What is Asset Retirement Obligation (ARO)?

old-factory-asset-retirement-obligationAn Asset Retirement Obligation (ARO) is a legal obligation associated with the retirement of a tangible long-lived asset in which the timing or method of settlement may be conditional on a future event, the occurrence of which may not be within the control of the entity burdened by the obligation.

Applicability of ARO

ARO accounting is particularly significant for remediation work needed to restore a property, such as decontaminating a nuclear power plant site, removing underground fuel storage tanks, cleanup around an oil well, or removal of improvements to a site. It does not apply to unplanned cleanup costs, such as costs incurred as a result of an accident. 

ARO initially should be measured at fair value and should be recognized at the time the obligation is incurred (provided that a reasonable estimate of fair value can be made). For example, certain obligations, such as nuclear decommissioning costs, generally are incurred as the asset is operated. Other obligations, like the obligation to remove an offshore drilling platform, may be incurred as the asset is being constructed.

Upon initial recognition of a liability for retirement obligations, an entity should capitalize that cost as part of the cost basis of the related long-lived asset and depreciate the asset over its useful life. Changes in the obligation due to revised estimates of the amount or timing of cash flows required to settle the future liability should be recognized by increasing or decreasing the carrying amount of the ARO liability and the related long-lived asset. Changes due solely to the passage of time (i.e., accretion of the discounted liability) should be recognized as an increase in the carrying amount of the liability and as an expense classified as an operating item in the income statement and referred to as accretion expense (or any other descriptor that conveys the nature of the expense).

Treatment of as per IFRS

Entities covered by International Financial Reporting Standards (IFRS) apply a standard called IAS 37 to AROs, where the AROs are called “provisions”.

Treatment of as per US GAAP

In the United States, ARO accounting is specified by Statement of Financial Accounting Standards (SFAS, or FAS) 143.

Treatment of as per IND AS

The requirements for retiring the assets in the Indian Accounting context are briefed in Indian Accounting Standard (Ind AS) 16.

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Asset Retirement Obligation – ARO
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