Contractual Cash Flow Characteristics of Financial Assets (Amendments to IFRS 9)

Date recorded:

General requirements (Agenda Paper 16A)

In May 2022, the IASB decided to start a standard-setting project to clarify particular aspects of the IFRS 9 requirements for assessing a financial asset’s contractual cash flow characteristics (i.e. the ‘solely payments of principal and interest’ (SPPI) requirements).

This paper set out the staff’s recommendations for clarifying amendments to the contractual cash flow characteristics requirements in IFRS 9. The purpose of the additional application guidance and illustrative examples is to clarify some of the underlying principles of the SPPI assessment to assist with the consistent application of these requirements.

Staff recommendation

The staff recommended clarifying that for contractual cash flows to be SPPI, a basic lending arrangement does not give rise to variability in cash flows due to risks or factors that are unrelated to the borrower, even if such terms and conditions are common in the specific market in which the entity operates.

The staff further recommended clarifying that a financial asset that includes contractual terms that change the timing and amount of the contractual cash flows could be consistent with a basic lending arrangement and therefore have SPPI cash flows, if:

  • The contractual cash flows that could arise from any contingent events are SPPI in all circumstances (i.e. the probability of a contingent event occurring is not considered)
  • The contingent event is specific to the borrower
  • The timing and amount of any variability in contractual cash flows are determinable and specified in the contract
  • The contractual cash flows arising from the contingent event do not represent an investment in the borrower or exposure to the performance of the underlying assets

The staff also recommended adding examples to illustrate the application of the SPPI requirements to specific fact patterns.

The staff asked the IASB whether they agree with their recommendations.

IASB discussion

Overall, IASB members were in agreement with the staff recommendations. One IASB member highlighted that it would be useful to think about what is driving the variability when performing the SPPI assessment rather than the level of variability.

IASB members highlighted, and the staff agreed, that the drafting of the amendments and the application guidance will need to be specific and clear to ensure preparers understand the requirements clearly. One example highlighted was in relation to the requirement where a contingent event has to be specific to the borrower, it needs to be clear whether Scope 3 greenhouse gases would be considered specific to the borrower.

One IASB member asked what the term ‘determinable’ meant. The staff noted that this term is used elsewhere in the Standards and it means that the cash flows are predefined, i.e. the cash flows are known before and after the contingent event. The timing or the contingent event may not be known but the way the cash flows will change if and when the event occurs is known. The IASB requested that this should be made clear in the amendments.

IASB decision

11 out of 11 voted in favour of the staff’s recommendations.

Financial assets with non-recourse features and contractually linked instruments (Agenda Paper 16B)

This paper considered potential clarifications to that could be made to IFRS 9 in relation to assessing the contractual cash flow characteristics of financial assets with non-recourse features and contractually linked instruments (CLIs).

Staff recommendation

Financial assets with non-recourse features

To assist with the consistent application of the SPPI assessment, the staff recommended clarifying that in the case of a financial asset with non-recourse features:

  • The lender is exposed to the performance risk of the underlying asset(s) throughout the life of the instrument both for the payment of the contractual payments as well as in default
  • The lender’s contractual right to receive contractual payments over the life of the instrument is restricted to the cash flows generated by the underlying asset

The staff further recommended including examples of relevant factors an entity could consider when assessing the particular underlying assets or cash flows, such as:

  • The legal or capital structure of the borrower
  • The extent to which the expected cash flows from the underlying assets exceeds the contractual cash flows on the financial asset
  • Whether there are other sources of finance (i.e. loans) that are subordinated to the loan from the lender

CLI requirements

The staff recommended including distinguishing characteristics of CLIs as part of the application guidance of IFRS 9 to assist with the consistent application of the CLI requirements. The unique characteristics of a CLI structure are:

  • Use of multiple contractually linked instruments
  • Non-recourse features
  • Prioritisation of payments through a waterfall payment structure that creates concentrations of credit risk resulting in a disproportionate reduction in contractual rights in the event of cash flow shortfalls

The staff further recommended clarifying that the reference to ‘instruments' in paragraph B4.1.23 of IFRS 9 also includes financial instruments that are not fully in the scope of IFRS 9 such as lease receivables.

The staff asked the IASB whether they agree with their recommendations.

IASB discussion

IASB members stated that this paper and the amendments were helpful as they clarified the terminology used in IFRS 9. One IASB member was positive about the amendments however noted that the ‘devil will be in the detail’. He therefore asked the staff to run these amendments through financial institutions to understand the impact. The staff confirmed that they are working with banks to understand how these will apply.

IASB decision

11 out of 11 voted in favour of the staff’s recommendations.

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