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IAS 39 — Term-extending options in fixed rate debt instruments

Date recorded:

The Committee received a request to address an issue related to embedded derivatives relevant for both IAS 39 and for financial liabilities under IFRS 9. The question focused on whether the issuer of a fixed-rate debt instrument with a term-extending option included in its terms should separate the option from the host instrument. The staff presented the Committee with four potential alternatives.

The first alternative would consider the term-extending option as an embedded derivative requiring separation. This alternative is supported by the guidance in IFRS 9 paragraph B4.3.5(b) (carried forward from IAS 39 unchanged) that states ‘an option or automatic provision to extend the remaining term to maturity of a debt instrument is not closely related to the host debt instrument unless there is a concurrent adjustment to the approximate current market rate of interest at the time of the extension.´

The second alternative would consider the term-extending option as an embedded derivative that is clearly and closely related to the host instrument. This alternative is supported by the guidance in IFRS 9 paragraph B4.3.5(e) which provides that prepayment options are closely related to the host contract if the option´s exercise price is equal to the amortised cost or carrying amount of the host contract instrument. They note that prepayment options exercisable at the amortised cost are economically similar to a term extending option without an interest rate reset.

The third alternative would consider the term-extending option an embedded derivative outside the scope of IFRS 9 (or IAS 39). This alternative is supported by those who view the term-extending option as a loan commitment feature outside the scope of IFRS 9 (or IAS 39). This alternative has two possible variations. The first variation would be that the bifurcation requirements do not apply and the extension option is ignored while the second variation would be that the loan commitment should be separated from the host instrument and accounted for in accordance with the applicable IFRS.

The staff also noted that during the January 2012 Board meeting, the IASB and FASB have agreed to redeliberate aspects of IFRS 9 and the FASB´s tentative decision to date on their classification and measurement model. One of the topics to be addressed is the basis, and need, for bifurcating financial assets as well as any follow on issues (including potentially symmetry between bifurcating financial assets and financial liabilities).

The Committee agreed not to take the item on to their agenda at the present time while the IASB is reconsidering IFRS 9.

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