The impairment losses are an accounting concept that may not mean much for someone less versed in the subject. But the truth is that they have a tangible impact on the company since it reflects the business’s financial state and can influence taxes.
For this reason, it is vital to understand not only what impairment losses are but also how important they are to the health of the company and its consequences.
What Are Impairment Losses?
This concept comes originally from the English term ” impairment. ” An impairment loss is the reduction in the book value of a particular asset, which represents a potential or effective loss of its value, and which can be partial or total, reducing the weight to zero.
Impairment losses can affect all types of assets: not only tangible and intangible fixed assets but also non-current assets held for sale, investments, investment property, inventories, and even debt receivables. For example, when a customer has an outstanding debt, and the customer will be insolvent, it is considered an impairment loss.
What Is The Deterioration Test?
When we use the impairment test, the benefits that an asset is expected to generate, whether in terms of earnings, cash flow, or any other economic benefit, are compared to the book value of that asset. If the recorded value exceeds the respective advantage of that asset, that same value is subsequently adjusted on the balance sheet. These tests must generally be carried out every year to change the value of the assets.
Why Are Impairment Losses Significant To My Business?
Accounting should always reflect the actual value of a business. Considering the impact of impairment losses, a periodic adjustment should be made to make the accounting information reliable, especially for consultation purposes by the different economic agents, such as suppliers, clients, and investors.
Impairment losses derived from customers with late payments or at risk of insolvency, that is, from situations in which collection is unlikely, can have a severe impact on the treasury and even put the survival of your company at risk. As we have already mentioned, these cases, according to the regulations, can and should be considered as impairment losses to demonstrate the actual situation of the company.