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Financial Assets under FRS 109

[fa icon="calendar"] 19 January 2018 07:30:00 BNT / by Ng Hock Lee

Ng Hock Lee

 FRS 109 Financial Instruments became effective on 1 Jan 2018, replacing FRS 39 Financial Instruments: Recognition and Measurement as accounting standards for financial instruments.

The adoption of FRS 109 will result in changes to the way companies account for financial instruments, in the areas of Classification and Measurement, Impairment and Hedge Accounting.

We discuss the classification and measurement of financial assets under the new FRS 109 and how they differ from FRS 32/39.

 

Change in Classification of Financial Assets

Before: FRS 32/39

After: FRS 109

Financial assets are broadly classified in one of four categories:

a)    Financial assets at fair value through profit or loss (FVTPL)

b)     Held-to-maturity investments (HTM)

c)     Loans and receivables (L&R)

d)    Available-for-sale financial assets (AFS).  

 

Classification of financial assets from the four categories defined in FRS 32/39 is simplified to only three measurement categories, based on the nature of the financial asset as well as the business model within which the financial asset is held:

a)    Fair Value Through Profit or Loss (FVTPL)

b)    Amortised Cost

c)     Fair Value Through Other Comprehensive Income (FVOCI)

 

FRS 109 and Equity Instruments

Under FRS 109, a financial asset that has contractual cash flows not representing solely payments of interest and principal will be classified as measured at FVTPL. The gains or losses in the financial asset’s value are recognised in the profit or loss statement, resulting in same measurement outcome as FRS 32/39’s FVTPL classification.

However, an entity that invests in an equity instrument not held for trading may, on initial recognition, elect to classify the investment as an FVOCI financial asset. This classification is irrevocable and any change in fair value, including foreign exchange difference, will be recognised in other comprehensive income.

Under FRS 109, the cumulative gains or losses recognised in other comprehensive income will not be reclassified to profit or loss following the derecognition of the financial asset.

 

FRS 109 and Bonds

A financial asset is measured at amortised cost if the:

- contractual cash flows of the asset comprises solely principal and interest payments; and

- financial asset is held by the entity with the objective to collect contractual cash flows.

One example would be an investment in a corporate bond with a fixed maturity date. The cash flows derived from investing in this corporate bond consist solely of principal and interest payments. If the entity owning the corporate bond holds it within a business model of collecting contractual cash flows, it can be accounted for as measured at amortised cost financial asset. 

This classification is similar to accounting as:

- loans and receivables (L&R) if the bond is not quoted in active market; or

- HTM under FRS 32/39 if the bond is quoted in an active market.

However, if the entity’s business model is to hold the bond either to collect contractual cash flows or for sale, then the financial asset is accounted as measured at FVOCI financial asset.

Similar to AFS under FRS 32/39, gains or losses in the value of the financial asset – other than foreign exchange difference, interest revenue and credit impairment – are recognised in other comprehensive income and accumulated as a separate component of equity. On derecognition, the cumulative gains or losses previously recognised in other comprehensive income are reclassified as profit or loss.

An entity may irrevocably elect to account for financial assets that would otherwise be measured at amortised cost or FVOCI as financial assets measured at FVTPL, if such designation eliminates or significantly reduces a measurement or recognition inconsistency.

 

FVTPL Financial Assets

Lastly, the entity’s business model may hold the bond for trading purposes, i.e. with an objective to profit from short-term movements in price or dealer’s margin. In such a scenario, the financial asset is accounted as measured at FVTPL financial asset. Gains or losses in the value of the financial asset are recognised in the profit or loss statement. This classification and measurement is consistent with the accounting requirements of FRS 39 for FVTPL financial asset.

 

Implementation of FRS 109: Next Steps

Under the new standard, the same type of financial asset may be classified and measured in different ways, depending on the business model adopted. The key is to determine whether the cash flows arising from a financial asset represent solely payment of interest and principal. This requires good judgement and understanding of the financial reporting standards requirements.

Generally, FRS 109 requires retrospective application of the new accounting standard as a company transitions from FRS 32/39 to FRS 109. However, the new standard contains certain exemptions from the full retrospective application which would help to alleviate the difficulties in the initial adoption of the new standard. A good understanding of these exemptions would go a long way in ensuring a smooth and less painful compliance.

 

For more information on FRS 109, please contact Baker Tilly TFW professionals at +65 6336 2828.  

Ng Hock Lee

Written by Ng Hock Lee

Baker Tilly TFW Assurance partner Ng Hock Lee has nearly two decades of experience in public accounting and expertise in external audit and due diligences. He focuses on financial audits of multinationals and listed companies across a wide range of industries, such as, construction and engineering, trading and distribution, food and beverage, manufacturing, technology and services. Prior to Baker Tilly TFW, Hock Lee established his career at a 'Big Four' accounting firm, including an eighteen-month secondment to the United States where he earned his California CPA license. He then became audit partner with a local CPA firm. In addition to his role as Assurance Partner, he serves on the Auditing and Assurance Standards Committee of the Institute of Singapore Chartered Accountants.

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