Revaluation Surplus

Revaluation surplus marks the amount by which the fair value of an asset increases with respect to its previous book value. The process typically involves a professional valuation of the asset, which determines its current market value. Once the new market value has been determined, the difference between the new value and the historical cost is recorded as a surplus in the equity account. This increases the value of the asset and the company's overall equity without any corresponding increase in liabilities.

Though this surplus becomes an equity amount, indicating the owner's equity amount, it cannot be used in dividend distribution as part of unrealized gains for the firm. However, there are times when the revaluation leads to a decreased value of the asset. In such a scenario, this surplus amount can help cover up for the differential figure. Moreover, if the decrease in the asset value is more than the revalued surplus of the firm, the exceeding amount represents a loss when recorded in the company's income statement.

It can have an impact on a company's financial statements as it increases the value of the assets and the equity. This can result in improved financial ratios, such as a higher return on equity (ROE) and an improved debt-to-equity ratio, which can be seen as positive indicators by investors and other stakeholders.

To understand how to calculate revaluation surplus, one must learn about the formula to be used first:

Revaluation surplus = Fair value of the asset after revaluation – Historical/Original cost of the asset

Let us look at the instances below to understand the revaluation surplus meaning better: 

Example #1

Suppose a company owns a building that was purchased for $500,000 five years ago. After a professional valuation, it's determined that the building has a current fair value of $700,000. The revaluation surplus, in this case, would be calculated as follows:

Revaluation surplus = Fair value of the asset after revaluation – Historical/Original cost of the asset

= $700,000 - $500,000

= $200,000

In this example, the surplus would be $200,000, which would be recorded on the balance sheet as a part of the owner's equity. This would increase the company's equity by $200,000 without any corresponding increase in liabilities.

Example #2

ABC Company purchased a machine for $100,000 three years ago. After three years, the market value of the machine has increased to $120,000. The company decides to revalue the machine to reflect its current market value.

The calculation of the revalued surplus would be:

Revaluation surplus = Fair value of the asset after revaluation - Historical cost of the asset

= $120,000 - $100,000

= $20,000

So, the surplus after revaluation for the machine would be $20,000. The company would record this amount in the equity section of its balance sheet as a non-cash item. This would increase the company's equity by $20,000 without any corresponding increase in liabilities.

If the company later decides to sell the machine for its revalued amount of $120,000, it would recognize a gain of $20,000 on the sale. This would be recorded in the income statement as a non-operating gain, increasing the company's net income for the period.

Example #3

In May 2024, TRC Synergy Berhad, a construction industry ace in Malaysia and Australia, revaluated its land and buildings in both countries, which indicated its revaluation surplus to be RM27.45 million. This revaluation figure was obtained as part of its revelation of the fourth quarter financial report that ended on Dec 31, 2023 (4QFY2023). The company stated that the main motive behind conducting the revaluation was to check for the fair value of the properties it owns and also to figure out if they comply with the Malaysian Financial Reporting Standards (MFRS).

These accounting entries are made when the value of an asset is increased. When an asset is revalued, the accounting entries required depend on whether the surplus is treated as a separate component of equity or is transferred to retained earnings.

When the surplus is treated as a separate component of equity, the journal entries would blook like:

In case there is a decrease in the fair value, it is recognized as an expense and recorded as follows:

The above entry is valid when the fair value deteriorates to a certain limit. In case the deterioration or impairment loss is more than the revaluation surplus of the firm, the entry is done differently. Let us see how the entry would be made in that case:

Let us now see how revaluation surplus retained earnings journal entries are made. There are two scenarios that are evident in this case; the first is when this surplus is transferred to retained earnings. The journal entry for this scenario is  as shown below:

The second scenario would be when the revaluation surplus is transferred to retained earnings. The entry, in this case, would be reflected as follows:

These journal entries are used to accurately record the increase in value of the asset and ensure that the company's financial statements reflect the true value of the asset.