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Replacement of IAS 39: Classification and Measurement

Date recorded:

Classification and measurement of financial liabilities

The Boards considered both IASB and FASB models of classifying financial liabilities to establish common categories that under both models. These categories are:

  • Category A - instruments that are not held to pay contractual cash flows (this would include all standalone derivatives and all liabilities held for trading);
  • Category B - instruments that are held to pay contractual cash flows and have 'non-vanilla' (structured) contractual cash flow characteristics. (such as issued bonds with leveraged interest or index-linked issued bonds); and
  • Category C - instruments that are held to pay contractual cash flows and have vanilla contractual cash flow characteristics.

The discussion then focussed on categories A and B, with the Boards acknowledging that there is a difference in accounting for category C instruments under the current IASB and FASB models. The Boards confirmed unanimously that instruments in category A should be accounted for at fair value through profit or loss (FVTPL).

The instruments falling into category B would be slightly different under IASB and FASB models. The IASB would include instruments with cash flows that are not solely payments of interest and principal, while the FASB would include instruments with embedded features not 'clearly and closely related'. However, overall the two models overlap sufficiently to look at measurement jointly for this category. Based on the results of the users questionnaire, the Boards were presented with four potential measurement models, all aiming to avoid accounting for own credit risk in profit or loss:

  • Isolate the effects of changes in own credit risk and account for that amount differently than other components of fair value (for example, account for this amount in OCI or using 'adjusted' fair value (the 'frozen credit spread' approach));
  • Bifurcate the instrument into a host and the embedded features;
  • Measure the entire instrument at amortised cost and disclose fair value on the face of the balance sheet in brackets;
  • Measure the entire instrument at fair value through OCI;

Measurement of the instrument at amortised cost presented some practical difficulties for instruments with 'non-vanilla' features. Recycling questions arose if the entire instrument is measured through OCI. Results of the questionnaire showed little support for splitting out portion of fair value relating to own credit risk. The staff therefore recommended to bifurcate the liability into a host and embedded features. Whether to base bifurcation on existing IFRS and US GAAP requirements or to develop a new method using the 'basic features' and 'entity business model' concepts of IFRS 9 was not yet discussed. Further, under IAS 39, many entities avoid bifurcation by using the fair value option. Fair value option accounting also has not yet been discussed. The staff was looking for directional guidance and will develop a more detailed approach at a later stage. They will also consider specifically the accounting for regulatory instruments with deferred interest payments and whether these should be at amortised cost.

The IASB has unanimously approved the staff's recommendation to pursue bifurcation.

The FASB members pointed out that the current proposal is based more on the IASB rather than on FASB's model. The FASB would await the decision on the fair value option and look at this issue again then.

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