AS 16 does not permit every project-related interest cost to be added to an asset. Capitalisation is allowed only for borrowing costs that are directly attributable to acquiring, constructing or producing a qualifying asset. Other borrowing costs go to the statement of profit and loss.
This guide is for entities applying Indian Accounting Standards (AS), not Ind AS. The current ICAI AS 16 text records the notified standard and its detailed rules.
First confirm that AS 16 is the correct framework
| Question | AS 16 answer | Why it matters |
|---|---|---|
| Which entities use this guide? | Entities applying Accounting Standards under the applicable Indian framework | An Ind AS entity should use Ind AS 23 instead |
| What is a substantial period? | It depends on the facts; ordinarily 12 months is considered substantial unless a shorter or longer period is justified | The asset label alone does not decide whether it qualifies |
| What is disclosed? | The borrowing-cost accounting policy and the amount capitalised during the period | AS 16 does not state the same capitalisation-rate disclosure requirement as Ind AS 23 |
For an Ind AS entity, use the separate Ind AS 23 borrowing-cost guide. Keeping the frameworks separate prevents an AS 16 file from importing an Ind AS disclosure or scope rule without checking it.
What can count as borrowing cost?
Borrowing costs include interest and other costs incurred in connection with borrowing funds. AS 16 says these may include interest and commitment charges, amortisation of borrowing discounts or premiums, ancillary borrowing-arrangement costs, finance charges under finance leases or similar arrangements, and certain exchange differences on foreign-currency borrowings.
The foreign-currency point needs care. The exchange difference treated as borrowing cost is limited to the difference between the interest on a comparable local-currency borrowing and the interest on the foreign-currency borrowing. Any balance is dealt with under AS 11.
Official illustration: ICAI’s AS 16 example calculates foreign-loan interest of ₹24,000 and an exchange difference of ₹30,000. Comparable local borrowing interest is ₹49,500. Therefore, only ₹25,500 of the exchange difference is treated as borrowing cost, giving total borrowing cost of ₹49,500; the remaining ₹4,500 is accounted for under AS 11.
Decide whether the asset qualifies
| Asset or situation | Likely AS 16 result | Reason |
|---|---|---|
| Manufacturing plant or power facility under long construction | May qualify | It normally takes a substantial period to become ready |
| Inventory that needs a long maturation or production period | May qualify | Readiness for sale takes a substantial period |
| Routine inventory produced quickly and repeatedly | Does not normally qualify | It is produced over a short period |
| Machine ready for use when purchased | Does not qualify | No substantial preparation period is needed |
| Land held without development activity | Borrowing cost is not capitalised merely for holding it | No activity is changing the asset’s condition |
After identifying a qualifying asset, check whether the borrowing cost would have been avoided if expenditure on that asset had not been made. A large loan balance or capital project by itself is not enough.
Specific borrowing: use the direct cost
For money borrowed specifically for a qualifying asset, eligible borrowing cost is the actual cost incurred on that borrowing during the capitalisation period, less income earned by temporarily investing unused funds.
Assume a company borrows ₹10 crore specifically for a plant at 9% a year. Expenditure and active preparation begin on 1 June. Work continues for June to November, stops completely for an abnormal interruption in December and January, resumes on 1 February and finishes on 31 March. With no temporary-investment income, eight active months qualify:
₹10 crore × 9% × 8/12 = ₹60 lakh capitalised.
Interest for May is before commencement. Interest for December and January is expensed because active development was interrupted for an extended period.
General borrowings: show the weighted calculation
When general borrowings fund a qualifying asset, AS 16 applies a weighted-average capitalisation rate to qualifying expenditure. Specific project borrowings are excluded from this rate, and the amount capitalised cannot exceed total borrowing costs incurred during the period.
| General borrowing | Principal | Annual rate | Annual borrowing cost |
|---|---|---|---|
| Loan A | ₹6 crore | 10% | ₹60 lakh |
| Loan B | ₹4 crore | 12% | ₹48 lakh |
| Total / weighted rate | ₹10 crore | ₹108 lakh ÷ ₹10 crore = 10.8% | ₹108 lakh |
Suppose qualifying expenditure is ₹1.20 crore on 1 April and another ₹1.60 crore on 1 October. The weighted expenditure for the year is ₹1.20 crore + (₹1.60 crore × 6/12) = ₹2 crore. Subject to the other conditions, eligible borrowing cost is:
₹2 crore × 10.8% = ₹21.60 lakh.
The result is below the ₹108 lakh borrowing-cost cap. The working paper should show loan balances, rates, expenditure dates, exclusions and the cap rather than applying whichever loan rate is easiest to find.
Start only when all three conditions are met
Capitalisation starts only when expenditure on the asset is being incurred, borrowing costs are being incurred, and activities necessary to prepare the asset for use or sale are in progress. Necessary activity can include technical and administrative work such as obtaining permits; it is not limited to physical construction.
Qualifying expenditure is reduced by progress payments and grants connected with the asset. The related AS 12 government-grants guide helps trace grant treatment separately.
Suspend and stop at the correct time
Capitalisation is suspended during extended periods when active development is interrupted. It normally continues if substantial technical or administrative work is still being performed, or when a temporary delay is a necessary part of preparing the asset.
Capitalisation stops when substantially all necessary activities are complete. Routine administration or minor finishing work does not justify continuing. If a project has independently usable parts, capitalisation stops separately for each completed part; a group of independently usable buildings is different from an integrated plant that must be completed as a whole.
Check carrying amount and close the file
Capitalising borrowing costs does not protect an asset from impairment or inventory valuation rules. If its carrying amount or expected ultimate cost exceeds recoverable amount or net realisable value, apply the relevant Accounting Standard. The broader capital-versus-revenue expenditure guide explains why an eligible cost still needs the correct asset-recognition analysis.
- Record why the asset meets the qualifying-asset definition and justify the preparation period.
- Separate specific borrowings from general borrowings.
- Deduct temporary-investment income from specific borrowing costs.
- Reproduce the weighted general-borrowing rate and expenditure base.
- Evidence the date on which all three commencement conditions were met.
- Document stoppages, activity performed during delays and the suspension decision.
- Record when the whole asset or each independently usable part became substantially ready.
- Apply the total borrowing-cost cap and reconcile the journal entry.
- Disclose the accounting policy and amount capitalised during the period.
A reliable AS 16 file should let a reviewer trace every capitalised rupee to a qualifying asset, a borrowing source, dated expenditure and an active preparation period. If that trail is missing, the interest should not be capitalised merely because it relates broadly to a project.
