How will IFRS 9 change accounting for financial instruments?
The new international financial reporting standard on financial instruments (IFRS 9) was implemented on 1 January 2018. While IFRS reporters will have been preparing for IFRS 9 for some time now, the following reminder highlights the key changes that investors and other users of the accounts can expect to see.
IFRS 9 forms the main part of the International Accounting Standards Board’s (IASB) response to the global financial crisis – it was published in 2014 but has continued to be tweaked and amended up until late 2017.
The standard will have the biggest impact for financial institutions, although some insurers have the option to delay its implementation until the new insurance standard, IFRS 17 comes into effect in 2021.
Classification and measurement of financial assets
IFRS 9 retains the same measurement bases for financial assets as IAS 39 – amortised cost, fair value through profit or loss, and fair value through other comprehensive income.
But it introduces new requirements for debt instruments so that classification is made based on the business model within which the asset is held (i.e. to collect contractual cash flows or held for sale), and on the contractual cash flows of the asset (i.e. straightforward payments of principal and interest).
Whereas under IAS 39 the available-for-sale classification was generally unrestricted, the new requirements will provide greater clarity and structure in the way that debt instruments are accounted for.
IFRS 9 introduces new impairment requirements to address the criticism that during the financial crisis the recognition of credit losses on financial assets was a case of ‘too little, too late’.
The new standard moves from an ‘incurred’ loss to ‘expected’ loss model, meaning that expected credit losses must be recognised at the point at which an entity makes a loan or invests in a relevant financial asset.
Impairment losses recognised in the financial statements should now also be based on more complete information, as the standard requires ‘reasonable and supportable’ forward-looking information to be taken into account, along with historical losses and current information.
Own credit risk
Another criticism of financial instruments accounting highlighted by the financial crisis was the counter-intuitive results produced by the inclusion of changes in an entity’s own credit risk in profit or loss in the valuation of financial liabilities.
IFRS 9 addresses this by requiring the portion of fair value changes represented by changes in own credit risk to be reported in OCI instead of profit or loss.
Hedge accounting is one of the most complex areas to apply and understand – IFRS 9 introduces a model more closely aligned with an entity’s own risk management approach, with more qualifying hedging instruments and hedged items.
This should enable entities to better represent their underlying hedging activities.
Along with new disclosures about hedge accounting, these changes should give investors and other users of the accounts better information about the effects of entities’ risk management activities.
Further information is available at www.ifrs.org.