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Plain‑English explainer of HKAS 23 / IAS 23 for students, junior accountants and non‑specialists who find official standards too dense to read.
This article is based on Hong Kong Accounting Standards (HKAS / HKFRS), which are fully aligned with IAS / IFRS except for minor local tweaks, so the same principles generally apply under IAS / IFRS unless noted otherwise. The goal is to unpack HKAS 23 Borrowing Costs (equivalent to IAS 23) using plain English and practical, real‑life examples instead of technical jargon. It is written for students, junior accountants, audit juniors and finance professionals who want to understand not just “what the standard says” but how to actually read and prepare financial statements in line with it.
When you see “the company” or “the entity” below, you can think of any entity that prepares general purpose financial statements under HKFRS / IFRS.
Interest is not always “just an expense”
Many beginners – and even colleagues who already do bookkeeping – are used to treating all interest as a finance cost that goes straight to the statement of profit or loss. That feels natural when you are only dealing with simple bank loans and overdrafts.
But once you start seeing development projects, factory construction, property development or long‑term R&D, you will notice a common pattern: the company borrows a large amount of money to build a plant or an investment property, and the construction period can easily be two to three years. The key question becomes: should the interest during this period be capitalised as part of the asset cost, or expensed immediately?
If you expense all the interest straight away, the initial carrying amount of the asset is lower, future depreciation is smaller, and short‑term profit may look “ugly”. If you capitalise everything, the asset cost becomes larger, current profit looks “better”, and users may not see the full financing cost in the current period.
HKAS 23 Borrowing Costs (equivalent to IAS 23) steps in to create a consistent rule for:
- Which borrowing costs must be capitalised.
- When to start, suspend and stop capitalisation.
- How to compute the amount to capitalise when borrowings are specific vs general.
What You Should Be Able To Do After Reading?
By the end, you should be able to:
- Explain why HKAS 23 / IAS 23 no longer allows a free choice between capitalising and expensing borrowing costs.
- Calculate the amount of borrowing costs to capitalise for specific borrowings, including how to adjust for temporary investment income.
- Compute a capitalisation rate for general borrowings, and apply the rule that capitalised interest cannot exceed actual borrowing costs for the period.
- Understand how specific borrowings are treated once the qualifying asset is complete, and how they join the general borrowing pool.
- Apply the three conditions for starting capitalisation, and judge when to suspend or stop capitalising in common delay or phased‑completion scenarios.
1. One model only: capitalise when required, expense the rest
In older versions of the standards, some companies could choose to either capitalise borrowing costs or expense them immediately, as long as they disclosed the policy in the notes. Under the current HKAS 23 / IAS 23, this choice has effectively disappeared. The standard now follows a single model:
If borrowing costs are directly attributable to the acquisition, construction or production of a qualifying asset, they must be capitalised; all other borrowing costs are expensed.
There are several reasons for this single‑model approach:
- Faithful representation of asset cost – For a large asset under construction, the related borrowing costs clearly form part of what the company sacrifices to get the asset ready. Including them in the asset’s cost gives users a more realistic picture of the total investment.
- Improved comparability – If some entities capitalise and others expense everything, it becomes very hard to compare profit or asset values just by looking at the statement of financial position and the statement of profit or loss.
- Convergence with IAS / IFRS and US GAAP trends – Modern standard‑setting tries to reduce optional accounting policy choices so that analysts can more easily compare financial statements across companies and jurisdictions.
In practice, this “two‑track” outcome means that, in the same accounting period:
- One portion of borrowing costs will be capitalised and included in the carrying amount of qualifying assets.
- Another portion that does not meet the capitalisation conditions will go directly to profit or loss as finance costs.
Your job as the accountant is to apply HKAS 23 / IAS 23 and split the total borrowing costs into these two tracks correctly.
2. Specific borrowings: how to compute the amount to capitalise
Specific borrowings are loans or other borrowings that the company obtains specifically to acquire, construct or produce a particular qualifying asset. A typical example is a bank loan taken out solely to finance a new factory or an investment property under construction. Because the link between the borrowing and the asset is clear, the calculation is conceptually simpler.
The basic logic for specific borrowings can be summarised as:
Capitalisable borrowing costs = Borrowing costs on the specific borrowing − Investment income on temporary investment of those funds (if any).
In plain language: if the company has borrowed money but has not yet used all of it on the project, and parks the surplus in short‑term deposits or other temporary investments, then the investment income should be used to offset the interest being capitalised.
A simplified numerical illustration:
- The company takes out a specific loan of 100 million at 5% per year to build a new factory.
- On average, only 60 million is used during the first year; the remaining 40 million is placed in short‑term bank deposits at 2%.
- Interest expense on the loan: 100m × 5% = 5m.
- Investment income on idle funds: 40m × 2% = 0.8m.
- Capitalisable borrowing costs: 5.0m − 0.8m = 4.2m.
The logic is that the company’s net financing cost for the project is 4.2m, not the full 5m. Only this net amount should be added to the cost of the qualifying asset. The investment income will typically be recognised as interest income or used to offset finance costs in profit or loss.
Earlier versions of some other frameworks, such as older US standards, did not allow this offset, which tended to inflate asset costs. HKAS 23 / IAS 23 take an “economic burden” view: what matters for capitalisation is the net cost of financing the asset, which provides more meaningful information to users.
3. General borrowings and the capitalisation rate
Compared with specific borrowings, general borrowings are loans or other debt that the company raises for general purposes – for example, to finance working capital, multiple projects and overall operations. Common examples include bank overdrafts, revolving facilities and corporate bonds. When part of these general borrowings effectively finances qualifying assets, we use a capitalisation rate to compute the amount of interest to capitalise.
HKAS 23 / IAS 23 require the company to:
- Determine a “pool” of general borrowings (excluding amounts that are already treated as specific borrowings for particular qualifying assets).
- Compute a weighted average interest rate on that pool – this is the capitalisation rate.
- Apply the capitalisation rate to the expenditure on qualifying assets that is not already financed by specific borrowings.
- Apply an upper limit so that the amount capitalised does not exceed the actual borrowing costs on the general borrowings for that period.
The high‑level steps in practice:
- Identify the general borrowing pool Add up all borrowings that are not specific to individual qualifying assets.
- Compute the weighted average interest rate For each borrowing in the pool, take its interest expense and outstanding balance, then calculate the overall effective rate.
- Apply the capitalisation rate to qualifying asset expenditure Multiply the capitalisation rate by the portion of qualifying asset expenditure that is financed by general borrowings, taking into account when during the period the expenditure occurs.
- Check the capitalisation ceiling Ensure that the amount you intend to capitalise from general borrowings does not exceed the actual borrowing costs on the general borrowing pool for that period.
This “ceiling” is crucial. Suppose the qualifying asset expenditure is large and occurs early in the year; the theoretical capitalised interest produced by the formula could be higher than the total interest actually incurred on general borrowings. HKAS 23 / IAS 23 do not allow you to capitalise “imaginary interest”, so you must cap the capitalised amount at the actual borrowing costs.
Common mistakes in real‑life files and exam answers include:
- Forgetting to exclude specific borrowings from the general pool, which overstates the capitalisation rate.
- Ignoring the ceiling test and capitalising the full theoretical amount even when it exceeds actual interest.
- Failing to adjust for the timing of expenditure during the period, instead treating all spending as if it happened on day one.
The safest way to work is to follow the steps systematically instead of blindly applying a formula.
4. When specific borrowings become part of general borrowings
Another area that students often overlook is what happens to specific borrowings after the qualifying asset is complete.
Imagine the company takes out a specific loan to build a new head office building. The building reaches the condition necessary for its intended use, and staff move in, but the loan is not yet repaid. What happens to the interest on that loan after completion?
HKAS 23 / IAS 23 take this view:
- During the construction phase, while the asset is still a qualifying asset, the loan is treated as a specific borrowing, and its interest can be capitalised (subject to the usual conditions).
- Once the asset is ready for its intended use or sale, the asset is no longer “under construction”, so the loan loses its status as a specific borrowing for that asset. From that point, the interest is no longer directly attributable to that completed asset.
In practice, the borrowing does not disappear – it remains outstanding and often effectively finances the company’s general operations. The typical treatment is:
- From the date the asset is complete, reclassify that loan into the general borrowing pool.
- When calculating the capitalisation rate for future periods, include this loan together with other general borrowings in the weighted average rate.
This approach keeps the logic consistent:
- While the asset is being built, the link between the loan and the asset is direct, so interest can be capitalised.
- After the asset is ready for use, future interest becomes part of general financing costs, and only affects capitalisation indirectly when other qualifying assets are being constructed using the general borrowing pool.
From an exam or working‑paper perspective, a common trap is to continue treating a completed‑asset loan as a specific borrowing and keep capitalising its interest, which overstates the cost of the asset and violates HKAS 23 / IAS 23.
5. Three conditions for starting capitalisation
One of the most heavily tested parts of HKAS 23 / IAS 23 is when capitalisation can begin. The standard says you can start capitalising borrowing costs only when all three of the following conditions are met:
- The company has incurred expenditure on the qualifying asset.
- The company has incurred borrowing costs.
- The company has begun activities necessary to prepare the asset for its intended use or sale.
If any one of these is missing, you cannot start capitalising yet.
The idea of “expenditure” is broader than just a cash payment. It includes:
- Paying cash or other consideration.
- Transferring other assets as consideration.
- Incurring interest‑bearing liabilities (for example, entering into instalment arrangements or finance leases).
- Considering any offsets such as progress billings or government grants to arrive at the net expenditure.
For example, in a real estate development project, the developer signs a construction contract with staged payments and may also receive government land subsidies. In assessing whether sufficient expenditure has been incurred, you look at the net outflow – the actual funding the company is committing to the asset – not just the gross contract value.
“Activities necessary” is also broader than just physical construction. It can include design work, obtaining permits and other preparatory tasks that are essential to bring the asset to its intended condition. However, if the asset is idle or work has been intentionally halted by the company, with no substantive progress, then you usually cannot say that necessary activities are ongoing. This links directly to the idea of suspending capitalisation, which we look at next.
6. Suspending capitalisation: what counts as a prolonged, avoidable break?
HKAS 23 / IAS 23 require the company to suspend capitalisation of borrowing costs during periods in which active development of the asset is suspended for an extended period for reasons that are not necessary to bring the asset to its intended condition.
However, not every pause or delay triggers suspension. The standard distinguishes between:
- No need to suspend, for example:
- Normal breaks in construction that arise from the nature of the process (e.g. waiting for concrete to cure).
- Typical delays due to local climate, seasons or legal restrictions (e.g. winter weather or short storm‑related stoppages).
- Short gaps between phases where, overall, the project continues to progress.
- Potential suspension required, for example:
- The company halts the project for an extended period because of financial difficulties and does no real work on the asset.
- Key approvals cannot be obtained and no alternative plan is actively pursued.
- Management deliberately pauses the project to reassess its viability over a long period.
The practical challenge is deciding what is “prolonged” and “avoidable”. You often need to look at project reports, board minutes and other evidence to understand whether a stoppage is just part of the normal project lifecycle or an avoidable delay.
For exam questions and real projects, a good habit is: whenever you see wording like “construction was halted for a long period” or “the project was suspended for several months”, immediately ask yourself whether that period still involves necessary activities. If not, you may need to stop capitalising borrowing costs and expense them instead during that time.
7. Stopping capitalisation and phased completion
The last major timing issue is when to stop capitalising. HKAS 23 / IAS 23 say, broadly:
When substantially all the activities necessary to prepare the asset for its intended use or sale are complete, the company must stop capitalising borrowing costs.
The focus is on whether the necessary activities are essentially finished, not whether literally no work at all is still being done. For example:
- A building is structurally complete and can be used, but minor decoration, moving furniture or small layout tweaks are still ongoing.
- All required legal approvals have been obtained and operations can start, with only minor branding or signage updates outstanding.
In these cases, the asset is already capable of generating its intended economic benefits, so further borrowing costs should not be capitalised.
A trickier area is phased completion, such as:
- A large business park built in multiple phases, where some buildings become usable earlier than others.
- A steel production line or power plant where the system only functions as intended when the full set of components is complete.
For the business park, if certain buildings are individually usable and tenants can move in, the standard generally allows capitalisation to stop for those completed parts, treating them as separate assets. Borrowing costs can continue to be capitalised for the remaining phases that are still under construction.
For a complex production line that only works properly as a whole, early completion of individual components does not necessarily mean they are “ready for intended use”. In such cases, you typically wait until the entire system is operational before you say the asset has reached its intended condition and stop capitalisation.
In practice, these judgments often require input from engineers and project managers, not just the finance team. You need to understand how the asset actually functions in the business to decide whether a part is independently usable.
8. Worked scenario: specific borrowings + general borrowings + staggered spending
To pull the ideas together, consider the following scenario.
The company starts building a new factory in year 20X1. The factory is clearly a qualifying asset. To finance the project, the company has two funding sources:
- A specific bank loan taken out only for the factory.
- Several general borrowings used for day‑to‑day operations that will also be drawn upon if the factory needs extra funding.
Specific borrowing set‑up
- At the beginning of 20X1, the company obtains a specific loan of 50,000,000 at 6% per year.
- The loan is clearly restricted to paying the first and second construction instalments for the factory.
- Any temporarily unused funds could be placed on short‑term deposit to earn interest, but to keep the story simple, assume temporary investment income is negligible.
The annual interest on this specific loan is:
- 50,000,000 × 6% = 3,000,000.
In this simplified case, where we ignore temporary investment income, the full 3,000,000 is considered borrowing costs directly attributable to the factory and is eligible for capitalisation (assuming the other conditions for capitalisation are met).
General borrowings in the background
The company already has two general borrowings for working capital:
- Loan A: 40,000,000 at 5% per year.
- Loan B: 60,000,000 at 7% per year.
These loans are not specifically for the factory, but when the factory needs more cash after the specific loan is used up, the company will rely on this general borrowing pool.
Timeline of factory expenditure
During 20X1, the factory construction expenditure occurs as follows:
- 1 March: 30,000,000
- 1 July: 20,000,000
- 1 November: 10,000,000
The company follows a very common pattern:
- Use the specific loan to pay the first two instalments (30m + 20m = 50m), exhausting the specific borrowing.
- Use general borrowings to pay the final 10m on 1 November.
Separately, on 1 April, the company spends 8,000,000 to upgrade its IT system. Assume this system is completed quickly and is not a qualifying asset under HKAS 23 / IAS 23 (for example, the development period is not “substantial”). Therefore, this IT spend does not trigger interest capitalisation.
Further assumptions:
- The three conditions to start capitalisation are met from the beginning of the year, so capitalisation can occur whenever qualifying asset expenditure and borrowing costs arise.
- There are no prolonged suspensions and the factory is not yet complete by year‑end, so there is no need to suspend or stop capitalisation within the year.
Step 1 – Specific borrowing interest
The specific loan is straightforward:
- Amount: 50,000,000
- Rate: 6%
- Annual interest: 50,000,000 × 6% = 3,000,000.
Assuming no material temporary investment income, the entire 3,000,000 is capitalised to “factory under construction”.
Step 2 – General borrowings and the capitalisation rate
Now the focus shifts to the 10,000,000 factory expenditure on 1 November financed by general borrowings.
We ask:
Out of the total interest on the general borrowing pool, how much is “caused by” financing this 10m factory expenditure?
HKAS 23 / IAS 23 tell us to use a weighted average capitalisation rate.
Step 2a – Calculate total general borrowing interest
- Loan A: 40,000,000 × 5% = 2,000,000.
- Loan B: 60,000,000 × 7% = 4,200,000.
- Total interest on general borrowings: 2,000,000 + 4,200,000 = 6,200,000.
Total general borrowings: 40,000,000 + 60,000,000 = 100,000,000.
Capitalisation rate (weighted average):
- 6,200,000 ÷ 100,000,000 = 6.2%.
You can think of 6.2% as the average cost of money in the general borrowing pool.
Step 2b – Determine the average amount of qualifying expenditure financed by general borrowings
Only the 10,000,000 paid on 1 November for the factory comes from general borrowings.
From 1 November to 31 December is 2 months. To reflect the time factor, we convert this into an average annual amount:
- 10,000,000 × (2 / 12) = approximately 1,666,667.
Interpretation: over the whole year, it is as if around 1.67m of general borrowing was dedicated to the factory on average.
Step 2c – Apply the capitalisation rate
Now:
- Capitalisation rate: 6.2%.
- Average qualifying expenditure financed by general borrowings: about 1,666,667.
Capitalisable interest from general borrowings:
- 1,666,667 × 6.2% ≈ 103,333.
We can say:
During 20X1, approximately 103,333 of the interest on general borrowings is directly attributable to the factory and is eligible for capitalisation.
Step 2d – Apply the capitalisation ceiling
Actual interest on general borrowings is 6,200,000 for the year. Our calculated capitalisable amount of 103,333 is well below this.
So the ceiling test is passed and the full 103,333 can be capitalised. If the theoretical amount had exceeded 6,200,000, we would have had to cap it at 6,200,000.
Total capitalised borrowing costs for the factory in 20X1
Adding the two sources:
- Specific borrowing interest capitalised: 3,000,000.
- General borrowing interest capitalised: ≈ 103,333.
Total capitalised borrowing costs for the factory in 20X1: approximately 3,103,333.
This amount increases the carrying amount of “factory under construction”. Once the factory is ready for its intended use, this cost will be depreciated over its useful life and recognised in profit or loss through depreciation.
The remaining general borrowing interest that is not capitalised stays in the statement of profit or loss as finance costs for the period.
Key Takeaways for Students and Junior Accountants
- Whenever you see interest or finance costs, pause and ask: is there a qualifying asset under construction, and do the three start‑capitalisation conditions under HKAS 23 / IAS 23 appear to be met?
- For specific borrowings, always check whether there is temporary investment income that should be offset, and remember to stop treating the loan as “specific” once the asset is ready for use or sale.
- For general borrowings, structure your working papers to: (1) define the general borrowing pool, (2) compute the weighted average capitalisation rate, (3) adjust for the timing of qualifying expenditure, and (4) apply the ceiling so you never capitalise more than actual interest.
- When reading contracts and project reports, pay attention to signs of prolonged, avoidable stoppages; these might require you to suspend capitalisation, even if borrowing costs continue to accrue.
- In exam questions, use a checklist mindset: specific vs general borrowings, netting temporary investment income, start / suspend / stop timing, and the capitalisation ceiling are all classic points examiners love to test.
- In real working papers, document your reasoning clearly: why a particular asset qualifies, why certain borrowing costs are treated as specific or general, and how you decided on timing and amounts; this is exactly what reviewers and auditors expect to see.
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