Derecognition of financial assets has drawn a lot of attention in the Enron scandal. Enron used special purpose entities—limited partnerships or companies created to fulfil a temporary or specific purpose to fund or manage risks associated with specific (financial and/or non-financial) assets.
On October 16, 2001, Enron announced that restatements to its financial statements for years 1997 to 2000 were necessary to correct accounting violations. The restatements for the period reduced earnings by $613 million (or 23% of reported profits during the period), increased liabilities at the end of 2000 by $628 million (6% of reported liabilities and 5.5% of reported equity), and reduced equity at the end of 2000 by $1.2 billion (10% of reported equity).
So doing it right is important!
A financial asset is derecognised only when the contractual rights to the cash flows from the financial asset expire or when the financial asset is transferred and the transfer meets certain specified conditions (‘the asset transfer test’).
An entity derecognises a transferred financial asset if it transfers substantially all of the risks and rewards of ownership (‘the risks and reward test’). An entity does not derecognise a transferred financial asset if it retains substantially all of the risks and rewards of ownership.
A financial asset is derecognised only when the contractual rights to the cash flows from the financial asset expire or when the financial asset is transferred and the transfer meets certain specified conditions:
- An entity derecognises a transferred financial asset if it transfers substantially all of the risks and rewards of ownership. An entity does not derecognise a transferred financial asset if it retains substantially all of the risks and rewards of ownership.
- An entity continues to recognise a transferred financial asset to the extent of its continuing involvement if it has neither retained nor transferred substantially all of the risks and rewards of ownership, and it has retained control of the financial asset.
Here is a tool to walk through the decision tree regarding the evaluation of whether and to what extent a financial asset is derecognised as per IFRS 9 B3.2.1.
The first step is to look at the consolidated level (a sale between consolidated subsidiaries or the parent company and a subsidiary is no sale on a consolidated basis. [IFRS 9 3.2.1] |
The second step is to determine whether the derecognition principles in the following decision tree are applied to a part or all of an asset (or group of similar assets) [IFRS 9 3.2.2] |
Continu using this decision tree to evaluate whether and to what extent a financial asset is derecognised…. Document the IFRS questions (including IFRS references) and your answers and your derecognition file is ready for review and authorisation.
Links for more on each IFRS referenced in the decision tree: IFRS 9 3.2.3(a) Rights to cash flows expired, IFRS 9 3.2.4(a) Transferred rights, IFRS 9 3.2.4(b) Assumed an obligation, IFRS 9 3.2.6(a) Transfer risk and rewards test, IFRS 9 3.2.6(b) Retained risks and rewards test, IFRS 9 3.2.6(c) Retained control, IFRS 9 B 3.2.13 Continuing involvement
Derecognition of financial assets Derecognition of financial assets