Financial instruments IFRS 9

Question 1

What are the categories of financial instruments and what is the definition of each category ?

Answer 1

• Under IFRS 9 the categories are:
• Amortized cost
• Fair Value Through Other Comprehensive Income (FVOCI)
• Fair Value Through P&L (FVTPL)
• The default category is FVTPL unless the following criteria are met:
• For Amortized cost:
• the financial asset is held within a business model whose objective is to hold financial assets in order to collect contractual cash flows
• the contractual terms of the financial asset give rise on specified dates to cash flows that are solely payments of principal and interest on the principal amount outstanding
• For FVOCI:
  -the financial asset is held within a business model whose objective is achieved by both collecting contractual cash flows and selling financial
  assets and
  -the contractual terms of the financial asset give rise on specified dates to cash flows that are solely payments of principal and interest on the principal amount outstanding

Question 2

An election is available to classify some equity instruments that would otherwise be FVTPL as
FVOCI ? What are the criteria that must be met to qualify for that election?

Answer 2

• An entity may make an irrevocable election at initial recognition for particular investments in equity instruments that would otherwise be measured at fair value through profit or loss to present subsequent changes in fair value in OCI if it is neither held for trading nor contingent consideration recognized by an acquirer in a business combination
• IFRS 9 Appendix A defines Held for trading as a financial asset or financial liability that meets one of the following criteria:
• Is acquired or incurred principally for the purpose of selling or repurchasing it in the near term
• On initial recognition is part of a portfolio of identified financial instruments that are managed together and for which there is evidence of a recent actual pattern of short-term profit-taking
• Is a derivative (except for a derivative that is a financial guarantee contract or a designated and effective hedging instrument).

Question 3

How is each category of financial instrument measured (subsequent to initial recognition) and how are unrealized gains or losses
treated?

Answer 3

• Under IFRS 9, the category names reflect how they
  are measured
• Amortized cost
• FVTPL (fair value with unrealized gains or losses
  recorded in net income)
• FVOCI (fair value with unrealized gains or losses
  recorded in OCI and transferred to net income when
  the instrument is derecognized)

Question 4

How is the impairment of loans and receivables
(measured at amortized cost) accounted for?

Answer 4

• IFRS 9 uses an “expected loss” model where an allowance is recorded that is based on probability weighted outcomes (regardless of whether there are any actual indications of impairment)

‒ Note that all loans receivable carry some risk of default (even if the probability is very small) and therefore all should have some allowance under IFRS 9

• Under the model, an entity calculates the allowance for credit losses by considering the losses it would incur in various default scenarios (discounted if applicable) and multiplying by the probability of each scenario occurring. The allowance is the sum of
  these probability weighted outcomes.
• IFRS 9 allows an entity to use a simplified “provision matrix” (e.g. based on A/R aging categories) to calculate the expected losses for trade receivables.