Paper F7 June 2011 Examinations

IFRS 9 FINANCIAL INSTRUMENTS

to be applied from 1 January, 2013 but early adoption encouraged will not be finalised until late 2011 still to be dealt with: x x new requirements for impairment of financial assets measured at amortised cost, and hedge accounting

initial measurement x x all financial instruments to be measured at fair value inclusive of transaction costs this new rule also applies to financial liabilities not measured at fair value through profit and loss ( fvtpl )

subsequent measurement x financial assets are now to be sub-divided into just two categories those measured at amortised cost, and those measured at fair value

so held to maturity and available for sale have none gone as acceptable bases classification is determined on the date of initial recognition

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Paper F7

IFRS 9 Financial Instruments

debt instruments x can be measured at amortised cost if they satisfy two conditions:

June 2011 Examinations

business model test the asset is held with the intention of realising its cash flows rather than being held for early sale, and cash flow characteristics test the asset terms are such that cash flows will arise on specific dates in the future representing interest payments and principal repayments

if they do not satisfy these two tests, they must be measured at fvtpl

fair value option even if they do, in fact, satisfy these two tests they may still be valued at fvtpl if, by doing so, it eliminates or significantly reduces a measurement or recognition inconsistency

equity instruments measured at fair value in the SoFP any change in value goes through SoI ( or SoCI if chosen ) that choice is not reversible! so only dividend income will be shown in SoI

fair value of an asset it may well be that cost is the best indicator of fair value but the IFRS allows other means

subsequent measurement of financial liabilities x still the same two possibilities as before: x x fvtpl, and amortised cost

financial liability held for trading? fvtpl otherwise at amortised cost unless the fair value option is exercised

financial liabilities may be measured at fvtpl if: x x x it eliminates or significantly reduces a measurement or recognition inconsistency, or it is part of a group of financial liabilities that is managed and performance is evaluated on a fair value basis in accordance with a documented risk management or investment strategy and information is provided to management on that basis a financial liability which does not meet either of these criteria may still be measured at fvtpl when it contains one or more embedded derivatives that would otherwise require separation

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Paper F7

IFRS 9 Financial Instruments

gains and losses from financial liabilities at fvtpl should be split between: x x x x x x any change attributable to credit risk ( show in SoCI ), and any other change ( show in SoI )

June 2011 Examinations

however, all change may go through SoI if to include within SoCI would create or enlarge an accounting mismatch in SoI this decision is made on initial recognition and is not reversible in addition, once the change has been entered through SoCI, it cannot later be transferred back through SoI the only transfer available is through the Statement of Changes in Equity

derecognition of financial assets x it is necessary to determine whether a financial asset is: an asset in its entirety, or specifically identified cash flows from an asset, or fully proportionate share of the cash flows from an asset, or fully proportionate share of specifically identified cash flows from an asset

if it satisfies any of these four, then assess whether the asset has in fact been transferred and, if so, is the asset eligible for derecognition it is transferred if x x x contractual rights to cash flows have been transferred, or the rights have not been transferred but the entity has assumed an obligation to pass on these flows, or under an arrangement which meets three criteria: the entity has no obligation to pay the transferee unless it collects equivalent amounts on the asset, and the entity is prohibited from selling or pledging the asset, and the entity has an obligation to remit these cash flows without material delay

once it has been established that the asset has in fact been transferred, then its necessary to determine whether substantially the whole of the risks and rewards of ownership have also been transferred x x x if they have, then the asset is derecognised if not, then it is not derecognised if neither yes nor no the entity must then assess whether it has relinquished control if yes, then derecognise if no, then continue to recognise to the extent of the entitys continuing involvement

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Paper F7

IFRS 9 Financial Instruments

derecognition of financial liabilities x derecognise when the liability has been extinguished by discharge, or cancellation, or expiry

June 2011 Examinations

where a liability is exchanged for a different liability with substantially different terms x x x the replacement is recognised, and the original liability is extinguished, and any gain or loss on extinguishing the original is taken through SoI

derivatives x x x are all measured at fair value, with any change in value going through SoI, unless the entity has elected to treat the derivative as a hedge in which case the change will be reflected through Statement of Changes in Equity

embedded derivative x x is a component of a hybrid contract which contains a non-derivative host as a result, some of the cash flows vary, and some are fixed

any derivative which is capable of being dealt with as a separate element ie it can be transferred independently is not embedded its a separate financial instrument reclassification x x x financial assets are held at either fvtpl or at amortised cost they can only be reclassified if the business model changes and no longer applies if reclassification is appropriate, this should be done prospectively x so no re-statement of prior gains or losses and no re-statement of interest

cannot reclassify where a financial asset was treated under the SoCI option, nor where the fair value option has been exercised

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