IAS 40 Investment Property: Fair Value vs Cost Model and Indian Real Estate Context
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Sai Manikanta Pedamallu
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IAS 40 Investment Property: Fair Value vs Cost Model and Indian Real Estate Context
By Sai Manikanta Pedamallu (ACCA, CMA US, CSCA US, CGMA, ACMA, Dip IFRS, M.Com, MBA, MA)
Lead Instructor, Global Fin X | www.globalfinx.in/manikanta
The distinction between investment property and owner-occupied property is one of those IAS 40 judgements that sounds simple until you face a real building used partly for offices and partly rented to tenants, or a developer who holds land for an undefined purpose, or a headquarters that management is about to vacate. The line between IAS 16 and IAS 40 has real consequences: the two standards apply entirely different measurement models, and the income statement treatment of fair value gains differs fundamentally.
IAS 40 also contains one of the few places in IFRS where unrealised gains go directly to profit or loss rather than OCI. That feature matters enormously for how companies in India's real estate sector report earnings.
What Qualifies as Investment Property
Investment property is land or a building, or part of a building, or both, held to earn rentals or for capital appreciation or both. It generates cash flows largely independently of the entity's other assets.
This independence test is the key conceptual distinction from IAS 16 owner-occupied property, where the economic benefits flow from using the asset in the production or supply of goods and services rather than from rental income or price appreciation.
Examples that qualify as investment property:
Land held for long-term capital appreciation rather than short-term sale. Land held for an undetermined future use (IAS 40 presumes this is investment property when intention is unclear). A building owned and leased out under operating leases. A vacant building held to be leased out. Property under construction or development for future use as investment property.
Examples that do not qualify:
Property used in the production or supply of goods or services (IAS 16). Property used for administrative purposes, such as the company's own headquarters (IAS 16). Property held for sale in the ordinary course of business (IAS 2 inventory). This last category is critical for Indian real estate developers: apartments, villas, and commercial units under development for sale are inventory, not investment property.
Mixed-Use Property
When a property is partly used by the owner and partly rented out to third parties, it is mixed-use. IAS 40 requires splitting the property into its owner-occupied and investment property components, provided the components can be sold or leased separately. Each portion is then accounted for under the applicable standard.
If the portions cannot be sold or leased separately, the entire property is investment property only if an insignificant portion is used by the entity for its own purposes. "Insignificant" is not defined numerically. Judgment is required.
A common Indian example: DLF's Cyber Hub complex, where DLF occupies a small management office within a primarily commercial leasing development. If the owner-occupied portion is genuinely insignificant and the portions cannot be separated, the entire complex qualifies as investment property.
Initial Measurement
Investment property is initially measured at cost, including transaction costs. This is identical to IAS 16. Purchase price plus directly attributable acquisition costs: stamp duty, registration fees, legal fees, and broker commissions paid to acquire the property.
For investment property held by a lessee as a right-of-use asset (following the IFRS 16 scope expansion), the initial measurement follows IFRS 16, not IAS 40. The choice of fair value or cost model for subsequent measurement then applies to the ROU asset rather than the underlying physical property.
The Subsequent Measurement Choice: Fair Value vs Cost Model
After initial recognition, an entity must choose either the fair value model or the cost model for all of its investment properties. The choice is an accounting policy, applied consistently to the entire portfolio. The only exception is the narrow option for entities whose investment properties back insurance liabilities, which can choose either model property by property.
The Fair Value Model
Under the fair value model, investment property is remeasured to fair value at every reporting date. Fair value is determined under IFRS 13, using the exit price definition, market participant assumptions, and the appropriate valuation approach.
The key feature: changes in fair value go directly to profit or loss in the period they arise. Not OCI. Not deferred. Straight to the income statement.
Investment property under the fair value model is not depreciated. Fair value captures both the consumption of the asset and market appreciation or depreciation in a single figure. Depreciating as well would double-count the consumption effect.
If fair value cannot be reliably determined on a continuing basis for a specific property (an exceptional circumstance), that property must be measured using the cost model for the rest of its life. This exception is narrow. The IASB presumes fair value can be reliably determined for real estate in almost all circumstances, because property markets generate transaction evidence even for unique properties.
The Cost Model
Under the cost model, investment property is measured at cost less accumulated depreciation and accumulated impairment losses. This is identical to IAS 16's cost model mechanics. Depreciation is charged each period. Fair value is not recognised on the balance sheet, but it must be disclosed in the notes.
The cost model produces a lower-volatility income statement (no fair value swings in profit or loss) and a potentially understated balance sheet (carrying amount may diverge significantly from market value for properties held long-term in appreciating markets).
The IASB's Implicit Preference
IAS 40 states that a change from the fair value model to the cost model is only permissible if it results in a more relevant presentation. The standard then notes that this is highly unlikely. In practice, switching from fair value to cost is almost never justified. The reverse direction (cost to fair value) is more readily justified as producing more relevant information.
The asymmetry signals clearly: the IASB prefers the fair value model. It permits the cost model but discourages reverting to it once fair value has been adopted.
Fair Value Model: Worked Example
Embassy Office Parks REIT holds a Grade A office campus in Bengaluru. Fair value at 31 March 2024: Rs. 8,000 crore. At 31 March 2025, an independent valuer determines fair value at Rs. 8,600 crore.
Under the fair value model:
The investment property is remeasured to Rs. 8,600 crore on the balance sheet.
The increase of Rs. 600 crore is recognised in profit or loss as a fair value gain on investment property.
No depreciation is charged.
Journal entry (31 March 2025):
Dr Investment property Rs. 600 crore
Cr Fair value gain on investment property (P&L) Rs. 600 crore
If the following year the fair value falls to Rs. 8,200 crore:
The investment property is reduced to Rs. 8,200 crore.
The decrease of Rs. 400 crore is a fair value loss in profit or loss.
Dr Fair value loss on investment property (P&L) Rs. 400 crore
Cr Investment property Rs. 400 crore
Both increases and decreases go through profit or loss directly. There is no OCI treatment, no revaluation surplus, and no impairment testing under IAS 36 (because fair value already captures any diminution in value).
Transfers: When Classification Changes
Transfers to or from investment property are permitted only when there is an actual change in use supported by evidence of that change. A change in management's intention, by itself, is not sufficient evidence.
IAS 40 identifies four specific transfer scenarios:
Transfer from investment property to owner-occupied property (IAS 16):
When the entity begins to use the property for its own operations. The carrying amount at the date of transfer becomes the deemed cost under IAS 16 for subsequent accounting. For properties previously measured under the fair value model, the fair value at transfer becomes the cost base under IAS 16.
Transfer from investment property to inventory (IAS 2):
When the entity commences development with a view to sale. The fair value at the date of transfer becomes the cost of inventory under IAS 2. Subsequent development costs are added to this base.
Transfer from owner-occupied property (IAS 16) to investment property:
When the entity ceases to use the property and begins renting it to third parties. At the date of transfer, if the entity uses the fair value model for investment property, the property is first remeasured to fair value under IAS 16's revaluation principles. Any increase goes to OCI (revaluation surplus) under IAS 16. Any decrease goes to P&L. The property then transfers to IAS 40 at fair value and is subsequently remeasured under the fair value model.
Transfer from inventory (IAS 2) to investment property:
When development for sale ceases and the property will now be leased out. Any difference between fair value at the date of transfer and the previous carrying amount under IAS 2 is recognised in profit or loss.
Why the Transfer Conditions Matter in Indian Real Estate
Indian real estate developers frequently hold a mix of properties: units under construction for sale (inventory under IAS 2), completed units held for rental (investment property under IAS 40), and commercial spaces occupied for administrative purposes (PPE under IAS 16). The transfer rules govern when and how property moves between these categories.
A developer constructing a commercial tower that initially plans to sell units but subsequently decides to retain and lease the entire tower must transfer the property from inventory to investment property at fair value at the date of that decision. The fair value gain on transfer goes to P&L. This is a genuine P&L event, not an accounting choice.
Godrej Properties developing a mixed-use project with some floors retained for rental income must carefully separate the inventory component (units intended for sale) from the investment property component (units intended for lease), and apply the appropriate standard to each.
Indian Real Estate Context: Who Uses Which Model
REITs: Fair Value Model
India's five listed REITs (Embassy Office Parks, Mindspace Business Parks, Brookfield India Real Estate Trust, Nexus Select Trust, and Knowledge Realty Trust) hold commercial office parks, retail malls, and logistics assets with a combined AUM exceeding Rs. 2.5 lakh crore as of early 2026.
REITs present their properties under the fair value model. The fair value of each property is determined by independent registered valuers, typically semi-annually or annually, using the income capitalisation approach (applying a capitalisation rate to net operating income) or DCF methodology. Fair value gains and losses flow through profit or loss each period.
For Embassy REIT, which has distributed Rs. 14,400 crore to unitholders since its April 2019 listing, the income statement includes both rental income (recurring) and fair value movements (non-cash, non-recurring). Analysts separate these two components when assessing distributions and sustainable cash flows. The fair value model makes this separation necessary because the income statement bundles cash and non-cash items together.
DLF Cyber City Developers: Fair Value Model
DLF Cyber City Developers Limited (DCCDL), DLF's commercial real estate arm, holds a portfolio of Grade A office parks in Gurugram, Noida, and Chennai. DCCDL uses the fair value model for its investment properties, producing significant non-cash fair value gains in years when commercial real estate values appreciate. DLF consolidated these assets into DCCDL partly to benefit from a valuation structure that reflects fair values rather than historical cost.
Indian Hospitality Companies: Cost Model
Many Indian hospitality companies, including Indian Hotels Company (Taj Hotels) and EIH Limited (Oberoi Hotels), classify their owned hotels as PPE under IAS 16, not investment property under IAS 40, because the primary purpose of the asset is providing hotel services rather than earning rental income. The hotels are owner-occupied, even though guests pay to use them.
This distinction matters: a hotel building where the company provides services is IAS 16 PPE. A furnished apartment block leased to tenants under operating leases is IAS 40 investment property. The cash flow pattern and the economic substance differ.
Developers Holding Land Banks: Complex Classification
Indian real estate developers like DLF, Prestige Estates, and Macrotech (Lodha) hold significant land banks. The classification of this land under IFRS depends entirely on what the developer intends to do with it.
Land held for development and sale in the ordinary course of business: IAS 2 inventory. Land held for long-term capital appreciation with no current development intent: IAS 40 investment property. Land on which construction has commenced for sale: IAS 2 inventory.
The classification drives the measurement model. IAS 2 land is at the lower of cost and net realisable value. IAS 40 land under the fair value model is remeasured to fair value with gains and losses through P&L.
Developers sometimes prefer the IAS 2 classification to avoid the income statement volatility of fair value movements. IAS 40 investment property classification, once adopted, locks the entity into fair value remeasurement and the consequent P&L swings. Land values in Indian metros can be volatile, and a developer holding Bengaluru land under IAS 40 would have seen significant P&L movements during cycles of appreciation and correction.
Disclosure Requirements
IAS 40 requires extensive disclosure, including:
Whether the entity uses the fair value model or cost model, and the criteria for classifying property as investment property. For the fair value model: the methods and significant assumptions applied in determining fair value, including a statement of whether the determination was based on market evidence or other factors. The extent to which fair value is based on a valuation by an independent valuer. The amounts recognised in P&L for rental income and direct operating expenses. A reconciliation of the carrying amount from opening to closing balance, showing acquisitions, disposals, fair value gains and losses, depreciation (cost model), and transfers between categories. For cost model entities: the fair value of investment property, disclosed even though not recognised.
The disclosure of fair value even under the cost model means that cost model entities cannot avoid the valuation exercise. They just do not recognise it on the balance sheet.
Ind AS 40 vs IAS 40: Key Differences
| Area | IAS 40 | Ind AS 40 |
|---|---|---|
| Fair value model: gains to P&L | Yes | Yes |
| Cost model: fair value disclosure required | Yes | Yes |
| Transfer rules | Same | Same |
| Mixed-use property | Split if separable | Same |
| Investment property under construction | Fair value if reliably measurable; otherwise cost until completion | Same |
| Independent valuer requirement | Encouraged but not mandatory | Same |
| REITs using fair value | Common globally | India's five listed REITs use fair value; SEBI regulations require periodic valuations by registered valuers |
| Developers classifying land | IAS 2 or IAS 40 based on intent | Same; however, Indian income tax treatment of land held for capital appreciation creates additional considerations |
| Deferred tax on fair value gains | IAS 12 applies | Same; Indian capital gains tax treatment on property creates temporary differences where tax basis differs from fair value carrying amount |
The deferred tax point deserves attention. When investment property is remeasured to fair value under IAS 40 and the fair value exceeds the tax base (typically cost less tax depreciation), a taxable temporary difference arises. Under IAS 12, a deferred tax liability is recognised on this temporary difference. For Indian REITs holding large commercial property portfolios with fair values far exceeding historical cost, the deferred tax liability on investment property revaluation can be substantial. Its movement (increasing as fair values rise, decreasing as properties are sold) flows through profit or loss alongside the fair value gain itself.
What Big 4 Auditors Focus On
Investment property vs PPE classification. Auditors challenge whether properties classified as investment property genuinely generate cash flows independently of other assets. Hospitality assets, manufacturing facilities used partly for administrative purposes, and mixed-use developments receive scrutiny to confirm the classification is appropriate under the definition.
Fair value methodology and assumptions. For entities using the fair value model, auditors engage their own valuation specialists to assess the appropriateness of the valuation methodology and the reasonableness of key assumptions: capitalisation rates, vacancy rates, rental growth assumptions, and discount rates. The capitalisation rate applied to a Bengaluru IT park rental income stream is the single most sensitive input in most investment property valuations.
Transfer completeness and timing. Auditors test whether all transfers between investment property, PPE, and inventory have been identified and processed at the correct date, with the correct accounting entry at transfer. A developer who changed its intention regarding a specific asset mid-year and did not process a transfer until year-end has a timing error.
Deferred tax on fair value gains. For REITs and property holding companies using the fair value model, auditors verify that deferred tax liabilities have been correctly recognised on the excess of fair value over tax base, using the applicable capital gains tax rate rather than the corporate tax rate in jurisdictions where disposal would be taxed at a different rate.
Disclosure of fair value under cost model. For cost model entities, auditors verify that a fair value for each investment property has been determined and disclosed. Entities that disclose a range ("fair value is estimated between Rs. X and Rs. Y crore") without substantive valuation evidence are challenged.
Dip IFRS Exam Angle
IAS 40 questions in Dip IFRS test classification judgment and the mechanics of both models, particularly the transfer rules.
Most tested areas:
Classification: given a description of a property and its use, determine whether it is investment property (IAS 40), PPE (IAS 16), or inventory (IAS 2). Mixed-use scenarios and development-stage properties are the most commonly tested.
Fair value model mechanics: know that fair value changes go to P&L, not OCI. Know that no depreciation is charged. Know that gains and losses are symmetric: both increases and decreases go through P&L.
Transfer accounting: given a scenario where a company vacates its own office and begins renting it to a third party, account for the transfer from IAS 16 to IAS 40. Know that if the fair value model is used, the property is first remeasured to fair value under IAS 16 revaluation principles (increase to OCI, decrease to P&L), then transferred at fair value to IAS 40.
Cost model: know that it applies IAS 16 mechanics (cost less depreciation less impairment), and fair value must be disclosed even though not recognised.
Common traps:
Sending fair value gains on investment property to OCI rather than P&L. Fair value changes under IAS 40's fair value model go to profit or loss, not OCI. This is the single most common IAS 40 error in exams.
Charging depreciation on investment property under the fair value model. No depreciation under the fair value model. The fair value already captures the consumption of economic benefits.
Applying IAS 36 impairment testing to investment property under the fair value model. IAS 36 does not apply when the asset is measured at fair value. The fair value itself reflects any diminution.
Misidentifying developer inventory as investment property. Property under development for sale is inventory under IAS 2, not investment property. Classification follows intended use.
FAQ
Can an entity use the fair value model for some investment properties and the cost model for others?
Generally no. The accounting policy choice applies to all investment properties. The only exception is the narrow carve-out for investment properties backing insurance liabilities, where property-by-property choice is permitted. In practice, Indian entities use one model consistently across all investment properties.
Is an independent valuer required under IAS 40?
Encouraged but not required. IAS 40 encourages entities to base fair value on evidence from an external, independent valuer with relevant professional qualifications and recent experience in the location and category of property. SEBI regulations for Indian REITs do require valuations by registered valuers for regulatory reporting purposes, which effectively makes independent valuation mandatory for listed REITs even if IAS 40 technically does not.
What happens when an entity adopts the fair value model and fair value cannot be determined for one specific property?
That specific property is measured at cost under IAS 16 mechanics for the remainder of its life. It is not transferred to the cost model for the entire portfolio. The rest of the investment portfolio continues under the fair value model.
Does the fair value model apply to investment property under construction?
If the entity uses the fair value model and the fair value of the investment property under construction can be reliably measured, fair value is applied from the commencement of construction. If fair value cannot be reliably determined during construction, the property is measured at cost until construction is complete, then transferred to fair value at completion.
How does disposal of investment property work under the fair value model?
The gain or loss on disposal is the net disposal proceeds less the carrying amount (which is the most recent fair value). Since the carrying amount already reflects fair value, the disposal gain or loss is typically small, representing only the difference between the final negotiated price and the last reported fair value, plus or minus transaction costs.
Does IAS 40 apply to investment properties held by lessees as right-of-use assets?
Yes. Following the IFRS 16 amendments to IAS 40, a lessee that holds a property under a lease can classify it as investment property if it meets the IAS 40 definition. The initial measurement follows IFRS 16 (lease liability and ROU asset), and the subsequent measurement choice between fair value and cost model under IAS 40 then applies to the ROU asset.
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This is Post 35 of the Global Fin X IFRS Series. Previous: IAS 16: Revaluation Model, Componentisation and Derecognition. Next: Post 36: IAS 38 Intangible Assets: Recognition Criteria and the Internally Generated Problem.