TOPIC 6

ACCOUNTING FOR
BANKING
INSTITUTIONS
TOPIC OUTLINES
Introduction
Nature of Industry
Related Laws, Accounting Standard and Government Policies
Banking System
Accounting for Revenues
 Revenue recognition method
 Measurement of Revenues
Accounting for Loans
 recognition and Measurement
Accounting for Bad and Doubtful Debts
Special Requirement Under BAFIA, 1989
Statements to be Prepared
Disclosure Requirements
Conclusion BKAR3063 - TOPIC 6 – ENGKU ISMAIL 2014 2
INTRODUCTION
Banking system is a system in which all the financial
institution activities and systems are supervised by the
Central Bank or more known as Bank Negara Malaysia
(BNM).
Institutions under the banking system include the commercial
banks, financial companies, merchant banks and other
financial institutions approved by Bank Negara Malaysia.
Non-Banking system is a system where the operations and
services are supervised by the various government
departments and agencies.
NBS includes the merchant banks, finance companies,
insurance companies, provident and pension funds,
discount houses, building societies, unit trusts, urban credit
co-operative societies, Malaysia Export Credit Insurance
Berhad and the Pilgrims Fund Board.
BKAR3063 - TOPIC 6 – ENGKU ISMAIL 2014 3
INTRODUCTION .. CONT

The main differences between bank and other

financial institution are in- term of services
provided by the banks.
Banks are interacts directly with customers and
indulges in a number of activities relating to
finance with a range of customers and also
deals with both internal and international
customers.
Bank's main interest is to help in business
transactions and savings/investment
activities.
BKAR3063 - TOPIC 6 – ENGKU ISMAIL 2014 4
DEFINITION OF TERMINOLOGIES
Bank is a financial institution licensed by a government where
their primary activities include borrowing and lending
money
Financial institutions are organizations that typically accept
deposits and will lend or invest and they deal in one basic
commodity, money and money equivalents. This commodity
exists more often than note in book entry form.
Commercial Banks are the largest type of banks in Malaysia.
Example are Malayan Banking Berhad, RHB Bank Berhad,
Public Bank Berhad.

BKAR3063 - TOPIC 6 – ENGKU ISMAIL 2014 5

DEFINITION OF TERMINOLOGIES .. CONT

Development Banks - mainly public sector established

institutions, which aimed at financing specific areas of the
economy and not serviced by existing types of institution.
Example are Malaysia Industrial Development Finance
Berhad (MIDF), Development Bank of Malaysia (DBM) and
AgroBank .
Merchant Banks - Institution operated under a broad set of
guidelines instituted by the Central Bank with the
concurrence of the Ministry of Finance.
Finance Companies - subsidiaries of commercial banks.

BKAR3063 - TOPIC 6 – ENGKU ISMAIL 2014 6

DEFINITION OF TERMINOLOGIES .. CONT
Revenue - the gross inflow of economic benefits arising
from the ordinary operating activities of an enterprise.
Interest revenue is the return (profit) that banks will get
from the loans given to customers.
Non-performing loans is the situation when a loan is
identified as impaired.
Restructured troubled loan is a loan for which the lender
has granted a concession to the borrower due to a
deterioration of the borrower's financial condition.

BKAR3063 - TOPIC 6 – ENGKU ISMAIL 2014 7

 NATURE OF INDUSTRY
The nature of business includes accepting deposits, lending of
money, leasing and hire purchase.
Main source of funds comes from the depositors and then be
lent to borrowers or invested elsewhere.
The profit gained from these lending and investing activities is
then shared by the banks and the depositors.
The commercial banks in Malaysia must fulfill two types of
reserve requirements. First, its must maintain a portion of
its total deposit liabilities as a statutory reserve in Bank
Negara Malaysia. Second, the banks are required to keep a
liquidity requirement against total deposits less savings
deposits.

BKAR3063 - TOPIC 6 – ENGKU ISMAIL 2014 8

RELATED LAWS, ACCOUNTING STANDARD
AND GOVERNMENT POLICIES
The main legislation is the Banking and Financial Institution
Act (BAFIA) 1989.
Exchange Control Act 1953
Commodities Trading Act 1985
Futures Industry Act 1993
Hire Purchase Act 1967
Islamic Banking Act 1983
Pengurusan Danaharta Nasional Berhad Act 1998
Securities Commission Act 1993
Securities Industry Act 1983
Anti-Money Laundering Act 2001
BKAR3063 - TOPIC 6 – ENGKU ISMAIL 2014 9
RELATED LAWS, ACCOUNTING STANDARD
AND GOVERNMENT POLICIES

MFRS 101 Presentation of Financial Statements

MFRS 7 Financial Instruments: Disclosure
MFRS 132 Financial Instruments: Presentation
MFRS 139 Financial Instruments: Recognition &
measurement
MFRS 9 Financial Instruments (Replace MFRS 139- effective
date: 1 Jan 2018)
MFRS 107 Cash Flow Statements

BKAR3063 - TOPIC 6 – ENGKU ISMAIL 2014 10

BANKING SYSTEM
Banking Activities comprise of: Receiving deposit, Lending, Pay
and receive cheque, Leasing, Investment, Guarantor, Credit
card, Automated teller machine and Telephone banking
Special Requirement
banking institutions has a special requirement to provide
information regarding liquidity, solvency and risk, and
return.
Liquidity Assets
A bank has adequate liquidity when it can obtain sufficient
funds either by increasing liabilities or by converting its
liquid assets promptly into cash at a reasonable cost.

BKAR3063 - TOPIC 6 – ENGKU ISMAIL 2014 11

COMMERCIAL BANKS
The main functions are to provide:
• Retail banking services such as the acceptance of
deposit, granting of loans and advances, and financial
guarantees;
• Trade financing facilities such as letters of credit,
discounting of trade bills, shipping guarantees, trust
receipts and Banker’s Acceptances;
• Treasury services;
• Cross border payment services; and
• Custody services such as safe deposits and share
custody.

BKAR3063 - TOPIC 6 – ENGKU ISMAIL 2014 12

ACCOUNTING ISSUES

• Accounting for revenue

• Accounting for loans
• Provision for bad and doubtful debt
• Special requirement under BAFIA 1989

BKAR3063 - TOPIC 6 – ENGKU ISMAIL 2014 13

ACCOUNTING FOR REVENUE
General Requirement:BNMs’ Guildeline on Financial
Reporting requires the bank to use the fair value as a
measurement for financial instruments.
Revenue for bank can be categories by interest and
non-interest & others.
Interest income - derived from main activities (loans,
advances and financing), repurchased agreement,
investment securities (selling bonds and others).
Non-interest income- derived from any financial fees
(service, guarantee, underwriting, mudharabah,
and corporate advisory fees).

BKAR3063 - TOPIC 6 – ENGKU ISMAIL 2014 14

ACCOUNTING FOR REVENUE .. CONT

Other incomes- derived from gain in foreign

exchange, rental income, gain on disposal
of property, plant and equipment, sales of
development properties and others
operating income.
Accounting standard requires bank to treat the
interest income and non-interest income
differently.

BKAR3063 - TOPIC 6 – ENGKU ISMAIL 2014 15

ACCOUNTING FOR REVENUE .. CONT
Interest Revenue
An interest revenue should be recognized on an
unimpaired loan based on accrual basis.
Interest earned on unimpaired loans should be
recognized in the income statement on a level-yield
basis as it accrues using the effective interest rate
method and not as it is received in cash or becomes
due.
The effective interest is calculated as the rate of interest
required to discount the contractual cash flows over
the term of the loan to equate to the acquisition cost
of the loan.

BKAR3063 - TOPIC 6 – ENGKU ISMAIL 2014 16

INTEREST REVENUE .. CONT
Interest revenue is then allocated to periods over the
term of the loan by applying the effective interest rate
to achieve the interest being reported at a constant
yield on the recorded investment.
Interest includes the amount of amortization of any
discount or premium between the cost of a loan and
its amount at maturity and the amortization of any
loan fees and costs.
Uncollected interest that has been previously accrued
should be reversed or included in the loan balance
with an adequate specific allowance established
against it.

BKAR3063 - TOPIC 6 – ENGKU ISMAIL 2014 17

INTEREST REVENUE .. CONT
When a loan is identified as impaired (non-performing
loans), a bank should either cease the accrual of
interest or continue to accrue interest but set aside a
specific allowance for the full amount of interest being
accrued.
Interest on impaired loans should not contribute to net
income if doubt exists concerning the collectability of
loan principal or interest.

BKAR3063 - TOPIC 6 – ENGKU ISMAIL 2014 18

ACCOUNTING FOR REVENUE .. CONT
Non-Interest Revenue
- Normally derived from any financial fees
- Recognition depends on the purposes for which the
fees are assessed and the basis of accounting for any
associated financial instrument.
- Should be distinguished between;
- Fees that are integral part of effective interest rate of
a financial instrument;
- Fees that are earned as services are provided;
- Fees that are earned on the execution of significant
act

BKAR3063 - TOPIC 6 – ENGKU ISMAIL 2014 19

NON-INTEREST REVENUE ..CONT
Fees that are an integral part of the effective interest
rate of a financial instrument are generally treated as
an adjustment to the effective interest rate.
Fees earned based on services provided should be
recognized as revenue as the services are provided
based on paragraph 14(b) (i).

BKAR3063 - TOPIC 6 – ENGKU ISMAIL 2014 20

NON-INTEREST REVENUE ..CONT
Fees that earned on the execution of a significant act, it
is recognized as revenue when the significant act has
been executed as follows:
Commission on the allotment of shares – The
commission is recognized as revenue when the shares
have been allotted.
Placement fees for arranging a loan between a borrower
and an investor – recognized as revenue when the
loan has been arranged.
Loan syndication fees – Such fee is recognized as
revenue when the syndication has been completed
[Para 14(c) (i), (ii), (iii)].

BKAR3063 - TOPIC 6 – ENGKU ISMAIL 2014 21

ACCOUNTING FOR LOANS
Recognition and Measurement
Recognize a loan, when the bank becomes a party to the
contractual provisions that comprise the loan.
Should remove (full or portion) when the bank realizes
the rights to benefits specified in the contract, the
rights expire or the bank surrenders or otherwise
loses control of the contractual rights that comprise
the loan or a portion of the loan.
Loans should be measured on initially be recorded at its
fair value which represents its acquisition cost

BKAR3063 - TOPIC 6 – ENGKU ISMAIL 2014 22

 ACCOUNTING FOR LOANS … CONT
Impairment Loan
All types of loans (term, leasing, block discounting
facilities, hire-purchase and others) should be
classified as NPL when the principal or interest of that
loans have been in arrears for 6 months or more
(Guideline no. 3)
Bankers’ acceptances trust receipts, bills of exchange
and other instruments of similar nature can be treated
as NPL when the instrument has been in arrears after
maturity date

BKAR3063 - TOPIC 6 – ENGKU ISMAIL 2014 23

ACCOUNTING FOR LOANS … CONT
Recognition:
Bank should recognized when it is probable that the
bank will not be able to collect or there is a no longer
reasonable assurance that the bank will collect all
amounts due according to the contractual terms of
the loan agreement.
The impairment should be recognized by reducing the
carrying amount of the loans through an allowance or
charge-off and charging the income statement in the
period in which the impairment occurs

BKAR3063 - TOPIC 6 – ENGKU ISMAIL 2014 24

ACCOUNTING FOR LOANS … CONT
Restructured Troubled Loans
Refers to a loans for which the lender has granted a
concession to the borrower due to a deterioration of
the borrower's financial condition
Should recognize when the lender, grants a concession
that it would not otherwise consider.
The restructuring include the modification of terms
(reduction in the interest from that originally agreed)
or a reduction in the principal amount.
Measurement; should measure by reducing its recorded
investment to net realizable value, taking into account
the cost of all concessions at the date of restructuring.
BKAR3063 - TOPIC 6 – ENGKU ISMAIL 2014 25
ACCOUNTING FOR LOANS … CONT
Provision for Bad and Doubtful Debt
BAFIA 1989, stated that all financial institutions must
maintain a general provision account of at least 1% of
total outstanding loans including accrued interest, net
of interest-in-suspense and specific provision for bad
and doubtful debts where all financial institutions
must set aside some amount from the loans advances
and financing provided as provision for bad and
doubtful debt.

BKAR3063 - TOPIC 6 – ENGKU ISMAIL 2014 26

ACCOUNTING FOR LOANS … CONT

Write-offs
It is a matter of judgment when a bad loan should be written
out of the accounting records completely. In principle, an
irrecoverable loan, or portion of a loan, should be written
off when there is no realistic prospect of recovery and a
bank’s normal relationship with the borrower has ceased to
exist. The decision on timing is important because, when
the loan is written off, the absolute level of provisions
disclosed in the financial statements falls. It is important,
therefore, the banks implement write offs on a systematic
and consistent basis.

BKAR3063 - TOPIC 6 – ENGKU ISMAIL 2014 27

ACCOUNTING FOR LOANS … CONT
Recoveries
Recoveries refer to the amounts that a bank receives from loans that it has
previously written off. A common practice is to credit such amounts to
the profit and loss account as a deduction on aggregate charge for bad
and doubtful loans. If significant recoveries occur frequently, this may
indicate that the bank’s policy for writing off loans is too conservative
and needs to be reconsidered.
Provisions for Predicted Loan Losses
It can be a timing difference between the reporting of income from assets
and the provisions that have subsequently to be raised when the same
assets are impaired. Provisioning usually coincides with the interruption
in the revenue stream when the asset moves from performing to non-
performing. Therefore, there is a double deduction in profits.

BKAR3063 - TOPIC 6 – ENGKU ISMAIL 2014 28

SPECIAL REQUIREMENT UNDER BAFIA, 1989
Statutory Reserve Fund (SRF).
Section 36 (BAFIA), licensed institutions are required
Statutory Reserve Fund (SRF);
 Before declaring any dividend each year, it will be
transferred to its reserve fund out of the net profits of
each year;
i. A sum equal to not less than fifty percent of the net
profits of that year, as long as the amount of the
reserve fund is less than fifty percent of its paid-up
capital; or
ii. A sum equal to not less than 25% of the net profits
of that year, as long as the amount of the reserve
fund is 50% but less than 100% of its paid-up
capital. BKAR3063 - TOPIC 6 – ENGKU ISMAIL 2014 29
SPECIAL REQUIREMENT UNDER BAFIA, 1989 ..
CONT
Publication of Annual Financial Statements
Based on BNM/RH/GL 001-31 & BNM/RH/GL/002-2:
- present all the financial information in RM
- Need to comply with the requirement of MFRS 101
- Basic information shall be displayed prominently, and
repeatedly are;
The name of entity
Whether the financial statements cover the individual entity
or group of entities
The data in statement of financial position or period covered
The presentation currency
The level of rounding used

BKAR3063 - TOPIC 6 – ENGKU ISMAIL 2014 30

STATEMENTS TO BE PREPARED
Income Statement
A bank’s income statement reports its earning over a period of
time.
Provides information concerning return on investment, risk,
financial flexibility and overall operating capabilities.
Return on investment is one of a measurement of a bank’s
overall performance.
Risk is the uncertainty associated with the future of the
enterprise.
Financial flexibility is the ability of a to adapt to problems and
opportunities.
Operating capability related to the firm’s ability to maintain a
given level of operations.
BKAR3063 - TOPIC 6 – ENGKU ISMAIL 2014 31
INCOME STATEMENT .. CONT

Each type of income and expenses need to be separately

disclosed in income statement.
The components of the income statement encompass
revenues, gains, expenses and losses.

BKAR3063 - TOPIC 6 – ENGKU ISMAIL 2014 32

 Bank ABC Bhd
Profit and Loss Account for the year ended 31 December 2014
Note 2013 2014
RM’000 RM’000
Interest Income 20 xxx xxx
Interest expense 21 (xx) (xx)
Net interest income xxx xxx
Loan loss and provision 22 (xx) (xx)
xxx xxx
Non-interest income 23 xx xx
Net income xxx xxx
Overhead expense 24 (xx) (xx)
Profit before taxation xxx xxx
Taxation 27 (xx) (xx)
Profit after taxation xxx xxx
Transfer to statutory reserve 19 (xx) (xx)
Net profit after transfer to Statutory reserves xxx xxx
Retained profit brought forward xx xx
Profit available for distribution xxx xxx
Proposed dividend of xx% (2010, yy%)
Less tax (xx) (xx)
Retained profit carried forward xxx xxx
BKAR3063 - TOPIC 6 – ENGKU ISMAIL 2014 33
Earning per share 29 xx xx
BALANCE SHEET

Shows the financial position of an enterprise at a specific

time, including the bank’s economic resources (assets),
economic obligations (liabilities) and the owner’s equities.
Notes to financial statements are considered an integral part
of the statement.
Liabilities reported are measured through different attributes,
for example historical cost, current cost, current exit value.
Current and non-current items are not presented separately.
Investment securities are typically recorded at cost, with any
difference from the face amount recorded as a discount or
premium. Discount and premiums are amortized to income
using the interest method over the period held.
BKAR3063 - TOPIC 6 – ENGKU ISMAIL 2014 34
BALANCE SHEET ..CONT
Main features of a bank’s balance sheet should include the following:
Classify assets and liabilities by their nature and list them in the statement
by order of their liquidity;
Distinguish and present cash and short-term funds separately from deposits
and placements with financial institutions;
Present separately under assets and liabilities any securities sold under
repurchase agreements;
Distinguish dealing securities and investment securities and present
separately from other investment;
Present statutory deposit with Bank Negara Malaysia as a separate asset
item and include a note to explain its nature;
Distinguish deposits from customers and present separately from deposits
and placement of banks and other financial institutions and
Present commitments and contingencies as a footnote on the face of
balance sheet.

BKAR3063 - TOPIC 6 – ENGKU ISMAIL 2014 35

 Bank ABC Bhd
Balance Sheet as at 31 December 2014
Note 2013 2014
Assets RM’000 RM’000
Cash and short-term fund 3 xx xx
Securities purchase under resale agreement xx xx
Deposit and placements with Financial institution 4 xx xx
Dealing securities 5 xx xx
Investment securities 6 xx xx
Loans and advances 7 xx xx
Others assets 8 xx xx
Statutory deposits with BNM 9 xx xx
Investment in subsidiary companies 10 xx xx
Investment in associated companies 11 xx xx
Fixed assets 12 xx xx
Total assets xxx xxx

BKAR3063 - TOPIC 6 – ENGKU ISMAIL 2014 36

Liabilities and Shareholders’ Funds
Note 2013 2014
Deposits from customers 13 xx xx
Deposits and placements of banks
and other financial institutions 14 xx xx
Obligations on securities sold under
repurchase agreements xx xx
Bills and acceptance payable xx xx
Other liabilities 15 xx xx
Bonds and notes 16 xx xx
Subordinated term loan 17 xx xx
Total liabilities xxx xxx
Share capital 18 xx xx
Reserves 19 xx xx
Shareholders’ funds xx xx
Total Liabilities and Shareholders’ fund xxx xxx
Commitments and contingencies 30 xx xx

BKAR3063 - TOPIC 6 – ENGKU ISMAIL 2014 37

CASH FLOW STATEMENT
The statements of cash flows reports that the cash flows relating in
operating financing and investing activities of a company
Operating activities include all transactions and events that are not
investing and financing activities.
Investing activities included lending money, collecting on those,
acquiring and disposing of investment and productive long-lived
assets.
Financing activities involve liability and owner’s equity items and
include obtaining cash from creditors and repaying the amounts
borrowed.
The statement must also clearly show the net increase or decrease
in cash and a reconciliation of the beginning cash balance to the
ending cash balance.
In the statement, the inflows and outflows for each category should
be shown separately and the net cash flows (the difference
between the inflows and outflows) should be reported.

BKAR3063 - TOPIC 6 – ENGKU ISMAIL 2014 38

NOTES TO THE ACCOUNT
It is quite often considered unnecessary to provide additional
information by way of notes to the accounts or to describe
the accounting policies adopted as these will be also be
prescribed by law or regulation.
banks will generally provide adequate details of accounting
policies and additional accounting information to support
the balance sheet and profit and loss account. This
information is generally disclose to conform to the law and
accepted accounting principles (GAAP) or quite simply to
enable the accounts to show a true and fair view.

BKAR3063 - TOPIC 6 – ENGKU ISMAIL 2014 39

 DISCLOSURE REQUIREMENTS
An entity must disclose either in the body of the statements or
in the accompanying notes, the fair value of financial
instruments and liabilities for which it is practicable to
estimate fair value. An entity must also disclose the
methods and significant assumptions used to estimate the
fair value of its financial instruments and liabilities.
Information pertinent in estimating the fair value of that
financial instrument or class of financial instruments, such
as carrying amount, effective interest rate and maturity.
The reasons why it is not practicable (e.g., an estimate cannot
be made without incurring exercise costs) in estimating the
fair value.

BKAR3063 - TOPIC 6 – ENGKU ISMAIL 2014 40

 REFERENCES

Engku Ismail, 2014

Banking and Financial Institution Act (BAFIA) 1989.
Securities Commission Act 1993
Securities Industry Act 1983
MFRS 139
MFRS 7
MFRS 132

BKAR3063 - TOPIC 6 – ENGKU ISMAIL 2014 41