Monday 12 October 2015
Whether you are an accountant, CFO, auditor, regulator or analyst, thenew accounting standard on financial Instruments is likely to significantly affect what you do. IFRS 9 Financial Instruments introduces improvements to accounting for financial instruments that could affect the way entities manage their financial assets, price products and implement risk management.
It was back in 2009 that G20 nations discussed the steps in tackling the worst financial crisis since World War Two. They recognised a need for high-quality accounting standards on financial instruments, loan-loss provisioning, off-balance sheet exposures and impairment, and valuation of financial assets.
IAS 39 Financial Instruments: Recognition and Measurement has often been criticised by users of financial statements as a complex rules based standard, difficult to interpret and apply. In particular, the incurred loss model results in delayed recognition of asset impairments as future credit losses, however likely, are not considered.
IFRS 9 introduces a logical, more principles-based approach to measurement of financial assets based on the business model and nature of cash flows. The new forward looking impairment model requires earlier and timely recognition, and ongoing assessment of credit losses. The hedge accounting requirements are more principles based and aligned to common risk management practices.
The impact of IFRS 9 will be significant, in particular for banks. A recent Deloitte survey has indicated that banks expect loss allowance to increase by up to 50% on transition to IFRS 9/FASB impairment models.
The implementation of IFRS 9 represents a fundamental change in approach and requires re-engineering of the financial reporting systems and processes.
For example, the new impairment model requires recognition of expected losses as soon as a loan is originated. Not only will this affect the profitability of banks and possibly the pricing of loans, but banks will need to put in place appropriate models and systems that capture relevant credit data to calculate this loss allowance.
IFRS 9 impairment model also requires an overlay of forward looking macro-economic data (in addition to historical data adjusted for current conditions) in estimation of loss allowance.
In order to implement this, banks will need to align credit risk and finance data and ensure robust control and governance of the entire process. The use of forward looking macro-economic data in estimation of loss allowance will affect profitability of banks as economic conditions change.
IFRS 9 introduces classification based measurement categories of financial assets. Hedge accounting, a risk mitigation technique, has been simplified and corporates will have the option to effectively hedge more exposures and use hedging instruments not currently allowed in IAS 39.
The auditors will need to assess assumptions and management judgements used in IFRS 9, in particular to estimate the expected credit losses. This will broaden the scope of audit of estimates to ensure that all reasonable and supportable information available without undue cost or effort is considered by the management. The regulators will have to understand the changes in IFRS 9 as higher loss allowance on transition will affect capital requirements.
IFRS 9 will replace IAS 39 Financial Instruments: Recognition and Measurement from 1 January 2018. The lead time of over three years since publication in July 2014 is mainly due to the implementation challenges entities are likely to face.
The key question is: Are you on track to implement and audit IFRS 9 from 1 January 2018?
IASeminars courses provide in-depth coverage of IAS 39 and IFRS 9 through use of examples and case studies. The key topics covered in the courses include:
- Current and future IFRS reporting requirements for financial institutions
- Classification and measurement of financial assets and liabilities
- Application of the effective interest method to fixed, floating and zero-coupon debt instruments
- IFRS 9 forward looking expected credit loss model compared to the IAS 39 incurred loss model
- Areas involving assumptions and management judgements
- Introduction to hedge accounting and its application
- IFRS 7 quantitative and qualitative disclosures required for financial instruments and financial risk management
- IFRS 9 transitional provisions
Related Upcoming Courses
Our upcoming courses for banks and financial institutions that cover IAS 39 and detailed analysis of impact of IFRS 9 are as follows:
About the Author
Saket Modi is an IASeminars instructor based in London. He has designed and facilitated courses on IFRS, in particular financial instruments, for delegates from over 25 countries in UK, Europe, Africa, Middle East and Asia. He was recently invited by the International Auditing and Assurance Standards Board® (IAASB®) to present on IFRS 9 at their board meeting in New York. He is a qualified accountant and CFA® charterholder.