Financial Instruments: Recognition and Measurement - Fair Value Option
The Board noted that it has received comments from regulators about the permission in IAS 39 to designate any financial asset or financial liability as one to be measured at fair value with changes in fair value reported in profit or loss (the 'fair value option').
Consequently the Board considered amending IAS 39 so that the fair value option could be applied only in specified circumstances. The specified circumstances would be those that the Board had in mind when it developed the option, ie for a financial asset or financial liability that is reliably measurable and meets one of the following:
- i. The item is a financial asset or financial liability that contains one or more embedded derivatives as described in paragraph 10 of IAS 39.
- ii. The item is a financial liability whose amount is contractually linked to the performance of assets that are measured at fair value.
- iii. The exposure to a change in the fair value of the financial asset or financial liability is substantially offset by the exposure to the change in the fair value of another financial asset or financial liability, including a derivative.
The staff proposed that the fair value option could be limited by requiring that the fair value be verifiable. This would only occur if the variability in the range of reasonable fair value estimates made in accordance with paragraphs 48, 48A, 49 and AG 69-82 is not significant. This requirement is met, if for example, the fair value estimate is based on:
- a. Observable current market transactions in the same instrument (that is, without modification or repackaging)
- b. a valuation technique that is calibrated regularly to observable current market transactions in the same instrument (ie. without modification or repackaging) or to other observable current market data
- c. a valuation technique commonly used by market participants to price the instrument that has been demonstrated to provide reliable estimates of prices obtained in actual market transactions, or
- d. a range of possible outcomes whose probability can be reasonably assessed.
In the case of (ii) and (iii), the Board discussed a requirement that the fair value option be applied to both the financial asset and the related financial liability, unless classified as held for trading. This would ensure that both 'legs' of a matched position are measured at fair value through profit or loss and thus prevent entities from reporting volatility from applying the fair value option to only one leg of a matched position.
The Board discussed various concerns expressed by the European Central Bank which resulted in wording amendments.
The Board approved proceeding with an exposure draft. (Vote 11-3)