Accounting policies for financial instruments

Summary of significant financial instruments accounting policies

1 Financial assets and liabilities

1.1 Summary of measurement categories

The insurer classifies its financial assets into the following categories:

Business model and cash flow characteristics

Type of financial instruments

Classification

Hold to collect business model and solely payments of principal and interest

Cash and cash equivalents

Amortised cost (AC)

Hold to collect and sell business model and solely payments of principal and interest

Government bonds

Fair value through other comprehensive income (FVOCI)

Hold to collect and sell business model and solely payments of principal and interest

Other debt securities

Fair value through other comprehensive income

Mandatory, trading or portfolio managed at fair value

Other debt securities

Fair value through profit and loss (FVTPL)

Designated resolving an accounting mismatch

Other debt securities

Fair value through profit and loss

Mandatory

Equity securities

Fair value through profit and loss

Mandatory

Derivatives

Fair value through profit and loss

Hold to collect business model and solely payments of principal and interest

Other financial assets

Amortised cost

Designated resolving an accounting mismatch

Investment contract liabilities

Fair value through profit and loss

Mandatory

Subordinated debt

Amortised cost

Mandatory

Other financial liabilities

Amortised cost

The insurer does not apply hedge accounting.

1.2 Initial recognition and measurement

IFRS Link

Explanation Accounting policies for financial instruments

IFRS 9 3.1.1

IFRS 9 3.1.2

Financial assets and financial liabilities are recognised when the insurer becomes a party to the contractual provisions of the instrument. Regular way purchases and sales of financial assets are recognised on the trade date, the date on which the insurer commits to purchase or sell the asset.

IFRS 9 5.1.1

At initial recognition, the insurer measures a financial asset or financial liability at its fair value plus or minus, in the case of a financial asset or financial liability not at FVTPL, transaction costs that are incremental and directly attributable to the acquisition or issue of the financial asset or financial liability, such as fees and commissions. Transaction costs of financial assets and financial liabilities carried at FVTPL are expensed in profit or loss. Immediately after initial recognition, an expected credit loss (ECL) allowance is recognised for financial assets measured at AC and investments in debt instruments measured at FVOCI.

IFRS 9 B5.1.2A

When the fair value of financial assets and liabilities differs from the transaction price on initial recognition, the entity recognises the difference as follows:

  1. When the fair value is evidenced by a quoted price in an active market for an identical asset or liability (i.e. a Level 1 input) or based on a valuation technique that uses only data from observable markets, the difference is recognised as a gain or loss.
  2. In all other cases, the difference is deferred and the timing of recognition of deferred day one profit or loss is determined individually. It is either amortised over the life of the instrument, deferred until the instrument’s fair value can be determined using market observable inputs or realised through settlement.

1.3 Amortised cost and effective interest rate

IFRS Link

Explanation Accounting policies for financial instruments

IFRS 9

Appendix A – see IFRS Jargon

AC is the amount at which the financial asset or financial liability is measured at initial recognition minus the principal repayments, plus or minus the cumulative amortisation using the effective interest method for any difference between the initial amount and the maturity amount and, for financial assets, adjusted for any loss allowance.

The effective interest rate (EIR) is the rate that exactly discounts estimated future cash payments or receipts through the expected life of the financial asset or financial liability to the gross carrying amount of a financial asset (i.e. its AC before any impairment allowance) or to the AC of a financial liability. The calculation does not consider the ECL and includes transaction costs, premiums or discounts and fees and points paid or received that are integral to the EIR.

When the insurer revises the estimates of future cash flows, the carrying amount of the respective financial asset or financial liability is adjusted to reflect the new estimate discounted using the original EIR. Any changes are recognised in profit or loss.

IFRS 9 5.4.1

Interest revenue is calculated by applying the EIR to the gross carrying amount of financial assets recognised at AC or FVOCI.

Food for thought

Credit impaired financial assets (Stage 3)

https://annualreporting.info/determining-significant-increases-in-credit-risk/

For credit-impaired financial assets, the credit-adjusted EIR is applied. This rate is calculated based on the AC of the financial asset instead of its gross carrying amount and incorporates the impact of the ECL on estimated future cash flows.

2. Financial assets

2.1 Classification and subsequent measurement

IFRS Link

Explanation Accounting policies for financial instruments

IFRS 9 4.1.1

The insurer classifies its financial assets into the following measurement categories:

  1. Amortised cost;
  2. Fair value through other comprehensive income; or
  3. Fair value through profit and loss.

2.2 Debt instruments 

IFRS Link

Explanation Accounting policies for financial instruments

Debt instruments are those instruments that meet the definition of a financial liability from the issuer’s perspective, such as government and corporate bonds.

IFRS 9 5.1.1

The classification and subsequent measurement of debt instruments depend on:

  1. the insurer’s business model for managing the asset; and
  2. the cash flow characteristics of the asset (represented by SPPI)

IFRS 9 4.1.2

IFRS 9 4.1.2A

IFRS 9 4.1.4

Based on these factors, the insurer classifies its debt instruments into one of the following three measurement categories:

  1. AC: Assets that are held for collection of contractual cash flows where those cash flows represent SPPI, and that are not designated at FVTPL, are measured at AC. The carrying amount of these assets is adjusted by any ECL allowance recognised and measured as described further below. Interest revenue from these financial assets is included in interest revenue from financial assets not measured at FVTPL using the EIR method.
  2. FVOCI: Financial assets that are held for collection of contractual cash flows and for selling the assets, where the assets’ cash flows represent SPPI, and that are not designated at FVTPL, are measured at FVOCI. Movements in the carrying amount are taken through OCI, except for the recognition of impairment gains or losses, interest revenue and foreign exchange gains and losses on the instrument’s AC, which are recognised in profit or loss. When the financial asset is derecognized, the cumulative gain or loss previously recognised in OCI is reclassified from equity to profit or loss and recognised in net return on investments and other investment income. Interest revenue from these financial assets is included in interest revenue from financial assets not measured at FVTPL using the EIR method.
  3. FVTPL: Assets that do not meet the criteria for AC or FVOCI are measured at FVTPL. Also, some assets are voluntarily measured at FVTPL, because this significantly reduces an accounting mismatch. A gain or loss on a debt investment that is subsequently measured at FVTPL is recognised and presented in the consolidated statement of profit or loss within net gains on FVTPL investments in the period in which it arises.

2.3 Equity instruments 

IFRS Link

Explanation Accounting policies for financial instruments

IAS 32 11

Equity instruments are instruments that meet the definition of equity from the issuer’s perspective (i.e. instruments that do not contain a contractual obligation to pay and that evidence a residual interest in the issuer’s net assets). Examples of equity instruments include basic ordinary shares.

IFRS 9 5.7.2

The insurer subsequently measures all equity investments at FVTPL. Gains and losses on equity investments at FVTPL are included in the line ‘Net gains on FVTPL investments’ in the consolidated statement of profit or loss.

IFRS 9 5.7.5

The insurer chooses not to apply the FVOCI option for equity instruments that are not held for trading.

2.4 Impairment

IFRS Link

Explanation

IFRS 9 5.5.17

The insurer assesses on a forward-looking basis the ECL associated with its debt instrument assets carried at AC and FVOCI. The insurer recognises a loss allowance for such losses at each reporting date. The measurement of the ECL reflects:

  1. an unbiased and probability weighted amount that is determined by evaluating a range of possible outcomes;
  2. the time value of money; and
  3. reasonable and supportable information that is available without undue cost or effort at the reporting date about past events, current conditions and forecasts of future economic conditions.

Here are more detailed explanations on how the ECL allowance is measured.

2.5 Derecognition other than on a modification 

IFRS Link

Explanation 

IFRS 9 3.2.3

Accounting policies for financial instruments

Accounting policies for financial instruments

Accounting policies for financial instruments

Financial assets, or a portion thereof, are derecognised when the contractual rights to receive the cash flows from the assets have expired, or when they have been transferred and either

  1. the insurer transfers substantially all the risks and rewards of ownership; or
  2. the insurer neither transfers nor retains substantially all the risks and rewards of ownership and the Group has not retained control.

Construction contracts - Measuring progress Construction contracts - Measuring progress

IFRS 9 3.2.5

The insurer enters into transactions where it retains the contractual rights to receive cash flows from assets but assumes a contractual obligation to pay those cash flows to other entities and transfers substantially all of the risks and rewards. These transactions are accounted for as pass through transfers that result in derecognition if the insurer:

  1. has no obligation to make payments unless it collects equivalent amounts from the assets;
  2. is prohibited from selling or pledging the assets; and
  3. has an obligation to remit any cash it collects from the assets without material delay.

Recognition of revenue as principal or agent

3. Financial liabilities

3.1 Classification and subsequent measurement

IFRS Link

Explanation 

IFRS 9 4.2.1, IFRS 9 B5.7.16

In both the current and prior period, financial liabilities are classified and subsequently measured at AC, except for derivatives and investment contracts without DPF, which are measured at FVTPL.

IFRS 9 4.2

Accounting policies for financial instruments

Accounting policies for financial instruments

Accounting policies for financial instruments

Investment contracts without DPF are financial liabilities whose fair value is dependent on the fair value of underlying financial assets and are designated at inception at FVTPL. The insurer designates these investment contracts to be measured at FVTPL because it eliminates or significantly reduces a measurement or recognition inconsistency (i.e. an accounting mismatch) that would otherwise arise from measuring assets or liabilities or recognising the gains and losses on them on different bases.

The insurer’s main valuation techniques incorporate all factors that market participants would consider and make maximum use of observable market data. The fair value of financial liabilities for investment contracts without fixed terms is determined using the current unit values in which the contractual benefits are denominated. These unit values reflect the fair values of the financial assets contained within the insurer’s unitised investment funds linked to the financial liability. The fair value of the financial liabilities is obtained by multiplying the number of units attributed to each contract holder at the end of the reporting period by the unit value for the same date.

When the investment contract has an embedded put or surrender option, the fair value of the financial liability is never less than the amount payable on surrender, discounted for the required notice period where applicable.

IFRS 9 5.7.7

Changes in the fair value of financial liabilities measured at FVTPL related to own credit risk are presented in OCI, while all other fair value changes are presented in the consolidated statement of profit or loss.

3.2 Derecognition 

IFRS Link

Explanation 

IFRS 9 3.3.1

Financial liabilities are derecognised when they are extinguished (i.e. when the obligation specified in the contract is discharged, cancelled or expires).

IFRS 9 3.3.2,

IFRS 9 3.3.3,

IFRS 9B3.3.6

The exchange between the insurer and its original lenders of debt instruments with substantially different terms, as well as substantial modifications of the terms of existing financial liabilities, are accounted for as an extinguishment of the original financial liability and a recognition of a new financial liability. The terms are substantially different if the discounted present value of the cash flows under the new terms, including any fees paid net of any fees received and discounted using the original EIR, is at least 10% different than the discounted present value of the remaining cash flows of the original financial liability. In addition, other qualitative factors, such as the currency that the instrument is denominated in, changes in the type of interest rate, new conversion features attached to the instrument and changes in covenants, are also taken into consideration. If an exchange of debt instruments or a modification of terms is accounted for as an extinguishment, any costs or fees incurred are recognised as part of the gain or loss on the extinguishment. If the exchange or modification is not accounted for as an extinguishment, any costs or fees incurred adjust the carrying amount of the liability and are amortised over the remaining term of the modified liability.

4. Derivatives

IFRS Link

Explanation 

IFRS 9 4.1.4,

IFRS 9 4.2.1 (a)

Derivatives are initially recognised at fair value on the date on which the derivative contract is entered into and are subsequently remeasured at fair value. All derivatives are carried as assets when fair value is positive and as liabilities when fair value is negative

IFRS 9 4.3.2,

IFRS 9 4.3.3,

IFRS 17 11(a)

Certain derivatives are embedded in hybrid contracts. If the hybrid contract contains a host that is a financial asset, then the insurer assesses the entire contract as described in 1.2 Financial Assets above for classification and measurement purposes.
Otherwise, the embedded derivatives are treated as separate derivatives when:

  1. their economic characteristics and risks are not closely related to those of the host contract;
  2. a separate instrument with the same terms would meet the definition of a derivative; and
  3. the hybrid contract is not measured at FVTPL.

These embedded derivatives are separately accounted for at fair value, with changes in fair value recognised in the consolidated statement of profit or loss unless the insurer chooses to designate the hybrid contracts at FVTPL.

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