Borrowing Costs Capitalization Under IAS 23

What is borrowing costs capitalization under IAS 23?

Borrowing costs capitalization is the IAS 23 rule that keeps certain finance costs with the asset they helped create instead of sending them straight to the [income statement](/glossary#income-statement). If a company borrows to build a factory, develop a major system, or construct an investment property, the interest may be part of the cost of that asset while it is being prepared for use or sale.

The core idea under [IFRS](/glossary#ifrs) is direct attribution. Borrowing costs that are directly attributable to acquiring, constructing, or producing a qualifying asset become part of the asset cost. Other borrowing costs are expensed in the period they are incurred. This is why IAS 23 feels close to [PPE capitalization under IAS 16](/learn/ppe-capitalization-ias-16), but the question is different. IAS 16 asks which asset costs make the item ready for use. IAS 23 asks which finance costs would have been avoided if the qualifying asset had not been built.

A qualifying asset is not every asset bought with borrowed money. It is an asset that necessarily takes a substantial period of time to get ready for intended use or sale. A ready-to-use delivery van purchased today is not a qualifying asset just because the company used a bank loan. A warehouse built over ten months usually is.

For Saudi and Gulf students, the topic matters because SOCPA-endorsed IFRS is the reporting language for many entities, and IAS 23 often appears in exam scenarios through construction projects, manufacturing plants, software development, and real estate. The entry is usually simple. The judgment before the entry is where marks are won or lost.

Which assets qualify for borrowing costs capitalization?

Start by asking whether the asset needs a substantial preparation period. IAS 23 gives examples such as inventories that take a long time to produce, manufacturing plants, power generation facilities, intangible assets, investment properties, and bearer plants. The examples are not a checklist of automatic answers. They show the type of asset where time and financing are tied together.

Financial assets are not qualifying assets. Inventories manufactured quickly or in large quantities on a repetitive basis are normally outside the rule. Assets that are already ready for intended use or sale when acquired are also outside the rule. A company can borrow SAR 900,000 to buy finished office furniture, but the interest is still finance cost, not furniture cost.

The useful classroom test is this: would the asset still need meaningful construction, production, or development work before management can use it or sell it? If yes, continue to the capitalization analysis. If no, expense the borrowing cost unless another standard creates a different treatment.

Consider these common Saudi and Gulf cases:

• A Riyadh food manufacturer builds a cold-storage warehouse over nine months. This is usually a qualifying asset.
• A Jeddah contractor buys ready-to-use generators from a supplier. These are not qualifying assets.
• A Dammam software company develops a controlled platform after meeting development criteria. The platform may be a qualifying intangible asset, linking this topic with [intangible assets under IAS 38](/learn/intangible-assets-ias-38).
• A retailer buys ordinary inventory that turns over every few weeks. That inventory normally does not qualify.

Once the asset qualifies, the next question is not whether all interest can be capitalized. IAS 23 still limits capitalization to eligible borrowing costs during the correct period.

When does capitalization start, pause, and stop?

IAS 23 uses a timing gate. Capitalization starts only when all three conditions are present: the entity has expenditures for the asset, it has borrowing costs, and it is undertaking activities necessary to prepare the asset for intended use or sale. If one condition is missing, capitalization has not started.

This timing rule prevents a common shortcut. Suppose Gulf Panels Co. buys land in January, signs a construction loan in March, and begins site works in April. Borrowing costs cannot be capitalized in January because there were no borrowing costs. They also cannot be capitalized merely because management planned the project. The capitalizable period starts when the required conditions overlap.

Capitalization pauses during extended periods where active development is interrupted. A two-month stoppage because management is redesigning the project after a funding dispute may require suspension. But IAS 23 does not suspend capitalization for temporary delays that are a necessary part of the process. If a bridge project pauses during a normal seasonal condition that is part of construction in that location, capitalization can continue.

Capitalization stops when substantially all activities needed to prepare the asset for intended use or sale are complete. Routine administration, final decoration, minor defects, or waiting for the first profitable month do not keep capitalization alive. If a project is completed in parts and each part can be used while construction continues on other parts, capitalization stops for each part when that part is ready.

The timing decision affects the [balance sheet](/glossary#balance-sheet) and profit or loss directly. Start too early and assets are overstated. Stop too late and finance costs disappear into the asset after the asset is already ready.

How do borrowing costs capitalization journal entries work?

The [journal entry](/glossary#journal-entry) follows the measurement decision. If the borrowing cost is eligible for capitalization, debit the qualifying asset and credit cash, interest payable, or the loan account. If it is not eligible, debit finance cost and credit the same settlement or payable account.

A simple entry during construction looks like this:

If only part of the borrowing cost qualifies, split the entry:

The first line increases the asset cost. The finance cost line goes to profit or loss. The credit depends on whether the interest has been paid or accrued. Many students make the entry harder than it is because they try to create a special account for capitalized interest. In the [general ledger](/glossary#general-ledger), the debit belongs in the asset construction account or a detailed subaccount under the project.

This is where account design matters. A clean [chart of accounts](/learn/chart-of-accounts-design) might separate project direct costs, capitalized borrowing costs, and expensed finance costs. That separation helps reviewers see the IAS 23 calculation without opening every bank statement.

Worked example 1: specific loan for a Riyadh warehouse

Riyadh Fresh Logistics starts building a refrigerated warehouse on 1 March. The project is expected to take ten months. The company borrows SAR 3,000,000 specifically for the warehouse at 8% annual interest. During the first three months, part of the loan is temporarily invested before payments to contractors are due, earning SAR 9,000 investment income.

IAS 23 says that when funds are borrowed specifically for a qualifying asset, eligible borrowing costs are the actual borrowing costs incurred on that borrowing during the period less investment income from temporarily investing those borrowings.

Assume the first three months of interest are:

The entry is:

Some companies present the investment income directly against borrowing costs rather than through a separate line in the entry. The important IAS 23 answer is the capitalized amount: SAR 51,000, not SAR 60,000. Once the warehouse is ready for use, future interest on the same loan is expensed. The asset then moves into PPE and later runs through [depreciation](/glossary#depreciation), just like other warehouse costs.

Worked example 2: general borrowings and capitalization rate

Al Khobar Components is building a production line. It does not take a project-specific loan. Instead, it uses general borrowings already in the business. During the year, the company has these borrowings outstanding:

The weighted average capitalization rate is based on the borrowing costs applicable to general borrowings. Annual borrowing cost is SAR 140,000 plus SAR 135,000 plus SAR 60,000, or SAR 335,000. Total borrowings are SAR 4,500,000. The capitalization rate is 7.44%.

Now assume weighted average accumulated expenditures on the qualifying production line are SAR 1,800,000 for the year. Eligible borrowing costs are SAR 1,800,000 multiplied by 7.44%, or approximately SAR 133,920. The amount capitalized cannot exceed total borrowing costs incurred during the period.

The entry is:

This example is the part students often rush. The company does not capitalize all general interest simply because a project exists. It applies a capitalization rate to qualifying expenditures. If another loan was taken specifically for a different qualifying asset, IAS 23 excludes that specific borrowing from the general capitalization rate until that other asset is substantially complete.

Common mistakes in borrowing costs capitalization

Most IAS 23 mistakes come from treating the loan as the answer. The loan only starts the analysis. The asset, timing, and avoidable cost logic decide the accounting.

Common mistakes include:

• Capitalizing interest on assets that were ready for use when acquired.
• Starting capitalization before construction or development activities begin.
• Forgetting to deduct investment income on temporarily invested specific borrowings.
• Using the full interest rate on general borrowings instead of a weighted average capitalization rate.
• Continuing capitalization after the asset is substantially ready.
• Capitalizing all foreign exchange movements on a foreign currency loan without judging whether they adjust interest costs.
• Treating finance costs as part of inventory that is produced quickly and repeatedly.
• Hiding the calculation in one vague project account, making review difficult at month end.

A good answer separates recognition, measurement, and posting. First, prove the asset is qualifying. Second, identify the capitalization window. Third, calculate eligible borrowing costs. Fourth, post the entry. Fifth, explain what happens when the asset is ready.

For Saudi exam and work scenarios, also watch the wording around Islamic finance facilities. The economics may be described with profit rates rather than simple bank interest, but the accounting question is still whether the financing cost is directly attributable to a qualifying asset under IAS 23. Do not let legal form distract you from the reporting principle.

How should students practice IAS 23 entries in Accountery?

The best practice routine is to turn IAS 23 into a small project file. Create one tab for the asset decision, one tab for timing, one tab for the borrowing calculation, and one tab for the entry. That mirrors how the work is reviewed in a real close process and keeps the logic visible.

Try this mini-case. Najd Water Systems begins constructing a treatment facility on 1 July. It has SAR 2,400,000 of weighted average expenditures, general borrowings with a 6.5% capitalization rate, and total borrowing costs of SAR 220,000 for the second half of the year. The eligible borrowing costs are SAR 156,000, limited by the total costs incurred. The entry debits the facility under construction and credits interest payable or cash for the capitalized portion; any remaining borrowing cost goes to finance cost.

Then change one fact at a time. What if the facility was ready on 30 November? What if construction stopped for six weeks because management paused the project? What if SAR 500,000 of the borrowing was specific to another qualifying asset? Each change tests a different IAS 23 rule.

Accountery practice exercises are useful here because a balanced entry alone is not enough. The platform can ask for the amount, account classification, and explanation together. Pair this article with [month-end close checklist](/learn/month-end-close-checklist) practice so you learn how capitalized interest flows from calculation to ledger review to financial statements. That is how borrowing costs capitalization becomes a repeatable accounting habit instead of one exam formula.