REPARIS A REGIONAL PROGRAM

The Use of IFRS for Prudential

and Regulatory Purposes
IAS 39 Examples
Anna Czarniecka
Financial Reporting Consultant
annaczarniecka@tiscali.co.uk

THE ROAD TO EUROPE: PROGRAM OF ACCOUNTING REFORM AND INSTITUTIONAL STRENGTHENING (REPARIS)

Classification of Financial Assets

!

IAS 39.9 has 4 categories of financial assets as

follows:
- Loans and receivables
- Held-to maturity investments (HTM)
- Financial assets at fair value through profit or
loss (FVTPL)
- Available-for-sale financial assets (AFS)
- Disclose categories in balance sheet or notes
IFRS 7.8

Measurement
!

Loans and receivables are measured at amortised

cost

HTM is measured at amortised cost

FVTPL is measured at fair value

AFS is measured at fair value

Amortised Cost and Effective Interest Rate (EIR)

IAS 39.9 measurement at initial recognition minus

repayments........using the EIR. EIR is defined as the
rate that exactly discounts estimated future cash
payments or receipts through the expected life of
the financial instrument....... to the net carrying
amount of the financial asset or liability

EIR calculation includes all fees and points paid or

received that are an integral part of the EIR

Loans and Receivables at Amortised Cost

!
!

Example - Fixed interest loan repayable at maturity.

No fees or costs.
At 1.1 X5 lend LCY 1,000 for 5 years at 10%
Cash inows

Discounted
amount

31.12 X5

100

90.91

31.12 X6

100

82.64

31.12 X7

100

75.13

31.12 X8

100

68.30

31.12 X9

1,100

683.02

Carrying amt 1.1 X5

1,000.00
5

Loans and Receivables at Amortised Cost

! Example

- Accounting entries
Dr

Cr

Loan at 1.1 X5
1,000
Cash
1,000
Origination of loan
----------------------------------------------------------------Cash/debtors
100
Interest income
100
Receipt of interest
6

Loan at Amortised Cost

!
!
!
!
!

Example Fixed interest loan repayable at maturity

using EIR method of amortisation
At 1.1 X5 lend LCY 1m for 10 years at 7%
Origination fee charged LCY 12,500
Origination costs incurred LCY 25,000
Original EIR
6.823%
- Loan Principal
1,000,000
- Origination fee charged
(12,500)
- Origination costs incurred
25,000
- Initial carrying amount
1,012,500
7

Carrying Amount of Loan over Period to Maturity

Cash inows

Interest
income

Amor5sa5on
of net fees

Carrying
amount

1.1 X5

70,000

1,012,500

31.12 X5

70,000

69,083

917

1,011,588

31.12 X6

70,000

69,025

975

1,010,613

31.12 X7

70,000

68,959

1,041

1,009,572

31.12 X8

70,000

68,888

1,112

1,008,460

31.12 X9

70,000

68,812

1,188

1,007,272

Carrying Amount of Loan over Period to

Maturity (Contd)
Cash inows

Interest
income

Amor5sa5on
of net fees

Carrying
amount

31.12 Y0

70,000

68,731

1,269

1,006,003

31.12 Y1

70,000

68,644

1,356

1,004,647

31.12 Y2

70,000

68,552

1,448

1,003,199

31.12.Y3

70,000

68,453

1,547

1,001,652

31.12 Y4

70,000

68,348

1,652

1,000,000

700,000

687,500

12,500

Repayment of loan

(1,000,000)

Loan at Amortised Cost

Accounting entries
1.1 X5 Loan account
1,000,000
Cash
1,000,000
Amount lent to borrower
------------------------------------------------------------------------1.1.X5 Loan account
25,000
Cash
25,000
Origination costs incurred by lender
-------------------------------------------------------------------------

10

Loan at Amortised Cost (Contd)

1.1.X5

Cash
12,500
Loan account
12,500
Origination Fees charged to borrower
------------------------------------------------------------------------31.12 X5 Debtors
70,000
Interest income account
69,083
Loan account
917
Contractual interest accrued at the due date
-------------------------------------------------------------------------

11

Loan at Amortised Cost (Contd)

2.1 X6

Cash
70,000
Debtors
70,000
Receipt of interest payment
-------------------------------------------------------------------------

12

Impairment of Financial Assets at Amortised Cost

!

IAS 39.59 Objective evidence of impairment includes

observable data about the following loss events:

- Default on payments
- Lender grants concession because of borrowers financial
difficulty
- Borrowers probable bankruptcy or other financial
reorganisation
- No active market for that financial asset
- Decrease in estimated cash flows from a group of financial
assets indicated by observable data because of:
adverse changes in payment status; or
economic conditions that correlate with defaults on
assets within the group
This is an incurred loss model
13

Impairment of Financial Assets at Amortised Cost

!
!

Financial assets carried at amortised cost

Loans and receivables
- Amount of the loss is the difference between the
carrying amount and present value of estimated
future cash flows using original EIR
- Loss is recognised in profit or loss
- Interest is recognised on the new carrying amount
using original EIR (discount unwind)
- IFRS 7.20 requires disclosure of these amounts

14

Loan Impairment
!

Basic example
- Loan carried at LCY 100
- Collateral of 80 receivable in 1 year
- EIR 10%

Initial allowance
- Discounted cash flows 80/1.1 =73
- Carrying value of loan LCY 73
- Allowance account is LCY 27 (100-73)
- Interest recognised is LCY 7 (80-73)
- Recover collateral of LCY 80 at end of year 1
15

Reversal of Impairment
!

IAS 39.65 allows reversal of a loss only if the

decrease can be related to an event occurring after
the impairment was recognised.
For example, an improvement of the borrowers
credit rating.

16

Impairment of a Fixed Rate Loan

Loan principal at 1.1 X1 1,000
Interest rate
10%
Term of loan
5 years
At 31.12 X2 the borrower has financial difficulties.
The lender agrees to accept two further payments of
LCY 400 at the end of years X3 and X4

17

Impairment of a Fixed Rate Loan (Contd)

Cash ows Present values

Carrying amount of loan at:

31.12 X2
31.12 X3
31.12 X4

400
400

1,000
363
330

Present value of loan at 31.12 X2 693

Amount of impairment to
profit or loss at 31.12 X2
307
Gross amount of loan
1,000

18

Impairment of a Fixed Rate Loan (Contd)

Interest Income on impaired loan
Cash flows Interest Carrying amount
at 10%
1.1.03
693
31.12.03
400
69
362
31.12.04
400
38
-----

19

Impairment of a Fixed Rate Loan

Accounting entries
31.12 X2 Income statementcredit losses
307
Allowance a/c for
credit losses
307
Recognition of impairment
------------------------------------------------------------------------------

20

Impairment of a Fixed Rate Loan (Contd)

31.12 X3

Cash
400
Interest income
69
Loan account
331
Receipt of first agreed payment
------------------------------------------------------------------------31.12 X4
Cash
400
Interest income
38
Loan account
362
Final payment
-------------------------------------------------------------------------

21

Impairment of a Fixed Rate Loan (Contd)

31.12 X4

Allowance account 307

Loan account
307
Loan written off
-------------------------------------------------------------------------

22

Financial Instruments Measured at Fair Value

!

Fair value is the amount at which an asset could be

exchanged, or a liability settled, between
knowledgeable, willing parties in an arms length
transaction IAS 39.9

23

Held for Trading

Example
1.1 X1
Purchase of a bond at
31.3 X1 Fair value of bond
2.4 X1
Sell bond for

98
96
95

Accounting entries
1.1 X1
Trading assets
debt securities
98
Cash
98
Purchase of bond

24

Held for Trading (Contd)

31.3 X1 Net trading profit
2
Trading assets
debt securities
2
Loss at next reporting date
----------------------------------------------------------------------------2.4 X1 Cash
95
Net trading profit/loss 1
Trading assets
debt securities
96
Sale of bond

25

Available for Sale Financial Assets

Types of AFS financial assets:
!
!

Equity investments
Loans and receivables
- quoted
- designated
Quoted debt instruments
Focus for investments quoted in an active market
should they be classified as fair value through profit
or loss or designated as AFS on initial recognition

26

AFS Gains and Losses

!

Gains or losses on AFS financial assets shall be

recognised directly in equity through the statement
of changes in equity IAS 39.55 (b)

On derecognition the cumulative gain or loss

previously recognised in equity shall be recognised
in profit or loss

27

Accounting Entries for AFS Equity Investment

1.1 X5
Investment in XYZ
500
Cash
500
Acquisition of equity investment
-----------------------------------------------------------------------------31.12 X5 Investment in XYZ
20
Statement of changes in equity
20
Change in FV of investment at balance sheet date
-----------------------------------------------------------------------------28
Anna Czarniecka Financial ReporOng Consultant annaczarniecka@Oscali.co.uk

Accounting Entries for AFS Equity Investment (Contd)

30.6 X6 Cash
530
Investment on XYZ
520
Gain on sale profit or loss
10
Sale of investment in XYZ
------------------------------------------------------------------------30.6X6 Statement of changes
in equity
20
Profit or loss
Transfer to profit or loss on sale

20

29

AFS Measurement of Impairment

!

Any decline in fair value due to impairment is moved

from equity to profit or loss

A significant or prolonged decline in fair value of an

equity investment below cost is evidence of
impairment

No reversal of impairment losses for equity

investments IAS 39.69

Reversal allowed for debt securities if it relates to an

event occurring after recognition of the impairment
IAS 39.70

30

AFS Measurement of Impairment

Example

1.1 X5
Purchase equity investment

500
30.6 X5 FV of equity investment 490
31.12 X5 FV of equity investment 450

The decline in value is signicant and falling. At 31.12 X5

impairment of 50 would be charged to prot or loss and
there would be no reversal.
If the fair value increased to 455 at 30.6 X6, 5 would be
debited to the investment and credited to equity.
31