 2.5 15
Question 2.6 16
Question 2.7 16
Question 2.8 17
Question 2.9 17
Question 2.10 18
Question 2.11 18
Question 2.12 19
Question 2.13 19
Question 2.14 20
Question 2.15 20
Question 3.1 21
Question 3.2 21
Question 3.3 21
Question 3.4 21
Question 3.5 22
Question 3.6 22
Question 3.7 22
Question 3.8 22
Question 3.9 23
Question 3.10 23
Question 3.11 23
Question 3.12 24
Question 4.1 25
Question 4.2 26
Question 4.3 26
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Question 4.4 26
Question 4.5 27
Question 4.6 27
Question 4.7 27
Question 4.8 28
Question 4.9 28
Question 4.10 29
Question 4.11 30
Question 4.12 31
Case note 32
Question 4.13 32
Question 4.14 32
Case note 33
Question 4.15 34
Question 4.16 35
Question 5.1 35
Question 5.2 36
Question 5.3 36
Question 5.4 36
Question 5.5 37
Question 5.6 37
Question 5.7 37
Question 5.8 38
Question 5.9 38
Question 5.10 38
Question 5.11 38
Case note 39
Question 5.12 39
Question 5.13 39
Question 5.14 39
Question 6.1 40
Question 6.2 40
Question 6.3 40
Question 6.4 41
Question 6.5 41
Question 6.6 42
Question 6.7 43
Question 6.9 44
Question 6.10 45
Question 6.11 45
Question 6.12 46
Question 6.13 47
Question 6.14 47
Question 6.15 48
Question 6.16 48
Question 6.17 48
Question 6.18 49
Question 6.19 49
Case note 50
Question 6.20 50
Question 6.21 51
Case note 52
Question 6.22 53
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Question 6.23 54
Question 6.24 54
Case note 55
Question 6.25 55
Question 6.26 55
Question 6.27 56
Case note 56
Question 6.28 57
Question 6.29 57
Question 6.30 57
Question 7.1 57
Question 7.2 58
Question 7.3 58
Question 7.4 58
Question 7.5 59
Question 7.6 59
Question 7.7 60
Question 7.8 61
Question 7.9 62
Question 7.10 62
Question 7.11 63
Question 7.12 63

ANSWERS 64
Question 1.1 64
Question 1.2 64
Question 1.3 65
Question 1.4 65
Question 1.5 66
Question 1.6 66
Question 1.7 67
Question 1.8 67
Question 1.9 68
Question 1.10 68
Question 1.11 69
Question 1.12 69
Question 1.13 69
Question 1.14 70
Question 1.15 70
Question 1.16 71
Question 1.17 71
Question 1.18 72
Question 2.1 72
Question 2.2 73
Question 2.3 73
Question 2.4 74
Question 2.5 74
Question 2.6 75
Question 2.7 75
Question 2.8 76
Question 2.9 76
Question 2.10 77
Question 2.11 77
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Question 2.12 78
Question 2.13 80
Question 2.14 81
Question 2.15 83
Question 3.1 84
Question 3.2 84
Question 3.3 84
Question 3.4 85
Question 3.5 85
Question 3.6 85
Question 3.7 86
Question 3.8 86
Question 3.9 86
Question 3.10 87
Question 3.11 87
Question 3.12 87
Question 4.1 88
Question 4.2 91
Question 4.3 91
Question 4.4 91
Question 4.5 92
Question 4.6 92
Question 4.7 93
Question 4.8 93
Question 4.9 94
Question 4.10 95
Question 4.11 99
Question 4.12 101
Question 4.13 102
Question 4.14 102
Question 4.15 103
Question 4.16 104
Question 5.1 106
Question 5.2 106
Question 5.3 106
Question 5.4 107
Question 5.5 107
Question 5.6 107
Question 5.7 107
Question 5.8 108
Question 5.9 108
Question 5.10 108
Question 5.11 109
Question 5.12 109
Question 5.13 109
Question 5.14 109
Question 6.1 110
Question 6.2 110
Question 6.3 111
Question 6.4 111
Question 6.5 112
Question 6.6 112
Question 6.7 113
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Question 6.9 114

Question 6.10 114
Question 6.11 115
Question 6.12 115
Question 6.13 116
Question 6.14 116
Question 6.15 117
Question 6.16 117
Question 6.17 117
Question 6.18 118
Question 6.19 118
Question 6.20 119
Question 6.21 119
Question 6.22 120
Question 6.23 121
Question 6.24 121
Question 6.25 122
Question 6.26 122
Question 6.27 123
Question 6.28 123
Question 6.29 124
Question 6.30 124
Question 7.1 125
Question 7.2 125
Question 7.3 126
Question 7.4 126
Question 7.5 127
Question 7.6 127
Question 7.7 128
Question 7.8 128
Question 7.9 129
Question 7.10 130
Question 7.11 131
Question 7.12 131
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QUESTIONS
Question 1.1
➤ Which one of the following factors will be reflected in the amount of a short-term employee benefit obligation
measured in accordance with IAS 19 Employee Benefits?
a) The risk-free interest rate.
b) Salary rates that reflect the future sacrifice.
c) Interest rates on high-quality corporate bonds.
d) Salary rates current at reporting date.

Question 1.2
➤ According to IAS 19 Employee Benefits, measurement of the long-term employee benefit obligation should be
based on
a) vested benefits at future salary rates.
b) vested and non-vested benefits at future salary rates.
c) vested benefits at current salary rates.
d) vested and non-vested benefits at current salary rates.

Question 1.3
➤ Which one of the following is a factor in measuring a long service leave obligation in accordance with IAS 19
Employee Benefits?
a) Wage and salary rates current at reporting date.
b) Future services that will be provided by current employees.
c) All employees who are not legally entitled to long service leave.
d) Future promotions of current employees.
FINANCIAL REPORTING SUGGESTED ANSWERS | 8

Question 1.4
➤ Which of the following identifies the assumption(s) underpinning the preparation of general purpose financial
statements in accordance with the Conceptual Framework?
I. Going concern.
II. Relevance.
III. Cash basis of accounting.

I only.
I and II only.
II and III only.
I, II and III.

Question 1.5
➤ Sandy Ltd measures its investment in Blue Chip Ltd shares at fair value. Which one of the following available
measurements of fair value should Sandy Ltd choose to report its investment in shares in Blue Chip Ltd in its
financial statements at 30 June 20X3?
a) The closing price of Blue Chip Ltd shares on the stock market at 30 June 20X3.
b) The average price of Blue Chip Ltd shares on the stock market from 1 June 20X3 to 30 June 20X3.
c) An estimate derived from a model that uses observable industry growth rates and past cash flows.
d) An estimate derived from a model that uses Sandy Ltd’s estimates of Blue Chip Ltd’s future profits and
required rate of return.

Question 1.6
➤ Which one of the following is a criticism of the distinction between operating leases and finance leases in
IAS 17 Leases?
a) It results in a lack of comparability because operating leases, but not finance leases, are recognised in the
statement of financial position.
b) The obligations of the lessee are not recognised unless substantially all of the risks and rewards of
ownership are transferred.
c) Commitments arising under non-cancellable operating leases must be disclosed.
d) The principles-based approach provides greater opportunity than a rules-based approach to structure
leases so as to avoid recognition of lease assets and liabilities.
FINANCIAL REPORTING SUGGESTED ANSWERS | 9

Question 1.7
➤ Which one of the following statements is correct in relation to the approach adopted by IAS 17 Leases to
classifying leases as either finance or operating leases?
a) This approach copes well with the wide variety of lease arrangements.
b) This approach ensures that present obligations are recognised as liabilities.
c) This approach is dependent on qualitative criteria.
d) This approach can result in leases with similar economic characteristics being treated differently.

Question 1.8
➤ Which of the following factors contribute to a finance lease classification?
I. The return on the lease only compensates the lessor for insurance, maintenance and operating costs
incurred by the lessor.
II. The leased asset is so specialised that it could not be used by other entities in the same industry.
III. Legal ownership of the leased asset transfers to the lessee at the end of the lease term.

a) III only.
b) I and II only.
c) II and III only.
d) I, II and III.

Question 1.9
➤ Self-Starter Sports Ltd internally developed several assets. For each of the internally generated assets listed
below, expected future economic benefits are probable and the cost of the asset can be measured reliably.

Which of the following internally generated assets may be recognised in accordance with IAS 38
Intangible Assets?
I. A masthead for a new sporting magazine called Hockey Highlights launched by Self-Starter Sports Ltd.
II. A computer program to keep track of customers’ orders and automate the generation of invoices.

a) I only.
b) II only.
c) I and II.
d) Neither I nor II.
FINANCIAL REPORTING SUGGESTED ANSWERS | 10

Question 1.10
➤ On 1 June 20X1 Bridget Ltd acquired an item of plant for an agreed consideration of 1000 of its own shares.

The plant was received on 1 June 20X1and the obligation to transfer shares was to be settled on 1 August
20X1. The fair value of the plant was $10 000 on 1 June 20X1. Bridget Ltd’s share price was $8 on 1 June
20X1 and $9 on 30 June 20X1.
In accordance with IFRS 2 Share-based Payment Bridget Ltd should
I. initially recognise the plant and equity at $8000 on 1 June 20X1.
II. initially recognise the plant and equity at $10 000 on 1 June 20X1.
III. remeasure the equity to $9000 on 30 June 20X1.
IV. make no entry in relation to the transaction until 1 August 20X1.

a) I only.
b) II only.
c) IV only.
d) I and III only.

Question 1.11
➤ A long-term employee benefit obligation should reflect the amount which, if invested at measurement date,
would provide the necessary pre-tax cash flows to pay the accrued benefits when due. It is assumed that this
amount is invested in
a) a portfolio of high-quality shares.
b) risk-free securities.
c) a portfolio of high-quality corporate bonds.
d) government bonds.

Question 1.12
➤ Port Ltd operates a cruise ship and offers a customer-loyalty program that grants passengers loyalty points
when they take a cruise. Loyalty points can be redeemed for credit towards the cost of further cruises by the
same passenger. For a cruise conducted during June 20X1, Port Ltd sold tickets for $400 000 and granted
4000 loyalty points. The fair value of a loyalty point is estimated at $10. Management expects that 25 per cent
of the points granted for a cruise will be redeemed. During the year ended 30 June 20X2, 400 points were
redeemed.

For the year ended 30 June 20X1 in relation to the cruise Port Ltd would recognise
a) revenue of $360 000 and deferred revenue of $40 000.
a) revenue of $390 000 and deferred revenue of $10 000.
b) revenue of $396 000 and deferred revenue of $4000.
c) revenue of $400 000.
FINANCIAL REPORTING SUGGESTED ANSWERS | 11

Question 1.13
➤ Starboard Ltd operates a cruise ship and offers a customer-loyalty program that grants passengers loyalty
points when they take a cruise. Loyalty points can be redeemed for credit towards the cost of further
cruises by the same passenger within two years. During the year ended 30 June 20X4, Starboard Ltd sold
tickets for $200 000 and granted 20 000 loyalty points with a fair value of $1 each. Management expects
that 25 per cent of the points granted for a cruise will be redeemed. During the year ended 30 June 20X5,
2000 points were redeemed. Which one of the following journal entries to record the redemption of points
is correct?
a) Dr Deferred revenue $8000
Cr Revenue $8 000
b) Dr Revenue $8 000
Cr Deferred revenue $8 000
c) Dr Deferred revenue $2 000
Cr Revenue $2 000
d) No entry is required

Question 1.14
➤ On 3/4/X1 Towers Ltd commenced construction of a multi-storey housing complex for a customer.
The price was fixed at $5 000 000 under the terms of the contract. Towers Ltd estimated total contract
costs at $4 000 000.

At 30/6/X1 Towers Ltd estimated that the construction contract was 20 per cent complete. Construction costs
incurred to date were $850 000, with total costs estimated at $4 500 000. Towers Ltd had billed the customer
$1 250 000 by 30/6/X1. Towers Ltd applies the stage of completion method.
For the period ended 30/6/X1 in relation to the construction contract Towers Ltd should recognise
a) construction revenue of $850 000 and construction expenses of $850 000.
b) construction revenue of $1 000 000 and construction expenses of $800 000.
c) construction revenue of $1 000 000 and construction expenses of $900 000.
d) construction revenue of $1 250 000 and construction expenses of $850 000.

Question 1.15
➤ Which one of the following is a criticism of IAS 40 Investment Property ?
a) Fair value of investment properties cannot be reliably measured due to their specific nature.
b) Since entities can choose between fair value or cost, the comparability between entities is reduced.
c) Classifying investment properties separately from property, plant and equipment on the statement of
financial position does not faithfully represent the operations of the business.
d) Requiring fair value movements to be recognised in profit or loss results in less reliable information
for users.
FINANCIAL REPORTING SUGGESTED ANSWERS | 12

Question 1.16
➤ Which of the following reflects the correct application of the requirements of IAS 41 Agriculture?
a) Grapes which have been stored following harvest from the vine are measured at fair value.
b) All costs associated with the harvest of agricultural produce are capitalised.
c) Land on which grapevines are planted is measured at fair value.
d) Grapevines are measured at fair value.
FINANCIAL REPORTING SUGGESTED ANSWERS | 13

Case note
The following case note relates to the next two (2) questions (questions 17 to 18).
On 30/6/20X0 Beta Ltd leased equipment from Capital Finance Group. The lease had the following terms.

 The term of the lease is five years.

 The useful life of the equipment is eight years.
 The fair value of the equipment is $675 000 at the commencement of the lease.
 Lease rentals are $120 000 per annum, payable at the beginning of each year.
 The residual value is $110 000 but is not guaranteed.
 The present value of the minimum lease payments is equal to 50 per cent of the fair value of the asset
at commencement of the lease.
 If Beta Ltd returns the leased equipment before the expiry of the lease, it will be liable to pay an
amount equal to 80 per cent of the present value of remaining lease rentals, discounted at a
non-risk adjusted rate.

Question 1.17
➤ Which of the following statements is/are correct?

I. According to the Conceptual Framework, Beta Ltd should recognise an asset and liability at the inception
of the lease.
II. According to IAS 17 Leases, Beta Ltd should recognise an asset and liability at the inception of the lease.

a) Neither I nor II.

b) I only.
c) II only.
d) I and II.

Question 1.18
➤ Which of the following statements is/are correct?
I. According to IAS 17 Leases, Beta Ltd should recognise an asset and liability at the inception of the lease.
II. According to ED: Leases, issued by the IASB in May 2013, Beta Ltd should recognise an asset and liability
at the inception of the lease.

a) Neither I nor II.

b) I only.
c) II only.
d) I and II.
FINANCIAL REPORTING SUGGESTED ANSWERS | 14

Question 2.1
➤ The following is an extract from the 20X6 annual report of Status Ltd.

1. Statement of accounting policies

a) Basis of accounting
The financial statements are drawn up on a historical cost basis and, except where stated, do not take into
account changing money values and/or current valuations of non-current assets.
b) Changes in accounting policies
During the 20X6 financial year, Status Ltd changed its policy on accounting for inventory. This did not
materially affect the 20X6 financial statements, but will have a material impact on the financial statements in
subsequent reporting periods.

In addition to the above accounting policy details, the accountant is considering disclosing the following
information.
I. The financial effects of the accounting policy change on subsequent reporting periods.
II. The fact that the financial report has been prepared on a going concern basis.
III. The fact that the financial report has been prepared in accordance with International Financial
Reporting Standards.
IV. The nature and reason for the accounting policy change.

What should the accountant for the Status Ltd include as disclosures?
I and III only.
b) II and IV only.
c) III and IV only.
d) I, II, III and IV.

Question 2.2
➤ In preparing the 20X4 financial statements of Medal Ltd, there was a voluntary change of accounting policy
in relation to employee benefits. The accountant for Medal Ltd did not consider that this change would
require any adjustment in the financial report for the reporting period ending on 30 June 20X4. However,
the accountant considered that the change in accounting policy would have a material effect on the
subsequent reporting period and estimated that a liability of $2 600 000 would have to be disclosed in
the 30 June 20X5 statement of financial position.

In accordance with IAS 8 Accounting Policies, Changes in Accounting Estimates and Errors, which of the
following actions should be undertaken when preparing the statement accounting policies?
a) Disclosure of the nature and reason for the change and its estimated financial effect in the subsequent
reporting period.
b) Inclusion of a note stating that an accounting policy had been changed but no adjustments were required
in the 20X4 financial statements.
c) Disclosure of the nature of the change, the reason for the change and the fact that no adjustments were
recognised in the 20X4 financial statements.
d) No information should be disclosed, as the financial effect of the change is not material in 20X4.
FINANCIAL REPORTING SUGGESTED ANSWERS | 15

Question 2.3
➤ In preparing the accounts of Oscar Ltd for the financial year ended 30 June 20X7, the following items
were considered.
I. A change in accounting estimate related to the determination of the bad debts write-off for the
20X6 financial statements.
II. The loss from a major fire which closed the plant during April 20X7.
III. A major currency realignment on 11 July 20X7 which affected the amount of Oscar Ltd’s
foreign currency receivables.
IV. A reassessment of the useful life of plant and equipment in December 20X6.

In accordance with IAS 1 Presentation of Financial Statements, IAS 8 Accounting Policies, Changes in
Accounting Estimates and Errors and IAS 10 Events after the Reporting Period, which of the above items
would be included in the determination of profit after income tax?
b) I and IV only.
c) II and III only.
d) I, II and IV only.
e) II, III and IV only.

Question 2.4
➤ In accordance with IAS 1 Presentation of Financial Statements, which of the following statements is correct?
a) Assets and liabilities can be offset if they result from the same transaction or event.
b) Intangible assets must be presented separately in the statement of financial position.
c) Assets and liabilities must be presented broadly in the order of their liquidity.
d) Even if less than 12 months, the length of an entity’s operating cycle must be disclosed.

Question 2.5
➤ In accordance with IAS 1 Presentation of Financial Statements, which of the following statements in relation to
the statement of profit or loss and other comprehensive income is correct?
a) Items of income and expense which are outside the ordinary operations of an entity are included in other
comprehensive income.
b) Where an entity has an investment in an associate, the profit of the entity would include a line item
‘Share of profit or loss and other comprehensive income of associate’.
c) A reclassification adjustment is made to other comprehensive income when a revalued item of plant and
equipment is sold.
d) The components of other comprehensive income may be presented in the statement of profit or loss and
other comprehensive income before tax with an aggregate amount of tax for all components.
FINANCIAL REPORTING SUGGESTED ANSWERS | 16

Question 2.6
➤ Sandal Ltd prepares consolidated financial statements. During the financial year ended 30 June 20X4,
Sandal Ltd disposed of an investment in a foreign operation. Up to the date of disposal, Sandal Ltd had to
translate the financial statement of the foreign operation from another currency for inclusion in its
consolidated financial statements. During prior reporting periods, $14 000 of exchange difference gains net
of tax (pre-tax exchange difference gains $20 000) had been recognised in other comprehensive income in
the consolidated financial statements of Sandal Ltd. During the 20X4 reporting period, a $3500 exchange
difference gain net of tax (pre-tax exchange difference gain $5000) up to the date of disposal of the foreign
operation had been recognised in other comprehensive income.

In accordance with IAS 1 Presentation of Financial Statements, which of the following statements is correct in
relation to the treatment of the disposal of the foreign operation in the consolidated statement of profit or
loss and other comprehensive income of Sandal Ltd for the year ended 30 June 20X4?
a) The profit or loss would include an exchange difference gain after tax of $3500.
b) Other comprehensive income would include a reclassification adjustment net of tax of $14 000.
c) The profit or loss would include a gain after tax of $17 500.
d) Other comprehensive income for the translation of the foreign operation would be an exchange difference
net of tax gain of $3500.

Question 2.7
➤ In accordance with IAS 1 Presentation of Financial Statements, which of the following items does not have
to be separately presented in the statement of profit or loss and other comprehensive income?
a) Profit attributable to non-controlling interests.
b) Share of losses from associates.
c) Expenses from ordinary activities.
d) Finance costs.
FINANCIAL REPORTING SUGGESTED ANSWERS | 17

Question 2.8
➤ Salter Ltd has completed its 20X5 financial statements which reveal, in part, the following information.

• Profit for the year—$110 000.

• Total comprehensive income—$130 000.
• Other comprehensive income relates to the revaluation of land and buildings to fair value.
• Dividends paid—$35 000.
• Opening equity balances—share capital $300 000, retained earnings $220 000, asset revaluation surplus
$60 000.
• Mo share capital was issued during the reporting period.

In accordance with IAS 1 Presentation of Financial Statements, which of the items would correctly be included
in the statement of changes in equity for the year ended 30 June 20X5?
a) Closing retained earnings—$295 000.
b) Total closing equity—$655 000.
c) Closing retained earnings—$315 000.
d) Total closing equity—$695 000.

Question 2.9
➤ In accordance with the requirements of IAS 1 Presentation of Financial Statements, which of the following
statements is correct?
a) Every item which appears in other comprehensive income will require a reclassification adjustments in
future reporting periods when the item involved is derecognised.
b) The share of profit or loss of associates determined using the equity method must be included in other
comprehensive income.
c) Retrospective adjustments arising from a change in accounting policy in accordance with IAS 8 Accounting
Policies, Changes in Accounting Estimates and Errors must be included in other comprehensive income.
d) Reclassification adjustments must be disclosed with the related component of other comprehensive
income.
FINANCIAL REPORTING SUGGESTED ANSWERS | 18

Question 2.10
➤ The accountant for Indra Ltd has determined the following information for the year ended 30 June 20X6.

$
• Profit or loss 300 000
• Share of total comprehensive income after tax of associates 20 000
• Share of profit (after tax) of associates 15 000
• Exchange difference gain (net of tax of $3000) on translation of foreign 7 000
operation up to the date sold (1 March 20X6)
• Exchange difference gain (net of tax of $9000) on disposal of foreign 21 000
operation recognised in profit for the year
• Increase in asset revaluation surplus (net of tax) 45 000

In accordance with the requirements of IAS 1 Presentation of Financial Statements what is the total amount
of other comprehensive income for Indra Ltd for the year ended 30 June 20X6?
a) $36 000.
b) $51 000.
c) $57 000.
d) $72 000.

Question 2.11
➤ In accordance with IAS 1 Presentation of Financial Statements, which of the following items must be
separately presented in the statement of financial position?
a) Net assets.
b) Issued capital and reserves.
c) Non-financial assets.
d) Asset revaluation surplus.
FINANCIAL REPORTING SUGGESTED ANSWERS | 19

Question 2.12
➤ The following information relates to the affairs of Funny Money Ltd.

30 June 20X2 30 June 20X3

$000 $000
Trade receivables 150 Debit 120 Debit
Allowance for doubtful debts 8 Credit 12 Credit

Year ended 30 June 20X3 $

Sales revenue 500 000
Doubtful debts expense 15 000

Bad debts incurred during the year were written off against the allowance for doubtful debts.
What is the amount of cash collected from trade receivables during 20X3?
a) $481 000.
b) $485 000.
c) $515 000.
d) $519 000.

Question 2.13
➤ Note: This question provides information on receivables net of allowance for doubtful debts. There is a need
to use the data to determine the change in gross receivables and bad debt write-off for the period.

The following information relates to Cash Flow Ltd for the year ended 30 June 20X6.
$
• Sales revenue 450 000
• Opening balance of trade receivables (net of allowance) 100 000
• Closing balance of trade receivables (net of allowance) 132 500
• Doubtful debts expense 5 000
• Increase in allowance for doubtful debts 2 000
• Bad debts are written off against the allowance for doubtful debts

What is the amount of cash collected from customers during the year ended 30 June 20X6?
a) $412 500.
b) $418 500.
c) $481 500.
d) $487 500.
FINANCIAL REPORTING SUGGESTED ANSWERS | 20

Question 2.14
➤ Balances of the current tax payable account and deferred tax accounts of Taxflow Ltd were as follows.

30 June 20X3 30 June 20X4

$ $
Current tax payable 2 400 Credit 2 200 Credit
Deferred tax liability 3 200 Credit 2 000 Credit
Deferred tax asset 2 650 Debit 1 900 Debit

Income tax expense for the year ended 30 June 20X4 was $1750.
What was the amount of income tax paid during the year ended 30 June 20X4?
a) $0.
b) $1 500.
c) $2 400.
d) $3 900.

Question 2.15
➤ The following information relates to the activities of Cashin Ltd. Income tax may be ignored.

$
Cash flows from operating activities 720 000
Decrease in trade payables 23 000
Decrease in inventory 11 500
Increase in trade receivables 24 600
Cash proceeds from sale of plant (book value of $25 000) 14 000
Increase in allowance for doubtful debts 1 000

What is the profit for the period?

a) $698 100.
b) $744 100.
c) $767 100.
d) $788 100.
FINANCIAL REPORTING SUGGESTED ANSWERS | 21

Question 3.1
➤ In relation to provisions, for a present obligation to exist, which of the following factors must be present?
a) The entity must have no realistic alternative to settling the obligation.
b) The entity must have a legal obligation that can be enforced by law.
c) It must be more likely than less likely that there will be a future flow of economic benefits.
d) The obligation must be capable of being reliably measured.

Question 3.2
➤ In accordance with the requirements of IAS 37, where measurement uncertainty exists, which one of the
following methods is not the appropriate valuation for a provision based on accounting standards?
a) The mid-point of a range of equally likely outcomes of expenditure.
b) The minimum amount expected to represent a reliable estimate, where the other option is omission.
c) The most likely amount expected to represent a reliable estimate, where there is a single obligation.
d) No provision should be recognised where measurement uncertainty exists.

Question 3.3
➤ A manufacturer provides warranties at the time of sale to purchasers of its product lines. Under the terms of
the warranty, the manufacturer undertakes to repair or replace items that fail to perform satisfactorily within a
period of two years from the date of sale. When should the manufacturer recognise the provision?
a) Never. A provision should not be recognised; rather the costs associated with the warranty should be
expensed as incurred.
b) At the time of sale.
c) At the end of the warranty period.
d) When the company is notified of a claim.

Question 3.4
➤ Provisions for dividends cannot be recognised in the annual financial statements where the dividends are
a) declared, determined and publicly recommended prior to year end.
b) declared, determined and publicly recommended prior to year end but not paid until after the issue of the
financial statements.
c) declared, determined or publicly recommended subsequent to year end but before the issue of the
financial statements.
d) declared, determined and publicly recommended before year end and paid a month after the financial
year end.
FINANCIAL REPORTING SUGGESTED ANSWERS | 22

Question 3.5
➤ In accordance with the requirements of IAS 37, which of the following is not required to be included in the
detailed formal plan for a restructuring other than as part of an acquisition?
a) The business or part of business concerned.
b) The approximate number of employees affected.
c) The value of the termination benefits to be paid to affected employees.
d) When the plan will be implemented.

Question 3.6
➤ In accordance with IAS 37, which one of the following statements about the reporting of contingent assets
and/or contingent liabilities is not correct?
a) Uncertainties in relation to the amount of any future economic sacrifice or benefit must be described.
b) A brief description of their nature must be provided.
c) All contingent assets and contingent liabilities must now be recognised in the financial statements.
d) An estimate must be made of the potential financial effect.

Question 3.7
➤ Which of the following is included in the scope of IAS 37?
a) Construction contracts.
b) Insurance contracts within the scope of IFRS 4.
c) Long-lived assets, such as oil rigs.
d) Financial instruments within the scope of IFRS 9.

Question 3.8
➤ The Acme Building Company Ltd is aware of draft legislation that, if enacted, will require the company to
replace the door frames on many of its recently constructed houses, as they will not comply with retrospective
height requirements. The company intends to lobby against the legislation. If the status of the planned
legislative changes is known at the reporting date, what treatment would be required?
a) Recognise a liability, as the planned legal changes are known at the reporting date.
b) Make no disclosure if the company does not intend to comply with the new legislation.
c) Recognise a liability if the legislation is virtually certain to be enacted as drafted.
d) Disclose a contingent liability even if the legislation is virtually certain to be enacted and the company
intends to lobby against the legislation.
FINANCIAL REPORTING SUGGESTED ANSWERS | 23

Question 3.9
➤ Which of the following circumstances would result in a disclosure of a contingent liability?
I. The occurrence of an event has resulted in a probable sacrifice of future economic benefits, but the
amount cannot be reliably measured.
II. As a consequence of an event, the existence of a present obligation is not clear and the future sacrifice of
economic benefits cannot be reliably measured.
III. A present obligation has been determined and the future sacrifice of economic benefits is probable and
may be reliably measured.
IV. An event has caused the possibility of a sacrifice of future economic benefits, but the likelihood is remote.

a) II only.
b) I and II only.
c) I and III only.
d) I, II and IV only.

Question 3.10
➤ Which one of the following is a correct statement in relation to provisions and contingencies?
a) A present obligation may still exist even in the circumstance that a company may have some choice in
whether or not to make a future sacrifice of economic benefits in settlement of an obligation.
b) An item of a contingent nature may be recognised, but not disclosed in the body of the financial
statements.
c) A provision for restructure recognised as part of an acquisition of an entity or operation may only be
recognised on acquisition when the acquiree has, at acquisition date, an existing liability for restructuring
recognised in accordance with IAS 37 Provisions, Contingent Liabilities and Contingent Assets.
d) IAS 37 Provisions, Contingent Liabilities and Contingent Assets applies to contingent liabilities and
contingent assets of insurers that result from insurance contracts.

Question 3.11
➤ Which one of the following represent an appropriate discount rate for measuring a provision based on IAS 37
Provisions, Contingent Liabilities and Contingent Assets?
a) Pre-tax rate that reflects current market assessment of the time value of money and the risks specific to
the liability.
b) Market yields on national government bonds.
c) Pre-tax rate that reflects current market assessment of the time value of money and the risks specific
to the entity.
d) Market yields on high quality corporate bonds.
FINANCIAL REPORTING SUGGESTED ANSWERS | 24

Question 3.12
➤ Mountain Mining Ltd has a mining site with a related decommissioning liability. The mining site started its
operations five years ago. The mining site has a useful life of 20 years. The mining site was established at a
cost of $10 million which included decommissioning costs of $500 000.

As at the end of this financial year, Mountain Mining Ltd estimates that the net present value of the
decommissioning liability relating to establishing the mine has increased by $100 000 due to additional
technological and legal requirements. This amount is in addition to the depreciation charges incurred for the
mining site.
Assuming that Mountain Ltd values the cost of establishing the mine using the cost model, which one of
the following journal entries is required to account for the additional decommissioning liability for this
financial year?
Debit Credit
$ $
a) Asset 100 000
Decommissioning liability 100 000
b) Impairment expense 100 000
Decommissioning liability 100 000
c) Maintenance expense 100 000
Decommissioning liability 100 000
d) Revaluation surplus 100 000
Decommissioning liability 100 000
FINANCIAL REPORTING SUGGESTED ANSWERS | 25

Question 4.1
➤ The accounting profit before tax of Gamma Ltd for the year ended 30 June 20Y0 was $100 000 after charging
all expenses and recognising all items of revenue. The carrying amounts in the books of Gamma Ltd of those
assets and liabilities relevant to income taxes were as follows.

20X9 20Y0
$ $
Depreciable asset — 100 000
Accumulated depreciation — 15 000
Carrying amount — 85 000
Goodwill (less allowance for impairment) 90 000 80 000
Unearned insurance premiums 27 000 31 000

In preparing the tax return of the company, the accountant included the following items.

• Depreciation of equipment $25 000

• Insurance premiums received $5 000

The company’s effective tax rate was 30 per cent. Assume that the recognition criteria were satisfied.
Which one of the following journal entries would Gamma Ltd process to recognise the income tax
consequences of these transactions in accordance with IAS 12?

$ $
a) Deferred tax expense 1 800
Deferred tax asset 1 200
Deferred tax liability 3 000
Current tax expense 31 200
Tax payable 31 200

b) Deferred tax asset 3 000

Deferred tax expense 1800
Deferred tax liability 1 200
Current tax expense 34 800
Tax payable 34 800

c) Deferred tax asset 4 200

Deferred tax income 1 200
Deferred tax liability 3 000
Current tax expense 31 200
Tax payable 31 200

d) Deferred tax expense 1 200

Deferred tax asset 3 000
Deferred tax liability 4 200
Current tax expense 31 200
Tax payable 31 200
FINANCIAL REPORTING SUGGESTED ANSWERS | 26

Question 4.2
➤ In relation to accounting for income taxes, which of the following statements is correct?
a) Current tax expense is the sum of tax expense plus deferred tax expense.
b) All movements in deferred tax assets and liabilities are recognised in the statement of profit or loss
and other comprehensive income.
c) Deferred tax liabilities are determined from taxable and deductible temporary differences.
d) Tax expense is the sum of current tax expense plus deferred tax expense.

Question 4.3
➤ To calculate the tax base of a liability for employee benefits, which one of the following formulas would
be used?
a) Carrying amount + Future deductible amounts − Future assessable amounts.
b) Carrying amount − Future non-assessable amounts of revenue.
c) Carrying amount − Future deductible amounts + Future assessable amounts.
d) Carrying amount + Future assessable amounts.

Question 4.4
➤ At 30 June 20X3, the carrying amount of an asset is $100 000 and its tax base is $80 000. The tax rate is
30 per cent. At 30 June 20X3, in relation to this asset, which one of the following items would be recognised?
a) Deferred tax liability of $6000.
b) Deferred tax asset of $6000.
c) Deferred tax liability of $24 000.
d) Deferred tax asset of $24 000.
FINANCIAL REPORTING SUGGESTED ANSWERS | 27

Question 4.5
➤ For the year ended 30 June 20X5, Hope Ltd had a taxable profit of $230 000. The following comparative
information was ascertained from the tax calculations of Hope Ltd.

20X4 20X5
Deferred tax asset $78 000 $92 000
Deferred tax liability $40 000 $34 000

The tax rate is 30 per cent.

What is the amount of tax expense of Hope Ltd for the year ended 30 June 20X5?
a) $20 000.
b) $49 000.
c) $61 000.
d) $69 000.

Question 4.6
➤ For the year ended 30 June 20X7, Pringle Ltd had an accounting profit of $200 000 and a taxable profit of
$170 000. The tax expense of Pringle Ltd for the year ended 30 June 20X7 was $60 000. At 30 June 20X7 it
was determined that the company had a deferred tax liability of $27 000. Assume that there was no deferred
tax asset at the beginning or end of the period.

The tax rate is 30 per cent.

Which of the following statements is correct?
a) The current tax expense for the year ended 30 June 20X7 was $33 000.
b) The deferred tax expense for the year ended 30 June 20X7 was $27 000.
c) The deferred tax liability as at 30 June 20X6 was $18 000.
d) The deferred tax liability as at 30 June 20X6 was $0.

Question 4.7
➤ At 30 June 20X3, the gross amount of the accounts receivable of Atom Ltd was $10 000. At the same date,
there was a related allowance for doubtful debts of $500. Revenue from sales is included in the statement of
profit or loss and other comprehensive income in the same period as it is included in taxable profit. The tax
rate is 30 per cent.

At 30 June 20X3, Atom Ltd would recognise which of the following items in their statement of financial
position?
a) Deferred tax asset of $150.
b) Deferred tax liability of $150.
c) Deferred tax asset of $2850.
d) Deferred tax liability of $2850.
FINANCIAL REPORTING SUGGESTED ANSWERS | 28

Question 4.8
➤ At 31 December 20X6, the statement of financial position of Multi Manufacturing Ltd contained a liability for
employee benefits of $1 200 000. For tax purposes, a deduction for employee benefits is allowed in the
reporting period in which they are paid. In addition, Multi Manufacturing Ltd had a foreign currency loan of
FC100 000 repayable in three years. During the year ended 31 December 20X6, the AUD equivalent of the
foreign currency loan decreased from $200 000 to $180 000. Gains or losses on foreign currency loans are
included in the determination of taxable profit in the period when the loan is settled. The tax rate is
30 per cent. Assume that for the purposes of statement of financial position presentation, deferred tax
assets and deferred tax liabilities are netted off against each other.

At 31 December 20X6, in relation to the above liabilities, Multi Manufacturing Ltd would recognise which one
of the following items in their statement of financial position?
a) Net deferred tax liability of $354 000.
b) Net deferred tax liability of $366 000.
c) Net deferred tax asset of $354 000.
d) Net deferred tax asset of $366 000.

Question 4.9
➤ The following information is available for Alpha Ltd.

1. The taxable profit for the year ended 30 June 20X8 was $100 000.
2. Deductible temporary differences were
20X7 20X8
$ $
Accounts receivable 10 000 15 000
Provision for employee benefits 65 000 80 000
3. Taxable temporary differences were:
20X7 20X8
Prepaid insurance 20 000 30 000

What was the amount of the tax expense of Alpha Ltd for the year ended 30 June 20X8?
a) $24 000.
b) $27 000.
c) $30 000.
d) $33 000.
FINANCIAL REPORTING SUGGESTED ANSWERS | 29

Question 4.10
➤ Assetsale Ltd sold a fixed asset for $160 000. The following data are relevant.
$
• Cost of asset sold 100 000
• Capital gains tax cost base of asset 125 000
• Statement of financial position carrying amount 90 000
• Tax written-down amount of asset (tax cost less tax depreciation) 60 000
• The tax rate, including tax on taxable capital gains, is 30 per cent
• Capital gains are calculated by deducting the capital gains tax cost
base from the sale proceeds

Which of the following journal entries should be processed to record this transaction?

$ $
a) Deferred tax liability 9 000
Deferred tax income 9 000
Current tax expense 19 500
Tax payable 19 500

b) Deferred tax expense 9 000

Deferred tax liability 9 000
Current tax expense 22 500
Tax payable 22 500

c) Deferred tax expense 9 000

Deferred tax liability 9 000
Current tax expense 4 500
Tax payable 4 500

d) Deferred tax liability 9 000

Deferred tax expense 9 000
Current tax expense 22 500
Tax payable 22 500
FINANCIAL REPORTING SUGGESTED ANSWERS | 30

Question 4.11
➤ On 31 December 20X9, SUFA Ltd revalued a depreciable asset to $160 000. The asset had not previously
been revalued and the revaluation was recorded in accordance with the requirements of IAS 16 Property,
Plant and Equipment . The following data are relevant.

• Cost of asset $101 250

• Statement of financial position carrying amount $90 000
• Tax written-down value (tax cost less tax depreciation) $75 000
• Capital gains tax is not taxable
• Effective life of asset at 1 January 20Y0 8 years
• The tax rate is 30 per cent

SUFA Ltd expects to recover the carrying amount of the asset by using it until the end of its useful life.
Which of the following journal entries should be processed to record the tax consequences of the revaluation?

$ $

a) Deferred tax expense 3 375

Deferred tax liability 3 375

b) Other comprehensive income— 7 875

revaluation surplus
Deferred tax liability 7 875

c) Other comprehensive income— 21 000

revaluation surplus
Deferred tax liability 21 000

d) Deferred tax expense 25 500

Deferred tax liability 25 500
FINANCIAL REPORTING SUGGESTED ANSWERS | 31

Question 4.12
➤ The following items appeared in the records of Changerate Ltd as at 30 June 20Y0.

Carrying amount
Statement of financial position item $ Notes
Rental revenue received in advance 80 000 Taxable when received in cash
Provision for employee benefits 20 000 Deductible for tax on a cash basis
Interest revenue receivable 50 000 Taxable on receipt in cash
Development costs carried forward 40 000 Claimed as an allowable deduction in a
previous period
Plant and equipment less 100 000 Tax written-down amount of $40 000
accumulated depreciation

Additional information
• Unused tax losses were $120 000.

• The recognition criteria for deferred tax assets and deferred tax liabilities were satisfied.

• On 31 May 20Y0, the responsible government minister announced that the rate of income tax was to be
increased from 30 per cent to 35 per cent as from 1 July 20Y0. The government had a comfortable
majority and it was probable, as at 30 June 20Y0, that the required legislation would be approved by
the legislature.

Which of the following choices correctly records the tax consequences of these events?

a) 1 July 20Y0 $ $
Deferred tax expense 3 500
Deferred tax asset 7 500
Deferred tax liability 11 000

b) 1 July 20Y0 $ $
Deferred tax expense 2 500
Deferred tax asset 5 000
Deferred tax liability 7 500

c) 1 July 20Y0 $ $
Deferred tax expense 4 500
Deferred tax asset 7 000
Deferred tax liability 11 500

d) 1 July 20Y0 $ $
Deferred tax asset 11 000
Deferred tax liability 7 500
Deferred tax income 3 500
FINANCIAL REPORTING SUGGESTED ANSWERS | 32

Case note
The following case note relates to the next two (2) questions (questions 13 to 14)
XYZ Company paid $4000 in 20X1 for a piece of equipment that had an expected life of four years and a residual
value of zero. Straight-line depreciation was used for accounting purposes and diminishing value for tax purposes.
Accounting profit before tax and taxable profit for 20X1 and the next three years were as follows.

Accounting
profit Taxable
before tax profit
$ $
20X1 4 000 3 000
20X2 5 000 5 400
20X3 6 000 6 400
20X4 4 000 4 200

Assume that

• a tax rate of 30 per cent applies;

• depreciation accounts for the difference between operating profit before tax and taxable profit; and

• it is probable that future taxable profit will be sufficient to utilise any deductible temporary differences

Question 4.13
➤ From the case study information, what item would be included in the books of XYZ Company at the end
of 20X1?
a) A deferred tax asset of $300.
b) A deferred tax liability of $300.
c) A deferred tax asset of $1000.
d) A deferred tax liability of $1000.

Question 4.14
➤ From the case study information, when would the books of XYZ Company record a deferred tax asset
of $180?
a) 20X1.
b) 20X2.
c) 20X3.
d) Never.
FINANCIAL REPORTING SUGGESTED ANSWERS | 33

Case note
The following case note relates to the next two (2) questions (questions 15 to 16)
The accounting profit before tax of Overseas Ltd for the year ended 30 June 20Y0 was $100 000 after charging all
expenses and recognising all items of revenue.

The carrying amounts of assets and liabilities relevant to the calculation of income tax were as follows.

20X9 20Y0
$ $
Liabilities
Statutory fines payable 0 5 000
Assets
Dividends receivable from other companies 18 000 8 000
Foreign currency loan receivable 100 000 110 000
Inventory 35 000 24 000
Less: Allowance for write-down to recoverable amount 0 (4 000)
35 000 20 000

The following information is also relevant for the purposes of income tax calculations.
a) Statutory fines were not deductible for tax purposes.
b) The increase in the foreign currency loan receivable was attributable to a foreign exchange gain that was not
taxable until the asset was recovered.
c) Dividends from other companies were exempt from income tax. Dividends received during the year ended
30 June 20Y0 amounted to $18 000.
d) Inventory write-downs were not deductible for tax purposes until the period in which the inventory was sold or
used to produce goods or services.
e) As at 30 June 20X9, unused tax losses were $60 000. A deferred tax asset for these unused losses
had been recognised.

The company’s effective tax rate was 30 per cent. Assume that the recognition criteria were satisfied as at
30 June 20X9 and 30 June 20Y0.
FINANCIAL REPORTING SUGGESTED ANSWERS | 34

Question 4.15
➤ Which of the following options correctly presents the explanation of the relationship between tax expense
(income) and accounting profit for the year ended 30 June 20Y0 required to be disclosed by paragraph 81(c)
of IAS 12?

I II III IV
$ $ $ $
Accounting profit before tax 100 000 100 000 100 000 100 000
Tax at the applicable tax rate of 30% 30 000 30 000 30 000 30 000

Tax effect of
Inventory write-down (1 200) — — 1 200
Foreign currency gain (loss) 3 000 — — (3 000)
Exempt dividends — (2 400) 2 400 —
Non-deductible statutory fines — 1 500 (1 500) —
Benefit of previously unrecognised tax loss — — — (18 000)
Tax expense 31 800 29 100 30 900 10 200

a) Option I
b) Option II
c) Option III
d) Option IV
FINANCIAL REPORTING SUGGESTED ANSWERS | 35

Question 4.16
➤ Which of the following options correctly discloses the major components of tax expense (income) of
Overseas Ltd for the year ended 30 June 20Y0?

I II III IV
$ $ $ $
Current tax expense (income)
Tax on taxable profit 9 300 12 900 9 300 11 100
Tax benefit from recoupment of previously unrecognised
tax losses —(para. 80(e)) 18 000
Current tax expense (income)—(para. 80(a)) 27 300 12 900 9 300 11 100
Deferred tax expense (income)
Deferred tax expense (income) relating to origination and
reversal of temporary differences—(para. 80(c)) 1 800 (1 800) 1 800 —
Deferred tax expense relating to recoupment of previously
recognised tax losses 18 000 18 000 18 000
Deferred tax expense (income) 1 800 16 200 19 800 18 000
Tax expense (income) 29 100 29 100 29 100 29 100

a) Option I
b) Option II
c) Option III
d) Option IV

Question 5.1
➤ IFRS 9 requires that all investments in equity instruments and contracts on those instruments must be
measured at fair value. However, in limited circumstances, cost may be an appropriate estimate of fair value.
Which of the following circumstances would suggest cost is not an appropriate estimate of fair value in
accordance with IFRS 9?
I. There are significant changes in the performance of competitors.
II. The CEO and the CFO resign.
III. There are widespread allegations of fraud in the company.
IV. There is a significant downturn in the economy in which the company operates.

a) II and IV only.
b) I, II and III only.
c) I, III and IV only.
d) I, II, III and IV.
FINANCIAL REPORTING SUGGESTED ANSWERS | 36

Question 5.2
➤ An investment fund holds two main portfolios of debt securities. Both portfolios provide cash flows that meet
the test of solely payments of interest and principal in IFRS 9. Securities held in portfolio A are sold on a
regular basis, based on movements in the prices of the securities in the portfolio. Securities held in portfolio B
are also sold but only when there has been a decline in the credit rating of the relevant issuer OR in certain
other limited circumstances.

How should the portfolios be classified and measured?

a) Both at fair value.
b) Both at amortised cost.
c) Portfolio A at fair value and portfolio B at amortised cost.
d) Portfolio A at amortised cost and portfolio B at fair value.

Question 5.3
➤ A company has issued the following instruments.
I. A variable rate loan where, if the loan is repaid before maturity, the borrower pays a 25 per cent premium
as a penalty for early repayment.
II. A variable rate loan where the rate varies based on LIBOR and any changes in the credit risk.
III. A variable rate loan where the loan can be extended and the amount to be repaid is determined based on
the amount outstanding at the applicable interest rate at the time of extension.

Which of the instruments satisfy the sole payments of interest and principal requirement in IFRS 9?
a) I only.
b) I and II only.
c) II and III only.
d) I, II and III.

Question 5.4
➤ Given the definition adopted in IAS 32, which of the following would not be a financial instrument?
a) Cash at bank.
b) Bill of exchange.
c) Prepaid insurance.
d) Forward exchange contract.
FINANCIAL REPORTING SUGGESTED ANSWERS | 37

Question 5.5
➤ A company has issued preference shares that are redeemable at the option of the holder. Three months
before the end of the year, it was probable that the holders would require redemption. What is the
appropriate classification for the annual payment of $12 000 to preference shareholders at year end?
a) Dividend $12 000.
b) Dividend $9000, interest expense $3000.
c) Interest expense $12 000.
d) Dividend $3000, interest expense $9000.

Question 5.6
➤ A derivative financial asset is accounted for as a fair value hedge. The following details are available
concerning its cost and fair value for three years.

Fair value Cost

Year 0 $90 000 $90 000
Year 1 $100 000 $90 000
Year 2 $85 000 $90 000
Year 3 $85 000 $90 000

As a fair value hedge, in accordance with the accounting required by IAS 39, what would be the gain or loss
recorded in the statement of profit or loss and other comprehensive income in Year 2?
a) ($15 000)
b) ($5 000)
c) nil
d) $10 000

Question 5.7
➤ The term ‘market risk’ refers to which of the following risk(s)?
I. Currency risk.
II. Other price risk.
III. Interest rate risk.

a) I only.
b) I and II only.
c) II and III only.
d) I, II and III.
FINANCIAL REPORTING SUGGESTED ANSWERS | 38

Question 5.8
➤ According to IAS 32, which of the following instruments would be classified as equity?
a) Redeemable preference shares with a fixed redemption date.
b) Redeemable preference shares redeemable at the discretion of the issuer.
c) Redeemable preference shares redeemable in five years at the request of the holder.
d) Redeemable preference shares redeemable at the discretion of the issuer, who has given formal
notification of such intention.

Question 5.9
➤ A company reports and recognises the following in relation to its receivables.

Gross amount receivable $80m

Provision for doubtful debts $6m

What is the maximum credit risk that it must disclose in the notes in accordance with IFRS 7?
a) $80m.
b) $74m.
c) $6m.
d) None.

Question 5.10
➤ XYZ issues a $1000 note with no maturity date that is redeemable at the discretion of the issuer, but can be
converted by the holder for 10 ordinary shares of XYZ at any time. According to IAS 32, XYZ should classify
the instrument as
a) a liability because the holder is not exposed to changes in the fair value of the issuer’s shares.
b) equity because the holder is not exposed to changes in the fair value of the issuer’s shares.
c) a liability because the holder is exposed to changes in the fair value of the issuer’s shares.
d) equity because the holder is exposed to changes in the fair value of the issuer’s shares.

Question 5.11
➤ Which one of the following statements is correct?
a) A reclassification of a financial asset from amortised cost to fair value is prohibited.
b) A reclassification of a financial asset from fair value to amortised cost is prohibited.
c) A reclassification of a financial liability is prohibited.
d) Reclassification of financial assets is permitted and is likely to be frequent.
FINANCIAL REPORTING SUGGESTED ANSWERS | 39

Case note
The following case note relates to the next three (3) questions (questions 12 to 14)

On 1 January 20X6, XYZ Company issues a new instrument with the following characteristics.

1. Face value $100, issue price $90.

2. Cumulative dividend payable at 5 per cent per annum for 10 years. After 10 years, the dividend is payable at
the discretion of the issuer.
3. The holder of the note has the option to convert to ordinary shares of XYZ after 10 years, and conversion will
be 10 ordinary shares for each instrument.
4. The holder can demand redemption for the face value at any time, with six months’ notice up until the end
of 10 years. After 10 years, redemption is at the discretion of the issuer.
5. There is no fixed maturity date.

Question 5.12
➤ How should the instrument be classified by XYZ in the first 10 years in accordance with IAS 32?
a) As equity.
b) As a compound instrument.
c) As a liability.
d) As either equity or liability.

Question 5.13
➤ How should the instrument be classified by XYZ after Year 10 in accordance with IAS 32?
a) As equity.
b) As a compound instrument.
c) As a liability.
d) As either equity or liability.

Question 5.14
➤ Assume that in Year 12 the issuer formally notifies the holders of the instrument that the notes are to be
redeemed. How should the notes be classified in Year 12 in accordance with IAS 32?
a) As equity.
b) As a compound instrument.
c) As a liability.
d) As either equity or liability.
FINANCIAL REPORTING SUGGESTED ANSWERS | 40

Question 6.1
➤ On 1 July 20X7, Investor Ltd acquired all of the ordinary shares in Investee Ltd. At that date, the shareholders’
equity of Investee Ltd was as follows.

$
Issued capital (100 000 shares issued) 100 000
Retained profits 80 000
180 000

Acquisition costs totalled $2000.

Investor Ltd used its control to have Investee Ltd revalue its assets to fair value in Investee Ltd’s financial
statements, resulting in a revaluation increment of $20 000. The revaluation led to the recognition of a
deferred tax liability of $6000. The amount of goodwill included in the consolidated statement of financial
position was $10 000.
What was the consideration paid by Investor for the shares in Investee Ltd?
a) $202 000.
b) $204 000.
c) $210 000.
d) $212 000.

Question 6.2
➤ On the acquisition of a subsidiary, purchased goodwill should
a) be recognised separately in the financial statements of the investor.
b) be recorded as a consolidation adjusting entry.
c) be recorded separately in the financial statements of the subsidiary.
d) not be separately recognised in any financial statements.

Question 6.3
➤ On 8 August 20X3, A Ltd acquired 20 000 shares in B Ltd in return for an issue of 10 000 of its own shares.
At that date, A Ltd’s shares had a current market value of $2.70 each. Shares of B Ltd have a current market
value of $1.30 each. Fees paid to legal advisers for the transaction totalled $2000. What is the amount of the
consideration transferred?
a) $26 000.
b) $27 000.
c) $28 000.
d) $29 000.
FINANCIAL REPORTING SUGGESTED ANSWERS | 41

Question 6.4
➤ In relation to goodwill arising from a business combination, which one of the following statements is in
accordance with IFRS 3 Business Combinations?
a) Goodwill should be amortised on a straight-line basis over a period of up to 20 years.
b) Goodwill should be measured at cost less accumulated impairment losses.
c) Goodwill is only tested for impairment if circumstances indicate it may be impaired.
d) Goodwill should be measured at cost less accumulated amortisation.

Question 6.5
➤ Which one of the following statements is not a key feature of the acquisition method?
a) Goodwill is measured as the consideration transferred plus the amount of any non-controlling interest, plus
the fair value of any previously held equity interest in the acquiree, less the fair value of the identifiable net
assets acquired.
b) The measurement of acquired identifiable assets at fair value.
c) Cost of the business combination is measured at the fair value of the net assets received from the acquiree.
d) An acquirer being identified for each business combination.
FINANCIAL REPORTING SUGGESTED ANSWERS | 42

Question 6.6
➤ On 1 July 20X7, Big Ltd agreed to purchase the assets and liabilities of Small Ltd for $400 000 cash,
plus 1 million shares in Big Ltd. At this date, the fair value of each share in Big Ltd was at $1.20.
Costs directly attributable to the business combination totalled $5000.

The statement of financial position of Small Ltd as at the date of purchase is presented below.
Small Ltd: Statement of financial position as at 1 July 20X7
Assets $000 Liabilities $000
Trade receivables 250 Bank overdraft 50
Inventory 520 Creditors 300
Land and buildings Equity
(net of depreciation) 800 Capital and retained earnings 1 220
1 570 1 570

In the negotiation process, Big Ltd has determined the following fair values for Small Ltd’s assets and
liabilities (assume that no deferred tax assets or liabilities arose from the business combination).

$000
Trade receivables 240
Inventory 500
Land and buildings 1 000
Bank overdraft (50)
Creditors (300)
1 390

At what figure would the goodwill purchased by Big Ltd be measured?

a) $210 000.
b) $215 000.
c) $380 000.
d) $385 000.
FINANCIAL REPORTING SUGGESTED ANSWERS | 43

Question 6.7
➤ On 1 August 20X2, Parent Ltd acquired a 70 per cent interest in Sub Ltd. At that date, the equity section of
Sub Ltd’s statement of financial position revealed the following.

$000
Issued capital 500
General reserve 100
Retained earnings 50
Owner’s equity 650

At acquisition date, Sub Ltd revalued its non-current assets to fair value (an increase of $200 000, net of tax).
Parent Ltd determined that it had paid $100 000 for goodwill. Any NCI is measured at the proportionate
share of the fair value of the identifiable net assets of Sub Ltd.
Which of the following pro-forma entries would be processed in the consolidation worksheet for the year
ended 30 June 20X5?
Dr Cr
$000 $000
a) Issued capital 350
General reserve 70
Retained earnings (o/b) 35
Asset revaluation reserve 140
Goodwill 100
Investment in Sub Ltd 695
b) Issued capital 500
General reserve 100
Retained earnings (o/b) 50
Goodwill 100
Investment in Sub Ltd 750
c) Issued capital 350
General reserve 70
Retained earnings (o/b) 35
Goodwill 100
Investment in Sub Ltd 555
d) Issued capital 500
General reserve 100
Retained earnings (o/b) 50
Asset revaluation reserve 200
Goodwill 100
Investment in Sub Ltd 950
FINANCIAL REPORTING SUGGESTED ANSWERS | 44

Question 6.8
➤ Small Ltd is a wholly owned subsidiary of Large Ltd. During the 20X3 financial year, Small Ltd paid a dividend
of $10 000 and declared a final dividend of $20 000. Large Ltd accounts for dividends when they are declared
and payable. Which one of the following pro-forma entries would be processed in the consolidation worksheet
during the financial year ending on 30 June 20X3 in relation to the dividends?

Debit Credit
$000 $000
a) Dividend income 30
Retained earnings (interim dividend) 10
Retained earnings (final dividend) 20

b) Dividends payable 20
Dividend income 30
Retained earnings (interim dividend) 10
Retained earnings (final dividend) 20
Dividends receivable 20

c) Dividend income 20
Dividends receivable 20
Retained earnings (final dividend) 20
Dividends payable 20

d) Dividends payable 30
Dividend income 30
Retained earnings (interim dividend) 10
Retained earnings (final dividend) 20
Dividends receivable 30

Question 6.9
➤ In accordance with IFRS 10 Consolidated Financial Statements and IFRS 12 Disclosure of Interests in Other
Entities, a consolidated statement of financial position (or notes thereto) would not present information
relating to
a) investments in subsidiaries.
b) goodwill acquired by the group.
c) loans to entities not related to the group.
d) non-controlling interests’ share of consolidated net assets.
FINANCIAL REPORTING SUGGESTED ANSWERS | 45

Question 6.10
➤ On 15 August 20X2, Parent Ltd acquired control of a subsidiary via a 60 per cent shareholding. During the
year ended 30 June 20X5, the subsidiary company declared and paid an interim dividend of $10 000.
On 30 June 20X5, the subsidiary declared a dividend of $20 000. Parent Ltd accounts for dividends on an
accrual basis. The tax rate is 30 per cent. Which of the following pro-forma entries would be processed
in the consolidation worksheet for the year ended 30 June 20X5?

Debit Credit
$ $
a) Dividend income 30 000
Dividends payable 20 000
Retained earnings (interim dividend) 10 000
Retained earnings (final dividend) 20 000
Dividends receivable 20 000

b) Deferred tax asset 9 000

Dividend income 30 000
Dividends payable 20 000
Income tax expense 9 000
Retained earnings (interim dividend) 20 000
Retained earnings (final dividend) 10 000
Dividends receivable 20 000

c) Dividend income 18 000

Dividends payable 12 000
Retained earnings (interim dividend) 6 000
Retained earnings (final dividend) 12 000
Dividends receivable 12 000

d) Deferred tax asset 5 400

Dividend income 18 000
Dividends payable 12 000
Income tax expense 5 400
Retained earnings (interim dividend) 6 000
Retained earnings (final dividend) 12 000
Dividends receivable 12 000

Question 6.11
➤ IFRS 10 Consolidated Financial Statements sets out how to determine whether one entity has control over
another entity. Which of the following statements is in accordance with the IFRS 10 requirements and
guidance for control to exist over another entity?
a) The investor must have greater than 50 per cent of the voting rights in the other entity.
b) The investor must be the only party that receives variable returns from the investee.
c) The investor must have existing rights that give it the current ability to direct relevant activities.
d) The investor must be represented on the board of directors or governing body of the other entity.
FINANCIAL REPORTING SUGGESTED ANSWERS | 46

Question 6.12
➤ On 1 July 20X2, Holding Ltd purchased all the issued capital of Subsidiary Ltd for $400 000. At acquisition
date, the equity section of the statement of financial position of Subsidiary Ltd contained the following
accounts.

$000
Issued capital 200
Retained earnings 110
310

In addition, Holding Ltd decided that Subsidiary Ltd had equipment with a fair value of $60 000, which was
disclosed in the statement of financial position at a cost of $80 000 and accumulated depreciation of $40 000.
The equipment was depreciated at 20 per cent of cost by Subsidiary Ltd, and the same policy was adopted by
the group for the purpose of preparing consolidated financial statements.
Which of the following consolidation adjusting entries would be processed if the consolidated financial
statements were prepared at acquisition date?

Debit Credit
$000 $000
a) Issued capital 200
Retained earnings 110
Deferred tax asset 6
Accumulated depreciation 40
Goodwill 64
Equipment 20
Investment in Subsidiary Ltd 400

b) Issued capital 200

Retained earnings 110
Accumulated depreciation 40
Goodwill 76
Equipment 20
Deferred tax liability 6
Investment in Subsidiary Ltd 400

c) Issued capital 200

Retained earnings 110
Accumulated depreciation 40
Goodwill 70
Equipment 20
Investment in Subsidiary Ltd 400

d) Issued capital 200

Retained earnings 110
Goodwill 90
Investment in Subsidiary Ltd 400
FINANCIAL REPORTING SUGGESTED ANSWERS | 47

Question 6.13
➤ Which of the following statements is consistent with the principle of control as defined by IFRS 10
Consolidated Financial Statements?
a) The investor must be exposed to a return from the investee.
b) The investor has the ability to use its power over the investee to affect the investor’s returns from
the investee.
c) If two or more investors have existing rights to direct different relevant activities, no investor can have
control over the investee.
d) An investor’s power over an investee relates to their ability to determine the amount of returns received
from the investee.

Question 6.14
➤ On 1 July 20X4, Parent Ltd acquired control of a subsidiary via an 80 per cent shareholding. On 30 June 20X5,
the subsidiary declared a dividend of $10 000. Parent Ltd accounted for dividends on an accrual basis. The tax
rate was 30 per cent. Which of the following pro-forma entries would be processed in the consolidation
worksheet for the year ended 30 June 20X5?

Debit Credit
$ $
a) Deferred tax asset 3 000
Dividend income 10 000
Dividends payable 10 000
Income tax expense 3 000
Final dividend—retained earnings 10 000
Dividends receivable 10 000

b) Dividend income 10 000

Dividends payable 10 000
Final dividend—retained earnings 10 000
Dividends receivable 10 000

c) Deferred tax asset 2 400

Dividend income 8 000
Dividends payable 8 000
Tax expense 2 400
Final dividend—retained earnings 8 000
Dividends receivable 8 000

d) Dividend income 8 000

Dividends payable 8 000
Final dividend—retained earnings 8 000
Dividends receivable 8 000
FINANCIAL REPORTING SUGGESTED ANSWERS | 48

Question 6.15
➤ A Ltd owns 25 per cent of the shares (and voting rights) in B Ltd but has no representation on the board of
directors of the company. In accordance with IAS 28 Investments in Associates and Joint Ventures, A Ltd
a) will need to have board representation to ensure it has significant influence over B Ltd.
b) will be presumed to have significant influence over B Ltd if it owns 20 per cent of the voting power in that
company.
c) will have significant influence over A Ltd if it has both 20 per cent of the share capital and board
representation.
d) is presumed to have significant influence over B Ltd because it has greater than 20 per cent of the share
capital of that company.

Question 6.16
➤ Investor Ltd acquired an interest in an associate, Investee Ltd, on 1 January 20X8, on which date the
purchased goodwill was measured at $300 000. The goodwill should
a) be included in the consolidated financial statements of Investor Ltd.
b) be recorded in the books of Investor Ltd.
c) be recorded in the books of Investee Ltd.
d) not be recorded separately in any financial statements.

Question 6.17
➤ Which of the following events would change the amount of the item ‘Investment in associate’ in a company’s
consolidated financial report?
a) Sale of inventory from the investor to the associate, which results in unrealised profit at the end of
reporting period.
b) The directors of the associate decide to issue bonus shares from the general reserves of the associate.
c) Subsequent to acquisition, the associate revalues its assets, which then reflect the fair values of the assets
at the acquisition date.
d) The directors of the associated company decide to transfer an amount from the retained earnings account
to the general reserve.
FINANCIAL REPORTING SUGGESTED ANSWERS | 49

Question 6.18
➤ When an investment in an associate is acquired, the initial amount of the investment should be
a) recorded at cost to the investor.
b) adjusted to reflect fair value of the assets acquired.
c) recorded at the investor’s share of the fair value of the investee’s assets.
d) reduced by the goodwill component of the cost to the investor.

Question 6.19
➤ Raven Ltd is a parent entity that invested in an associate. In accordance with IFRS 3 Business Combinations,
Raven Ltd determined that the acquisition involved a gain of $200 000. In accordance with IAS 28 Investments
in Associates and Joint Ventures, the gain should be
a) deducted from the assets in the consolidated financial statements of Raven Ltd.
b) included as income in the determination of the investor’s share of the associate’s profit in the period the
investment was acquired.
c) included in the carrying amount of the investment.
d) amortised as income in the determination of the investor’s share of the associate’s profit over a period not
exceeding 20 years.
FINANCIAL REPORTING SUGGESTED ANSWERS | 50

Case note
The following case note relates to the next two (2) questions (questions 20 to 21)
Parent Ltd acquired 70 per cent interest in Subsidiary Ltd on 1 July 20X0. During the year ended 30 June 20X1,
Subsidiary Ltd sold inventory to Parent Ltd for $8000. The original cost to Subsidiary Ltd was $6000. Half of the
inventory was still on hand as at 30 June 20X1. During the year ended 30 June 20X2, the remainder of the
inventory was sold to parties external to the group.

Question 6.20
➤ Assume a tax rate of 30 per cent. Which of the following pro-forma journal entries would be processed in the
consolidation worksheet for the year ended 30 June 20X1?

Debit Credit
$ $
a) Sales 8 000
Income tax expense 300
Cost of goods sold 7 000
Inventory 1 000
Deferred tax liability 300

b) Sales 8 000
Deferred tax asset 600
Cost of goods sold 6 000
Inventory 2 000
Income tax expense 600

c) Sales 8 000
Deferred tax asset 300
Cost of goods sold 7 000
Inventory 1 000
Income tax expense 300

d) Sales 8 000
Income tax expense 600
Cost of goods sold 6 000
Inventory 2 000
Deferred tax liability 600
FINANCIAL REPORTING SUGGESTED ANSWERS | 51

Question 6.21
➤ Which of the following pro-forma journal entries would be processed in the consolidation worksheet for the
year ended 30 June 20X2?

Debit Credit
$ $
a) Retained earnings (o/b) 700
Income tax expense 300
Cost of goods sold 1 000

b) Retained earnings (o/b) 1 000

Income tax expense 300
Cost of goods sold 1 000
Deferred tax asset 300

c) Retained earnings (o/b) 1 400

Income tax expense 600
Cost of goods sold 2 000

d) Retained earnings (o/b) 1 300

Income tax expense 300
Cost of goods sold 1 000
FINANCIAL REPORTING SUGGESTED ANSWERS | 52

Case note
The following case note relates to the next three (3) questions (questions 22 to 24)

• Big Ltd owns 80 per cent of Little Ltd.

• On 1 July 20X3, Little Ltd sold equipment to Big Ltd for $40 000. At the time of the sale, the carrying
amount of the equipment in the books of Little Ltd was $30 000. Both entities depreciate the equipment
at 10 per cent on cost.

• During the year ended 30 June 20X5, Big Ltd sold Little Ltd land at a profit of $5000. The profit
was taxable.

• The 20X5 consolidation worksheet contains the following.

Big Ltd Little Ltd

Profit for the year 80 000 20 000
Retained earnings (closing bal.) 25 000 10 000

Note: The tax rate was 30 per cent.

FINANCIAL REPORTING SUGGESTED ANSWERS | 53

Question 6.22
➤ Which of the following pro-forma entries would be processed in the consolidation worksheet for the year
ended 30 June 20X5 in regard to the equipment sold during the 20X4 financial year?

Debit Credit
$ $
a) Accumulated depreciation 1 000
Income tax expense 300
Retained earnings (o/b) 10 000
Depreciation expense 1 000
Deferred tax asset 300
Equipment 10 000

b) Accumulated depreciation 2 000

Income tax expense 300
Deferred tax asset 2 400
Retained earnings (o/b) 6 300
Depreciation expense 1 000
Equipment 10 000

c) Accumulated depreciation 1 000

Income tax expense 300
Deferred tax asset 2 700
Retained earnings (o/b) 7 000
Depreciation expense 1 000
Equipment 10 000

d) Accumulated depreciation 2 000

Income tax expense 600
Deferred tax asset 2 400
Retained earnings (o/b) 7 000
Depreciation expense 2 000
Equipment 10 000
FINANCIAL REPORTING SUGGESTED ANSWERS | 54

Question 6.23
➤ The non-controlling interest in the profit for the year of the group is:
a) $3440.
b) $4000.
c) $4140.
d) $4200.

Question 6.24
➤ The non-controlling interest in the closing retained earnings of the group is:
a) $180.
b) $400.
c) $880.
d) $2000.
FINANCIAL REPORTING SUGGESTED ANSWERS | 55

Case note
The following case note relates to the next three (3) questions (questions 25 to 27)

Parent Ltd controls a subsidiary (Sub. Ltd) in which it owns 70 per cent of the issued capital. To prepare the
consolidated financial statements for the financial year ending 30 June 20X7, the following information
was available.

1. During the 20X4 financial year, Sub. Ltd sold an item of plant to Parent Ltd at a loss. Parent Ltd is still using
the plant.
2. Sub. Ltd paid an interim dividend in August 20X6.
3. During the 20X7 financial year, Parent Ltd sold inventory to Sub. Ltd. One third of this inventory is still on
hand at 30 June 20X7.
4. During March to June 20X7, Sub. Ltd rented plant to Parent Ltd for $5000.
5. In November 20X6, Parent Ltd borrowed $50 000 from Sub. Ltd at an interest rate of 10 per cent.
The interest on the loan is payable semi-annually.

Question 6.25
➤ Items 1 to 5 above each require an entry in the consolidation worksheet. Some of these consolidation
worksheet entries will affect items in the consolidated statement of profit or loss and other comprehensive
income. Which of the items above would result in a consolidation entry that increased or decreased the
consolidated profits for the year, as compared with the sum of the profits for the year of Parent Ltd and
Sub. Ltd?
a) 3
b) 2, 3
c) 1, 2, 3
d) 1, 3, 4, 5

Question 6.26
➤ Which items will require tax-effect entries in the consolidation worksheet?
a) 3
b) 1, 3
c) 1, 2, 3
d) 1, 3, 4, 5
FINANCIAL REPORTING SUGGESTED ANSWERS | 56

Question 6.27
➤ Which items will affect the calculation of the non-controlling interest in the consolidated profit?
a) 1
b) 1, 4
c) 1, 2, 4
d) 1, 3, 4, 5

Case note
The following case note relates to the next three (3) questions (questions 28 to 30)

• On 1 July 20X7, Investor Ltd acquired 40 000 shares in Investee Ltd at a cost of $75 000. At that date,
the equity section of the statement of financial position of Investee Ltd was as follows.

$
Issued capital (100 000 shares issued) 100 000
Retained earnings 80 000
180 000

• Investor Ltd used its significant influence to have the assets of Investee Ltd revalued to fair value, yielding
a revaluation increment of $20 000 (net of tax).

• For the year ending on 30 June 20X8, the following information was available for Investee Ltd.

$000 $000
Profit before tax 120
Less: Income tax expense (36)*
Profit for the year 84
Retained earnings 1 July 20X7 80
164
Dividend paid (20)
Dividend declared (30) (50)
Retained earnings 30 June 20X8 114

* Assume a tax rate of 30 per cent.

• Investor Ltd recognises dividends as revenue when they are declared.

• During the year ended 30 June 20X8, Investee Ltd sold $15 000 of inventory to Investor Ltd.
The inventory originally cost $5000. One half of the inventory is still on hand at 30 June 20X8.
• Investor Ltd prepares consolidated financial statements.
FINANCIAL REPORTING SUGGESTED ANSWERS | 57

Question 6.28
➤ The consolidated statement of profit or loss and other comprehensive income for the financial year ended
30 June 20X8 would reveal the item ‘Share of profit of associates’. What would be the amount of this item?
a) $17 200.
b) $32 200.
c) $37 200.
d) $38 600.

Question 6.29
➤ The consolidated statement of financial position would reveal the item ‘Investment in associates’. What would
be the amount of this item?
a) $87 200.
b) $92 200.
c) $93 600.
d) $112 200.

Question 6.30
➤ If the inventory had been sold from Investor Ltd to Investee Ltd, this would have affected the consolidated
financial statements via:
a) an increase in ‘Share of profit of associates’.
b) an increase in ‘Investment in associates’.
c) a reduction in ‘Inventory on hand’.
d) a reduction in ‘Investment in associates’.

Question 7.1
➤ In accordance with IAS 36 Impairment of Assets, which one of the following statements is correct?
a) Inventory must be tested for impairment only when there is an indication that it is impaired.
b) Investment properties carried at fair value must be tested annually for impairment.
c) Goodwill must be tested for impairment only when there is an indication that it is impaired.
d) Intangible assets with indefinite useful lives must be tested at least annually for impairment.
FINANCIAL REPORTING SUGGESTED ANSWERS | 58

Question 7.2
➤ In accordance with IAS 36 Impairment of Assets, which one of the following statements could be an indicator
that an asset may be impaired?
a) A fall in interest rates which materially affects the asset’s value in use.
b) Evidence that the asset is physically damaged.
c) A decline in the asset’s market value, as would be expected from normal use.
d) The market capitalisation of the entity is greater than the carrying amount of its net assets.

Question 7.3
➤ In accordance with IAS 36 Impairment of Assets, which one of the following situations is most likely to be an
impairment indicator?
a) Short-term interest rates relating to long-lived assets have increased.
b) The budgeted cash outflows and cash inflows associated with an asset have both increased.
c) The assets of the business are due for a major overhaul in the next reporting period.
d) An entity has discontinued an activity, which means that the assets involved will be idle until a different
use can be found.

Question 7.4
➤ The IAS 36 Impairment of Assets impairment test for an individual asset requires that the carrying amount
of the asset be compared with its recoverable amount. According to IAS 36, ‘recoverable amount’ is
described as the higher of two items. Which of the following two items are included in the definition of
recoverable amount?
a) Present value of future cash flows from the asset and fair value of asset less costs of disposal.
b) Future cash flows from the asset and fair value of asset less costs of disposal.
c) Present value of future cash flows from the asset and fair value of the asset.
d) Future cash flows from the asset and fair value of asset.
FINANCIAL REPORTING SUGGESTED ANSWERS | 59

Question 7.5
➤ Roller Ltd is testing an asset for impairment. The carrying amount of the asset is $85 000. The following data
has been obtained by Roller Ltd in relation to the asset.

• Future cash flows expected to be derived from the asset, $100 000.

• Estimated fair value of the asset, $80 000.

• Present value of future cash flows expected to be derived from the asset, $60 000.

• Costs of disposal for the asset, $2000.

In accordance with IAS 36 Impairment of Assets, what is the recoverable amount of the asset?
a) $60 000.
b) $78 000.
c) $80 000.
d) $100 000.

Question 7.6
➤ The accountant for a manufacturing company is determining the value in use of an item of equipment.
In addition to estimating the cash inflows from continued use, the accountant is considering estimating the
following future cash flows in relation to the equipment.
I. Interest payments to finance the asset.
II. Cash inflow from the disposal of the asset at the end of its useful life.
III. Cash inflows from planned improvements to the asset to which the company has not yet committed.
IV. Income tax payments.
V. Cash outflows necessary to generate the cash inflows from use.

In accordance with IAS 36 Impairment of Assets, which of the above items should be included in the
determination of the equipment’s value in use?
a) II and V only.
b) I, III and IV only.
c) I, II, IV and V only.
d) II, III, IV and V only.
FINANCIAL REPORTING SUGGESTED ANSWERS | 60

Question 7.7
➤ Diva Ltd has an item of equipment with a carrying amount of $110 000 (cost $150 000 less accumulated
depreciation $40 000). The following data has been obtained by Diva Ltd in relation to the asset.

• Estimated fair value of the asset less costs of disposal, $90 000.
• Present value of future cash flows expected to be derived from the asset, $70 000.

To account for the impairment loss, the accountant for Diva Ltd is considering a number of accounting entries.
In accordance with IAS 16 Property, Plant and Equipment and IAS 36 Impairment of Assets, which of the
following entries would be appropriate to recognise the impairment loss?

Debit Credit
$ $
a) Impairment loss 40 000
Accumulated depreciation and accumulated impairment losses 40 000

b) Accumulated depreciation 40 000

Impairment loss 20 000
Equipment 60 000

c) Impairment loss 20 000

Accumulated depreciation and accumulated impairment losses 20 000

d) Accumulated depreciation 40 000

Impairment loss 40 000
Equipment 80 000
FINANCIAL REPORTING SUGGESTED ANSWERS | 61

Question 7.8
➤ At 30 June 20X5, Dome Ltd had an item of machinery with a carrying amount of $140 000 (cost $200 000 less
accumulated depreciation $60 000). The machinery was purchased on 3 July 20X2 and was depreciated at
$20 000 per year based on a useful life of 10 years. On 30 June 20X5, it was determined that the recoverable
amount of the machinery was $105 000. Therefore, an impairment loss of $35 000 was recognised.
After the depreciation entry for 30 June 20X6 had been processed, the recoverable amount of the machinery
was reassessed. It was determined that the recoverable amount of the asset at 30 June 20X6 was $128 000.
To account for the reversal of the impairment loss, the accountant for Dome Ltd is considering a number of
accounting entries.
In accordance with IAS 16 Property, Plant and Equipment and IAS 36 Impairment of Assets, which of the
following entries would be appropriate to recognise the reversal of the impairment loss?

Debit Credit
$ $
a) Accumulated depreciation and accumulated impairment losses 30 000
Income—reversal of impairment loss 30 000

b) Accumulated depreciation and accumulated impairment losses 35 000

Income—reversal of impairment loss 35 000

c) Accumulated depreciation and accumulated impairment losses 38 000

Income—reversal of impairment loss 38 000

d) Accumulated depreciation and accumulated impairment losses 43 000

Income—reversal of impairment loss 43 000
FINANCIAL REPORTING SUGGESTED ANSWERS | 62

Question 7.9
➤ Hope Ltd has determined that one of its cash-generating units (CGUs) has sustained an impairment loss of
$50 000. The carrying amounts of the assets within the CGU are as follows.

$
Asset A 150 000
Asset B 200 000
Asset C 50 000
Total 400 000

The estimated fair value less costs of disposal of asset B is $190 000, which is greater than its value in use.
A number of options are being considered as the amounts of impairment loss to be allocated to the three
assets within the CGU.
In accordance with IAS 16 Property, Plant and Equipment and IAS 36 Impairment of Assets, which of the
following options would be the amount of impairment loss allocated to the three assets?

Asset A Asset B Asset C Total

$ $ $ $
a) 18 750 25 000 6 250 50 000
b) 30 000 10 000 10 000 50 000
c) 16 667 16 667 16 666 50 000
d) 20 000 10 000 20 000 50 000

Question 7.10
➤ The following information relates to three cash generating units.

CGU A CGU B CGU C Total

$000 $000 $000 $000
Carrying amount prior to allocation of corporate asset 1 000 2 000 4 000 7 000
Allocation of corporate asset (building) 150 200 350 700
Carrying amount after corporate asset allocation 1 150 2 200 4 350 7 700
Recoverable amount 1 500 1 800 3 850

In accordance with IAS 36 Impairment of Assets, what is the amount (to the nearest thousand) of the
impairment loss that would be allocated to the corporate asset (building)?
a) $0.
b) $76 000.
c) $82 000.
d) $84 000.
FINANCIAL REPORTING SUGGESTED ANSWERS | 63

Question 7.11
➤ In accordance with IAS 36 Impairment of Assets, how should an impairment loss for a cash generating unit
(CGU) which includes goodwill be allocated?
a) Evenly over both the identifiable assets and goodwill of the CGU.
b) To each of the identifiable assets in the CGU on a pro-rata basis of the carrying amount of each identifiable
asset.
c) To both the identifiable assets and goodwill on a pro-rata basis of the carrying amount of each asset.
d) First to reduce goodwill and then to the other identifiable assets on a pro-rata basis of the carrying amount
of each identifiable asset.

Question 7.12
➤ The carrying amount of a cash generating unit (CGU) is comprised of the following.

$
Machinery 400 000
Other plant 600 000
Land 1 000 000
Goodwill 400 000
2 400 000

It has been determined that the recoverable amount of the CGU is $1 800 000. It is not possible to estimate
the recoverable amounts of the individual assets within the CGU.
A number of options are being considered as the carrying amounts of the assets in the cash generating unit
after allocation of the impairment loss.
In accordance with IAS 16 Property, Plant and Equipment and IAS 36 Impairment of Assets, which of the
following options would be the carrying amounts of the assets after accounting for the impairment loss?

Machinery Other plant Land Goodwill Total

$ $ $ $ $
a) 333 333 533 333 933 334 — 1 800 000
b) 250 000 450 000 850 000 250 000 1 800 000
c) 360 000 540 000 900 000 — 1 800 000
d) 300 000 450 000 750 000 300 000 1 800 000
FINANCIAL REPORTING SUGGESTED ANSWERS | 64

ANSWERS
Question 1.1
Correct Answer: b

IAS 19 requires short-term employee benefits obligations to be measured at the undiscounted future sacrifice
based on settlement amount. This would take account of salary rates at the date of payment for the benefits.

A is incorrect. Discounting of future payments to present value is not required for short-term employee
obligations and the risk-free rate is not used for discounting of employee benefits.

C is incorrect. This is the discount rate specified by IAS 19, but discounting is not required for short-term
employee benefits.

D is incorrect. The salary rate at the date of payment, not the reporting date, must be used to determine the
amount of the liability.

Source: Topic heading—‘Application of measurement principles in IFRS’—‘Employee benefits’.

Question 1.2
Correct Answer: b

As discussed in paragraphs 72 of IAS 19, the obligation (e.g. long service leave) reflects both vested and
non-vested benefits measured at future salaries. That is, each period of service gives rise to additional units of
benefits regardless of whether they are vested or non-vested.

A is incorrect. It should include non-vested benefits.

C is incorrect. It should include non-vested benefits and should be based on future salaries. D is incorrect.
It should be based on future salary rates.

Source: Topic heading—‘Application of measurement principles in IFRS’—‘Employee benefits’.

FINANCIAL REPORTING SUGGESTED ANSWERS | 65

Question 1.3
Correct Answer: d

As discussed in the module notes under the heading ‘Long service leave’, factors such as future promotions
of current employees are taken into account to determine the projected salaries which in turn, affect the
estimate of future payments that will result from services provided up to the reporting date. Also, refer to
IAS 19, paragraph 90.

A is incorrect. We need to determine future wage rates.

B is incorrect. The calculation should be based on services provided up to reporting date, not future services.

C is incorrect. We have to determine the probability of employees who are not legally entitled to long service
leave receiving payments. Not all employees in this category will receive long service leave.

Source: Topic heading—‘Application of measurement principles in IFRS’—‘Employee benefits’.

Question 1.4
Correct Answer: a

Option I—Financial statements are normally prepared under the assumption that the entity is a going concern
(Conceptual Framework, paragraph 4.1).

Alternative B is incorrect because it includes option II—relevance, which is a qualitative characteristic and not
an assumption on which general purpose financial statements are based. Hence, it is incorrect.

Alternative C is incorrect because it excludes the going concern assumption and includes option III, the cash
basis. General purpose financial statements are prepared on an accrual basis, and not on a cash basis,
except for the statement of cash flows (para. OB17).

Alternative D is incorrect. It includes options II and III which are incorrect for reasons stated in regard to
alternatives B and C.

Source: Topic heading— ‘Assumptions of general purpose financial statements’

FINANCIAL REPORTING SUGGESTED ANSWERS | 66

Question 1.5
Correct Answer: a

The price of Blue Chip Ltd shares on the stock market is a level 1 input because the share price is an
observable quoted price and the shares traded on the market are identical to Sandy Ltd’s parcel of
Blue Chip Ltd shares.

There are no unobservable inputs because the only input, the price on the stock market, is observable.
B is incorrect because the average share price for the month is not the fair value at 30 June 20X3.

C is incorrect because it is based on level 2 inputs and should not be used if a quoted price for an identical
asset is available.

D is incorrect because it is based on level 3 inputs and should not be used if a measurement based on level 1
inputs or level 2 inputs is available.

Source: Topic heading—‘Measurement of elements of financial statements’—‘Fair value’.

Question 1.6
Correct Answer: b

The distinction between operating leases and finance leases is used to determine whether a lease should be
recognised on the statement of financial position. The resulting accounting treatment is not consistent with
the recognition criteria for a liability because the obligations of the lessee are not recognised unless the lease
transfers substantially all of the risks and rewards of ownership.

Statement A is incorrect because finance leases, but not operating leases, are recognised in the statement of
financial position.

While statement C is a requirement of IAS 17, it is not a criticism.

Statement D is incorrect because the rules-based approach (bright line definition) provides greater
opportunity to structure leases so as to avoid the recognition of lease assets and liabilities.

Source: Topic heading—‘Definition and recognition criteria of elements of financial statements: Applying the
definitions and recognition criteria’—‘Accounting for leases’.
FINANCIAL REPORTING SUGGESTED ANSWERS | 67

Question 1.7
Correct Answer: d

A criticism of the ‘risks and rewards approach’ is that leases with similar economic characteristics can be
treated differently. For example, a lease that marginally satisfies the criteria for a finance lease would be
recorded on the statement of financial position of a lessee whereas a lease that marginally fails to meet the
criteria would not.

A is incorrect. The risks and rewards approach results in an ‘all or nothing’ approach to accounting for
leases despite the diversity of lease arrangements.

B is incorrect because a lease liability is only recognised if the lease is classified as a finance lease.
C is incorrect. The approach can be applied using qualitative and/or quantitative criteria.

Source: Topic heading—‘Definition and recognition criteria of elements of financial statements: Applying the
definitions and recognition criteria’—‘Accounting for leases’.

Question 1.8
Correct Answer: c

Leases involving specialised assets that can only be used by the lessee indicate the risks and rewards
incidental to ownership have passed from the lessor to the lessee (IAS 17 Leases, para. 10). Accordingly,
factor II would contribute to a finance lease classification. The transfer of legal ownership from the lessor to
the lessee at the end of the lease term also contributes to a finance lease classification (para. 10). Therefore,
Alternative C, which includes factors II and III, is correct.

Under an operating lease the lessor will normally seek to obtain reimbursement from the party using the
equipment (lessee) for insurance, maintenance and operating expenses incurred by the lessor (factor I).

Hence A, B and D are incorrect.

Source: Topic heading—‘Definition and recognition criteria of elements of financial statements: Applying the
definitions and recognition criteria’—‘Accounting for leases’.
FINANCIAL REPORTING SUGGESTED ANSWERS | 68

Question 1.9
Correct Answer: b

The internally generated software should be recognised in accordance with IAS 38 Intangible Assets but the
recognition of the internally generated masthead is prohibited by paragraph 63 of the standard.

A is incorrect. The software, but not the masthead, should be recognised as an asset. C is incorrect.
The masthead should not be recognised.

D is incorrect. The software should be recognised as an asset.

Source: Topic heading—‘Underlying assumptions and fundamental qualitative characteristics of financial

reporting: Application of fundamental qualitative characteristics’ ‘Qualitative characteristics of useful financial
information’—‘Application of qualitative characteristics in IFRSs’.

Question 1.10
Correct Answer: b

In an equity-settled share-based payment transaction, the goods or services, in this instance, the plant,
are recognised when received and measured at the fair value of the goods or services acquired unless their
fair value cannot be estimated reliably. In the present case, a reliable measurement of fair value of the goods
received is available and should be used.

A is incorrect. For equity-settled share-based payment transactions, the fair value of the recognised goods or
services drives the measurement of the equity component of the transaction, subject to reliable estimation
of fair value.

C is incorrect. Liabilities for cash-settled share-based payments are remeasured but this does not apply to
equity-settled share-based payments. Refer to IFRS 2, paragraphs 7–10.

D is incorrect. Goods or services acquired in a share-based payment transaction are recognised when the
goods or services are received (IFRS 2, para. 7).

Source: Topic heading—‘Application of measurement principles in IFRS’—‘Accounting for share-based

payments’.
FINANCIAL REPORTING SUGGESTED ANSWERS | 69

Question 1.11
Correct Answer: c

As outlined in the module, IAS 19 Employee Benefits requires the discount rate to be based on high-quality
corporate bonds. This would reflect a market-determined, risk adjusted rate.

A is incorrect because the discount rate should be that applicable to high-quality corporate assets not equity
securities.

B and D are incorrect. The return on government bonds (i.e. the risk free rate) is only used where there is no
deep market for high-quality corporate bonds.

Source: Topic heading—‘Application of measurement principles in IFRS’—‘Employee benefits’.

Question 1.12
Correct Answer: a

The deferred revenue is measured at the fair value of the points granted, being 4000 x $10, with the residual
of the proceeds of cruise ticket sales being recognised as revenue.

B is incorrect because the deferred revenue is based on the number of points expected to be redeemed.

C is incorrect because the deferred revenue is based on the number of points redeemed in the following year.
D is incorrect because it ignores the deferred revenue component of the transaction.

Source: Topic heading—‘Application of measurement principles in IFRS’—‘Customer loyalty programs’.

Question 1.13
Correct Answer: a

The deferred revenue at 30 June 20X4 is $20 000, being 20 000 × $1. During the year ended 30 June 20X5
customers redeem 2000 points, which is 40 per cent of the points that are expected to be redeemed. Hence
the journal entry releases 40 per cent (i.e. $8000) of the deferred revenue to profit or loss.

B is incorrect because the entry decreases revenue and increases deferred revenue.

C is incorrect because the amount of deferred revenue released to profit or loss is based on the fair value of
the points, rather than the proportion of the total expected to be redeemed. This would result in all of the
‘gain’ from expired unused points being deferred until a later period.

D is incorrect because it ignores the deferred revenue element of the redemption of loyalty rewards.

Source: Topic heading— ‘Application of measurement principles in IFRS’—‘Customer loyalty programs’.

FINANCIAL REPORTING SUGGESTED ANSWERS | 70

Question 1.14
Correct Answer: c

The stage of completion is 20 per cent. Accordingly, the amount of revenue recognised is calculated as the
total contract price × 20 per cent and the amount of expenses recognised is calculated as 20 per cent of total
estimated contract costs. There are no amounts previously recognised because this is the first reporting
period since commencement of the construction contract.

A is incorrect because amounts have been based on costs incurred.

B is incorrect because the expenses have been calculated using the original estimate of total costs instead of
the amount estimated at the end of the reporting period.

D is incorrect because the amount of revenue has been based on billings and expenses have been based on
costs incurred.

Source: Topic heading—‘Definition and recognition criteria of elements of financial statements: Applying the
definitions and recognition criteria’—‘Accounting for revenue—The case of construction contracts’.

Question 1.15
Correct Answer: b

Since entities have a free choice between cost and fair value, the choices made reduce the comparability of
the performance and value of investment properties in the financial statements of different entities.

Investment properties are not unique and therefore the fair value can be obtained relatively easily, therefore A
is incorrect.

Entities hold investment properties and property, plant and equipment for different purposes. Investment
properties are held for the purpose of earning of rentals/capital growth, whereas property, plant and
equipment are held long term for the purpose of generating income. Therefore, classifying these assets
separately on the statement of financial position faithfully represents the operations of the business—
therefore C is incorrect.

The fair value movements recognised in profit and loss do not affect the reliability of the information.
However, some critics of IAS 40 are of the view that recognising fair value movements in profit and loss affects
the relevance of the information provided to users—therefore D is incorrect.

Source: Topic heading—‘Application of measurement principles in IFRSs’’—‘Investment Property’.

FINANCIAL REPORTING SUGGESTED ANSWERS | 71

Question 1.16
Correct Answer: d

Since all biological assets are required to be carried at fair value, D is correct.

Once grapes have been harvested from the vine, they are no longer within the scope of IAS 41—therefore A
is incorrect.

IAS 41 does not provide any guidance as how to account for the cost of harvesting—therefore B is incorrect.

The land on which grapevines are planted is within the scope of IAS 16. IAS 16 permits land to be measured at
cost or fair value—therefore C is incorrect.

Source: Topic heading—‘Application of measurement principles in IFRSs’—‘Agriculture’.

Question 1.17
Correct Answer: b

Beta Ltd should recognise an asset and liability in accordance with the Conceptual Framework because it
has a right to use the property and an obligation for lease rentals arising from entering into the lease with
Capital Finance Group. Thus option I is correct.

The lease is not a finance lease under IAS 17 because it does not transfer substantially all of the risks and
rewards of ownership to Beta Ltd. The lease is for only five years while the economic life of the equipment is
eight years. Further, the present value of the lease rentals represents only half (rather than substantially all) of
the fair value of the equipment at commencement of the lease, and Capital Finance Group retains the risk
of loss of value of the equipment because the residual is not guaranteed. Beta Ltd would not recognise an
asset and liability at inception of the lease under IAS 17 because the lease would not be classified as a
finance lease.

Thus option II is incorrect.

Source: Topic heading—‘Definition and recognition criteria of elements of financial statements: Applying the
definitions and recognition criteria’—‘Accounting for leases’.
FINANCIAL REPORTING SUGGESTED ANSWERS | 72

Question 1.18
Correct Answer: c

Beta Ltd would recognise an asset, being its right to use the asset for five years, and a liability for the
obligation to pay lease rentals in accordance with ED: Leases (option II).

Option I is incorrect. Beta Ltd would not recognise an asset and liability at inception of the lease under IAS 17
because the lease would not be classified as a finance lease, The lease does not transfer substantially all of
the risks and rewards of ownership because the residual is not guaranteed, the lease is for only five years of an
eight-year useful life and the minimum lease payments represent only 50 per cent of the fair value of the
equipment at the inception of the lease.

Source: Topic heading—‘Definition and recognition criteria of elements of financial statements: Applying the
definitions and recognition criteria’—‘Accounting for leases’.

Question 2.1
Correct Answer: c

In accordance with paragraph 29 of IAS 8 Accounting Policies, Changes in Accounting Estimates and Errors,
the financial effects of an accounting policy change on subsequent reporting periods do not have to be
disclosed. IAS 1 Presentation of Financial Statements requires the financial statements to be prepared on a
going concern basis (para. 25). However, the fact that the financial statements have been prepared on a going
concern basis does not have to be disclosed, except where this is not the case (para. 25). Paragraph 16 of
IAS 1 requires a statement that the financial report has been prepared in accordance with IFRSs. Paragraph 29
of IAS 8 requires identification of the nature and reason for the accounting policy change if it might have an
effect on the financial statements in future reporting periods.

A is incorrect. The financial effects of the accounting policy change on subsequent reporting periods do not
have to be disclosed.

B is incorrect. A statement concerning the going concern basis is required only where this basis has not
been applied.

D is incorrect. The financial effects of the accounting policy change on subsequent reporting periods do not
have to be disclosed, and a statement concerning the going concern basis is required only where this basis
has not been applied.

Source: Topic heading—‘Accounting policies’.

FINANCIAL REPORTING SUGGESTED ANSWERS | 73

Question 2.2
Correct Answer: c

Refer to paragraph 29 of IAS 8 Accounting Policies, Changes in Accounting Estimates and Errors.

A is incorrect. Paragraph 29 of IAS 8 does not require an estimate of the financial effect in subsequent
reporting periods to be disclosed.

B is incorrect. It does not indicate the nature of, or reason for, the change in accounting policy.

D is incorrect. There is a need to disclose the information required by paragraph 29 of IAS 8 where the
accounting policy change might have an effect in subsequent reporting periods.

Source: Topic heading—‘Accounting policies’.

Question 2.3
Correct Answer: c

Even though the change in accounting estimate relates to the 20X6 bad debt write-off, the change must be
recognised in the reporting period in which the change in estimate is made (IAS 8, para. 36). Hence, the item
will affect the profit after tax.

Even though the major fire is outside the ordinary operations of the entity, it will still impact on the profit
after tax.

The major currency realignment affects conditions after the end of the reporting period. Hence, in accordance
with IAS 10 Events after the Reporting Period, it is a non-adjusting event and will not affect the profit.
However, as the event is material, the nature of the event and an estimate of its financial effect should be
included in the notes to the financial statements (IAS 10, para. 21).

Reassessment of the useful life of the entity’s plant and equipment should be recognised prospectively (IAS 8,
para. 36). This would affect the depreciation charges for the 20X7 financial year, which in turn would affect the
profit after tax.

A is incorrect. It excludes the loss from the fire.

B is incorrect. It does not include two items that affect the profit after tax, but includes the items that would
not be included in the determination of profit after tax (the event after the end of the reporting period is a
non-adjustable event).

D is incorrect. It does not include the prior period estimate adjustment and includes information that
should be disclosed by note (an event after the reporting date that does not relate to conditions at the
reporting date).

Source: Topic heading—‘Events after the reporting period’.

FINANCIAL REPORTING SUGGESTED ANSWERS | 74

Question 2.4
Correct Answer: b

Refer to paragraph 54(c) of IAS 1 Presentation of Financial Statements.

A is incorrect. Assets and liabilities cannot be offset, except if this is required or permitted by an International
Financial Reporting Standard (IAS 1, para. 32).

C is incorrect. Refer to paragraph 60 of IAS 1. Assets and liabilities can only be presented in order of liquidity
if it is more relevant than the current/non-current presentation.

D is incorrect. IAS 1 does not require the length of the operating cycle to be disclosed.

Source: Topic heading—‘Presentation of assets and liabilities’ and ‘IAS 1—disclosures in the statement of
financial position or in the notes’.

Question 2.5
Correct Answer: d

Refer to paragraph 91 of IAS 1 Presentation of Financial Statements. This issue is discussed under
‘Other comprehensive income’ presentation and disclosures.

A is incorrect. Other comprehensive income includes items of income and expense that are not recognised
in profit or loss as required or permitted by other IFRSs. Refer to paragraph 7 of IAS 1. The definition of
other comprehensive income does not refer to items of income and expense which are outside the ordinary
operations.

B is incorrect. Refer to paragraphs 82(c) and 82A of IAS 1. The entity must disclose two items in the statement
of profit or loss and other comprehensive income, share of profit of associates and share of other
comprehensive income of associates. In addition, the investor’s share of the other comprehensive income
of associates cannot form part of the investor’s profit for the reporting period.

C is incorrect. Refer to paragraph 96 of IAS 1. Reclassification adjustments do not arise from the application
of IAS 16 Property, Plant and Equipment.

Source: Topic heading—‘Presentation of comprehensive income’.

FINANCIAL REPORTING SUGGESTED ANSWERS | 75

Question 2.6
Correct Answer: c

Refer to paragraph 90 to 96 of IAS 1 Presentation of Financial Statements and Question 2.7 of the module.
As the foreign operation was sold during the 20X4 reporting period, the total exchange difference gain net of
tax over the life of the foreign operation would be included in the consolidated profit or loss of Sandal Ltd for
that financial year. The total exchange difference gain net of tax is $17 500. That is, the prior period after-tax
exchange difference gain of $14 000 plus the current period after-tax exchange difference gain of $3500.

A is incorrect. The profit or loss would include a total exchange difference gain after tax of $17 500, which
includes the after-tax exchange difference gain for prior reporting periods of $14 000.

B is incorrect. The reclassification adjustment included in other comprehensive income would be the total
after-tax exchange difference gain over the life of the foreign operation ($17 500). The $14 000 after-tax
exchange difference gain only relates to the prior period gains included in other comprehensive income.

D is incorrect. Other comprehensive income after tax would be an exchange difference loss of $14 000.
That is, the after-tax exchange difference gain for the current period of $3500 less a reclassification
adjustment of $17 500.

Source: Topic heading—‘Determination of comprehensive income’.

Question 2.7
Correct Answer: c

Refer to paragraphs 81B, 82 and 83 of IAS 1 Presentation of Financial Statements.

A is incorrect. Refer to paragraph 81B(a)(i) of IAS 1.

B is incorrect. Refer to paragraph 82(c) of IAS 1.

D is incorrect. Refer to paragraph 82(b) of IAS 1.

Source: Topic heading—‘IAS 1—Disclosures and classification: Information to be presented in the statement
of profit or loss and other comprehensive income’.
FINANCIAL REPORTING SUGGESTED ANSWERS | 76

Question 2.8
Correct Answer: a

Refer to paragraphs 106 and 107 of IAS 1 Presentation of Financial Statements and Question 2.9 of the
module. The closing retained earnings is equal to: opening retained earnings, $220 000, + profit for the year,
$110 000, – dividends paid, $35 000 = $295 000.

B is incorrect. Other comprehensive income of $20 000 has not been included in the asset revaluation surplus
account (total closing equity = share capital, $300 000 + retained earnings, $295 000 + asset revaluation
surplus, $80 000 = $675 000).

C is incorrect. Have included total comprehensive income in the determination of closing retained earnings
and not profit.

D is incorrect. Other comprehensive income of $20 000 has been included in the determination of the asset
revaluation surplus but total comprehensive income (which includes the $20 000 other comprehensive income)
has also been used to calculate the closing retained earnings.

Source: Topic heading—‘IAS 1—Disclosures of changes in equity’.

Question 2.9
Correct Answer: d

Paragraph 92 of IAS 1 requires an entity to disclosure reclassification adjustments relating to components of

other comprehensive income.

A is incorrect. Paragraph 96 of IAS 1 outlines that reclassification adjustments do not arise from revaluation
surpluses made in accordance with IAS 16 Property, Plant and Equipment. Even though included in other
comprehensive income there is no reclassification to the profit or loss in subsequent reporting periods when
the property, plant and equipment is sold.

B is incorrect. The share of profit or loss of associates using the equity method is included in the determination
of the profit or loss for the period (IAS 28 Investments in Associates), not other comprehensive income.

C is incorrect. Paragraph 106(b) of IAS 1 requires retrospective adjustments in accordance with IAS 8 to be
included in the statement of changes in equity.

Source: Topic heading—‘Presentation of comprehensive income’ and ‘IAS1—disclosures and classification’.

FINANCIAL REPORTING SUGGESTED ANSWERS | 77

Question 2.10
Correct Answer: a

Other comprehensive income would include the following items:

$
Share of other comprehensive income of associates* 5 000
Exchange difference gain on foreign operation up to date of sale 7 000
Reclassification adjustment for translation of foreign operation** (21 000)
Increase in asset revaluation surplus 45 000
Total other comprehensive income 36 000

* Share of total comprehensive income of associates less share of profit of associates ($20 000 – $15 000).

** This is the net of tax gain recognised in the profit or loss and represents the total gain over the life of the foreign
operation (refer to Question 2.7 for example).

B is incorrect. The share of total comprehensive income of associate ($20 000) has been included and not the
share of other comprehensive income of associate ($5000).

C is incorrect. The reclassification adjustment (–$21 000) has not been included in other comprehensive
income.

D is incorrect. The share of total comprehensive income of associate ($20 000) has been included and not
the share of other comprehensive income of associate ($5000). In addition, the reclassification adjustment
(–$21 000) has not been included in other comprehensive income.

Source: Topic heading—‘Determination of comprehensive income’.

Question 2.11
Correct Answer: b

Refer to paragraph 54(r) of IAS 1 Presentation of Financial Statements.

A is incorrect. Refer to paragraph 54 of IAS 1—not a required disclosure.

C is incorrect. Refer to paragraph 54 of IAS 1—not a required disclosure.

D is incorrect. Refer to paragraph 54 of IAS 1—only have to disclose reserves in aggregate on the face of the
statement of financial position.

Source: Topic heading—‘Disclosures in the statement of financial position’.

FINANCIAL REPORTING SUGGESTED ANSWERS | 78

Question 2.12
Correct Answer: d

The amount may be obtained from reconstructing trade receivables and allowance for doubtful debts as
shown below. Alternatively, the formula provided at the end of the accounts may be used. The formula can be
derived from first principles or by examining the structure of the two ledger accounts.

Trade receivables

Date Particulars $000 Date Particulars $000

20X2 20X2
30 June Opening balance 150 (3) Allowance for doubt.
Various sales revenue 500 Debts (bad debts)* 11
(4) Cash 519
20X3
30 June Closing balance 120
650 650
20X3
30 June Balance c/d. 120

* This figure is derived from reconstructing the ‘Allowance for doubtful debts’ account below. Note: The ‘Allowance for
doubtful debts’ increases for doubtful debts expense and decreases as bad debts are written off. If you unsure how to
account for bad and doubtful debts you should review a financial accounting text. In relation to the ‘Allowance for
doubtful debts’ account, the question data provides the opening and closing balances plus the doubtful debts expense.
Hence the missing variable ‘bad debt write-off’ can be determined from this data.

Allowance for doubtful debts

Date Particulars $000 Date Particulars $000

20X2 20X2
30 June Opening balance 8
(3) Trade (2) Profit & loss
receivables 11 (Doubtful debts exp). 15
20X3
30 June Closing balance 12
23 23
20X3
30 June Balance c/d. 12

Cash collected is:

+ Decrease in gross receivables

Bad
Sales revenue or –
debts
– Increase in gross receivables
FINANCIAL REPORTING SUGGESTED ANSWERS | 79

Note: The bad debt write-off must be determined from either reconstructing the ‘Allowance for doubtful
debts’ account or by using the movement in the ‘Allowance for doubtful debts’ account and doubtful debts
expense information.

$500 000 + $30 000 – $11 000 = $519 000

A is incorrect as it uses:

$500 000 – $30 000 + $11 000 = $481 000

B is incorrect as it uses:

$500 000 – $30 000 + $15 000 = $485 000

C is incorrect as it uses:

$500 000 + $30 000 – $15 000 = $515 000

Source: Topic heading—‘Statement of cash flows’.

FINANCIAL REPORTING SUGGESTED ANSWERS | 80

Question 2.13
Correct Answer: a

The following formula may then be used:

+ Decrease in gross receivables

Sales revenue or – Bad debts
– Increase in gross receivables

Bad debts written off are determined as follows:

Doubtful debts expense + (–) Decrease (increase) in allowance for doubtful debts

= $5000 – $2000

= $3000

Another way of viewing the above calculation is to consider what an increase in ‘Allowance for doubtful debt’
implies. That is, an allowance for doubtful debts is increased by doubtful debts expense and decreased as
bad debts are written off. As the allowance increased by $2000, the doubtful debts expense must be $2000
greater than the bad debt write-off. The question data reveals a doubtful debts expense of $5000. Hence,
the bad debt write-off must be $3000.

The change in gross receivables can be determined using the change in net receivables adjusted for the
change in the allowance for doubtful debts. The net receivables increased by $32 500 while the allowance for
doubtful debts increased by $2000. The increase in allowance for doubtful debts would have reduced the
change in net receivables by $2000 as it is deducted from gross receivables. Hence the change in gross
receivables is $34 500

A is correct as it uses:

$450 000 – $34 500 – $3000 = $412 500

B is incorrect as it uses:

$450 000 – $34 500 + $3000 = $418 500

C is incorrect as it uses:

$450 000 + $34 500 – $3000 = $481 500

D is incorrect as it uses:

$450 000 + $34 500 + $3000 = $487 500

Source: Topic heading—‘Statement of cash flows’.

FINANCIAL REPORTING SUGGESTED ANSWERS | 81

Question 2.14
Correct Answer: c

This is found by reconstructing the tax payable account. To do this, first the credit (or debit) to tax payable
resulting from the current year tax calculations is found. This amount, together with the change in the balance
of tax payable, is the tax cash flow.

Any changes in the balances of the deferred tax accounts are the result of debits or credits to those accounts.
Therefore, given that the tax expense is known, the debit or credit to tax payable can be found by
reconstructing the current year tax journal entry as follows:

$ $
Tax expense 1 750
Deferred tax liability 1 200
Deferred tax asset 750
Tax payable 2 200

The cash outflow is then simply the credit to tax payable plus the decrease in tax payable as follows:

$
Credit to tax payable 2 200
Plus: Decrease in tax payable 200

2 400

A is incorrect as it is based on:

$ $
Tax expense 1 750
Tax payable 200
Deferred tax liability 1 200
Deferred tax asset 750

Debit to tax payable (200)

Plus: Decrease in tax payable 200

—
B is incorrect as it is based on:
$ $
Tax expense 1 750
Deferred tax asset 750
Deferred tax liability 1 200
Tax payable 1 300

$
Credit to tax payable 1 300
Plus: Decrease in tax payable 200

1 500
FINANCIAL REPORTING SUGGESTED ANSWERS | 82

D is incorrect as it is based on:

$ $
Tax expense 1 750
Deferred tax liability 1 200
Deferred tax asset 750
Tax payable 3 700
$
Credit to tax payable 3 700
Plus: Decrease in tax payable 200

3 900

Source: Topic heading—‘Statement of cash flows’.

FINANCIAL REPORTING SUGGESTED ANSWERS | 83

Question 2.15
Correct Answer: b

In this case, a reconciliation from operating cash flows to profit for the period is required. The reconciliation is
as follows.

$
Cash flows from operating activities 720 000
Plus: Decrease in trade payables 23 000
Less: Decrease in inventory (11 500)
Plus: Increase in trade receivables 24 600
Less: Increase in allowance for doubtful debts (1 000)
Less: Book loss on sale of plant (11 000)
Profit for the period 744 100

Comments on individual adjustments are as follows.

• Decrease in trade payables: A decrease in trade payables occurs when cash paid to suppliers is
greater than cash and credit purchases. The larger cash payments have been deducted in arriving at
cash operating flows. Therefore, the decrease in trade payables should be added to cash operating
flows in order to arrive at the lesser expense figure.
• Decrease in inventory: When inventory decreases, purchases of inventory are less than the cost of
sales. For a given change in the balance of trade payables, the cash outlay for purchases is less than
the cost of sales by the amount of the inventory run down. The inventory run down should be
deducted from operating cash flows to arrive at the larger cost of sales.
• Increase in trade receivables: An increase in trade receivables occurs when cash collected from
customers is less than sales revenue. The smaller cash collections have been included in the
measurement of operating cash flows. Therefore, ignoring any bad debt write-off, the increase in
trade receivables must be added to operating cash flows to allow for the larger sales revenue
• Increase in allowance for doubtful debts. Deducting the net increase captures:

− Doubtful debts expense which has not been deducted in arriving at operating cash flows.
This amount should be deducted from the cash flow figure to allow for the expense.
− Any bad debt write-off which is included in the change in trade receivables. This causes an
understatement of sales revenue when the change in the receivables is added back to operating
cash flows. Therefore, any bad debt write-off should be added back to operating cash flows
when arriving at sales revenue.

• Book loss of plant sold: Sale proceeds of $14 000 have been included in the measurement of
investing cash flows and are not included in operating cash flows. The loss on the sale of plant should
be deducted from operating cash flows so as to include this expense item in the measurement of
operating result.
FINANCIAL REPORTING SUGGESTED ANSWERS | 84

The other alternatives contain the following errors:

A: The decrease in trade receivables has been deducted.

C: The decrease in inventory has been added.

D: The book value of plant sold has been deducted. This would correctly allow for a loss of $11 000 if the cash
flow of $14 000 was included in operating cash flows rather than investing cash flows.

Source: Topic heading—‘Statement of cash flows’.

Question 3.1
Correct Answer: a

For a present obligation to exist, the entity must have no realistic alternative to settling the obligation
created by the event (IAS 37, para. 17).

B is incorrect. A legal obligation does not have to exist before a provision can be recognised. An entity may
also have a constructive obligation to the extent that there is a valid expectation that the obligation will
be settled.

C is incorrect. This relates to the probability of the sacrifice occurring (a recognition criterion), not the
existence of the obligation.

D is incorrect. This relates to the ability to measure the provision, not the existence of the obligation.

Source: Topic heading—‘Recognition of provisions’.

Question 3.2
Correct Answer: d

As outlined in the module, where measurement uncertainty exists, the provision amount should be estimated
based on its circumstance. Measurement uncertainty does not suggest that no provision is required.

Source: Topic heading—‘Measurement of provisions’.

Question 3.3
Correct Answer: b

The present obligation as a result of a past event occurs when the product is sold. This gives rise to a legal
obligation to honour the warranty in the event of fault.

Source: Topic heading—‘Recognition of provisions’.

FINANCIAL REPORTING SUGGESTED ANSWERS | 85

Question 3.4
Correct Answer: c

Where dividends are declared subsequent to the reporting date, no provision should be recognised in the
financial statements. The event is disclosed in the notes to the financial statements (IAS 10, para. 13) if the
declaration occurred before the financial statements are issued.

A is incorrect. Dividends declared, determined or publicly recommended on or before the reporting date
must be recognised as a liability.

B is incorrect. Dividends declared, determined and publicly recommended on or before the reporting date
must be recognised as a liability.

D is incorrect. Dividends declared, determined and publicly recommended on or before the reporting date
must be recognised as a liability.

Source: Topic heading—‘Dividends’.

Question 3.5
Correct Answer: c

Paragraph 72 of IAS 37 outlines the requirements for the final plan to include at least:
(i) the business or part of business concerned;
(ii) the principal locations affected;
(iii) the location, function, and approximate number of employees who will be
compensated for terminating their services;
(iv) the expenditures that will be undertaken; and
(v) when the plan will be implemented.

Source: Topic heading—‘Restructuring’.

Question 3.6
Correct Answer: c

This statement is incorrect, as IAS 37 specifically states that contingent liabilities and contingent assets are not
to be recognised in the statement of financial position, but to be disclosed by way of a note.

Source: Topic heading—‘Contingent liabilities and contingent assets’.

FINANCIAL REPORTING SUGGESTED ANSWERS | 86

Question 3.7
Correct Answer: c

Construction contracts, insurance contracts within the scope of IFRS 4, and financial instruments within the
scope of IFRS 9 are all excluded from IAS 37 (IAS 37, paras 2–5).

Source: Topic heading—‘Introduction—Scope of IAS 37’.

Question 3.8
Correct Answer: c

A liability should be recognised if the legislation is virtually certain to be enacted as drafted.

A is incorrect. Even if such planned legal changes are known at the reporting date, an obligation only arises if
the legislation is virtually certain to be enacted as drafted.

B is incorrect. If the legislation is enacted, there will be a legal obligation for the future sacrifice of economic
benefits, irrespective of any intention of the company to act illegally.

D is incorrect. On enactment of the legislation, the company will have a legal obligation, irrespective of its
intention to lobby against it.

Source: Topic heading—‘Contingent liabilities’.

Question 3.9
Correct Answer: b

B is correct. I and II would result in a contingent liability. They do not meet the Framwork’s definition of
liabilities, but disclosure is required to explain the details in a contingent liability note.

III is incorrect, as it results in a liability, not a contingent liability. IV is incorrect, as it is not a liability or
contingent liability because the sacrifice of economic benefits is remote.

Source: Topic heading—‘Contingent liabilities’.

FINANCIAL REPORTING SUGGESTED ANSWERS | 87

Question 3.10
Correct Answer: c

A is incorrect. For present liabilities to exist, the entity must have no realistic alternative but to make the future
sacrifice of economic benefit.

B is incorrect. Recognition means that an item is included in the financial statements.

D is incorrect. IAS 37 does not apply to such contingent liabilities and contingent assets (since they result from
insurance contacts, they are covered by IFRS 4).

Source: Topic heading—‘Restructuring—Introduction’, Scope of IAS 37’ and ‘IAS 37—Disclosure’.

Question 3.11
Correct Answer: a

A is correct as per IAS 37, paragraph 47.

Source: Topic heading—‘Measurement of provisions’.

Question 3.12
Correct Answer: a

A is the required journal, as the increased decommissioning liability adds to the cost of the asset.

B and C are incorrect, as the impairment expense is not booked until the asset is tested for impairment.
Maintenance also does not apply until incurred.

D is incorrect because there is no indication of revaluation surplus being established.

Source: Topic heading—‘IFRIC 1 Changes in Existing Decommissioning, Restoration and Similar Liabilities’.
FINANCIAL REPORTING SUGGESTED ANSWERS | 88

Question 4.1
Correct Answer: a

A reconciliation between accounting profit before tax and taxable profit is as follows.

Reconciliation between accounting profit before tax and taxable profit

$
Accounting profit before tax 100 000
Adjustments for non-temporary differences
Impairment of goodwill 10 000

Accounting profit before tax adjusted for non-temporary differences 110 000

Adjustments for movements in temporary differences

Plus: Increase in unearned insurance premiums not recognised as revenue 4 000
Less: Excess of tax depreciation over accounting depreciation (10 000)
Taxable profit 104 000

Tax payable = Taxable profit ($104 000) × Tax rate (0.30) = $31 200.

Current tax expense

Current tax, the amount of income taxes payable in respect of taxable profit for the period (IAS 12, para. 5),
is $31 200 ($104 000 × 0.30). According to the reconciliation given above, taxable profit is $104 000.
Current tax is the product of this amount and the tax rate of 30 per cent. The whole of the current tax is
recognised as an expense (IAS 12, para. 58).

Deferred tax expense (income)

Deferred tax is to be recognised in the statement of profit or loss and other comprehensive income as an
expense or as income, except to the extent that it was recognised in equity (IAS 12, para. 58). In our example,
deferred tax for the period arose as a result of movements in temporary differences. None of these were
associated with transactions that were recognised in equity.

Movements in temporary differences give rise to adjustments to the amounts of deferred tax assets and
deferred tax liabilities, and to deferred tax. The total amount of deferred tax for the period is recognised in
the statement of profit or loss and other comprehensive income as income or expense. Deferred tax expense
for the period is comprised of the following:

Deferred tax expense (Table 1 below) $

Increase in deferred tax liability 3 000
Less: Deferred tax income (Table 2 below)
Increase in deferred tax asset (1 200)
Net deferred tax expense 1 800
FINANCIAL REPORTING SUGGESTED ANSWERS | 89

Table 1: Deferred tax expense-depreciable asset

Taxable temporary
difference
$
30 June 20Y0 10 0001
30 June 20X9 02
Movement in temporary difference
(Excess of tax depreciation over accounting depreciation) 10 000
× 0.30
Deferred tax expense/increase in deferred tax liability 3 000

1
Taxable temporary difference 20Y0
20Y0
$ $
Carrying amount
Cost 100 000
Less: Accumulated depreciation (15 000) 85 000
Less: Tax base
Cost 100 000
Cumulative tax depreciation (25 000) (75 000)
Taxable temporary difference 10 000

2
Taxable temporary difference 20Y9

As the depreciable asset was not acquired until the next reporting period, there was no temporary difference as at
30 June 20X9.

Table 2: Deferred tax income-unearned insurance premiums

Deductible
temporary
difference
$
30 June 20Y0 31 0001
Less: 30 June 20X9 (27 0001)
Movement in temporary difference (Insurance premiums received
not recognised in accounting profit before tax) 4 000
× 0.30
Deferred tax income/increase in deferred tax asset 1 200

1
Deductible temporary differences
20X9 20Y0
$ $
Carrying amount insurance premiums 27 000 31 000
Tax base 0 0
Deductible temporary difference 27 000 31 000
FINANCIAL REPORTING SUGGESTED ANSWERS | 90

Increase in deferred tax asset: Table 2

The increase in the deferred tax asset is the product of the movement (increase) in the deductible temporary
difference and the tax rate = $4000 × 0.30 = $1200.

Increase in deferred tax liability: Table 1

The increase in the deferred tax liability is the product of the movement in the taxable temporary difference
and the tax rate = $10 000 × 0.30 = $3000.

B is incorrect. This alternative treats the depreciable asset as giving rise to a deferred tax asset and the
unearned insurance premiums as giving rise to a deferred tax liability.

C is incorrect. It is based on the following reconciliation:

Reconciliation between accounting profit before tax and taxable profit

$
Accounting profit before tax 100 000

Adjustments for movements in temporary differences

Plus: Insurance premiums received not recognised in accounting profit
before tax 4 000
Impairment of goodwill 10 000
Less: Excess of tax depreciation over accounting depreciation (10 000)
Taxable profit 104 000

This reconciliation implies:

$
Tax payable $104 000 × 0.30 31 200
Deferred tax asset: Excess tax insurance premiums $4 000 × 0.30 1 200
Impairment of goodwill $10 000 × 0.30 3 000 4 200
Deferred tax liability Excess tax depreciation $10 000 × 0.30 3 000

D is incorrect. This alternative uses the reconciliation in C above, but treats the insurance premiums and
impairment of goodwill as giving rise to a deferred tax liability and excess depreciation as giving rise to
a deferred tax asset.

Source: Topic heading—‘Deferred tax assets and deferred tax liabilities’.

FINANCIAL REPORTING SUGGESTED ANSWERS | 91

Question 4.2
Correct Answer: d

A is incorrect. Current tax expense is derived from the taxable income of the entity. Tax expense is the sum of
current tax expense plus deferred tax expense.

B is incorrect. The movements in deferred tax assets and liabilities could be included directly in equity.

C is incorrect. Deferred tax liabilities do not derive from deductible temporary differences.

Source: Topic heading—‘Calculating tax expense’.

Question 4.3
Correct Answer: c

Refer to the discussion relating to ‘Determining the tax base’. As this liability does not relate to revenue
received in advance, the tax base for the employee benefit liability would be

Carrying amount of liability − Future deductible amounts + Future assessable amounts

A is incorrect. Formula for the tax base of an asset.

B is incorrect. Formula for a liability involving revenue received in advance.

D is incorrect. Formula has not allowed for future deductible amounts.

Source: Topic heading—‘Deferred tax assets and deferred tax liabilities’.

Question 4.4
Correct Answer: a

The carrying amount of the asset is greater than the tax base. In the future, the entity will recover $100 000
from the asset (assessable income) but will only be able to deduct $80 000 against this income. Hence,
at 30 June 20X3 there is a taxable temporary difference of $20 000 which results in a deferred tax liability of
$6000 ($20 000 × 0.30). See also relationships in Table 4.1.

B is incorrect. The asset does not lead to a deductible temporary difference and, therefore, a deferred tax
asset does not result.

C is incorrect. The amount of the deferred tax liability is based on the taxable temporary difference, not the
tax base of the asset.

D is incorrect. Not a deductible temporary difference and the amount is not based on the tax base.

Source: Topic heading—‘Deferred tax assets and deferred tax liabilities’.

FINANCIAL REPORTING SUGGESTED ANSWERS | 92

Question 4.5
Correct Answer: b

Deferred tax expense is based on the movements in deferred tax assets and deferred tax liabilities.

The deferred tax asset has increased by $14 000—this will result in a decrease in deferred tax expense.
That is, debit deferred tax asset for $14 000 and credit deferred tax expense for $14 000.

The deferred tax liability has decreased by $6000—this will result in a decrease in deferred tax expense.
That is, debit deferred tax liability for $6000 and credit deferred tax expense for $6000.

Therefore, there is a total credit to deferred tax expense of $20 000 and the amount of tax expense
is therefore

($230 000 × 0.3) – $20 000 = $69 000 – $20 000 = $49 000.

A is incorrect. It reflects only the amount of deferred tax and has been treated as a debit and not as a credit.

C is incorrect. The increase in deferred tax liability has been treated as resulting in a debit to deferred tax
expense. Therefore, we have deducted $8000 ($14 000 − $6000) from the current tax expense of $69 000.

D is incorrect. This amount represents current tax expense with no adjustment for the deferred tax expense.

Source: Topic heading—‘Deferred tax assets and deferred tax liabilities’.

Question 4.6
Correct Answer: c

Tax expense = Current tax expense + Deferred tax expense. The current tax expense for the year ended
30 June 20X7 is $51 000 (taxable profit $170 000 × 30%). Tax expense is given at $60 000. Therefore,
the deferred tax expense = tax expense ($60 000) − current tax expense ($51 000) = $9000.

The increase in the deferred tax expense would be reflected in the closing deferred tax liability. Hence,
the opening deferred tax liability is the closing deferred tax liability ($27 000) less deferred tax expense for
the period ($9000), which is equal to $18 000.

A is incorrect. The current tax expense is $51 000 (taxable profit $170 000 × 30%). This answer is calculated as
tax expense ($60 000) less amount of deferred tax liability ($27 000). The opening amount of the deferred tax
liability has not been taken into account.

B is incorrect. The opening deferred tax liability has not been taken into account.

D is incorrect. The deferred tax liability at 30 June 20X6 was $18 000 (see correct answer above). This answer
assumes a deferred tax expense for the year ended 30 June 20X7 of $27 000.

Source: Topic heading—‘Deferred tax assets and deferred tax liabilities’.

FINANCIAL REPORTING SUGGESTED ANSWERS | 93

Question 4.7
Correct Answer: a

The tax base of an asset = Carrying amount + Future deductible amounts − Future assessable amounts.

Tax base of accounts receivable = $9500 + $500 − $0 = $10 000.

As the tax base ($10 000) is greater than the carrying amount of the asset ($9500), there is a deductible
temporary difference of $500. This would result in the recognition of a deferred tax asset of $150 ($500 × .30).

B is incorrect. The temporary difference has been treated as taxable, not as deductible.

C and D are incorrect. The tax base for both C and D has been calculated based on the assumption that the
receivables will be assessable in the future. That is, the tax base of the receivables = Carrying amount ($9500)
+ Future deductible amounts ($500) − Future assessable amounts ($10 000) = $0. This incorrect calculation
gives rise to a taxable temporary difference of $9500 (carrying amount $9500 > tax base $0), which would
result in the recognition of a deferred tax liability of $2850 ($9500 × .30). For C, not only is the amount of the
temporary difference incorrect, but it has also been treated as a deductible temporary difference.

Source: Topic heading—‘Deferred tax assets and deferred tax liabilities’.

Question 4.8
Correct Answer: c

The tax base of a liability = Carrying amount − Future deductible amounts + Future assessable amounts.

Tax base of provision for employee benefits = $1 200 000 − $1 200 000 + $0 = $0.

Tax base of foreign currency loan = $180 000 − $0 + $20 000 = $200 000.

As the carrying amount of the provision for employee benefits ($1 200 000) is greater than its tax base ($0),
this gives rise to a deferred tax asset of $360 000 ($1 200 000 × 0.30). That is, in the future when employee
benefits are paid, a tax deduction will be received and a smaller amount of tax would be paid than if
settlement of the liability did not have any tax consequences. As the carrying amount of the foreign currency
loan ($180 000) is less than its tax base ($200 000), this gives rise to a deferred tax liability of $6000 ($20 000
× .30). That is, in the future when the foreign currency loan is settled, a $20 000 foreign currency gain will be
included in taxable profit and an additional $6000 of tax would be paid than if settlement of the liability did
not have any tax consequences. Hence, there is a net deferred tax asset of $354 000 ($360 000 DTA −
$6000 DTL).

A is incorrect. This answer treats the provision for employee benefits as giving rise to a deferred tax liability
and the foreign currency loan as giving rise to a deferred tax asset.

B is incorrect. The provision for employee benefits has been treated as giving rise to a deferred tax liability.

D is incorrect. The foreign currency loan has been treated as giving rise to a deferred tax asset.

Source: Topic heading—‘Deferred tax assets and deferred tax liabilities’.

FINANCIAL REPORTING SUGGESTED ANSWERS | 94

Question 4.9
Correct Answer: b

The current tax expense for the year ended 30 June 20X8 was $30 000 (taxable profit of $100 000 × tax rate of
30 per cent).

Deferred tax expense is determined by the movement in the deferred tax assets and deferred tax liabilities
of Alpha Ltd. This can be calculated as follows.

20X7 20X8 Movement

$22 5001 $28 5002 $6 000 increase
$6 0003 $9 0004 $3 000 increase
$16 500 $19 500 $3 000 increase

1
Total of deductible temporary differences × Tax rate = $75 000 × 0.30
2
Total of deductible temporary differences × Tax rate = $95 000 × 0.30
3
Taxable temporary difference × Tax rate = $20 000 × 0.30
4
Taxable temporary difference × Tax rate = $30 000 × 0.30

As there is increase in the net deferred tax asset for the year ended 30 June 20X8 of $3000, there will be
deferred tax income of $3000.

A is incorrect. The movement in the taxable temporary difference has been ignored and the change in the
deferred tax asset has been used instead.

C is incorrect. The answer does not take into account the deferred tax expense.

D is incorrect. The increase in the deferred tax asset has been treated as a deferred tax expense and, hence,
the $3000 has been added to the current tax expense of $30 000.

Source: Topic heading—‘Deferred tax assets and deferred tax liabilities’.

FINANCIAL REPORTING SUGGESTED ANSWERS | 95

Question 4.10
Correct Answer: d

Deferred tax liability

As at the date of sale, there was a taxable temporary difference of $30 000, the difference between the book-
carrying amount of the asset $90 000 and the tax base of the asset (the tax written-down amount) $60 000.
This taxable temporary difference and the related deferred tax liability of $9000 ($30 000 × 0.30) reverses on
the sale of the asset. The analysis of the reversal of the taxable temporary difference and of the related
deferred tax liability is as follows.
$
Deferred tax liability after sale 0
Less: Opening deferred tax liability ($30 000 × 0.30) (9 000)
Reduction in deferred tax liability relating to the reversal
of temporary differences/deferred tax income 9 000

Tax payable and current tax expense

Taxable profit for the period was $75 000, calculated as follows:

$
Proceeds from sale of asset 160 000
Less: Tax written-down carrying amount (60 000)
100 000
Less: Exempt capital gain1 (25 000)
Taxable profit 75 000*

* Comprises: $
Taxable capital gain 35 000 1

Depreciation recouped 40 000 2

75 000

1
Exempt taxable gain $ $
Sale proceeds 160 000
Less: Purchase price (100 000)
Capital gain 60 000
Less: Taxable capital gain
Sale proceeds 160 000
Less: Capital gains tax cost base (125 000) (35 000)
Exempt capital gain 25 000

2
Tax depreciation recouped
Cost of asset 100 000
Less: Tax written-down amount (60 000)
Depreciation recouped 40 000
FINANCIAL REPORTING SUGGESTED ANSWERS | 96

Tax payable is $22 500 (30% of taxable profit of $75 000) and, by definition (IAS 12, para. 5), current tax
expense is equal to this amount.

We can also use a reconciliation between accounting profit before tax and taxable profit to analyse the tax
consequences. All of the transactions that have tax consequences for the period affect either taxable profit or
accounting profit before tax. The reconciliation is

Reconciliation between accounting profit before tax and taxable profit

$
Proceeds of sale of depreciable asset 160 000
Less: Book carrying amount (90 000)
Accounting profit before tax 70 000
Adjustments for non-temporary differences and
excluded temporary differences:
Exempt capital gain (25 000)

Accounting profit before tax, adjusted for non-temporary differences and

excluded temporary differences* 45 000

Adjustments for movements in temporary differences

Plus: Excess of tax depreciation recouped over accounting
depreciation recouped 30 000
Taxable profit 75 000

* Note that this amount is equal to: $

Taxable capital gain 35 000
Accounting depreciation recouped
($100 000 − $90 000) 10 000
45 000

Looking at the reconciliation we note that:

• Tax payable and current tax expense, based on taxable profit, is $22 500 ($75 000 × 0.30).
• Deferred tax liability. The movement in the temporary difference is a reversal of the deductible
temporary difference which gives rise to a reduction in the deferred tax liability of $9000 ($30 000 ×
0.30) and to deferred tax income of an equal amount.

As there are no recoupments of tax losses reducing tax expense, tax expense is numerically equal to the
product of the tax rate and accounting profit before tax, adjusted for non-temporary differences and
excluded temporary differences.

A is incorrect. This alternative confuses the exempt and taxable portions of the capital gains.
The reconciliation for this alternative is
FINANCIAL REPORTING SUGGESTED ANSWERS | 97

Reconciliation between accounting profit before tax and taxable profit

$
Proceeds of sale of depreciable asset 160 000
Less: Book carrying amount (90 000)
Accounting profit before tax 70 000

Adjustments for non-temporary differences and excluded

temporary differences:
Exempt capital gain (35 000)

Accounting profit before tax, adjusted for non-temporary differences

and excluded temporary differences 35 000

Adjustments for movements in temporary differences

Plus: Excess of tax depreciation recouped over accounting
depreciation recouped 30 000
Taxable profit 65 000

Looking at the reconciliation we note that the following.

• Tax payable and current tax expense, based on taxable profit, is $19 500 ($65 000 × 0.30).
• The movement in the temporary difference is a reversal of the deductible temporary difference which
gives rise to a reduction in the deferred tax liability of $9000 ($30 000 × 0.30) and to deferred tax
income of an equal amount.

B is incorrect. This alternative confuses the exempt and taxable portions of the capital gain and adds, instead
of subtracts, the supposed exempt capital gain, and treats the reversal of the taxable temporary difference as
if it is an originating taxable temporary difference. The reconciliation for this alternative is

Reconciliation between accounting profit before tax and taxable profit

$
Proceeds of sale of depreciable asset 160 000
Less: Book carrying amount (90 000)
Accounting profit before tax 70 000

Adjustments for non-temporary differences and excluded

temporary differences:
Exempt capital gain 35 000
105 000
Adjustments for movements in temporary differences
Less: Excess of tax depreciation recouped over accounting
depreciation recouped (30 000)
Taxable profit 75 000
FINANCIAL REPORTING SUGGESTED ANSWERS | 98

Looking at the reconciliation we note the following.

• Tax payable and current tax expense, based on taxable profit, is $22 500 ($75 000 × 0.30).
• The movement in the temporary difference is treated as an originating deductible temporary
difference which gives rise to an increase in the deferred tax liability of $9000 ($30 000 × 0.30) and to
deferred tax expense of an equal amount.

C is incorrect. This alternative treats the reversing temporary difference as if it is an originating temporary
difference. The reconciliation for this alternative is

Reconciliation between accounting profit before tax and taxable profit

$
Proceeds of sale of depreciable asset 160 000
Less: Book carrying amount (90 000)
Accounting profit before tax 70 000

Adjustments for non-temporary differences and excluding

temporary differences:
Exempt capital gain (25 000)

Accounting profit before tax, adjusted for non-temporary differences

and excluded temporary differences 45 000

Adjustments for movements in temporary differences

Less: Excess of tax depreciation recouped over accounting
depreciation recouped (30 000)
Taxable profit 15 000

Looking at the reconciliation we note the following.

• Tax payable and current tax expense, based on taxable profit, is $4500 ($15 000 × 0.30);
• The movement in the temporary difference is regarded as an originating temporary difference which
gives rise to an increase in the deferred tax liability of $9000 ($30 000 × 0.30) and to deferred tax
expense of an equal amount.

Source: Topic heading—‘Deferred tax assets and deferred tax liabilities’.

FINANCIAL REPORTING SUGGESTED ANSWERS | 99

Question 4.11
Correct Answer: c

If the carrying amount of the asset is recovered by use, the tax written-down amount of the asset is deductible
for tax purposes against the taxable economic benefits recovered. Therefore, as indicated in the figure below,
after the revaluation, the total taxable temporary difference is $85 000. Of this amount, $15 000 relates to the
temporary difference in existence prior to the revaluation, and $70 000 is the additional taxable temporary
difference attributable to the revaluation increment. Therefore, the additional deferred tax that is to be
recognised as a consequence of recognising the revaluation is $21 000 ($70 000 × 0.30). This is reflected in
the following figure

An alternative way of presenting these data is set out in the following table.

Before After Attributable

revaluation revaluation to revaluation
$ $ $
(1) (2) (3)
1 Carrying amount 90 000 160 000 70 000
2 Tax base 75 000 75 000 0
3 Taxable temporary difference 15 000 85 000 70 000
4 Deferred tax liability (row 3 × 0.30) 4 500 25 500 21 000

The entity should recognise an increase in the deferred tax liability of $21 000 ($70 000 × 0.30). Since the
additional deferred tax relates to an item that was recognised in other comprehensive income (and
accumulated in the revaluation surplus), the deferred tax should be recognised in other comprehensive
income (and reduce the revaluation surplus (IAS 12, para. 61A)).

A is incorrect. This alternative arrives at the taxable amount by comparing the cost of the asset with the pre-
revaluation carrying amount, as follows.

$
Cost 101 250
Carrying amount before revaluation (90 000)
Taxable temporary difference 11 250
FINANCIAL REPORTING SUGGESTED ANSWERS | 100

This alternative also incorrectly recognises the deferred tax in the statement of profit or loss and other
comprehensive income as tax expense.

B is incorrect. This alternative incorrectly presumes that, since capital gains are non-taxable, any amount in
excess of cost that is recovered is not taxable, regardless of whether or not recovery is by means of using the
asset. The calculation of the taxable temporary difference was:

$
Cost 101 250
Tax base (75 000)
Taxable temporary difference 26 250

D is incorrect. This alternative incorrectly attributes the whole of the post-revaluation deferred tax liability to
the revaluation increment. This alternative also incorrectly recognises the deferred tax in the statement of
profit or loss and other comprehensive income as tax expense.

Source: Topic heading—‘Assets carried at fair value or revalued amounts’.

FINANCIAL REPORTING SUGGESTED ANSWERS | 101

Question 4.12
Correct Answer: d

D is the correct answer based on the following table of calculations.

Taxable Deductible
Carrying temporary temporary
amount Tax base differences differences
Statement of financial position item $ $ $ $
(1) (2) (3) (4)
1 Rental revenue received in advance 80 000 0 80 000
2 Provision for employee benefits 20 000 0 20 000
3 Interest revenue receivable 50 000 0 50 000
4 Development costs carried forward 40 000 0 40 000
5 Plant and equipment less
accumulated depreciation 100 000 40 000 60 000
6 Temporary differences 150 000 100 000
7 Unused tax losses 120 000
8 220 000
9 Deferred tax liability before change
in tax rate (row 6, col. 3 × 0.30) 45 000
10 Deferred tax asset before change in
tax rate (row 8, col. 4 × 0.30) 66 000
11 Deferred tax liability after change
in tax rate (row 6, col. 3 × 0.35) 52 500
12 Deferred tax asset after change
in tax rate (row 8, col. 4 × 0.35) 77 000
13 Increase in deferred tax balance 7 500 11 000
14 Debit/(Credit) tax expense (income) 7 500 (11 000)

A is incorrect. The answer treats the temporary differences as deductible differences and vice versa.

B is incorrect. This answer excludes the consequences of the unused tax losses from the entry.
Therefore, the deferred tax asset after and before the change in the tax rate are assumed to be

$
Deferred tax asset after $100 000 × 0.35 = 35 000
Deferred tax asset before $100 000 × 0.30 = 30 000
Change in deferred tax asset 5 000

C is incorrect. The rental revenue received in advance is regarded as giving rise to a taxable temporary
difference. Therefore, the totals of the deductible and taxable amounts, and the resulting changes in the
deferred tax asset and deferred tax liability, are treated as being:

Change in deferred tax asset: $

total deductible amount × (0.35 − 0.30) = $140 000 × 0.05 = 7 000
Change in deferred tax liability:
total taxable amount × (0.35 − 0.30) = $230 000 × 0.05 = 11 500
Tax expense 4 500

Source: Topic heading—‘Recognition of deferred tax assets and deferred tax liabilities’.
FINANCIAL REPORTING SUGGESTED ANSWERS | 102

Question 4.13
Correct Answer: b

The tax base of an asset as at the end of X1 is the amount that will be deductible for tax purposes against the
taxable benefits that will flow to the entity when the carrying amount of the asset is recovered (IAS 12, para. 7,
first sentence). This amount is the tax written-down amount of the asset. The difference between accounting
profit before tax and taxable profit for 20X1 implies that the tax written-down amount of the asset, the tax
base, is $1000 less than the carrying amount of the asset. This means that the amount deductible from the
taxable benefits recovered is $1000 less than those benefits, giving rise to a taxable temporary difference of
$1000. Therefore, a deferred tax liability of $300 ($1000 × 0.30) is recognised.

A and C are incorrect. They interpret the question as requiring the recognition of a deferred tax asset.
A deferred tax asset would be recognised if the transaction gave rise to a deductible temporary difference.
C also assumes either a tax rate of 10 per cent or a temporary difference of $3333.

D is incorrect. It either assumes a tax rate of 10 per cent or a temporary difference of $3333.

Source: Topic heading—‘Deferred tax assets and deferred tax liabilities’.

Question 4.14
Correct Answer: d

D is correct because:

• A deferred tax liability is initially recognised with respect to the taxable temporary difference
of $1000.
• The tax consequences of all subsequent reversals of the temporary difference are recognised as
reductions in the deferred tax liability. The tax written-down amount is always less than the carrying
amount of the asset up until the final reversal.

A, B and C are incorrect. From above, a deferred tax asset is never recognised or affected.

Source: Topic heading—‘Deferred tax assets and deferred tax liabilities’.

FINANCIAL REPORTING SUGGESTED ANSWERS | 103

Question 4.15
Correct Answer: b

A reconciliation between accounting profit before tax and taxable profit is as follows.

Reconciliation between accounting profit before tax and taxable profit $

Accounting profit before tax 100 000
Adjustments for non-temporary differences and excluded temporary differences
Statutory fines 5 000
Dividends (8 000) (3 000)

Adjustments for non-temporary differences and excluded temporary differences 97 000

Adjustments for movements in temporary differences
Plus: Inventory write-down 4 000
Less: Foreign currency exchange gain (10 000)
Taxable profit before utilising unused tax losses 91 000
Less: Tax losses recouped this period (60 000)
Taxable profit after utilising tax losses 31 000

In general, the amount of tax expense for a period may differ from the tax that is prima facie payable on
accounting profit before tax as a consequence of any, or all, of the following factors.

a. Non-temporary differences
i. items that are included in the measurement of either accounting profit before tax or taxable
profit, but never both, and which arise on the initial recognition of an asset or liability, and
ii. allowable deductions that do not affect the measurement of an asset or liability;
b. Temporary differences for which IAS 12 precludes recognition of a deferred tax asset or deferred tax
liability; and
c. Reductions in current tax expense or deferred tax expense arising from previously unrecognised tax
losses, tax credits or temporary differences.

Examples of these items that are included in the data for this question are:

1. i Non-temporary differences-statutory fines payable and dividends receivable.

A is incorrect. These items do not cause tax expense to differ from the amount of tax that is prima facie
payable with respect to accounting profit before tax.

C is incorrect. The effect attributable to the items that cause tax expense to differ from prima facie tax is in the
opposite direction to the actual effect.

D is incorrect. None of the items included in this reconciliation as causes of the difference between tax
expense and prima facie tax should have been taken into account. Note particularly that, as a deferred tax
asset has previously been recognised for the unused tax losses, the benefit of the recoupment is a reduction
in the deferred tax asset, not a reduction in tax expense.

Source: Topic heading—‘Calculating tax expense’ and ‘Relationship between tax expense (income) and
accounting profit’.
FINANCIAL REPORTING SUGGESTED ANSWERS | 104

Question 4.16
Correct Answer: c

Alternative C is based on columns 3 and 4 of the following worksheet.

Tax Loss Ltd

Current tax Deferred tax Deferred Deferred

Taxable expense/ expense/ tax tax
profit (income) (income) asset liability Tax payable
Item $ $ $ $ $ $
(1) (2) (3) (4) (5) (6) (7)
1 Pre-tax operating
profit (loss) 100 000 30 000
2 Movements in non-
temporary differences
and excluded
temporary differences
Statutory fines 5 000 1 500
Exempt dividends (8 000) (2 400)
3 Pre-tax operating
profit (loss) adjusted
for non-temporary
differences and
excluded temporary
differences 97 000 29 100
4 Movements in
temporary differences
Inventory write-down 4 000 1 200 Credit 1 200 Debit 1 200
Foreign currency
exchange gain (10 000) 3 000 Debit 3 000 Credit (3 000)
5 Taxable profit (loss)
before utilising tax
losses 91 000 27 300
6 Tax losses
recouped—deferred
tax asset not
previously recognised
7 Tax losses
recouped—deferred
tax asset not
previously recognised (60 000) 18 000 Debit 18 000 Credit (18 000)
8 Previously
unrecognised tax
losses benefit,
recognised as
deferred tax asset this
period
9 Taxable profit (loss)
after utilising tax
losses 31 000 9 300 Debit 9 300 Credit
10 Totals 9 300 Debit 19 800 Debit 16 800 Credit 3 000 Credit 9 300 Credit
FINANCIAL REPORTING SUGGESTED ANSWERS | 105

A is incorrect. This alternative incorrectly deals with the benefit of the tax losses recouped.

B is incorrect. This alternative is based on the following reconciliation between accounting profit before tax
and taxable profit. The reconciliation incorrectly deducts the inventory write-down and incorrectly adds the
foreign currency exchange gain.

Reconciliation between accounting profit before tax and taxable profit

$
Accounting profit before tax 100 000
Adjustments for non-temporary differences
and excluded temporary differences
Statutory fines 5 000
Dividends (8 000) (3 000)

Accounting profit before tax adjusted for non-temporary

differences and excluded temporary differences 97 000

Adjustments for movements in temporary differences

Less: Inventory write-down (4 000)
Plus: Foreign currency gain 10 000
Taxable profit before utilising unused tax losses 103 000
Less: Tax losses recouped this period (60 000)
Taxable profit 43 000

D is incorrect. This alternative is based on the following reconciliation which excludes movements in
temporary differences.

Reconciliation between accounting profit before tax and taxable profit

$
Accounting profit before tax 100 000
Adjustments for non-temporary differences and excluded
temporary differences:
Statutory fines 5 000
Dividends (8 000) (3 000)

Taxable profit before utilising unused tax losses 97 000

Less: Tax losses recouped this period (60 000)
Taxable profit 37 000

Source: Topic heading—‘Illustrative disclosures’.

FINANCIAL REPORTING SUGGESTED ANSWERS | 106

Question 5.1
Correct Answer: d

Paragraph B5.4.15 lists a number of circumstances where cost would not be a good estimate of fair value
and includes all those listed in the question. Number III refers to allegations of fraud only, but, as these are
widespread, the market would lower the price of such shares if the company was listed until the matter was
resolved in some way.

Source: Topic heading—‘Measurement—Investments in equity securities’.

Question 5.2
Correct Answer: c

The objective with portfolio A is to buy and sell securities to gain from movements in fair value and hence the
fair value method is required. With portfolio B, the objective is not to buy and sell based on movements in fair
value but to benefit from the contractual cash flows. Paragraph B4.1.13 and Example 1 in B4.1.4 of IFRS 9
discuss portfolios where there are sales due to a decline in the credit rating of an issuer or where there are
only limited sales, and states this does not preclude the use of amortised cost.

Source: Topic heading—‘Classification of financial assets and financial liabilities—Classification of financial

assets’.

Question 5.3
Correct Answer: c

Instrument number I fails the test as the premium for early repayment exceeds what paragraph B4.1.10
describes as a ‘reasonable additional compensation for the early termination of the contract.’

Instrument number II meets the test as the rate varies only for changes in LIBOR and credit risk which is
discussed in B4.1.12 of IFRS 9.

Instrument number III meets the test as the amount to be repaid under the extension terms represents
payments of principal and interest only as no penalties are involved.

Source: Topic heading—‘Classification of financial assets and financial liabilities—Contractual cash flows that
are solely payments of principal and interest on the principal amount outstanding’.
FINANCIAL REPORTING SUGGESTED ANSWERS | 107

Question 5.4
Correct Answer: c

Cash at bank is clearly a financial instrument. A bill of exchange involves one party having the right to
receive cash in exchange for the bill and the other party having the converse right and obligation. Therefore,
it meets the definition of a financial instrument. A forward exchange contract gives both parties the right and
obligation to exchange different currencies in the future and is therefore a financial instrument. Prepaid
insurance would not meet the definition because it involves a right (obligation) to receive (deliver) a service
rather than cash or an equity instrument.

Source: Topic heading—‘Part A: What are financial instruments?’—‘Definition of a financial instrument’.

Question 5.5
Correct Answer: c

Under IAS 32, the redeemable preference shares are classified as a liability from the date of issue because the
holder has the right to demand redemption. Therefore, the instruments are a liability and the payment for
the year is classified as interest. The probability of conversion makes no difference to the classification
of the instruments.

A is incorrect, as it assumes that the shares are equity.

B and D are incorrect, as they assume that the shares are reclassified during the year, but this is not permitted
according to paragraph 30 of IAS 32 Financial Instruments: Presentation.

Source: Topic heading—‘Classification of interest, dividends, gains and losses’.

Question 5.6
Correct Answer: a

The fair value declines from $100 000 to $85 000. Thus, a loss of $15 000 should be recognised. In Year 1
a gain of $10 000 would be recognised, and the financial assets carrying amount at the start of Year 2 would
be $100 000.

Source: Topic heading—‘Hedging’.

Question 5.7
Correct Answer: d

Refer to Appendix A in IFRS 7.

Source: Topic heading—‘Significance of financial instruments for financial position and performance’.
FINANCIAL REPORTING SUGGESTED ANSWERS | 108

Question 5.8
Correct Answer: b

Refer to paragraph AG 25 of IAS 32.

Source: Topic heading—‘Classification as liabilities or equity’.

Question 5.9
Correct Answer: d

D is the correct answer. With all of the information already contained in the financial statements, a user can
determine that the maximum credit risk is $74m. Therefore, no further disclosures in the notes are required.

A is incorrect. The maximum credit risk is $74m, not $80m. Moreover, the maximum credit risk is already
disclosed in the financial statements and does not need to be disclosed in the notes.

B is incorrect. Although this is the amount of the maximum credit risk ($74m), it has already been disclosed in
the financial statements and does not need to be disclosed in the notes.

C is incorrect. The maximum credit risk is $74m, not $6m. Moreover, the maximum credit risk is already
disclosed in the financial statements and does not need to be disclosed in the notes.

Source: Topic heading—‘Disclosure issues—Significance of financial instruments for financial position and
performance’.

Question 5.10
Correct Answer: d

IAS 32, paragraph 21 requires all financial instruments to be classified as equity if the holder is exposed to
changes in the fair value of the issuer’s shares. This means that the holder will suffer losses if the price of the
issuer’s shares declines.

Source: Topic heading—‘Classification as liabilities or equity’.

FINANCIAL REPORTING SUGGESTED ANSWERS | 109

Question 5.11
Correct Answer: c

Paragraph 4.4.1 permits the reclassification of financial assets but only when there is a change in the business
model, and so (a) and (b) are not correct. Paragraph B4.4.1 states that such reclassifications are expected to
be very infrequent, and so (d) is not correct. Paragraph 4.4.2 states that the reclassification of financial
liabilities is not permitted, and hence (c) is correct.

Source: Topic heading—‘Reclassification’.

Question 5.12
Correct Answer: c

The holder has the option to demand repayment of the principal in the first 10 years, so this represents a
financial liability.

Source: Topic heading—‘Classification as liabilities or equity’.

Question 5.13
Correct Answer: a

The interest payments and principal are now payable at the discretion of the issuer and, therefore, represent
equity (IAS 32, para. AG 25). The holder has the option to convert to ordinary shares and will receive a fixed
number of ordinary shares. There is no obligation on the issuer to redeem the instruments.

Source: Topic heading—‘Classification as liabilities or equity’.

Question 5.14
Correct Answer: c

Once the issuer formally notifies the holder of the intention to redeem the notes, a financial liability is created
(IAS 32, para. AG 25).

Source: Topic heading—‘Classification as liabilities or equity’.

FINANCIAL REPORTING SUGGESTED ANSWERS | 110

Question 6.1
Correct Answer: b

Refer to calculation below.

Consideration transferred has to be calculated by deduction.

Fair value of investee’s net assets = $180 000 + $20 000 – $6 000

Fair value of the investee’s net assets = $194 000

Add: Goodwill (given) $10 000
Consideration transferred = $204 000

A is incorrect. This answer has adjusted for the costs directly attributable to the combination.

C is incorrect. This answer has not adjusted for the deferred tax liability relating to the revaluation.

D is incorrect. This answer has not taken into account the deferred tax liability relating to the revaluation and
has included the costs directly attributable to the combination.

Source: Topic heading—‘The acquisition method: Recognising and measuring goodwill or a gain from a
bargain purchase’.

Question 6.2
Correct Answer: b

It is the group that has acquired the net assets and goodwill. The parent has acquired a single asset,
an investment in the subsidiary.

A is incorrect. The investor would only record the investment in the subsidiary.

C and D are incorrect. Goodwill must be recorded in the financial statements of the group.

Source: Topic heading—‘The acquisition method: Recognising and measuring goodwill or a gain from a
bargain purchase’.
FINANCIAL REPORTING SUGGESTED ANSWERS | 111

Question 6.3
Correct Answer: b

Refer to IFRS 3, paragraphs 32 and 37.

The consideration transferred is equal to the fair value of the shares issued by A Ltd.

$
10 000 shares in A Ltd @ $2.70 27 000

A is incorrect. This answer is based on the fair value of B Ltd’s shares.

C is incorrect. This answer is based on the fair value of B Ltd’s shares, plus the acquisition costs.

D is incorrect. This answer takes into account the acquisition costs.

Source: Topic heading—‘The acquisition method: Recognising and measuring goodwill or a gain from a
bargain purchase’.

Question 6.4
Correct Answer: b

Refer to paragraph B63(a) of IFRS 3 Business Combinations.

A and D are incorrect, as amortisation is not permitted by IFRS 3.

C is incorrect. Goodwill must be tested for impairment annually, not just when circumstances indicate that
impairment may have occurred.

Source: Topic heading—‘The acquisition method: Recognising and measuring goodwill or a gain from a
bargain purchase’.
FINANCIAL REPORTING SUGGESTED ANSWERS | 112

Question 6.5
Correct Answer: c

The cost of the combination is measured primarily by reference to the consideration transferred which
reflects what was given, not what was received.

A is incorrect—refer to paragraphs 32.

B is incorrect—refer to paragraph 18.

D is incorrect—refer to paragraph 6.

Source: Topic heading—‘The acquisition method’.

Question 6.6
Correct Answer: a

Fair value of consideration transferred ($400 000 cash + 1 million shares @ $1.20) = $1 600 000.
Goodwill = Consideration transferred − Fair value of identifiable net assets acquired
= $1 600 000 − $1 390 000
= $210 000

B is incorrect. This answer has included the costs attributable to the combination in the determination of the
consideration transferred and, hence, the goodwill.

C is incorrect. This answer has used the book value of the net assets acquired.

D is incorrect. This answer has used the book value of the assets acquired and included the acquisition costs
in measuring the consideration transferred.

Source: Topic heading—‘The acquisition method: Recognising and measuring goodwill or a gain from a
bargain purchase’.
FINANCIAL REPORTING SUGGESTED ANSWERS | 113

Question 6.7
Correct Answer: a

The owner’s equity of Sub Ltd after the revaluation of the non-current assets was $850 000. As any NCI is
measured at the share of the fair value of Sub Ltd, the goodwill relates only to that acquired by Parent Ltd.
If Parent Ltd acquired 70 per cent of the shares in Sub Ltd, 70 per cent of the fair value of the identifiable net
assets, $595 000, plus the goodwill of $100 000, must be equal to the consideration transferred by Parent Ltd,
by deduction, $695 00

In accordance with paragraph B86(b) of IFRS 10, the investment in the subsidiary must be eliminated along
with the parent’s share of the equity of the subsidiary. The entry reflects the following calculation.

$000
Issued capital 500 × .7 = 350 DR
General reserve 100 × .7 = 70 DR
Retained earnings 50 × .7 = 35 DR
Asset revaluation reserve 200 × .7 = 140 DR
Owner’s equity 850 × .7 = 595
Goodwill 100 DR
Cost of investment 695 CR

B is incorrect. It has not taken into account the fact that Parent acquired 70 per cent of Sub Ltd (not 100%).
In addition, it has ignored the revaluation of the identifiable assets of the Sub Ltd, which reflects pre-
acquisition equity.

C is incorrect. It has ignored the revaluation of the identifiable assets of Sub Ltd.

D is incorrect. It has not taken into account the fact that Parent acquired 70 per cent of Sub Ltd.

Source: Topic heading—‘Preparation of consolidated financial statements—Parent with an interest in

a subsidiary’.
FINANCIAL REPORTING SUGGESTED ANSWERS | 114

Question 6.8
Correct Answer: b

As the dividends are between entities within the group, all the effects of these dividends must be eliminated
(para. B86(c) of IFRS 10). This requires eliminations in: the statement of comprehensive income (dividend
income $30 000); retained earnings (interim and final dividend appropriations); and statement of financial
position (dividend receivable and payable).

A is incorrect. It ignores the inter-company debt and receivable for the final dividend.

C is incorrect. It has ignored the effect of the interim dividend.

D is incorrect. It has ignored the fact that an interim dividend was paid.

Source: Topic heading—‘Preparation of consolidated financial statements—Transactions within the group’.

Question 6.9
Correct Answer: a

See paragraph B86(b) of IFRS 10. The carrying amount of the parent’s investment has to be eliminated.

Source: Topic heading—‘Disclosures—Consolidated financial statements’.

Question 6.10
Correct Answer: c

The dividend income and retained earnings effects must be eliminated because this is an intra-group
transaction. Parent Ltd will only receive 60 per cent of the dividend; the remainder is paid to the
non-controlling interests. There are no tax effects—Parent Ltd would have treated the dividend as a
tax-exempt difference. Inter-company dividend debt must be eliminated.

A is incorrect. There is no allowance for the share of dividends received by the non-controlling interests.

B is incorrect. There is no allowance for the share of dividends received by the non-controlling interests,
and no tax-effect entry is required.

D is incorrect. The tax-effect entry is not required.

Source: Topic heading—‘Preparation of consolidated financial statements—Non-controlling interest’.

FINANCIAL REPORTING SUGGESTED ANSWERS | 115

Question 6.11
Correct Answer: c

Refer to paragraph B14 of IFRS 10— the investor must have power over an investee and this must stem from
existing rights which give the investor the current ability to direct relevant activities.

A is incorrect. A majority of voting rights would be an indicator of rights that give the investor power over the
investee, but an investor can have control with less than 50 per cent of the voting rights (or no voting rights).

B is incorrect. Paragraph 16 of IFRS 10 indicates that only one investor can have control but other parties can
share in the variable returns of the investee (e.g. non-controlling interests).

D is incorrect. Representation on the board of directors or governing body is an indicator of rights that give
the investor power over the investee, but an investor can have control without such representation.

Source: Topic heading—‘The group—concept of control’.

Question 6.12
Correct Answer: b

In accordance with the requirements of paragraph B86(b) of IFRS 10, the entry is eliminating the investment
account together with the parent’s share of the subsidiary’s equity balances. In the process of doing this,
assets have to be measured at fair value, and goodwill has to be measured.

As discussed in the module notes, the revaluation of assets upwards to fair value will give rise to a deferred
tax liability. The equipment has to be remeasured from a book value of $40 000 to a fair value of $60 000
(debit ‘Accumulated depreciation’ $40 000, credit ‘Equipment’ $20 000), and this gives rise to a deferred tax
liability of $6000 (30% of $20 000). Goodwill is measured as the difference between the consideration
transferred ($400 000) and the fair value of the identifiable net assets acquired ($310 000 + $20 000 – $6000 =
$324 000), which equals $76 000.

A is incorrect—a deferred tax asset has been recognised, not a deferred tax liability. This changes the amount
of goodwill.

C is incorrect—no deferred tax liability has been raised.

D is incorrect—the equipment has not been revalued and a deferred tax liability has not been recognised.

Source: Topic heading—‘Preparation of consolidated financial statements—Parent with an interest in

a subsidiary’.
FINANCIAL REPORTING SUGGESTED ANSWERS | 116

Question 6.13
Correct Answer: b

Paragraph 7(c) of IFRS 10 requires the investor to have the ability to use its power over the investee to affect
the investor’s returns from the investee.

A is incorrect—the investor must be exposed to variable returns from the investee. A return from an investor
could be a fixed return.

C is incorrect—paragraph 14 indicates that the investor who has the current ability to direct the activities that
most significantly affect the returns of the investee is regarded as having power over the investee.

D is incorrect—paragraph 10 indicates that power arises when the investor has existing rights that give it the
current ability to direct the relevant activities of the investee. They do not have to have the ability to
determine the amount of returns received.

Source: Topic heading—‘The group—Defining the group’.

Question 6.14
Correct Answer: d

Eliminate the dividend income and retained earnings effects, as this is an intra-group transaction (para. B86(c)
of IFRS 10). Parent Ltd will only receive 80 per cent of the dividend; the remainder is paid to the non-
controlling interest shareholders. There are no tax effects—Parent Ltd would have treated the dividend as
tax-free. Inter-company dividend debt has to be eliminated.

A is incorrect. No allowance has been made for the share of dividends received by the non-controlling interest
equity parties, and no tax-effect entry is required.

B is incorrect. No allowance has been made for the share of dividends received by non-controlling interest
equity parties.

C is incorrect. No tax-effect entry is required.

Source: Topic heading—‘Preparation of consolidated financial statements—Transactions within the group’.

FINANCIAL REPORTING SUGGESTED ANSWERS | 117

Question 6.15
Correct Answer: b

Paragraph 5 of IAS 28 states that if an investor holds 20 per cent or more of the voting power of the investee,
it is presumed that the investor has significant influence, unless it can be demonstrated that this is not the
case.

A is incorrect. IAS 28 does not require board representation as a prerequisite for significant influence.

C is incorrect. The focus of IAS 28 is on voting power, not ownership interest, and the standard does not
require board representation as a prerequisite for significant influence.

D is incorrect. To determine whether significant influence exists, IAS 28 focuses on voting power,
not ownership rights.

Source: Topic heading—‘Identifying associates’.

Question 6.16
Correct Answer: d

Paragraph 32 of IAS 28 requires that on the acquisition of an investment in an associate, the difference
between the cost of the investment and the fair values of the identifiable net assets of the associate should be
accounted for as goodwill (this is consistent with the requirements specified in IFRS 3 Business Combinations).
Paragraph 32(a) of IAS 28 notes that the goodwill is included in the amount of the investment and, hence,
is not separately recorded.

Source: Topic heading—‘Application of the equity method: Accounting for the initial investment’.

Question 6.17
Correct Answer: a

Where the sale of inventory from the investor to the associate results in unrealised profits, paragraph 28 of
IAS 28 requires the unrealised profit to be eliminated to the extent of the investor’s ownership interest in the
associate. As discussed in the module, this would require adjustments to ‘Investment in Associates’ and
‘Share of profit of associates’.

B is incorrect—the bonus issue would not change the post-acquisition reserves of the associate and,
therefore, no adjustment is required.

C is incorrect—revaluation is already reflected in the initial cost of the investment and no adjustment should
be undertaken.

D is incorrect—the transfer would not change the post-acquisition reserves of the associate and, therefore,
no adjustment is required.

Source: Topic heading—‘Application of the equity method’.

FINANCIAL REPORTING SUGGESTED ANSWERS | 118

Question 6.18
Correct Answer: a

Refer to paragraph 10 of IAS 28.

B is incorrect—refer to paragraph 10 of IAS 28—the cost of the investment is not adjusted for the fair value
of the net assets of the associate.

C is incorrect—recorded at the cost of the investment (para. 10).

D is incorrect—goodwill is notionally measured, but not separately accounted for.

Source: Topic heading—‘Application of the equity method: Accounting for the initial investment’.

Question 6.19
Correct Answer: b

See paragraph 32(b) of IAS 28, which requires any gain to be determined in accordance with IFRS 3 Business
Combinations and then included in the investor’s share of the associate’s profit or loss in the period when the
investment was acquired.

Source: Topic heading—‘Application of the equity method’.

FINANCIAL REPORTING SUGGESTED ANSWERS | 119

Question 6.20
Correct Answer: c

The sales within the group should be eliminated. The credit to the cost of goods sold is made up of two
components: the original cost of goods sold within the group ($6000), and the overstatement of cost of goods
sold when sold by Parent Ltd to external parties ($1000—half the inventory cost the group $3000; Parent Ltd
would have recorded a cost of goods sold of $4000). The credit to inventory restates the inventory on hand
at cost to the group ($3000), not the cost to Parent Ltd ($4000). From the group’s point of view, there is a
remaining unrealised profit of $1000. As this has been eliminated in the financial statements of the group,
the profit of the group is $1000 less than the profit of Parent Ltd plus Subsidiary Ltd. Hence, the income tax
expense of the group has to be reduced (credited) by $300. The sale of inventory within the group at a profit
has resulted, from the group’s perspective, in the tax base of the inventory being higher (by $1000) than its
carrying amount in the consolidated statement of financial position. Hence, in 20X2 the group has a
deductible temporary difference because when the cost of the inventory to the group is recovered,
the group will receive a deduction greater than this amount (the tax base). Hence, the group has
recognised a deferred tax asset.

A is incorrect. A deferred tax liability, instead of a deferred tax asset, has been recognised.

B is incorrect. It ignores the fact that half of the inventory has been sold. The correct accounts have been
used, but it has been assumed that all the inventory is still on hand (unrealised profit is $2000).
This assumption also means that the amount for the tax entry is incorrect.

D is incorrect. It assumes that all of the inventory sold within the group is still on hand. The amount of income
tax expense is incorrect and has been increased, not reduced. In addition, a deferred tax liability, instead of a
deferred tax asset, has been recognised.

Source: Topic heading—‘Preparation of consolidated financial statements—Transactions within the group.

Question 6.21
Correct Answer: a

In 20X1, the profit of the group was reduced by $700 ($1000 unrealised profit less income tax expense of
$300). This would have reduced the retained earnings of the group, as compared with the sum of the retained
earnings of Parent and Subsidiary Ltd. Hence, the opening balance of the retained earnings for the group has
to be reduced by $700. When the inventory is sold in 20X2, the other half of the profit on the inventory ($1000)
is realised by the group. Therefore, the income tax expense of the group will have to be increased (debited)
by $300. The credit entry remeasures the cost of the inventory sold to the cost to the group ($3000), not the
cost recorded by Parent ($4000) when it sold the inventory in 20X2.

B is incorrect. The effect on the retained earnings of the group via the reduction in the tax expense of the
group in 20X1 has not been allowed for. The deferred tax asset has been realised in 20X2. However, as this
account has not been reinstated in the consolidation worksheet, no credit entry to this account is required.

C is incorrect. It assumes all of inventory remained on hand as at 30 June 20X1.

D is incorrect. It assumes the tax expense of the group was increased in 20X1.

Source: Topic heading—‘Preparation of consolidated financial statements—Transactions within the group’.

FINANCIAL REPORTING SUGGESTED ANSWERS | 120

Question 6.22
Correct Answer: b

• The depreciation expense recorded in the financial statements of Big Ltd is overstated by $1000 annually
from the group’s perspective. Consequently, the depreciation expense for 20X5 needs to be reduced
(credited) and the accumulated depreciation reduced (debited) to allow for 20X4 and 20X5 ($2000).
• Reducing the depreciation expense of the group, as compared with the sum of Big Ltd and Little Ltd,
reflects the group’s realisation in 20X5 of a further $1000 of the profit previously considered unrealised on
the transfer of the equipment within the group. Hence, the income tax expense of the group has to be
increased (debited) by $300 (30 per cent of $1000).
• In 20X4, when the equipment was sold ‘internally’, a deferred tax asset of $3000 was raised on
consolidation (30 per cent of $10 000). The 20X4 consolidation entries would also have reflected a
reduced depreciation expense of $1000 and a consequent realised profit of $1000 and related decrease
in deferred tax asset of $300. In 20X5, a further $1000 of profit has been realised and, as a result, an
additional $300 of the tax asset has been realised. Therefore, a net debit of $2400 ($3000 − $300 − $300)
to deferred tax asset is required.
• In 20X4, the profit of the group was reduced by the unrealised profit on the ‘internal’ sale of the
equipment ($7000 net of tax). During 20X4, $700 of the profit net of tax was realised. The effect of the
20X4 consolidation entries reflecting these events ‘flowed through’ to reduce the closing group’s retained
earnings by $6300. Therefore, a debit entry to reduce the opening retained earnings must be processed.
• The equipment is overstated from the point of view of the group. The cost to the group is $30 000,
not $40 000 as recorded in the financial statements of Big Ltd, hence the credit entry to equipment
for $10 000.

A is incorrect. Only one year of depreciation has been taken into account, and the tax effect of the unrealised
profit in 20X4 has been ignored.

C is incorrect. The realisation of $1000 of profit (including the tax effect) by the group in 20X4 has been
ignored.

D is incorrect. The depreciation expense is incorrect—both years have been allowed for as an adjustment to
the current year’s profit.

Source: Topic heading—‘Preparation of consolidated financial statements—Transactions within the group’.

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Question 6.23
Correct Answer: c

Twenty per cent of: Profit for the year of subsidiary − (+) any unrealised (realised) after-tax profits made by
the subsidiary.

= 20% of ($20 000 + ($1000 − $300))

= 20% of $20 700

= $4140

Notes:
1. The unrealised profit on the sale of the land was recorded in the financial statements of Big. Hence, no non-
controlling interest is involved.
2. $700 of the profit (net of tax) relating to the equipment has been realised by the group. This sale of equipment
was originally recorded by Little Ltd and, therefore, the non-controlling interest is affected.

A is incorrect. The unrealised profit after tax on the land has been included in the calculation.

B is incorrect. Twenty per cent of the book profit of the subsidiary with no adjustments for profits,
realised or unrealised.

D is incorrect. No allowance for the tax effect of the $1000 of profit realised.

Source: Topic heading—‘Preparation of consolidated financial statements—Non-controlling interest’.

Question 6.24
Correct Answer: c

Twenty per cent of: Closing retained earnings in the financial statements of the subsidiary +(−) any realised
(unrealised) profit net of tax made by the subsidiary over preceding periods and the current period

= 20% of ($10 000 − ($10 000 − $3000) + ($2000 − $600))

= 20% of $4400

= $880

A is incorrect. Unrealised profit on the sale of land has been included in the calculation: relates to the parent
entity and not the subsidiary.

B is incorrect. It has not allowed for the tax effect of unrealised and realised profits.

D is incorrect. No adjustments are made for unrealised or realised profits.

Source: Topic heading—‘Preparation of consolidated financial statements—Non-controlling interest’.

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Question 6.25
Correct Answer: c

Realisation of loss via depreciation charges.

Elimination of intra-group dividend revenue included in the statement of comprehensive income of

Parent Ltd.

Unrealised profit or loss on sale of inventory.

A is incorrect. It ignores the losses realised via depreciation charges and dividend declared by Sub. Ltd
(elimination of income recognised in the financial statements of Parent Ltd).

B is incorrect. It ignores the losses realised via depreciation charges.

D is incorrect. It ignores the dividend declared by Sub. Ltd. In addition, it has included consolidation entries
relating to intra-group services (entry 4) and interest (entry 5), which have no impact on the consolidated
profit, as compared with the sum of the profits of Parent Ltd and Sub. Ltd.

Source: Topic heading—‘Preparation of consolidated financial statements—Transactions within the group’.

Question 6.26
Correct Answer: b

A tax effect relates to the situation where there is unrealised or realised profit (or loss). Intra-group dividends
do not have tax effects because Parent Ltd will treat the dividends as tax-free in their own tax-effect entries
(this segment assumes the dividends will attract a rebate).

A is incorrect. Even though the plant was sold in a prior reporting period, the consolidated profit will be
affected via depreciation adjustments and the related tax effects.

C is incorrect. Intra-group dividends do not have a tax effect.

D is incorrect. They have included the tax effect on intra-group service and interest. As discussed in the
module, we assume that these types of transactions lead to the immediate recognition of profit. Therefore,
there are no unrealised profits or associated tax effects.

Source: Topic heading—‘Preparation of consolidated financial statements—Transactions within the group’.

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Question 6.27
Correct Answer: a

To affect the non-controlling interest in the consolidated profit, the transaction must involve a sale of
inventory or non-current asset (the only transactions involving unrealised or realisation of profit) from Sub. Ltd
to Parent Ltd.

B is incorrect. It includes an intra-group transaction between Sub. Ltd and Parent Ltd (rent of plant),
which does not involve any unrealised profit and, therefore, has no non-controlling interest implications.

C is incorrect. It includes all transactions from Sub. Ltd and Parent Ltd.

D is incorrect. It includes intra-group transactions that are from Parent Ltd to Sub. Ltd, and transactions that
do not involve unrealised profits or losses.

Source: Topic heading—‘Preparation of consolidated financial statements—Non-controlling interests’.

Question 6.28
Correct Answer: c

Share of associate’s profit is calculated as follows.

$
Share of book value of profit 33 6001
Add: Gain 5 0002
38 600
Less: Share of unrealised profit after tax (1 400)3
37 200
1 40% of $84 000.
2 40% of fair value of net assets = 40% of $200 000 ($180 000 + $20 000 revaluation) = $80 000.
Cost of investment = $75 000. Resulting gain of $5000 is included in the share of profit of
associate in the period in which the investment is acquired (para. 32(b) of IAS 28).
3 Half of unrealised profit after tax = $3500; 40% of $3500 = $1400.

A is incorrect. This has deducted share of dividend.

B is incorrect. Gain has not been included in the share of associate’s profit.

D is incorrect. This has not deducted share of unrealised profit.

Source: Topic heading—‘Application of the equity method’.

FINANCIAL REPORTING SUGGESTED ANSWERS | 124

Question 6.29
Correct Answer: b

Equity-accounted amount of investment in consolidated financial statements is calculated as follows.

$ $
Original investment 75 000
Add: Share of profit of associate 33 600
Gain* 5 000 38 600
113 600
Less: Share of unrealised profit after tax (1 400)
Share of interim dividend (8 000)
Share of declared dividend (12 000) (21 400)
Equity amount of investment 92 200

* Note: Paragraph 32(b) of IAS 28 requires gain to be excluded from the carrying amount of the investment
and included in income (via share of associate’s profit) in the period the investment is acquired. The gain
arises because of the investor’s share of the net fair value of the associate’s identifiable assets ($80 000)
and exceeds the cost of the investment ($75 000). After the gain is added back to the ‘investment in the
associate’, it is excluded from the investment, which now reflects the investor’s share of the net value of
the associate’s identifiable assets ($80 000).

A is incorrect. It has not added back excess.

C is incorrect. It has not deducted share of unrealised profit after tax.

D is incorrect. It has not deducted share of dividends.

Source: Topic heading—‘Application of the equity method’.

Question 6.30
Correct Answer: d

Paragraph 28 of IAS 28 requires that unrealised profits or losses on both ‘upstream’ and ‘downstream’
transactions should be eliminated to the extent of the investor’s ownership interest in the associate.
As discussed in the module notes, adjustments to eliminate unrealised profits or losses on transactions with
an associate must be made on a net basis to the ‘Investment in Associates’ and ‘Share of Profit or Loss of
Associates’. As the transaction from Investor Ltd to Investee Ltd is an unrealised profit, both the ‘Share of
associate’s profit’ and ‘Investment in associate’ accounts would be reduced.

A is incorrect. There is no increase in ‘Share of profit of associate’, unless an unrealised loss is involved.

B is incorrect. There is no increase in ‘Investment in associate’, unless an unrealised loss is involved.

C is incorrect. Adjustments to eliminate unrealised profits and losses are made to the ‘Investment in
Associates’ and ‘Share of Profit or Loss of Associates’ accounts. Hence, in accordance with IAS 28,
adjustments to the individual accounts cannot be made.

Source: Topic heading—‘Application of the equity method’.

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Question 7.1
Correct Answer: d

Paragraph 10(a) of IAS 36 requires an intangible asset with an indefinite useful life to be tested annually
for impairment by comparing its carrying amount with its recoverable amount.

A is incorrect. Inventories do not fall within the scope of IAS 36 (para. 2(a)).

B is incorrect. Investment properties carried at fair value do not fall within the scope of IAS 36
(para. 2(f)).

C is incorrect. Goodwill must be tested annually for impairment (para. 10(b)).

Source: Topic heading—‘Impairment of assets—An overview’.

Question 7.2
Correct Answer: b

Evidence that the asset is obsolete or physically damaged is an indicator of impairment (IAS 36, para. 12(e)).

A is incorrect. Interest rates would have to rise to increase the discount rate which would, in turn, reduce the
recoverable amount of the asset (para. 12(c)).

C is incorrect. The market value would have to have declined by significantly more than expected, given the
lapse of time or normal use (para. 12(a)).

D is incorrect. The indicator is the reverse—where the carrying amount of the entity’s net assets is more than
the entity’s market capitalisation (para. 12(d)).

Source: Topic heading—‘Identifying assets that may be impaired under IAS 36’.
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Question 7.3
Correct Answer: d

Refer to paragraph 12(f) of IAS 36. The restructuring has had an adverse impact on the way in which the assets
are used. The assets will be idle and, presumably, will have to be sold if an alternative use cannot be found.

A is incorrect. An increase in interest rates is important if it will have a significant impact on the discount rate.
Paragraph 16(a) of IAS 36 indicates that increases in short-term interest rates ‘may not have a material effect
on the discount rate used for an asset that has a long remaining life’.

B is incorrect. Both the cash inflows and outflows have increased, which would offset the impact. Hence, it is
unlikely that the economic performance of the asset will be worse than expected.

C is incorrect. A major overhaul is part of the normal maintenance program of an asset and, hence, would not
be indicative of a change in the asset’s value in use or fair value less costs of disposal.

Source: Topic heading—‘Identifying assets that may be impaired under IAS 36’.

Question 7.4
Correct Answer: a

Refer to definitions of recoverable amount, value in use and fair value less costs of disposal (IAS 36,
para. 6).

B is incorrect. The future cash flows must be discounted to present value to determine the value in use.

C is incorrect. The costs of disposal the asset must be deducted from its fair value.

D is incorrect. The future cash flows must be discounted to present value to determine the value in use.
In addition, the costs of disposal the asset must be deducted from its fair value.

Source: Topic heading—‘Impairment of individual assets’.

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Question 7.5
Correct Answer: b

The recoverable amount of an asset is the ‘higher of its fair value less costs of disposal and its value in use’
(IAS 36, para. 6). The value in use is the ‘present value of the future cash flows expected to be derived from an
asset’ (para. 6). In this case, the fair value less costs of disposal is $78 000 ($80 000 less $2000) and the present
value of the future cash flows is $60 000. Therefore, the higher amount is the fair value less costs of disposal,
$78 000.

A is incorrect. This calculation has taken the lower of the value in use and fair value less costs of disposal.

C is incorrect. The costs of disposal the asset have not been deducted from its fair value.

D is incorrect. The future value of the cash flows has been used instead of their present value.

Source: Topic heading—‘Impairment of individual assets’.

Question 7.6
Correct Answer: a

The cash inflow from the disposal of the asset (IAS 36, para. 39(c)) and the cash outflows necessary to generate
the cash inflows from use (IAS 36, para. 39(b)) should both be included in the determination of the value in
use.

The cash flows should not include

• cash outflows associated with financing activities (IAS 36, para. 50(a));
• cash inflows from planned improvements to which an entity has not yet committed—this has to be
cash flows from the asset in its existing condition (IAS 36, para. 44); and
• income tax payments (IAS 36, para. 50(b)).

B is incorrect. It includes interest payments, cash flows from planned improvements to which the company has
not yet committed and tax payments.

C is incorrect. It includes interest payments and tax payments.

D is incorrect. It includes cash flows from planned improvements to which the company has not yet committed
and tax payments.

Source: Topic heading—‘Value in use’.

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Question 7.7
Correct Answer: c

The recoverable amount of an asset is the ‘higher of its fair value less costs of disposal and its value in use’
(IAS 36, para. 6). For Diva Ltd’s equipment, the fair value less costs of disposal of $90 000 is greater than the
present value of the future cash flows, $70 000. Therefore, there is an impairment loss in relation to the
equipment of $20 000 (carrying amount of $110 000 less recoverable amount of $90 000). Paragraph 30 of
IAS 16 Property, Plant and Equipment requires an item of property, plant and equipment measured using the
cost model to be ‘carried at its cost less any accumulated depreciation and any accumulated impairment
losses’. Hence, ‘accumulated depreciation and accumulated impairment losses’ must be credited for $20 000,
and an impairment loss debited.

A is incorrect. The impairment loss is incorrect because it is based on a recoverable amount of $70 000
(the value in use).

B is incorrect. The amount of the impairment loss is correct, but it has not been accounted for in accordance
with the cost model requirements of IAS 16.

D is incorrect. The impairment loss is incorrect because it is based on a recoverable amount of $70 000
(the value in use), and the impairment loss has not been accounted for in accordance with the cost model
requirements of IAS 16.

Source: Topic heading—‘Impairment of individual assets’.

Question 7.8
Correct Answer: a

At 30 June 20X5, the machinery has been written down to its recoverable amount of $105 000. The machinery
has a remaining useful life of seven years and, therefore, the asset will be depreciated at $15 000 per year
($105 000/7). After the asset is depreciated for the year ended 30 June 20X6, the machinery will have a
carrying amount of $90 000 ($105 000 less $15 000). The recoverable amount of the machinery has been
reassessed as being $128 000. Hence, the carrying amount of the machinery can be increased, but the
increase must not exceed the carrying amount that would have been determined if no impairment loss had
been recognised (IAS 36, para. 117). If no impairment loss had been recognised, the carrying amount of the
asset at 30 June 20X6 would have been $120 000 ($200 000 less four years’ depreciation at $20 000 per year).
Hence, the carrying value of the machinery can be increased by $30 000 ($120 000 less $90 000), and a gain for
the same amount can be recognised in the profit or loss (IAS 36, para. 119).

B is incorrect. This entry assumes the asset was still depreciated by $20 000 during the year ended 30 June
20X6 and, hence, has a carrying amount of $85 000 ($105 000 less $20 000). Hence, the reversal is calculated as
$120 000 less $85 000.

C is incorrect. The machinery has been increased to its recoverable amount ($128 000), which exceeds the
carrying amount that the asset would have been carried at if no impairment loss had been recognised.

D is incorrect. The entry assumes the asset was still depreciated by $20 000 during year ended 30 June 20X6
and, hence, has a carrying amount of $85 000 ($105 000 less $20 000). In addition, it has increased the
machinery to the new recoverable amount ($128 000).

Source: Topic heading—‘Reversals of impairment losses’.

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Question 7.9
Correct Answer: b

In the first instance, the impairment loss would be allocated in proportion to the carrying amount of
each asset.

150 000/400 000 × $50 000 = $18 750

200 000/400 000 × $50 000 = $25 000
50 000/400 000 × $50 000 = $6 250

The carrying amount of the assets after this allocation would be

Asset A = $150 000 – $18 750 = $131 250

Asset B = $200 000 – $25 000 = $175 000
Asset C = $50 000 – $6 250 = $43 750

However, asset B has a fair value less costs of disposal of $190 000, which is greater than its value in use.
Therefore, the impairment loss for asset B is limited to $10 000 ($200 000 – $190 000) (IAS 36, para. 105).
The remaining impairment loss of $15 000 attributable to asset B must be allocated to the remaining assets
in the CGU in proportion to their carrying amounts after the impairment loss.

131 250/175 000 × $15 000 = $11 250

43 750/175 000 × $15 000 = $3 750

Therefore, the impairment loss for each asset would be

Asset A = $18 750 + $11 250 = $30 000

Asset B = $10 000
Asset C = $6 250 + $3 750 = $10 000

A is incorrect. The impairment loss has been allocated in proportion to the carrying amount of the assets
within the cash generating unit. The impairment loss in relation to Asset B has not been limited to $10 000.

C is incorrect. The impairment loss has been allocated evenly over the three assets.

D is incorrect. The impairment loss for asset B has been limited to $10 000, but the remaining $40 000 has
been allocated evenly to asset A and asset C.

Source: Topic heading—‘Impairment of CGUs’.

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Question 7.10
Correct Answer: b

CGU B has an impairment loss of $400 000 ($2 200 000 – $1 800 000) and CGU C has an impairment loss of
$500 000 ($4 350 000 – $3 850 000). These impairment losses would be allocated as follows.

CGU B
Building 200/2 200 × $400 000 = $36 000
Assets in CGU 2 000/2 200 × $400 000 = $364 000

CGU C
Building 350/4 350 × $500 000 = $40 000
Assets in CGU 4 000/4 350 × $500 000 = $460 000

Hence, the impairment loss allocated to the building (corporate asset) = $36 000 + $40 000 = $76 000.

A is incorrect. This assumes that the impairment losses are not allocated to the corporate asset.

C is incorrect. The total impairment loss has been allocated in proportion to the total amount of all CGUs.
That is, 700/7 700 × $900 000 = $82 000

D is incorrect. The impairment loss has been allocated using the original carrying amount. That is,

CGU B
Building 200/2 000 × $400 000 = $40 000

CGU C
Building 350/4 000 × $500 000 = $44 000

Source: Topic heading—‘Impairment of CGUs’.

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Question 7.11
Correct Answer: d

Refer to paragraph 104 of IAS 36.

A is incorrect. The impairment loss must be used to first reduce goodwill and then is attributed on a pro-rata
basis to the other identifiable assets in the CGU.

B is incorrect. The impairment loss must be allocated to goodwill.

C is incorrect. The impairment loss must first be allocated to goodwill, not on a pro-rata basis across all assets.

Source: Topic heading—‘Impairment of CGUs’.

Question 7.12
Correct Answer: c

Refer to paragraph 104 of IAS 36. There is an impairment loss of $600 000 ($2 400 000 – $1 800 000).
The impairment loss is first allocated to goodwill ($400 000). The remaining $200 000 is allocated to the
identifiable assets on a pro-rata basis, using the carrying amount of each identifiable asset as follows.

Machinery 400 000 ÷ 2 000 000 × $200 000 = $40 000

Other plant 600 000 ÷ 2 000 000 × $200 000 = $60 000
Land 1 000 000 ÷ 2 000 000 × $200 000 = $100 000

The carrying amounts of the assets after this allocation would be

Machinery = $400 000 – $40 000 = $360 000

Other plant = $600 000 – $60 000 = $540 000
Land = $1 000 000 – $100 000 = $900 000

A is incorrect. After allocating $400 000 of the impairment loss to goodwill, the remaining $200 000 is
allocated evenly over the identifiable assets ($200 000 ÷ 3 = $66 666).

B is incorrect. The $600 000 impairment loss is allocated evenly over the identifiable assets and goodwill
($600 000 ÷ 4 = $150 000 per asset).

D is incorrect. The $600 000 impairment loss is allocated over the identifiable assets and goodwill pro rata.
For example, the impairment loss allocated to the machinery would be as follows.

$400 000 ÷ $2 400 000 × $600 000 = $100 000. Therefore, the carrying amount of the
machinery would be $300 000 ($400 000 – $100 000).

Source: Topic heading—‘Impairment of CGUs’.