1 Best Complete Read – Financial Instruments

Financial Instruments is a summary of the current (Financial Statements preparation for 2020 on wards) IFRS reporting requirements relating to the combination of IAS 32 Financial Instruments: Presentation, IFRS 7 Financial instruments: Disclosure and IFRS 9 Financial Instruments, into one overall narrative.

IFRS standards for Financial Instruments have a complicated history. It was originally intended that IFRS 9 would replace IAS 39 in its entirety. However, in response to requests from interested parties that the accounting for financial instruments be improved quickly, the project to replace IAS 39 was divided into three main phases.

The three main phases of the project to replace IAS 39 were:

  1. Phase 1: classification and measurement of financial assets and financial liabilities.
  2. Phase
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The best 1 in overview – IFRS 9 Impairment requirements

IFRS 9 Impairment requirements

forward-looking information to recognise expected credit losses for all debt-type financial assets

 

Under IFRS 9 Impairment requirements, recognition of impairment no longer depends on a reporting entity first identifying a credit loss event.

IFRS 9 instead uses more forward-looking information to recognise expected credit losses for all debt-type financial assets that are not measured at fair value through profit or loss.

IFRS 9 requires an entity to recognise a loss allowance for expected credit losses on:

  • debt instruments measured at amortised cost
  • debt instruments measured at fair value through other comprehensive income
  • lease receivables
  • contract assets (as defined in IFRS 15 ‘Revenue from Contracts with Customers’)
  • loan commitments that are not measured at fair value through profit or loss
  • financial guarantee contracts (except those accounted for as insurance contracts).

IFRS 9 requires an expected loss allowance to be estimated for each of these types of asset or exposure. However, the Standard specifies three different approaches depending on the type of asset or exposure:

IFRS 9 Impairment requirements

* optional application to trade receivables and contract assets with a significant financing component, and to lease receivables

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Low credit risk operational simplification

Low credit risk operational simplification

IFRS 9 contains an important simplification that, if a financial instrument has low credit risk, then an entity is allowed to assume at the reporting date that no significant increases in credit risk have occurred. The low credit risk concept was intended, by the IASB, to provide relief for entities from tracking changes in the credit risk of high quality financial instruments. Therefore, this simplification is only optional and the low credit risk simplification can be elected on an instrument-by-instrument basis.

This is a change from the 2013 ED, in which a low risk exposure was deemed not to have suffered significant deterioration in credit risk. The amendment to make the simplification optional was made in response to requests from constituents, including regulators. It is expected that the Basel Committee SCRAVL consultation document will propose that sophisticated banks should only use this simplification rarely for their loan portfolios.

For low risk instruments, the entity would recognise an allowance based on 12-month ECLs. However, if a financial instrument is not considered to have low credit risk at the reporting date, it does not follow that the entity is required to recognise lifetime ECLs. In such instances, the entity has to assess whether there has been a significant increase in credit risk since initial recognition that requires the recognition of lifetime ECLs.

The standard states that a financial instrument is considered to have low credit risk if: [IFRS 9.B5.22]

  • The financial instrument has a low risk of default
  • The borrower has a strong capacity to meet its contractual cash flow obligations in the near term
  • Adverse changes in economic and business conditions in the longer term may, but will not necessarily, reduce the ability of the borrower to fulfil its contractual cash flow obligations Low credit risk operational simplification

A financial instrument is not considered to have low credit risk simply because it has a low risk of loss (e.g., for a collateralised loan, if the value of the collateral is more than the amount lent (see collateral) or it has lower risk of default compared with the entity’s other financial instruments or relative to the credit risk of the jurisdiction within which the entity operates.

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30 days past due rebuttable presumption – simple and sufficient

Past due status and more than 30 days past due rebuttable presumption

– making loss provision calculations simple –

The second simplification available in IFRS 9 sets out a rebuttable presumption that the credit risk on a financial asset has increased significantly since initial recognition when contractual payments are more than 30 days past due. [IFRS 9.5.5.11]

The first simplification available in IFRS 9 is the low credit presumption.

When payments are 30 days past due, a financial asset is considered to be in stage 2 and lifetime expected credit losses are recognised.

An entity can rebut this presumption when it has reasonable and supportable information available that demonstrates that even if payments are 30 days or more past due, it does not represent a significant increase in the credit risk of a financial instrument.

This 30 days past due simplification permits the use of delinquency or past due status, together with other more forward-looking information, to 30 days past dueidentify a significant increase in credit risk. The IASB decided that this simplification should be required as a rebuttable presumption to ensure that its application does not result in an entity reverting to an incurred loss model.[IFRS 9.BC5.190]

The IASB is concerned that past due information is a lagging indicator. Typically, credit risk increases significantly before a financial instrument becomes past due or other lagging borrower-specific factors (for example, a modification or restructuring) are observed.

Consequently, when reasonable and supportable information that is more forward-looking than past due information is available without undue cost or effort, it must be used to assess changes in credit risk and an entity cannot rely solely on past due information. However, if more forward-looking information (either on an individual or collective basis) is not available without undue cost or effort, an entity may use past due information to assess changes in credit risks.

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Setting 1 complete scene the Expected Credit Losses model

the Expected Credit Losses model

Setting the scene the Expected Credit Losses model, start here to get a good understanding of ECL loss allowances or continue, you decide……

The Expected Credit Losses model (ECL) should be applied to:Setting the scene: the Expected Credit Losses model

  • investments in debt instruments measured at amortized cost;
  • investments in debt instruments measured at fair value through other comprehensive income (FVOCI);
  • all loan commitments not measured at fair value through profit or loss;
  • financial guarantee contracts to which IFRS 9 is applied and that are not accounted for at fair value through profit or loss; and
  • lease receivables that are within the scope of IFRS 16 Leases, and trade receivables or contract assets within the scope of IFRS 15
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IFRS 9 ECL Model best read – Impairment of investments and loans

Impairment of investments and loans

is about impairment in a ‘normal’ business not complicated accounting but straightforward accounting calculations.

Normal operations

Although the focus for IFRS 9 Financial Instruments is on financial institutions such as banks and insurance companies, ‘normal’ operating entities are also affected by IFRS 9. Maybe their investment and loan portfolios are less complex but in operating a business and as part of the internal credit risk management practice policy making it is still important to implement the impairment model under IFRS 9 Financial Instruments.

The objective of these approaches to expected credit losses or timely recording of impairments/loss allowances is to provide approaches that result in a situation in which very different reporting entities all … Read more

Curing of a credit-impaired financial asset

Curing of a credit-impaired financial asset presents the explanation of what a credit-impaired financial asset is, how to account for a credit-impaired asset as long as it is credit-impaired and how to account for a credit-impaired asset that is no longer credit-impaired (i.e. curing of a credit-impaired financial asset which means the borrower has, for example, restructured its business and cash flow recovered sufficiently to return paying all interest and principal as per the original contract). Curing of a credit-impaired financial asset

Credit-impaired assets

A financial asset is credit-impaired when one or more events that have a detrimental impact on the estimated future cash flows of that financial asset have occurred. Evidence that a financial asset is credit-impaired include observable … Read more

Quick and dirty the 3 stage approach – Summary impairment of financial assets

Summary impairment of financial assets is the centre text to quickly understand all IFRS aspects to recording loss allowances, when, how much, how often?

Impairment requirements

The impairment requirements are applied to: Summary impairment of financial assets

  • Financial assets measured at amortised cost (originated, purchased, reclassified or modified debt instruments incl. trade receivables),
  • Financial assets measured at fair value through other comprehensive income,
  • Loan commitments except those measured at fair value through profit or loss,
  • Financial guarantees contracts except those measured at fair value through profit or loss,
  • Lease receivables.

Impairment model

The impairment model follows a three-stage approach based on changes in expected credit losses of a financial instrument that determine:

  • The recognition of impairment, and Summary impairment of
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