The Use of IFRS for Prudential and Regulatory Purposes

Transcription

1 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)

2 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 2

3 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 3

4 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 4

5 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 inflows Discounted amount X X X X X9 1, Carrying amt 1.1 X5 1,

6 Loans and Receivables at Amortised Cost! Example - Accounting entries Dr Loan at 1.1 X5 1,000 Cash 1,000 Origination of loan Cr Cash/debtors 100 Interest income 100 Receipt of interest 6

7 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

8 Carrying Amount of Loan over Period to Maturity Cash inflows Interest income Amor5sa5on of net fees Carrying amount 1.1 X5 70,000 1,012, X5 70,000 69, ,011, X6 70,000 69, ,010, X7 70,000 68,959 1,041 1,009, X8 70,000 68,888 1,112 1,008, X9 70,000 68,812 1,188 1,007,272 8

9 Carrying Amount of Loan over Period to Maturity (Cont d) Cash inflows Interest income Amor5sa5on of net fees Carrying amount Y0 70,000 68,731 1,269 1,006, Y1 70,000 68,644 1,356 1,004, Y2 70,000 68,552 1,448 1,003, Y3 70,000 68,453 1,547 1,001, Y4 70,000 68,348 1,652 1,000, , ,500 12,500 Repayment of loan (1,000,000) 9

10 Loan at Amortised Cost Accounting entries 1.1 X5 Loan account 1,000,000 Cash 1,000,000 Amount lent to borrower X5 Loan account 25,000 Cash 25,000 Origination costs incurred by lender

11 Loan at Amortised Cost (Cont d) 1.1.X5 Cash 12,500 Loan account 12,500 Origination Fees charged to borrower X5 Debtors 70,000 Interest income account 69,083 Loan account 917 Contractual interest accrued at the due date

12 Loan at Amortised Cost (Cont d) 2.1 X6 Cash 70,000 Debtors 70,000 Receipt of interest payment

13 Impairment of Financial Assets at Amortised Cost! IAS Objective evidence of impairment includes observable data about the following loss events: Default on payments Lender grants concession because of borrower s financial difficulty Borrower s 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

14 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

15 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

16 Reversal of Impairment! IAS 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 borrower s credit rating. 16

17 Impairment of a Fixed Rate Loan Loan principal at 1.1 X1 1,000 Interest rate 10% Term of loan 5 years At 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

18 Impairment of a Fixed Rate Loan (Cont d) Carrying amount of loan at: X2 1, X X Cash flows Present values Present value of loan at X2 693 Amount of impairment to profit or loss at X2 307 Gross amount of loan 1,000 18

19 Impairment of a Fixed Rate Loan (Cont d) Interest Income on impaired loan Cash flows Interest Carrying amount at 10%

20 Impairment of a Fixed Rate Loan Accounting entries X2 Income statement- credit losses 307 Allowance a/c for credit losses 307 Recognition of impairment

21 Impairment of a Fixed Rate Loan (Cont d) X3 Cash 400 Interest income 69 Loan account 331 Receipt of first agreed payment X4 Cash 400 Interest income 38 Loan account 362 Final payment

22 Impairment of a Fixed Rate Loan (Cont d) X4 Allowance account 307 Loan account 307 Loan written off

23 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 arm s length transaction IAS

24 Held for Trading Example 1.1 X1 Purchase of a bond at X1 Fair value of bond X1 Sell bond for 95 Accounting entries 1.1 X1 Trading assets debt securities 98 Cash 98 Purchase of bond 24

25 Held for Trading (Cont d) 31.3 X1 Net trading profit 2 Trading assets debt securities 2 Loss at next reporting date X1 Cash 95 Net trading profit/loss 1 Trading assets debt securities 96 Sale of bond 25

26 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

27 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 (b)! On derecognition the cumulative gain or loss previously recognised in equity shall be recognised in profit or loss 27

28 Accounting Entries for AFS Equity Investment 1.1 X5 Investment in XYZ 500 Cash 500 Acquisition of equity investment X5 Investment in XYZ 20 Statement of changes in equity 20 Change in FV of investment at balance sheet date Anna Czarniecka Financial ReporOng Consultant 28

29 Accounting Entries for AFS Equity Investment (Cont d) 30.6 X6 Cash 530 Investment on XYZ 520 Gain on sale profit or loss 10 Sale of investment in XYZ X6 Statement of changes in equity 20 Profit or loss 20 Transfer to profit or loss on sale 29

30 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

31 AFS Measurement of Impairment Example 1.1 X5 Purchase equity investment X5 FV of equity investment X5 FV of equity investment 450 The decline in value is significant and falling. At X5 impairment of 50 would be charged to profit 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