IFRS 9

Question 1

When is a financial liability measured at fair value through profit or loss (FVTPL)?

Answer 1

If it is:
(a) held for trading; OR
(b) Upon initial recognition it is designated at FVTPL. this is permitted when it results in more relevant info because:
- it eliminates or significantly reduces a measurement or recognition inconsistency (‘accounting mismatch’) (e.e.g this may be a liability usually accounted for at amortised cost); or
- it is a group of financial liabilities or financial assets and liabilities and its performance is evaluated on a fair value basis, in accordance with a documented risk management or investment strategy.

Question 2

How are derivatives classified as per IFRS9?

Answer 2

All derivatives are classified under FVTPL.

Question 3

When are financial liabilities classified at amortised cost?

Answer 3

Any instrument which is not classified at FVTPL

Question 4

How do you deal with transaction costs for financial liabilities?

Answer 4

For those carried at FVTPL, they are expensed in the PL

For those carried at amortised costs, deduct from the carrying amount of the financial instrument.

Question 5

How do you subsequently carry financial liabilities (post initial recognition)?

Answer 5

FVTPL: at reporting date recognise the change in fair value in the PL

Amortised cost: Recognise with adjustments for interest using EIR and payments made

Question 6

How do you initially recognise financial liabilities?

Answer 6

FVTPL: Recognise at fair value as of the recognition date

Amortised cost: Recognise at fair value (need to adjust future cash flows to present value)

Question 7

When do you derecognise financial liabilities?

What happens to derecognition costs?

Answer 7

When the financial liability is extinguished (i.e. when the obligation specified in the contract is discharged or canceled or expires)

Transaction costs go to the P&L

Question 8

How do you treat a financial liability that has been refinanced, or the terms of the instrument has changed?

Answer 8

If an existing loan is exchanged for a new loan with the existing lender, or if the terms of an existing loan are changed, the accounting treatment will depend on whether the new terms are deemed to be substantially different. To be substantially different, the PV of the cash flows under the new arrangement, including fees (all discounted at the original effective rate), must be at least 10% different to the PV of the remaining cash flows under the original arrangement.

Difference of 10% or more:
- The old liability is deemed to be extinguished, and a new liability is recognised in its
place:
 Derecognise the existing liability
 Recognise a new liability at its fair value
 The difference is recognised in the statement of profit or loss
 Any fees incurred are also recognised in the statement of profit or loss.

Difference of less than 10%
- The original liability is deemed to have been modified:
 Do not derecognise the existing liability
 Restate the liability to the PV of the revised cash flows (discounted at the original effective rate) and deduct any fees paid
 Any difference is taken to the statement of profit or loss.

Question 9

What is a financial liability?

Answer 9

A financial liability is:
- A contractual obligation to deliver cash
- A contractual obligation to exchange financial assets/liabilities on unfavourable terms

Question 10

What is a financial asset?

Answer 10

A financial asset is:
- Cash
- A contractual right to receive cash
- A contractual right to exchange financial assets/financial liabilities on favourable terms
- An equity instrument in another entity.

Question 11

What is an equity instrument?

Answer 11

This represents the residual interest in the net assets of an entity without any contractual obligations.

Question 12

How do you treat a reduction in the fair value of a financial liability arising from an increased credit risk of the company?

Answer 12

A reduction in the fair value of financial liabilities would result in a gain in the financial statements of the entity. IFRS says it would not be correct for this to be within PL given the nature of the gain arising from an increase in the entitys credit rating. As such, any gain of this nature should go to OCI.

Question 13

What are the classifications available for financial assets?

Answer 13

• Amortised cost
• FVTPL
• FVOCI

Question 14

When do you classify a financial asset at amortised cost?

Answer 14

• The objective of the business model is to hold the asset to collect contractual cash flows; AND
• the contractual terms of the assets give rise to SPPI on outstanding amount

Question 15

When do you classify a financial asset at FVOCI?

Answer 15

Debt instruments must be measured at FVOCI, when it meets the following criteria:
(a) The financial asset is held within a business model whose objective is achieved by both collecting contractual cash flows and selling financial assets;
(b) the contratual terms of the financial asset give rise to SPPI

Question 16

What is the difference between the classification of a financial asset at amortised cost, and at FVOCI?

Answer 16

Amortised cost are for financial assets solely for collection of contractual cash flows and give rise to SPPI

Financial assets carried at FVOCI have saem characteristics however, it is also when the business model includes holding the financial asset for the purpose of selling. so if it is held for trading then it is OCI

If you acquire financial asset with the intention of realising short term fluctuations in price - this is clearly held for trading.

Question 17

When is a financial asset classified at FVTPL?

Answer 17

All instruments which do not meet the classification of FVOCI and Amortised cost should be carried at FVTPL; or

If elected to carry at FVTPL to avoid an accounting mismatch (i.e. a financial asset at FV with the related liability held at amortised cost).

Question 18

When should you derecognise a financial asset?

What do you do with any difference on asset derecognised and cash received

Answer 18

(1) The contractual rights to the financial asset expire
(2) entity transfers substantially all of the risks and rewards of the financial asset to another entity

There may be a gain or loss in the P and L.

Question 19

How do you treat an OCI reserve for financial assets carried at FVOCI on derecognition?

Answer 19

Recycle to profit or loss

Question 20

What are the entries when you purchase back your own shares under a share buy back scheme?

And subsequently, reissue them

Answer 20

Dr Treasury shares
Cr Cash

reissue of shares:
Cr Treasury shares
Dr Cash
Cr/Dr Equity - the difference.

Question 21

How should you initially measure a financial asset? How do you treat any gains

Answer 21

At fair value. any difference between FV and consideration for the asset should be classified as a gain or loss in the P and L.

Question 22

How do you treat transaction costs on financial assets

Answer 22

For those carried at FVOCI and at amortised cost, they should be added to the FV of the asset.

For those at FVTPL, they should not be added to the cost of the asset and should be expensed.

Question 23

What is the accounting treatment on derecognition of a financial asset carried at FVOCI?

Answer 23

Revalue at the disposal date.
Gains and lossses go to OCI.

If its an equity instrument, the gains or lossess stay within OCI. If its a debt instrument, you reclcyle the gain or loss to the profit or loss statement.

Question 24

What is the accounting treatment for the derecognition of a financial asset carried at FVTPL?

Answer 24

Revalue at the disposal date

Gains or losses get recycled into the profit or loss statement.

Question 25

When and how should a financial asset be reclassified?

Answer 25

They should be reclassified prospectively when there has been a change in the business model.

Question 26

What is in the scope of the IFRS 9 impairment model?

Answer 26

Financial assets carried at FVOCI and Amortised cost.

FVTPL is also reclassified to fair value.

Question 27

What is a credit loss?

Answer 27

The difference between the PV of cash flows expected to be received and the PV of cash flows expected to be paid by the debtor

Question 28

What must be the initial recognition for a credit loss on a financial asset?

What is the subsequent recognition for a credit loss on a financial asset?

Answer 28

On initial recognition, you should create a “loss allowance” equal to 12 months of expected credit loss (i.e. what is the ECL expected to be faced in the next 12 months). You must refer to the three-stage approach and considered yourself under stage 1.

Subsequently, the ECL allowanceof a financial asset should be adjusted for the revised 12 month expected credit loss. You may also need to assess whether there has been a change in the credit quality of the financial asset and hence whether it has significantly deteriorated.

Question 29

What is the three stage approach and what is it used for?

Answer 29

Three stage approach is used to determine the impairment to recognise when a financial asset’s credit quality has deteriorated have significantly.

Stage 1 - financial asset has not deteriorated. Recognise an impairment allowance at 12 months ECL

Stage 2 - financial asset has deteriorated. Recognise loss allowance at the lifetime expected credit loss.

Stage 3 - financial assets where there is objective evidence of impairments. Recognise loss allowance at the lifetime expected credit loss.

*diff between stage 2 and stage 3 is how interest has been calculated.

Question 30

What is the accounting entry on initial recognition for a credit loss allowance?

Answer 30

Create a credit loss allowance against the value of the financial asset, against a corresponding expense in the P&L.

This should be recoded at: Probability of default in the next 12 months x total lifetime expected credit loss

Question 31

What is the accounting entry on subsequent recognition for a credit loss allowance?

Answer 31

If substantial change in credit risk, replace the 12-month expected credit loss allowance with the lifetime expected credit loss.

If no substantial change in credit risk, update the 12-month expected credit loss allowance to reflect the change in the probability of default for the next 12 months.

Question 32

What is the difference between stage 2 and stage 3 of the three-stage approach for assessing the impairment impact?

Answer 32

Under stage 2, the interest income is calculated on the gross amount of the financial asset.

Under stage 3, the interest income is calculated on the net amount of the financial asset (i.e. the financial asset carrying amount less credit loss allowance)

Question 33

How is the expected credit loss calculated for trade receivables?

Answer 33

For TR’s with no financing component and hence should be received in 12 months, the loss allowance is the lifetime expected credit loss.

If they > 12 months, the entity can adopt a policy choice to either:
- Recognise an allowance for lifetime ECL from initial recognition; or
- Apply the three-stage approach

Question 34

How do you treat embedded derivatives?

Answer 34

If the host contract is a financial asset, do not split the instrument and treat at FVTPL.

If the host contract isn’t, you must separate the embedded derivative out and treat this seperately at FVTPL (subject to meeting the separation criteria). The host contract is then accounted for under the appropriate IFRS.

Question 35

What is an embedded derivative?

Answer 35

This is a component of a hybrid instrument that also includes a non-derivative host contract - with the effect that some of the cash flows of the combined instrument vary in a way similar to a stand-alone derivative

e.g. A construction contract priced in a foreign currency. The construction contract is a non-derivative host contract but the changes in the forex are the embedded derivative contract.