IAS 36 requires an entity to ensure that assets are not carried at more than their recoverable amount. If an asset's carrying amount exceeds what can be recovered through use or sale, an impairment loss must be recognised. Here is a step-by-step breakdown of how to perform the test correctly.

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Step 1: Identify Whether a Test Is Required

At each reporting date, assess whether any indicators of impairment exist (IAS 36.9). External indicators include significant decline in market value, adverse changes in technology or markets, and rising interest rates. Internal indicators include evidence of obsolescence, physical damage, or worse-than-expected asset performance. Goodwill, indefinite-life intangibles, and intangibles not yet available for use must be tested annually, regardless of indicators (IAS 36.10).

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Step 2: Determine the Unit of Account

If an asset cannot generate cash inflows independently, allocate it to a Cash-Generating Unit (CGU) — the smallest identifiable group of assets that generates largely independent cash inflows (IAS 36.6, IAS 36.66). Goodwill must be allocated to CGUs or groups of CGUs that benefit from the synergies of the acquisition (IAS 36.80).

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Step 3: Calculate Recoverable Amount

Recoverable amount is the higher of:

• Fair Value Less Costs of Disposal (FVLCD): The price obtainable in an arm's length transaction between knowledgeable, willing parties, less disposal costs (IAS 36.6). IFRS 13 guidance on fair value hierarchy applies here.
• Value in Use (VIU): The present value of future cash flows expected from the asset or CGU (IAS 36.31).

For VIU, the cash flow projections should:

• Be based on reasonable and supportable assumptions (IAS 36.33)
• Cover a maximum of 5 years for detailed projections, with a terminal value beyond using a steady or declining growth rate (IAS 36.35)
• Be discounted using a pre-tax discount rate reflecting current market assessments of the time value of money and asset-specific risks (IAS 36.55–56)

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Step 4: Compare Carrying Amount to Recoverable Amount

If the carrying amount exceeds the recoverable amount, an impairment loss equal to the difference is recognised immediately in profit or loss (IAS 36.59), unless the asset is carried at revalued amount under IAS 16 or IAS 38, in which case the loss is first taken against the revaluation surplus.

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Step 5: Allocate Impairment Loss within a CGU

When a CGU is impaired, the loss is allocated in the following order (IAS 36.104):

• First, reduce the carrying amount of goodwill allocated to the CGU
• Then, reduce other assets pro rata based on carrying amount, but not below the highest of FVLCD, VIU, or zero

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Step 6: Disclosure Requirements

Entities must disclose the events leading to impairment, the recoverable amount, the methodology used (FVLCD vs VIU), and key assumptions such as discount rates and growth rates (IAS 36.126–133). For goodwill-carrying CGUs, sensitivity disclosures around key assumptions are particularly important (IAS 36.134).

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Reversal of Impairment

Impairment losses may be reversed in subsequent periods if conditions change (IAS 36.110), except for goodwill — goodwill impairment is never reversed (IAS 36.124).