How to test capitalisation of internally generated intangible assets under Ind AS 38

Testing capitalisation of an internally generated intangible asset means first testing whether the spend under review is research or development as Ind AS 38 defines those terms, because research expenditure is always expensed with no exception, and then, only for development expenditure, testing each of the six specific criteria the standard requires to be met before any cost can be recognised as an asset: technical feasibility, intention to complete, ability to use or sell it, how it will generate probable future economic benefit, availability of adequate resources to complete it, and the ability to measure the expenditure attributable to it reliably.

Why the research-versus-development split comes first

Entities capitalising software or product development costs sometimes jump straight to the six criteria and apply them to the whole project. That skips the gating question: expenditure incurred while the entity is still investigating options, evaluating alternatives, or conducting feasibility studies before a specific product or process has been identified is research, by definition, and no amount of evidence against the six criteria can capitalise it.

The testing sequence

1. 01Obtain the project plan and the cost ledger for the development activityIncluding the stage gates the entity itself uses to track the project, which are often the clearest internal evidence of when research activity ended and development activity began.
2. 02Identify the point at which the project moved from research to developmentLook for the moment a specific product, process or software module was identified and a decision was made to proceed with it, as distinct from an earlier period spent evaluating whether to proceed at all. Costs before that point are expensed regardless of how the six criteria would otherwise be assessed.
3. 03Test technical feasibility as at the capitalisation start date, not with hindsightThe evidence should exist as at the date capitalisation began — a technical design document, a working prototype, or a feasibility study — not be reconstructed later from the fact that the project ultimately succeeded.
4. 04Test the entity's intention and ability to complete the asset and use or sell itBoard or management approval of the project, budget allocation for completion, and, for an asset to be sold, evidence of a market or specific customer demand.
5. 05Test how the asset will generate probable future economic benefitFor an internal-use asset, evidence of the efficiency or cost saving it is expected to deliver; for an asset to be sold, a business case or market assessment. A generic statement that the project 'is expected to be useful' is not sufficient evidence.
6. 06Test the availability of adequate technical, financial and other resources to complete the projectStaffing plans, budget approval covering the remaining cost to completion, and, where external financing is needed to complete the project, evidence that financing is actually available.
7. 07Recompute the directly attributable costs capitalisedEmployee costs for time actually spent on the development activity, materials and services consumed, and a reasonable allocation of overheads directly attributable to generating the asset — general administrative overhead, selling costs, and identified inefficiencies or losses during development are excluded.
8. 08Test for costs that should have stopped being capitalisedCapitalisation stops once the asset is capable of operating as intended by management; costs incurred after that point, including costs associated with maintaining or running the asset, should be expensed, not folded into the carrying amount.