Simplified approach contract assets

IFRS 9 Impairment of Financial Instruments establishes a new model for recognition and measurement of impairments in loans and receivables that are measured at Amortized Cost or FVOCI—the so-called “expected credit losses” model. This ECL model is the only impairment model that applies in IFRS 9 because all other assets are classified and measured at FVPL or, in the case of qualifying equity investments, FVOCI with no recycling to profit and loss. 

Expected credit losses

Expected credit losses are calculated by: IFRS 9 Impairment of Financial Instruments

1. identifying scenarios in which a loan or receivable defaults; IFRS 9 Impairment of Financial Instruments
2. estimating the cash shortfall that would be incurred in each scenario if a default were to happen;
3. multiplying

The general approach is as the name more or less implies the ‘normal’ approach to calculate an impairment loss on financial assets (at amortised costs (for example trade receivables) or at the fair value OCI option), loan commitments and financial guarantee contracts (both not at FVPL), lease receivables and contract assets (with a significant financing component). These assets/commitments/contracts can also -by policy election- be impaired using the simplified approach. More regular trade receivables and contract assets without a significant financing component are mostly impaired using the simplified approach.

This is part of the expected credit losses in IFRS 9 Impairment of Financial Instruments

Identifying whether a significant increase in credit risk has occurred

A critical factor in applying … Read more

The credit adjusted approach applies only rarely when an entity acquires or originates a loan or receivable that is “credit impaired” at the date of its initial recognition (e.g., when a loan is acquired at a deep discount due to credit concerns via a business combination). The credit adjusted approach

This is part of the impairment of financial instruments in IFRS 9 Impairment of Financial Instruments.

An asset is credit impaired when one or more events that have a detrimental effect on the estimated future cash flows of the asset have occurred. The credit adjusted approach is one of three IFRS 9 approaches for measuring and recognising expected credit losses, the other two are the general approach… Read more

Change in the fair value of a bond – The following example illustrates the calculation that an entity might perform in accordance with the application guidance in IFRS 9 B5.7.18.

The case:

On 1 January 20X1 an entity issues a 10-year bond with a par value of CU150,0001 and an annual fixed coupon rate of 8 per cent, which is consistent with market rates for bonds with similar characteristics.

The entity uses LIBOR as its observable (benchmark) interest rate. At the date of inception of the bond, LIBOR is 5 per cent. At the end of the first year:

1. LIBOR has decreased to 4.75 per cent.
2. the fair value for the bond is CU153,811, consistent with an interest rate of

Possible indicators for Lifetime Expected Credit Loss – IFRS 9 sets out guidance (IFRS 9 B5.5.17) to assist entities in determining when a provision for lifetime expected credit losses is required. Entities may consider the following factors when making this determination:

• Significant changes in internal pricing indicators of credit risk for a particular financial instrument or similar financial instruments with the same term
• Other changes in the rates or terms of an existing financial instrument that would be significantly different if the instrument was newly originated or issued at the reporting date (such as more stringent covenants, increased amounts of collateral or guarantees, or higher income coverage) because of changes in the credit risk of the financial instrument

Loan commitments and financial guarantee contracts – Under IFRS 9, the scope of the three-stage impairment approach is extended to apply to such off-balance sheet items. An entity would consider the expected portion of the loan commitment that will be drawn down within the next 12 months when estimating 12-month expected credit losses (Stage 1), and the expected portion of the loan commitment that will be drawn down over the remaining life of the loan commitment when estimating lifetime expected credit losses (Stage 2).

The following table summarises the requirement for loan commitments and financial guarantees: Loan commitments and financial guarantee contracts

Determining significant increases in credit risk – The transition from recognising 12-month expected credit losses (i.e. Stage 1) to lifetime expected credit losses (i.e. Stage 2) in IFRS 9 Financial Instruments is based on the notion of a significant increase in credit risk over the remaining life of the instrument. The focus is on the changes in the risk of a default, and not the changes in the amount of expected credit losses.

For example, for highly collateralised financial assets such as real estate backed loans when a borrower is expected to be affected by the downturn in its local economy with a consequent increase in credit risk, that loan would move to Stage 2, even though the actual loss … Read more