Financial instruments - Impairment

Date recorded:

Confirmation of previous decisions

During the 1 December 2010 IASB-only meeting, the Board provided the staff with tentative direction on how to further develop the impairment model for financial assets measured at amortised cost. However, the Board had not officially voted on those positions.

During this meeting, the Board tentatively agreed with their previous guidance that:

  • short-term trade receivables would be excluded from the scope of the forthcoming supplement being exposed for comment,
  • the supplement being exposed for comment will primarily focus on application for open portfolios but would not exclude individual instruments or closed portfolios and would specifically ask a question addressing application to these items,
  • a straight-line allocation of undiscounted expected losses would be the most operational method, but other more sophisticated approaches (such as straight-line discounted expected losses or an annuity approach) would also be permitted; if using a discounting approach, the discount rate could be between the risk free rate and the effective interest rate as calculated under IAS 39, and
  • the determination of transfers from the "good book" to the "bad book" would be based on an entity's internal credit risk management process.

Loan commitments and guarantees

Loan commitments are currently either outside the scope of IAS 39 and therefore accounted for under IAS 37, or for those commitments issued at below market interest rates and within the scope of IAS 39, still subject to impairment under IAS 37. Certain comment letter respondents to the exposure draft Amortised Cost and Impairment requested a similar impairment approach for both loans and loan commitments. The IASB staff asked the Board if they would like to include a question in the forthcoming supplement being exposed for comment regarding loan commitments. As the original exposure draft did not specifically ask a question on this issue, the responses originally received on the topic were fairly limited.

Two Board members asked for clarification on what the rationale for asking the question would be since the Board has not yet addressed the issue and therefore does not have a view. However, the staff and Board were concerned that not seeking input may result in having to separately expose the issue at a later date. The Chairman suggested that the staff add some clarification in the supplement prior to asking the question so respondents have more context in understanding the issue.

Similarly, financial guarantee contracts have been proposed as within the scope of the exposure draft Insurance Contracts. As such, the Board agreed to postpone any decision with respect to credit guarantees while the comments received in the insurance contract exposure draft are being redeliberated.

Presentation and disclosures

As part of the Board's decision to utilise a "decoupled" approach for allocating lifetime expected losses, the Board has also changed its proposed presentation requirement from the exposure draft and will now propose to present interest revenue and impairment expenses in separate line items.

The Board tentatively agreed that impairment disclosures should be provided at least by class of instrument (if not a lower level of detail) and will provide examples of classes of instruments for financial institutions and corporate entities. The Board is also permitting cross referencing when the required disclosures are already incorporated in an entity's disclosures.

Allowance account for credit losses — The Board tentatively agreed on separate reconciliations for the "good book" allowance and the "bad book" allowance. When the "floor" of losses expected to occur over the near term exceed the time proportionate amount, disclosure of the additional provision from use of the "floor" would also be required. Additionally, a reconciliation of the nominal amounts in the "bad book" would be required. These disclosures would be presented in a comparative tabular format by asset class. Additionally, if an entity writes-off assets directly from the "good book" information on those write-offs should be disclosed.

Factors impacting credit losses for the "good book" — The Board tentatively agreed to require tabular disclosures providing five years of information for the "good book" of 1) lifetime expected losses, 2) balance of the outstanding nominal amount, 3) the time proportionate allowance balance, and 4) any additional provision necessary to reach the floor.

Significant gains and losses — The Board tentatively agreed to require quantitative and qualitative information should a specific portfolio or geographic area experience significant gains or losses.

Credit risk management and application to the "good book"/"bad book" — The Board tentatively agreed to require information on the "good book" and "bad book". Those disclosures would include qualitative information about how loans within the "good book" and "bad book" are managed, the criteria for transfers from the "good book" to the "bad book", and if internal credit rating systems are used - information on that system such as comparisons to external ratings, a description of the various grades used, and information on how a "watchlist" is managed if an entity employs the use of a watch list.

Credit risk management and assessment of expected losses — The Board tentatively agreed to require information on the nominal amount and information about expected losses (both lifetime and those expected to occur in the near term) across credit risk rating grades (at a minimum of "good book" and "bad book").

Management judgment and estimate — The Board tentatively agreed to require information on both lifetime expected losses and those expected to occur in the near term including the basis of inputs and estimation technique used, explanations on changes in estimates, and information about when a change in estimation technique occurs.

Comparison of expected losses with actual outcomes — The Board also tentatively agreed that if an entity utilises back testing of its credit loss estimates, then it should disclose quantitative information that compares actual outcomes to previous estimates. However, if an entity does not perform back testing, then a qualitative analysis of the actual outcomes and previous estimates would be required.

While the Board agreed to all of the above disclosure requirements, certain Board members did express various concerns with the proposals. One Board member had concerns with the requirement to provide five years of information for the "good book" allowance feeling the time period requirement was arbitrary and exceeded the comparative period disclosures. That Board member also had concerns with the requirement to provide comparative information of the internal credit risk rating system to external ratings as that may be more available in advanced capital markets but not as available in other jurisdictions. Another Board member praised the disclosure proposals but requested information on when loans have been modified including when loans may have been transferred back from the "bad book" to the "good book" after the modification. The staff responded that IFRS does not have a definition of a troubled debt restructuring as contained within US GAAP, and therefore putting parameters around the disclosure for modifications would be difficult.

The Board also discussed whether to proscribe a particular method for transferring provisions for credit losses from the "good book" to the "bad book". The Board considered:

  • a full depletion approach (100% of expected losses would be transferred from the "good book" to the "bad book"),
  • a partial depletion approach (an allowance for credit losses reflecting the age of the loan would be transferred from the "good book" to the "bad book" with a provision recognised to meet the needed target allowance), and
  • a no depletion approach (no transfer of allowance from the "good book" to the "bad book" and a provision for the full amount of expected losses would be recognised).

The Board agreed to include the partial depletion approach in its proposals (supported by vote of eight Board members).

Finally, based on concerns expressed by comment letter respondents and the Expert Advisory Panel, the Board tentatively agreed not to require a sensitivity analysis of the estimated expected losses.

Next steps

These discussions finalised the Board's decisions for their anticipated supplement to be released for public comment. The Board agreed to the staff request to begin drafting of the supplement. Two Board members expressed their intent to dissent to the proposals in the supplement.

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