Due to the length of time involved in the development and construction of real estate properties, a project’s plans, cost estimates, and expected sales prices may change over the course of the project.
Change In Estimates
Paragraph 12 of FASB Statement No. 67 requires that estimates and cost allocations be reviewed at the end of each financial reporting period until a project is substantially completed and available for sale. Generally, any changes in cost.
The accounting for any cost revisions may be reflected in the current period or in current or future periods, depending on the facts and circumstances: If the difference in cost estimates relates to direct costs for units already sold, such as additional sales commissions, they are charged to expense at the time the information becomes available to the developer.
If the difference in cost estimates arises from an increase or decrease in common costs — streets, utilities, etc. — any cost increases or decreases are accounted for prospectively.
The prospective accounting for changes in common cost estimates can lead to different margins over the time of project development and construction. If cost estimates for common costs increase, common costs attributable to units already sold will be allocated to the costs of unsold units. Consequently, the profit margin of units sold in future periods would be lower than the profit margin of units already sold.
Changes in estimates in sales values, which impact cost allocation under the relative value methods, are also accounted for as a change in estimate pursuant to paragraphs 19 through 22 of FASB Statement No. 154.
Change In Development Plans
Changes in market demand or other factors may arise after significant development and construction costs have already been incurred. If a developer decides to change its development plans, development and construction costs need to be charged to expense to the extent that the capitalized costs incurred and to be incurred for the redesigned project exceed the estimated value of the redesigned project when it is substantially complete and ready for its intended use. This charge to expense based on the fair value upon completion is required irrespective of whether an impairment loss needs to be recognized pursuant to the provisions of FASB Statement No. 144, Accounting for the Impairment or Disposal of Long – Lived Assets.
When determining the amount to be charged to expense upon such change in plans, any future interest capitalization has to be taken into consideration pursuant to paragraph 19 of FASB Statement No. 34, Capitalization of Interest Cost.
Interest capitalization shall not cease when present accounting principles require recognition of a lower value for the asset than acquisition cost; the provision required to reduce acquisition cost to such lower value shall be increased appropriately.
Abandonment Of A Real Estate Project
If a real estate project is abandoned, the capitalized costs of that project need to be expensed to the extent they are not recoverable. Any capitalized expenses for which a future use cannot be clearly established should not be allocated to other phases or other projects. Estimates are accounted for prospectively as changes in estimate, in accordance with paragraphs 19 through 22 of FASB Statement No. 154, Accounting Changes and Error Corrections.
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