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IFRS 9 Financial Instruments PDF

135 Pages·2014·2.35 MB·English
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IFRS First Impressions: IFRS 9 Financial Instruments September 2014 kpmg.com/ifrs Contents Fundamental changes call for careful planning 2 7.3 Host contracts that are not fnancial assets in the scope of IFRS 9 38 Setting the standard 3 8 Reclassifcation 39 1 Key facts 4 8.1 Conditions for reclassifcation of fnancial assets 39 2 How this could impact you 6 8.2 Timing of reclassifcation of fnancial assets 40 8.3 Measurement on reclassifcation of fnancial 3 Scope 8 asets 41 3.1 Overview 8 9 Measurement on initial recognition 42 3.2 Own-use exemption 8 3.3 Loan commitments and contract assets 8 10 Subsequent measurement 44 4 Recognition and derecognition 9 10.1 Financial assets 44 10.2 Financial liabilities 45 5 Classifcation of fnancial assets 10 10.2.1 General principles 45 5.1 Introduction 10 10.2.2 Measurement of changes in credit risk 45 5.1.1 Overview of classifcation 10 11 Amortised cost and the effective interest method 50 5.1.2 Amortised cost measurement category 13 11.1 Calculating amortised cost 50 5.1.3 FVOCI measurement category 13 11.2 Calculating the EIR 51 5.1.4 FVTPL measurement category 13 11.2.1 General approach 51 5.1.5 FVOCI election for equity instruments 14 11.2.2 Credit-adjusted EIR 52 5.2 Contractual cash fows assessment – the SPPI criterion 14 11.3 Calculating interest revenue and expense using the EIR 53 5.2.1 Meaning of ‘principal’ and ‘interest’ 15 11.3.1 General approach 53 5.2.2 Time value of money 17 11.3.2 Approach for credit-impaired fnancial 5.2.3 Contractual provisions that change the asets 53 timing or amount of contractual cash  fows 19 11.4 Revisions to estimated cash fows 53 5.2.4 De minimis or non-genuine features 22 11.5 Modifcations of fnancial assets 54 5.2.5 Non-recourse assets 22 11.5.1 Overview 54 5.2.6 Contractually linked instruments 23 11.5.2 Gains or losses on modifcations of fnancial assets 55 5.2.7 Examples of instruments that may or do not meet the SPPI criterion 25 12 Impairment 58 5.3 Business model assessment 27 12.1 Scope of the impairment requirements 58 5.3.1 Overview of the business models 27 12.1.1 General requirements 58 5.3.2 Assessing the business model 28 12.1.2 Equity investments 60 5.3.3 Held-to-collect business model 30 12.2 Overview of the new impairment model 60 5.3.4 Both held to collect and for sale 12.3 The general approach to impairment 61 business model 32 12.3.1 The expected credit loss concept 61 5.3.5 Other business models 33 12.3.2 12-month expected credit losses and 6 Classifcation of fnancial liabilities 34 lifetime expected credit losses 64 6.1 Overview of classifcation 34 12.3.3 When is it appropriate to recognise 12-month expected credit losses or 6.2 Fair value option for fnancial liabilities 35 lifetime expected credit losses? 65 6.2.1 Would split presentation create or 12.3.4 Signifcant increase in credit risk 66 enlarge an accounting mismatch? 36 12.4 Measurement of expected credit losses 78 6.3 Deletion of the cost exception for derivative fnancial liabilities 37 12.4.1 Overview 78 12.4.2 Defnition of ‘cash shortfall’ 80 7 Embedded derivatives 38 12.4.3 The estimation period – the expected 7.1 Overview 38 life of the fnancial instrument 82 7.2 Host contracts that are fnancial assets in the 12.4.4 Probability-weighted outcome 84 scope of IFRS 9 38 12.4.5 Time value of money 84 15.2.2 Transition requirements for classifcation and measurement 119 12.4.6 Reasonable and supportable information 86 15.2.3 Transition requirements for impairment 123 12.4.7 Collateral 88 15.2.4 Previous versions of IFRS 9 124 12.4.8 Individual or collective basis of measurement 89 15.3 Disclosures on initial application of IFRS 9 126 12.4.9 Financial guarantee contracts and loan 15.3.1 Classifcation and measurement 126 commitments 89 15.3.2 Impairment 127 12.4.10 Example of measurement of expected 15.4 First-time adopters of IFRS 127 credit losses 91 16 FASB proposals and US GAAP convergence 129 12.5 Write-offs 92 16.1 Classifcation and measurement of fnancial 12.6 Special approach for assets that are assets and fnancial liabilities 129 credit-impaired at initial recognition 94 16.2 Impairment 129 12.6.1 Defnition of ‘credit-impaired’ asset 94 16.3 Hedge accounting 129 12.6.2 Initial measurement 95 About this publication 130 12.6.3 Subsequent measurement 95 12.6.4 Modifcations 97 Acknowledgements 132 12.7 Simplifed approach for trade and lease receivables and contract assets 97 12.7.1 Overview 97 12.7.2 Defnitions 98 12.7.3 Specifc measurement issues 98 12.8 Presentation of expected credit losses in the fnancial statements 100 12.8.1 Assets measured at amortised cost, lease receivables and contract assets 100 12.8.2 Loan commitments and fnancial guarantee contracts 101 12.8.3 Debt instruments measured at FVOCI 101 12.9 Interaction between expected credit losses and interest revenue 102 12.10 Comparison with Basel regulatory model 102 13 Hedge accounting 106 14 Presentation and disclosures 107 14.1 Presentation 107 14.2 Disclosures 107 14.2.1 Overview 107 14.2.2 Classifcation and measurement of fnancial assets and fnancial liabilities 107 14.2.3 Credit risk and expected credit losses 109 15 Effective date and transition 117 15.1 Overview 117 15.2 Transition 118 15.2.1 General principle 118 2 | First Impressions: IFRS 9 Financial Instruments Fundamental changes call for careful planning On 24 July 2014, the IASB issued the fourth and fnal version of its new standard on fnancial instruments accounting – IFRS 9 Financial Instruments. This completes a project that was launched in 2008 in response to the fnancial crisis. After long debate about this complex area, the implementation effort can begin in earnest. The new standard includes revised guidance on the classifcation and measurement of fnancial assets, including impairment, and supplements the new hedge accounting principles published in 2013. In the past, concerns have been raised about ‘too little, too late’ provisioning for loan losses. The new expected credit loss model for the recognition and measurement of impairment aims to address these concerns, and accelerates the recognition of losses by requiring provisions to cover both already-incurred losses and some losses expected in the future. The new standard will have a massive impact on how banks account for credit losses on their loan portfolios. Provisions for bad debts will be bigger and are likely to be more volatile, and adopting the new rules will require a lot of time, effort and money. A major issue for banks and investors in banks will be how adoption of the new standard will affect regulatory capital ratios. Banks will need to factor this into their capital planning, and users are likely to be looking for information on the expected capital impact. Insurers will also be signifcantly impacted by IFRS 9. The industry has to plan for the adoption of new standards on both fnancial instruments and insurance contracts over the next few years. The overall effect cannot be assessed until the insurance standard is fnalised over the next 12 months, but we can expect a sea-change in fnancial reporting for most insurers. Other corporates should not automatically assume that the impact of the classifcation, measurement and impairment requirements of the new standard will be small, as this depends on the exposures they have and how they manage them. Planning for IFRS 9 adoption – including implementation of the new hedge accounting requirements published in 2013 – is likely to be an important issue for corporate treasurers and accountants generally. The new standard has a mandatory effective date of 1 January 2018, but may be adopted early. As the standard has been completed in stages, the relatively few entities that have adopted a previously released version of IFRS 9 can continue to use it until then. In addition, entities can adopt in isolation the part of the standard that allows them to refect the effects of changes in credit risk on certain marked-to-market liabilities outside of proft or loss. Entities need to think about when they plan to adopt the new standard. Many banks may need the whole three and a half years up to 2018 to prepare for adoption of the expected credit loss requirements. However, the possibility of early adopting only the ‘own credit’ amendment would provide some welcome relief from proft or loss volatility caused by fuctuations in an entity’s own credit risk. Chris Spall (Leader) Enrique Tejerina (Deputy leader) Terry Harding (Deputy leader) Ewa Bialkowska KPMG’s global IFRS fnancial instruments leadership team KPMG International Standards Group © 2014 KPMG IFRG Limited, a UK company, limited by guarantee. All rights reserved. First Impressions: IFRS 9 Financial Instruments 3 Setting the standard   eS tting the standard A phased approach to completing IFR S 9 Since November 2008, the IASB has been working to replace its standard on fnancial instruments, IAS 39 Financial Instruments: Recognition and Measurement. The IASB structured the project in three phases: ● Phase 1: Classifcation and measurement of fnancial assets and fnancial liabilities ● Phase 2: Impairment ● Phase 3: Hedge accounting. The issuance in July 2014 of the complete version of IFRS 9: Financial Instruments, hereafter referred to as IFRS 9, marks the culmination of this project. However, the IASB has decided to separate the accounting for macro hedging from the accounting for general hedging. The Board is still working on developing a new model for macro hedge accounting, and in April 2014 it issued a discussion paper DP/2014/1 Accounting for Dynamic Risk Management: a Portfolio Revaluation Approach to Macro Hedging.1 This First Impressions focuses on the chapters of IFRS 9 dealing with Phases 1 and 2 of the project, and the changes that these chapters introduce relative to IAS 39. The new general hedge accounting model that is incorporated in IFRS 9 was originally included in IFRS 9 (2013), and is discussed in our First Impressions: IFRS 9 (2013) – Hedge accounting and transition, issued in December 2013. IFRS 9 retains, largely unchanged, the requirements of IAS 39 relating to scope and the recognition and derecognition of fnancial instruments. hT e dief rent versions o f IFR S 9 IFRS 9 has been completed in stages, with the IASB’s phased approach refected in a number of versions of the standard being issued since 2009. Previous versions of IFRS 9 will be superseded by the version issued in July 2014 at its effective date of 1 January 2018. However, entities that have adopted (or will adopt) a previous version by 31 January 2015 may continue to apply that version until IFRS 9’s mandatory effective date of 1 January 2018 (see 15.2.4.1). The following versions of IFRS 9 have been issued. eV rsion uS mmary o f content IFR S 9 2( 00)9 Includes guidance on the classifcation and measurement of fnancial assets. Incorporates IFRS 9 (2009), and adds requirements for the classifcation and measurement of IFR S 9 2( 010) fnancial liabilities. Incorporates IFRS 9 (2010), with amendments to its transition requirements, and adds guidance on IFR S 9 2( 01)3 general hedge accounting. Incorporates IFRS 9 (2013), with amendments to the requirements for the classifcation and IFR S 9 2( 014) measurement of fnancial assets, and adds requirements for the new expected credit loss model for impairment. Amendments to other standards IFRS 9 introduces consequential amendments to other standards. References to other standards (except for IAS 18 Revenue and IAS 39) in this publication are to the versions as amended by IFRS 9. References to IAS 18 and IAS 39 are to the standards that have been superseded by IFRS 15 Revenue from Contracts with Customers and IFRS 9 respectively. 1 For detailed analysis of the discussion paper, see our New on the Horizon: Accounting for dynamic risk management activities, issued in July 2014. © 2014 KPMG IFRG Limited, a UK company, limited by guarantee. All rights reserved. 4 | First Impressions: IFRS 9 Financial Instruments 1 Key facts Scope ● IFRS 9 carries forward the scope of IAS 39, and adds: – an option to include certain contracts that would otherwise be subject to the ‘own use’ exemption; and – certain loan commitments and contract assets (see 12.7.2) in respect of the impairment requirements. Recognition and ● IFRS 9 carries forward from IAS 39 the requirements for recognition and derecognition of fnancial derecognition instruments, with only minor amendments. Classifcation of ● IFRS 9 contains three principal classifcation categories for fnancial assets – i.e. measured at: fnancial assets amortised cost, fair value through other comprehensive income (FVOCI) and fair value through and fnancial proft or loss (FVTPL). The existing IAS 39 categories of held-to-maturity, loans and receivables, and liabilities available-for-sale are removed. ● A fnancial asset is classifed as being subsequently measured at amortised cost if the asset is held within a business model whose objective is to collect contractual cash fows, and the contractual terms of the fnancial asset give rise to cash fows that are solely payments of principal and interest (the ‘SPPI criterion’). ● A fnancial asset is classifed as being subsequently measured at FVOCI if it meets the SPPI criterion and is held in a business model whose objective is achieved by both collecting contractual cash fows and selling fnancial assets. ● All other fnancial assets are classifed as being subsequently measured at FVTPL. In addition, an entity may, at initial recognition, irrevocably designate a fnancial asset as at FVTPL if doing so eliminates or signifcantly reduces an accounting mismatch that would otherwise arise. ● At initial recognition of an equity investment that is not held for trading, an entity may irrevocably elect to present in other comprehensive income (OCI) subsequent changes in its fair value. ● IFRS 9 retains the existing requirements in IAS 39 for the classifcation of fnancial liabilities. Embedded ● IFRS 9 retains the existing requirements in IAS 39 for derivatives where the host is not a fnancial derivatives asset in the scope of IFRS 9 – e.g. a fnancial liability, a lease receivable or an insurance contract. ● However, derivatives embedded in fnancial assets that are in the scope of IFRS 9 are never separated. Instead, the whole hybrid instrument is assessed for classifcation. Reclassifcation ● Reclassifcation of fnancial assets is required if the objective of the business model in which they are held changes after initial recognition of the assets, and if the change is signifcant to the entity’s operations. Such changes are expected to be very infrequent. No other reclassifcations are permitted. ● No reclassifcation of fnancial liabilities is permitted. Measurement Measurement at initial recognition ● IFRS 9 generally retains IAS 39’s requirements on measurement at initial recognition. Subsequent measurement – fnancial assets ● For assets classifed as subsequently measured at amortised cost, interest revenue, expected credit losses and foreign exchange gains or losses are recognised in proft or loss. On derecognition, any gain or loss is recognised in proft or loss. ● For assets classifed as subsequently measured at FVOCI, interest revenue, expected credit losses, and foreign exchange gains or losses are recognised in proft or loss. Other gains and losses on remeasurement to fair value are recognised in OCI. On derecognition, the cumulative gain or loss previously recognised in OCI is reclassifed from equity to proft or loss. © 2014 KPMG IFRG Limited, a UK company, limited by guarantee. All rights reserved. First Impressions: IFRS 9 Financial Instruments 5 1 Key facts   Measurement ● For assets classifed as subsequently measured at FVTPL, all gains and losses are recognised in c( ontinued) proft or loss. ● For equity investments for which subsequent changes in fair value are presented in OCI, the amounts recognised in OCI are never reclassifed to proft or loss. However, dividend income on these investments is generally recognised in proft or loss. uS bseuq ent measurement – n� ancial liabilities ● IFRS 9 retains almost all of the existing requirements in IAS 39 on the subsequent measurement of fnancial liabilities. However, the portion of the gain or loss on a fnancial liability designated as at FVTPL that is attributable to changes in its credit risk is generally presented in OCI, with the remaining amount of the change in fair value presented in proft or loss. Amortised cost ● The defnition of amortised cost is similar to that in IAS 39. and recognition ● Generally, interest revenue is calculated by applying the effective interest rate (EIR) to the gross o f interest carrying amount of a fnancial asset. The gross carrying amount of a fnancial asset is the asset’s amortised cost gross of any impairment allowance. However, when an asset is credit-impaired, interest is calculated by applying the EIR to the amortised cost – i.e. net of impairment allowance. ● Interest expense is calculated by applying the EIR to the amortised cost of a fnancial liability. Impairment ● IFRS 9 replaces the ‘incurred loss’ model in IAS 39 with an ‘expected credit loss’ model. The new model applies to fnancial assets that are not measured at FVTPL, including loans, lease and trade receivables, debt securities, contract assets under IFRS 15 and specifed fnancial guarantees and loan commitments issued. It does not apply to equity investments. ● The model uses a dual measurement approach, under which the loss allowance is measured as either: – 12-month expected credit losses; or – lifetime expected credit losses. ● The measurement basis generally depends on whether there has been a signifcant increase in credit risk since initial recognition. ● A simplifed approach is available for trade receivables, contract assets and lease receivables, allowing or requiring the recognition of lifetime expected credit losses at all times. Special rules apply to assets that are credit-impaired at initial recognition. eH dge ● The new standard carries forward the general hedge accounting requirements originally published in accounting 2013. The IASB is continuing to work on its macro hedge accounting project. Presentation and ● IFRS 9 introduces new presentation requirements and extensive new disclosure requirements. disclosures efE ctive date ● The mandatory effective date is 1 January 2018. Early adoption is permitted. and transition ● An entity may early adopt in isolation the new requirements for ‘own credit’ gains and losses on fnancial liabilities designated as at fair value. ● Generally, the standard is applied retrospectively. However, the hedge accounting requirements are generally applied prospectively. ● Apart from some aspects of hedge accounting, the restatement of comparative information for prior periods is not required and is permitted only if information is available without the use of hindsight. oC mparison to ● Convergence between the IASB and the FASB has not been achieved. The FASB is continuing to U S GAAP deliberate changes to the accounting for fnancial instruments under US GAAP. © 2014 KPMG IFRG Limited, a UK company, limited by guarantee. All rights reserved. 6 | First Impressions: IFRS 9 Financial Instruments 2 How this could impact you Judgements – new complexities New systems and processes and wider scope Classifcation The implementation of a business New processes will be needed and model approach and the SPPI criterion to allocate fnancial assets to the measurement may require judgement to ensure that appropriate measurement category. of fnancial fnancial assets are classifed into the In addition, entities that have already assets appropriate category. Deciding whether applied, or are planning to early apply, the SPPI criterion is met will require IFRS 9 (2009), IFRS 9 (2010) or IFRS 9 assessment of contractual provisions (2013) may have to re-engineer the that do or may change the timing or conversion process to take into account amount of contractual cash fows – e.g. the new requirements of the standard prepayment features. on the classifcation and measurement of fnancial assets. Impairment Estimating impairment is an art rather The new model is likely to have a than a science. It involves diffcult signifcant impact on the systems and judgements about whether loans will processes of banks, insurers and other be received as due – and, if not, how fnancial services entities, due to its much will be recovered and when. The extensive new requirements for data new model – which widens the scope and calculations. In addition, all entities of these judgements – relies on entities with trade receivables will be affected, being able to make robust estimates of: but the impact is likely to be smaller, and ● expected credit losses; and certain simplifcations are available. ● the point at which there is a signifcant Expanded data and calculation increase in credit risk. requirements may include: For this purpose, entities will need ● estimates of 12-month and lifetime to decide how key terms such as expected credit losses; ‘signifcant increase’ and ‘default’ will be ● information and data to determine defned in the context of the instruments whether a signifcant increase in credit they hold. risk has occurred or reversed; and Also, judgement will be needed ● data for the extensive new disclosure to ensure that the measurement requirements. of expected credit losses refects reasonable and supportable information that is available without undue cost or effort and that includes historical, current and forecast information. Next steps Entities will need to develop appropriate Entities may have to design and methodologies and controls to implement new systems and databases ensure that judgement is exercised and related internal controls. Banks that appropriately and consistently plan to use the expected credit loss data throughout the organisation, and already captured for regulatory capital supported by appropriate evidence. requirements calculations under the Basel framework will need to identify differences between the two sets of requirements. © 2014 KPMG IFRG Limited, a UK company, limited by guarantee. All rights reserved. First Impressions: IFRS 9 Financial Instruments 7 2 How this could impact you   uqE ity, regulatory capital and Impact on KPIs and volatility covenants may be aef cted lC assic� ation The way in which an entity classifes The new standard may have a signifcant and fnancial assets could affect the impact on the way fnancial assets measurement way its capital resources and capital are classifed and measured, resulting o f n� ancial requirements are calculated. This may in changes in volatility within proft assets affect banks and other fnancial services or loss and equity, which in turn are entities that have to comply with the likely to impact key performance Basel capital requirements or other indicators (KPIs). national capital adequacy requirements. However, the own credit requirements for fnancial liabilities will help to reduce proft or loss volatility, which may be an incentive to early adopt these requirements. Impairment The initial application of the new model Credit risk is at the heart of a bank’s may result in a large negative impact business, and is an important element on equity for banks and, potentially, of an insurer’s business. Accordingly, insurance and other fnancial services the standard is likely to have a signifcant entities. It may also affect covenants. In impact on the KPIs of banks, insurers addition, the regulatory capital of banks and similar entities. may be impacted. This is because equity The new model is likely to introduce new will refect not only incurred credit losses volatility because: but also expected credit losses. ● credit losses will be recognised for The impact on an entity may be all fnancial assets in the scope of the substantially infuenced by: new model – rather than only for those ● the size and nature of its fnancial assets for which losses have been instrument holdings and their incurred; classifcation; and ● external data used as inputs may ● the judgements it makes in applying be volatile – e.g. ratings, credit the IAS 39 requirements and that it spreads and predictions about future will make under the new model. conditions; and ● any move from a 12-month to a lifetime expected credit loss measurement and vice versa may result in a big change in the loss allowance. eN tx steps Entities should assess the impact and As well as understanding the develop a plan to mitigate any negative impact and communicating it to key consequences. The implementation stakeholders, banks and other entities plan should involve discussions with that are subject to stress testing should analysts, shareholders, regulators and factor the new requirements into their providers of fnance. tests, to ensure that the potential impact under adverse scenarios can be properly understood and addressed. © 2014 KPMG IFRG Limited, a UK company, limited by guarantee. All rights reserved. 8 | First Impressions: IFRS 9 Financial Instruments 3 Scope 3.1 Overview IFRS 9.2, 5.5.1 IFRS 9 largely carries forward the scope of IAS 39. Accordingly, fnancial instruments that are in the scope of IAS 39 are also in the scope of IFRS 9. In addition, certain other instruments are included in the scope of IFRS 9. This is illustrated by the diagram below. Scope of IFRS 9 Financial Certain contracts For the recognition and instruments that that are subject to measurement of expected are in the scope of the own-use credit losses: IAS 39 exemption Ÿ certain loan commitments that + + are not measured at FVTPL Ÿ contract assets as defined by IFRS 15 (see 12.7.2) 3.2 Own-use exemption IFRS 9.2.4–5 A contract to buy or sell a non-fnancial item that can be settled net in cash or in another fnancial instrument is excluded from the scope of IAS 39 if the contract was entered into, and continues to be held, for the purposes of the receipt or delivery of a non-fnancial item in accordance with the entity’s expected purchase, sale or usage requirements. This is commonly referred to as the ‘own- use’ exemption. IFRS 9.2.4–5 Although IFRS 9 retains the exemption, it allows an entity to irrevocably designate such a contract, at inception, as at FVTPL. The designation can be made only if it eliminates or signifcantly reduces an accounting mismatch that would otherwise arise.2 3.3 Loan commitments and contract assets IFRS 9 includes the following additional items in the scope of its impairment requirements (see 12.1): ● loan commitments issued that are not measured at FVTPL; and ● contract assets in the scope of IFRS 15. 2 For further discussion on this issue, see our First Impressions: IFRS 9 (2013) – Hedge accounting and transition, issued in December 2013. © 2014 KPMG IFRG Limited, a UK company, limited by guarantee. All rights reserved.

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