IFRS vs US GAAP Financial liabilities and equity

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IFRS vs US GAAP Financial liabilities and equity – Under current standards, both US GAAP and IFRS require the issuer of financial instruments to determine whether either equity or financial liability classification (or both) is required. Although the IFRS and US GAAP definitions of a financial liability bear some similarities, differences exist that could result in varying classification of identical instruments.

As an overriding principle, IFRS requires a financial instrument to be classified as a financial liability if the issuer can be required to settle the obligation in cash or another financial asset. US GAAP, on the other hand, defines a financial liability in a more specific manner. Unlike IFRS, financial instruments may potentially be equity-classified under US GAAP if the issuer’s obligation to deliver cash or another financial asset at settlement is conditional. As such, US GAAP will permit more financial instruments to be equity-classified as compared to IFRS.

Many financial instruments contain provisions that require settlement in cash or another financial asset if certain contingent events occur. Under IFRS, contingently redeemable (settle-able) instruments are more likely to result in financial liability classification, and financial instruments that are puttable are generally financial liabilities with very limited exceptions. This is because the issuer cannot unconditionally avoid delivering cash or another financial asset at settlement. Identical contingently redeemable (settle-able) and/or puttable instruments may be equity-classified under US GAAP due to the conditional nature of the issuer’s obligation to deliver cash (or another financial asset) at settlement.

Oftentimes, reporting entities issue financial instruments that have both a liability and an equity component (e.g., convertible debt and redeemable preferred stock that is convertible into the issuer’s common equity). Such instruments are referred to as compound financial instruments under IFRS and hybrid financial instruments under US GAAP. IFRS requires a compound financial instrument to be separated into a liability and an equity component (or a derivative component, if applicable). Notwithstanding convertible debt with a cash conversion feature, which is IFRS vs US GAAP Financial liabilities and equityaccounted for like a compound financial instrument, hybrid financial instruments are evaluated differently under US GAAP.

Unless certain conditions requiring bifurcation of the embedded feature(s) are met, hybrid financial instruments are generally accounted for as a financial liability or equity instrument in their entirety. The accounting for compound/hybrid financial instruments can result in significant balance sheet presentation differences while also impacting earnings.

Settlement of a financial instrument (freestanding or embedded) that results in delivery or receipt of an issuer’s own shares may also be a source of significant differences between IFRS and US GAAP. For example, net share settlement would cause a warrant or an embedded conversion feature to require financial liability classification under IFRS. A similar feature would not automatically taint equity classification under US GAAP, and further analysis would be required to determine whether equity classification is appropriate.

Likewise, a derivative contract providing for a choice between gross settlement and net cash settlement would fail equity classification under IFRS even if the settlement choice resides with the issuer. If net cash settlement is within the issuer’s control, the same derivative contract may be equity-classified under US GAAP.

Written options are another area where US GAAP and IFRS produce different accounting results. Freestanding written put options on an entity’s own shares are classified as financial liabilities and recorded at fair value through earnings under US GAAP. Under IFRS, such instruments are recognized and measured as a gross financial liability at the discounted value of the settlement amount and accreted to their settlement amount.

In addition to the subsequent remeasurement differences described above, the application of the effective interest method when accrediting a financial liability to its settlement amount differs under IFRS and US GAAP. The effective interest rate is calculated based on the estimated future cash flows of the instrument under IFRS, whereas the calculation is performed using contractual cash flows under US GAAP (with two limited exceptions, puttable and callable debt).

Standards Reference

Note

The following discussion captures a number of the more significant GAAP differences. It is important to note that the discussion is not inclusive of all GAAP differences in this area.

Contingent settlement provisions

Contingent settlement provisions, such as provisions requiring redemption upon a change in control, result in financial liability classification under IFRS unless the contingency arises only upon liquidation or is not genuine. Items classified as mezzanine equity under US GAAP are generally classified as financial liabilities under IFRS.

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A contingently redeemable financial instrument (e.g., one redeemable only if there is a change in control) is outside the scope of ASC 480 because its redemption is not unconditional. Any conditional provisions must be assessed to ensure that the contingency is substantive.

IAS 32 notes that a financial instrument may require an entity to deliver cash or another financial asset in the event of the occurrence or non-occurrence of uncertain future events beyond the control of both the issuer and the holder of the instrument. Contingencies may include linkages to such events as a change in control or to other matters such as a change in a stock market index, consumer price index, interest rates, or net income.

For SEC-listed companies applying US GAAP, certain types of securities require classification as mezzanine equity on the balance sheet. Examples of items requiring mezzanine classification are instruments with contingent settlement provisions or puttable shares as discussed in the Puttable shares section. Mezzanine classification is a US public company concept that is also encouraged (but not required) for private companies.

If the contingency is outside of the issuer’s and holder’s control, the issuer of such an instrument does not have the unconditional right to avoid delivering cash or another financial asset.

Therefore, except in limited circumstances (such as if the contingency is not genuine or if it is triggered only in the event of a liquidation of the issuer), instruments with contingent settlement provisions represent financial liabilities.

The guidance focuses on the issuer’s unconditional right to avoid settlement no matter whether the contingencies may or may not be triggered.

There is no concept of mezzanine classification under IFRS.

Derivatives—fixed-for-fixed vs indexed to issuer’s own shares

When determining the issuer’s classification of a derivative on its own shares, IFRS looks at whether the equity derivative meets a fixed-for-fixed requirement, while US GAAP uses a two-step model. Although Step 2 of the US GAAP model uses a similar fixed-for-fixed concept, the application of the concept differs significantly between US GAAP and IFRS.

These differences can impact classification as equity or a derivative asset or liability (with derivative classification more common under IFRS).

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Equity derivatives need to be indexed to the issuer’s own shares to be classified as equity. The assessment follows a two-step approach under ASC 815-40-15.

Step 1—Considers whether there are any contingent exercise provisions, and if so, they cannot be based on an observable market or index other than those referenced to the issuer’s own shares or operations.

For derivatives, only contracts that provide for gross physical settlement and meet the fixed-for-fixed criteria (i.e., a fixed number of shares for a fixed amount of cash) are classified as equity. Variability in the amount of cash or the number of shares to be delivered results in financial liability classification.

Step 2—Considers the settlement amount. Only settlement amounts equal to the difference between the fair value of a fixed number of the entity’s equity shares and a fixed monetary amount, or a fixed amount of a debt instrument issued by the entity, will qualify for equity classification.

If the instrument’s strike price (or the number of shares used to calculate the settlement amount) is not fixed as outlined above, the instrument may still meet the equity classification criteria; this could occur where the variables that might affect settlement include inputs to the fair value of a fixed-for-fixed forward or option on equity shares and the instrument does not contain a leverage factor.

For example, a warrant issued by Company X has a strike price adjustment based on the movements in Company X’s stock price. This feature would fail the fixed-for-fixed criterion under IFRS, but the same adjustment would meet the criteria under US GAAP.

Down round features (as defined) do not cause a free-standing equity-linked financial instrument (or an embedded conversion option) to fail equity accounting when assessing whether the instrument is indexed to an entity’s own stock.

Once the down round is triggered, the change in the fair value of the instrument as a result of the change in strike price is recognized as a reduction of income available to common shareholders in basic EPS.

IFRS does not provide an exception related to down round features. Free-standing warrants and embedded conversion options in debt instruments containing down round features require liability classification.

In case of rights issues, if the strike price is denominated in a currency other than the issuer’s functional currency, it should not be considered as indexed to the entity’s own stock as the issuer is exposed to changes in foreign currency exchange rates. Therefore, rights issues of this nature would be classified as liabilities at fair value through profit or loss.

There is a narrow exception to the fixed-for-fixed criterion in IAS 32 for rights issues. Under this exception, rights issues are classified as equity if they are issued for a fixed amount of cash regardless of the currency in which the exercise price is denominated, provided they are offered on a pro rata basis to all owners of the same class of equity.

Derivatives on own shares—settlement models

Entities will need to consider how derivative contracts on an entity’s own shares will be settled. Many of these contracts that are classified as equity under US GAAP (e.g., warrants that will be net share settled or those where the issuer has settlement options) will be classified as derivatives under IFRS. Derivative classification will create additional volatility in the income statement.

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Derivative contracts that are in the scope of ASC 815-40 and either (1) require physical settlement or net share settlement, or (2) give the issuer a choice of net cash settlement or settlement in its own shares are considered equity instruments, provided they meet the criteria set forth within the literature.

Analysis of a contract’s terms is necessary to determine whether the contract meets the qualifying criteria, some of which can be difficult to meet in practice.

Similar to IFRS, derivative contracts that require net cash settlement are assets or liabilities.

Contracts that are net settled (net cash or net shares) are classified as liabilities or assets. This is also the case even if the settlement method is at the issuer’s discretion.

Gross physical settlement is required to achieve equity classification.

Contracts that give the counterparty a choice of net cash settlement or settlement in shares (physical or net settlement) result in derivative classification. However, if the issuer has a choice of net cash settlement or share settlement, the contract can still be considered an equity instrument.

Unlike US GAAP, under IFRS, a derivative contract that gives one party (either the holder or the issuer) a choice over how it is settled (net in cash, net in shares, or by gross delivery) is a derivative asset/liability unless all of the settlement alternatives would result in the contract being an equity instrument.

Written put option on the issuer’s own shares

Written puts that are to be settled by gross receipt of the entity’s own shares are treated as derivatives under US GAAP, while IFRS requires the entity to set up a financial liability for the discounted value of the amount of cash the entity may be required to pay.

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A financial instrument—other than an outstanding share—that at inception (1) embodies an obligation to repurchase the issuer’s equity shares or is indexed to such an obligation, and (2) requires or may require the issuer to settle the obligation by transferring assets shall be classified as a financial liability (or an asset, in some circumstances).

Examples include written put options on the issuer’s equity shares that are to be physically settled or net cash settled.

ASC 480 requires written put options to be measured at fair value, with changes in fair value recognized in current earnings.

If the contract meets the definition of an equity instrument (because it requires the entity to purchase a fixed amount of its own shares for a fixed amount of cash), any premium received must be recorded in equity.

Therefore, the premium received on such a written put is classified as equity (whereas under US GAAP, the fair value of the written put is recorded as a financial liability).

In addition, the issuer records a financial liability for the discounted value of the amount of cash that the entity may be required to pay. The financial liability is recorded against equity.

Compound instruments with no equity conversion features

Bifurcation and split accounting under IFRS may result in significantly different treatment, including increased interest expense, as compared to US GAAP.

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There is no concept of compound financial instruments outside of instruments with certain equity conversion features. As such, under US GAAP the instrument would be classified wholly within liabilities or equity.

If an instrument has both a liability component and an equity component—known as a compound instrument (e.g., redeemable preferred stock with dividends paid solely at the discretion of the issuer)—IFRS requires separate accounting for each component of the compound instrument.

The liability component is recognized at fair value calculated by discounting the cash flows associated with the liability component at a market rate for a similar debt host instrument excluding the equity feature, and the equity component is measured as the residual amount.

The accretion calculated in the application of the effective interest rate method on the liability component is classified as interest expense.

Compound instruments with equity conversion features

Differences in how and when convertible instruments get bifurcated and/or how the bifurcated portions get measured can drive substantially different results.

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Equity conversion features should be separated from the liability host and recorded separately as embedded derivatives only if they meet certain criteria (e.g., fail to meet the scope exception of ASC 815).

For convertible instruments with a liability component and a conversion feature that exchanges a fixed amount of cash for a fixed number of shares, IFRS requires split accounting between the liability and equity components of the instrument.

Equity conversion features within liability host instruments that fail the fixed-for-fixed requirement are considered to be embedded derivatives. Such embedded derivatives are bifurcated from the host debt contract and measured at fair value, with changes in fair value recognized in the income statement.

If the conversion feature is not recorded separately, then the entire convertible instrument may be considered one unit of account—interest expense would reflect cash interest if issued at par. However, there are a few exceptions:

  • For certain convertible debt instruments with a cash conversion feature, the liability and equity components of the instrument should be separately accounted for by allocating the proceeds from the issuance of the instrument between the liability component and the embedded conversion option (i.e., the equity component).

    This allocation is done by first determining the carrying amount of the liability component based on the fair value of a similar liability excluding the embedded conversion option, and then allocating to the embedded conversion option the excess of the initial proceeds ascribed to the convertible debt instrument over the amount allocated to the liability component.

  • A convertible debt instrument may contain a beneficial conversion feature when the strike price on the conversion option is “in the money.” The beneficial conversion feature is generally recognized and measured by allocating a portion of the proceeds received, equal to the intrinsic value of the conversion feature, to equity.

When split accounting applies, the liability component is recognized at fair value calculated by discounting the cash flows associated with the liability component at a market rate for non-convertible debt. The equity conversion feature is measured as the residual amount and recognized in equity with no subsequent remeasurement.

IFRS does not have the concept of a beneficial conversion feature.

Puttable shares/redeemable upon liquidation

– Puttable shares

Puttable shares are more likely to be classified as financial liabilities under IFRS.

The potential need to classify certain interests in open-ended mutual funds, unit trusts, partnerships, and the like as liabilities under IFRS could lead to situations where some entities have no equity capital in their financial statements.

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Puttable shares

The redemption of puttable shares is conditional upon the holder exercising the put option. This contingency removes puttable shares from the scope of instruments that ASC 480 requires to be classified as a financial liability.

As discussed for contingently redeemable instruments, SEC registrants would classify these instruments as “mezzanine.” Such classification is encouraged, but not required, for private companies.

Puttable shares

Puttable instruments generally are classified as financial liabilities because the issuer does not have the unconditional right to avoid delivering cash or other financial assets. Under IFRS, the legal form of an instrument (i.e., debt or equity) does not necessarily influence the classification of a particular instrument.

Under this principle, IFRS may require certain interests in open-ended mutual funds, unit trusts, partnerships, and the like to be classified as liabilities (because holders can require cash settlement). This could lead to situations where some entities have no equity capital in their financial statements.

However, an entity is required to classify puttable instruments as equity when they have particular features and meet certain specific conditions in IAS 32. This exemption does not apply to puttable instruments issued by a subsidiary.

Even if the puttable instruments are classified as equity in the financial statements of the issuing subsidiary, they are always shown as financial liabilities in the consolidated financial statements of the parent.

– Redeemable upon liquidation

Differences with respect to the presentation of these financial instruments issued by a subsidiary in the parent’s consolidated financial statements can drive substantially different results.

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Redeemable upon liquidation

ASC 480 scopes out instruments that are redeemable only upon liquidation. Therefore, such instruments may achieve equity classification for finite-lived entities.

Redeemable upon liquidation

For instruments issued out of finite-lived entities that are redeemable upon liquidation, equity classification is appropriate only if certain conditions are met.

In classifying these financial instruments issued by a subsidiary in a parent’s consolidated financial statements, US GAAP scopes out mandatorily redeemable non-controlling interests from ASC 480; the result is that the redeemable non-controlling interests issued by a subsidiary are not financial liabilities in the parent’s consolidated financial statements.

However, when classifying redeemable financial instruments issued by a subsidiary (either puttable or redeemable upon liquidation) in the parent’s consolidated accounts, equity classification at the subsidiary level is not extended to the parent’s classification of the redeemable non-controlling interests in the consolidated financial statements, as the same instrument would not meet the specific IAS 32 criteria from the parent’s perspective.

Receivables from shareholders

Receivables from shareholders are generally required to be presented as contra-equity under US GAAP, whereas under IFRS they might qualify for presentation as an asset.

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Public companies are required to record notes or other receivables from a parent or another affiliate as contra-equity. For private companies, there is no authoritative guidance that deals directly with advances to and receivables from shareholders. Generally, advances to or receivables from shareholders should be recognized as a reduction of equity. However, there may be some circumstances in which it is acceptable to classify the advance or receivable as an asset.

A company should recognize a receivable from a shareholder if it has a contractual right to receive cash or another financial asset.

Initial measurement of a liability with a related party

Fundamental differences in the approach to related-party liabilities under the two accounting models may impact the values at which these liabilities initially are recorded. The IFRS model may, in practice, be more challenging to implement.

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When an instrument is issued to a related party at off-market terms, one should consider which model the instrument falls within the scope of as well as the facts and circumstances of the transaction (i.e., the existence of unstated rights and privileges) in determining how the transaction should be recorded. There is, however, no requirement to initially record the transaction at fair value.

The presumption in ASC 850 that related party transactions are not at arm’s length and the associated disclosure requirements also should be considered.

When an instrument is issued to a related party, the financial liability initially should be recorded at fair value, which may not be the value of the consideration received.

The difference between fair value and the consideration received (i.e., any additional amount lent or borrowed) is accounted for as a current-period expense, income, or as a capital transaction based on its substance.

IAS 24 sets out the disclosure requirements associated with related party transactions.

Effective-interest-rate calculation

Differences between the expected lives and the contractual lives of financial liabilities have different implications under the two frameworks unless the instruments in question are carried at fair value. The difference in where the two accounting frameworks place their emphasis (contractual term for US GAAP and expected life for IFRS) can impact carrying values and the timing of expense recognition.

Similarly, differences in how revisions to estimates get treated also impact carrying values and expense recognition timing, with the potential for greater volatility under IFRS.

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The effective interest rate used for calculating amortization under the effective interest method generally discounts contractual cash flows through the contractual life of the instrument. However, a shorter life may be used in some circumstances. For example, puttable debt is generally amortized over the period from the date of issuance to the first put date and callable debt can be amortized either over the contractual life or the estimated life as a policy decision.

Technology-based intangible assets – Legal titles and secrets

The effective interest rate used for calculating amortization under the effective interest method discounts estimated cash flows through the expected—not the contractual—life of the instrument.

Generally, if the entity revises its estimate after initial recognition (for reasons unrelated to a modification), the carrying amount of the financial liability should be revised to reflect actual and revised estimated cash flows at the original effective interest rate, with a cumulative-catch-up adjustment being recorded in profit and loss.

Revisions of the estimated life or of the estimated future cash flows may exist, for example, in connection with debt instruments that contain a put or call option that does not need to be bifurcated or whose coupon payments vary.

Payments may vary because of an embedded feature that does not meet the definition of a derivative because its underlying is a non-financial variable specific to a party to the contract (e.g., cash flows that are linked to earnings before interest, taxes, depreciation, and amortization; sales volume; or the earnings of one party to the contract).

Generally, floating rate instruments (e.g., LIBOR plus spread) issued at par are not subject to the cumulative-catch-up approach; rather, the effective interest rate is revised as market rates change.

Modification/exchange of debt and convertible debt

Differences in when a modification or exchange of a debt instrument would be accounted for as a debt extinguishment can drive different conclusions as to whether extinguishment accounting is appropriate.

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When a debt modification or exchange of debt instruments occurs, the first step is to consider whether the modification or exchange qualifies for troubled debt restructuring. If this is the case, the restructuring follows the specific troubled debt restructuring guidance.

If the modification or exchange of debt instruments does not qualify for troubled debt restructuring, one has to consider whether the modification or exchange of debt instruments has to be accounted for as a debt extinguishment.

An exchange or modification of debt instruments with substantially different terms is accounted for as a debt extinguishment. In order to determine whether the debt is substantively different, a quantitative assessment must be performed.

If the present value of the cash flows under the new terms of the new debt instrument differs by at least 10% from the present value of the remaining cash flows under the original debt, the exchange is considered an extinguishment.

The discount rate for determining the present value is the effective rate on the old debt. If either the new or the original debt instrument is callable/puttable, separate cash flow analyses are performed assuming exercise and non-exercise of the call or put.

If the debt modifications involve changes in non-cash embedded conversion features, the following two-step test is required:

Step 1—If the change in cash flows as described above is greater than 10% of the carrying value of the original debt instrument, the exchange or modification should be accounted for as an extinguishment. This test would not include any changes in fair value of the embedded conversion option.

Under IFRS, there is no concept of troubled debt restructuring.

A substantial modification of the terms of an existing financial liability or part of the financial liability should be accounted for as an extinguishment of the original financial liability and the recognition of a new financial liability.

In this regard, the terms are substantially different if the present value of the cash flows discounted using the original effective interest rate under the new terms is at least 10% different from the discounted present value of the remaining cash flows of the original financial liability.

Unlike US GAAP, there is no specific guidance for callable/puttable debt. However, in applying the 10% test under IFRS, entities generally use the expected cash flows of the borrowing rather than assume immediate prepayment.

If this test is met, the exchange is considered an extinguishment. It is clear that if the discounted cash flows change by at least 10%, the original debt should be extinguished. It is not clear, however, in IFRS 9 whether the quantitative analysis is an example or is the definition of substantially different.

Accordingly, there is an accounting policy choice where entities can perform either (1) an additional qualitative analysis of any modification of terms when the change in discounted cash flows is less than 10% or (2) only the 10% test (quantitative test) as discussed above.

Step 2—If the test in Step 1 is not met, the following should be assessed:

  1. If the modification or exchange affects the terms of an embedded conversion option, whether the difference between the fair value of the option before and after the modification or exchange is at least 10% of the carrying value of the original debt instrument prior to the modification or exchange.

  2. Whether a substantive conversion option is added or a conversion option that was substantive at the date of modification is eliminated.

If either of these criteria is met, the exchange or modification would be accounted for as an extinguishment.

Generally, when a term loan or debt security are modified and the modification is accounted for as an extinguishment, new fees paid to, or received from, the existing lender are expensed. New fees paid to third parties are capitalized and amortized as a debt issuance cost.

For debt instruments with embedded derivatives that are bifurcated and measured at FVPL, the modification of the host contract and the embedded derivative should be assessed together when applying the 10% test as the host debt and the embedded derivative are interdependent. However, a conversion option that is accounted for as an equity component would not be considered in the 10% test.

IFRS 9 does not distinguish between costs and fees payable to third parties, such as lawyers and accountants, and those payable directly to the lender.

If an exchange of debt instruments or modification of terms is accounted for as an extinguishment, any costs or fees incurred are recognized as part of the gain or loss on the extinguishment.

Accounting for debt modifications

Under US GAAP, when debt is modified, no gain or loss is recognized due to changes in cash flows, whereas under IFRS, a modification gain or loss is recognized. However, under IFRS, certain changes in cash flows may not meet the definition of a modification and therefore not trigger a gain or loss. In addition, differences exist in the treatment of related fees and costs.

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Under US GAAP, when debt is modified, generally no gain or loss is recorded. A new effective interest rate is established based on the carrying value of the debt and the revised cash flows.

Under IFRS, when renegotiation or modification of terms do not result in derecognition, the carrying amount of the liability is recalculated using the modified cash flows discounted at the original effective interest rate. A modification gain or loss is recognized in profit or loss.

However, in some cases when the changes in cash flows represent movements in market rates of interest, a treatment similar to US GAAP (where the interest rate is reset) could be applied. This would be the case, for example, for instruments prepayable by the borrower at par or with only an insignificant penalty, which effectively enables the borrower to have the lender agree to reset the cash flows to the then market rate.

New fees paid to, or received from, existing lenders are capitalized and amortized as part of the effective yield, whereas new fees paid to third parties are expensed.

Costs and fees that are incremental and directly attributable to the modification are spread over the expected life by adjusting the effective interest rate. Conversely, payments that represent compensation for the change in the cash flows of the liability should be expensed as part of the gain or loss on modification.

Incremental and directly attributable costs or fees might include amounts paid to third parties. Some amounts paid directly to the lender might also qualify – for example, if they compensate the lender for similar costs that it pays to third parties.

Transaction costs (also known as debt issue costs)

The balance sheet presentation of transaction costs for US GAAP is generally aligned to IFRS. However, there may still be differences in the accounting and presentation of commitment fees incurred to obtain lines of credit.

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When the financial liability is not carried at fair value through income, transaction costs, including third party costs and creditor fees, are deducted from the carrying value of the financial liability and are not recorded as separate assets. Rather, they are accounted for as a debt discount and amortized using the effective interest method.

When the financial liability is not carried at fair value through income, transaction costs including third party costs and creditor fees are deducted from the carrying value of the financial liability and are not recorded as separate assets. Rather, they are accounted for as a debt discount and amortized using the effective interest method.

Transaction costs are expensed immediately when the financial liability is carried at fair value, with changes recognized in profit and loss.

Transaction costs are expensed immediately when the financial liability is carried at fair value, with changes recognized in profit and loss.

The commitment fee incurred to obtain a line of credit represents the benefit of being able to access capital over the contractual term, and therefore, meets the definition of an asset. Reporting entities should subsequently amortize the asset ratably over the term of the line-of-credit arrangement, regardless of whether there are any outstanding borrowings on the line of credit.

Only in the limited circumstances when a reporting entity draws down on a line of credit and does not intend to repay the borrowing until the contractual maturity of the arrangement (i.e., the borrowing is treated like a term loan) do we believe the portion of the costs related to each respective draw down could be presented as a direct deduction from the carrying value of the debt when drawn.

The accounting for commitment fees incurred to obtain a line of credit under IFRS requires allocation between amounts that are expected to be drawn down and those that are not. To the extent there is evidence that it is probable that some or all of the facility will be drawn down, the commitment fee is allocated between the amounts that are expected to be drawn down and the amounts that are not expected to be drawn down.

The fee related to the portion expected to be drawn down is accounted for as a transaction cost under IFRS 9 (i.e., the fee is deferred and deducted from the carrying value of the financial liabilities when the draw down occurs). The fee related to the portion not expected to be drawn down is capitalized as a prepayment for liquidity services and amortized over the period of the facility.

Eligibility for fair value option

The IFRS eligibility criteria for use of the fair value option are more restrictive than under US GAAP.

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With some limited exceptions for certain financial liabilities addressed by other applicable guidance (e.g., financial instruments that are in whole or in part classified by the issuer as a component of shareholder’s equity, such as a convertible debt security with a non-contingent beneficial conversion feature), US GAAP permits entities to elect the fair value option for any recognized financial liability.

IFRS permits entities to elect the fair value option for financial liabilities when:

  • a contract contains one or more embedded derivatives and the entire contract is not measured at fair value through profit or loss (unless the embedded derivative does not significantly modify the cash flows or it is clear with little or no analysis that separation of the embedded derivative(s) is prohibited), or

  • it eliminates or significantly reduces a measurement or recognition inconsistency (sometimes referred to as “an accounting mismatch”), or

  • a group of financial instruments is managed and its performance is evaluated on a fair value basis in accordance with a risk management strategy.

The fair value option may only be elected upon initial recognition of the financial liability or upon some other specified events identified in ASC 825-10-25-4 and ASC 825-10-25-5.

See Own use versus normal purchase normal sale (in IFRS vs US GAAP Derivatives and hedging) for information on the normal purchase normal sale exception

The fair value option may only be elected upon initial recognition of the financial liability.

See Own use versus normal purchase normal sale (in IFRS vs US GAAP Derivatives and hedging) for information on the use of the fair value options for contracts that meet the “own use” scope exception.

Own credit risk—financial liabilities under fair value option

For both US GAAP and IFRS, the impact of changes in instrument-specific credit risk on financial liabilities for which the fair value option has been elected is reported in other comprehensive income.

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When the fair value option is elected for financial liabilities, changes in fair value due to changes in instrument-specific credit risk will be recognized separately in OCI. An accommodation is available in certain cases when this creates accounting mismatch.

The accumulated gains and losses due to changes in instrument-specific credit risk are recycled from accumulated other comprehensive income and recognized in earnings over the life of the liability, or upon settlement if it is settled before maturity.

For liabilities designated at FVPL (except for loan commitments and financial guarantees), changes in fair value related to changes in own credit risk are presented separately in OCI. However, this does not apply if the recognition of fair value changes due to own credit risk in OCI would create an accounting mismatch.

Unlike under US GAAP, amounts in OCI relating to changes in own credit risk are not recycled to the income statement under IFRS, even when the liability is derecognized and the amounts are realized. However, transfers within equity are allowed.

Non-recourse liabilities

US GAAP provides narrowly-focused guidance on non-recourse liabilities for consolidated collateralized financing entities (CFE) that measure financial assets and financial liabilities at fair value to eliminate the earnings volatility from the measurement difference. IFRS does not provide such guidance.

IFRS vs US GAAP Financial liabilities and equity IFRS vs US GAAP Financial liabilities and equity IFRS vs US GAAP Financial liabilities and equity

US GAAP

IFRS

US GAAP provides an alternative measurement for CFEs that allows the use of the more observable of the fair value of the financial assets or the fair value of the financial liabilities of the CFE to measure both the financial assets and the financial liabilities.

This eliminates the measurement difference that may exist when financial assets and financial liabilities of the CFE are measured at fair value independently.

IFRS does not provide a separate measurement approach for non-recourse liabilities. Financial assets and liabilities follow their respective classification and measurement models.

See also: The IFRS Foundation

IFRS vs US GAAP Financial liabilities and equity

IFRS vs US GAAP Financial liabilities and equity IFRS vs US GAAP Financial liabilities and equity IFRS vs US GAAP Financial liabilities and equity

IFRS vs US GAAP Financial liabilities and equity IFRS vs US GAAP Financial liabilities and equity IFRS vs US GAAP Financial liabilities and equity

IFRS vs US GAAP Financial liabilities and equity IFRS vs US GAAP Financial liabilities and equity IFRS vs US GAAP Financial liabilities and equity

IFRS vs US GAAP Financial liabilities and equity IFRS vs US GAAP Financial liabilities and equity IFRS vs US GAAP Financial liabilities and equity

IFRS vs US GAAP Financial liabilities and equity IFRS vs US GAAP Financial liabilities and equity IFRS vs US GAAP Financial liabilities and equity

IFRS vs US GAAP Financial liabilities and equity IFRS vs US GAAP Financial liabilities and equity IFRS vs US GAAP Financial liabilities and equity

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