Sir David Tweedie
Chairman
International Accounting Standards Board
30 Cannon Street
London
EC4M 6XH
31 July 2009
Dear Sir David,
Derecognition (proposed amendments to IAS 39 and IFRS 7)
This is the British Bankers’ Association’s response to the above Exposure Draft. We welcome the
opportunity to comment. At the outset we wish to make clear our support for the collaborative way in
which this project has been progressed. Whilst we do hold reservations that the proposals are more
wide ranging than is necessary or appropriate in the context of a financial crisis related amendment,
we do welcome the decision to hold an interactive briefing session at the launch of the Exposure
Draft and more recently a comprehensive programme of Round Table discussions.
That being said, whilst we acknowledge the need for the IASB to respond to the G20 Leaders’
request that the accounting standards for off-balance sheet vehicles be improved and their views on
convergence, we do not agree with the scope of the changes proposed in the Exposure Draft. In our
view, it is the US GAAP consolidation and derecognition models which have been found to be
wanting by the financial crisis, not the IFRS ones. Although there may be certain elements of the
IFRS disclosure regime which could be strengthened we do not think it is appropriate or necessary
to pursue any fundamental changes to the IFRS model in the short-term. This is particularly true
given that the proposed changes would have a significant impact on current accounting, not least for
repos of readily obtainable assets which would be treated as sales rather than secured loans under
the new model. This treatment will see many repo transactions being taken off-balance sheet and
that treatment appears to be contradictory to the objective of the amendment which is to address
concerns about off-balance sheet activities and risks. The risks associated with repos remain with
the transferor.
FASB has developed proposals to rectify the weakness in its standards. Both Boards are
considering fundamental changes to financial instrument accounting. Thereafter, time can then be
taken to develop a new high-quality converged standard. Derecognition is a complex and important
issue and one where it is vital that the right conclusions are reached. Before any new standard could
be adopted, we believe that time would need to be taken to comprehensively field test the proposals.
Below we set out our views in relation to the specific questions posed in the Exposure Draft.
Question 1- Assessment of ‘the Asset’ and ‘continuing involvement’ at reporting entity level
Do you agree that the determination of the item (i.e. the Asset) to be evaluated for
derecognition and the assessment of continuing involvement should be made at the level of
the reporting entity (see paragraphs 15A, AG37A and AG47A)? If not, why? What would you
propose instead, and why?
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We agree that derecognition should be assessed at the reporting entity level, which is consistent
with the existing IAS 39 model. However, we suggest that field-testing should be undertaken to
ensure that the derecognition and consolidation models operate together as intended.
Question 2- Determination of ‘the Asset’ to be assessed for derecognition
Do you agree with the criteria proposed in paragraph 16A for what qualifies as the item (i.e.
the Asset) to be assessed for derecognition? If not, why? What criteria would you proposed
instead, and why?
As noted above, we do not see a case for a fundamental change to the derecognition model at this
time. That being said, we accept the approach proposed is very similar to the existing model, albeit
with new guidance, and agree the criteria proposed in 16A.
Question 3- Definition of ‘transfer’
Do you agree with the definition of a transfer proposed in paragraph 9? If not, why? How
would you propose to amend the definition instead, and why?
We agree with the reasoning in BC38 that the definition should be drawn broadly so as to ensure
that all transactions which economically are transfers are assessed for derecognition, no matter what
their form and therefore accept the definition. Notwithstanding this, we would expect this broader
definition to require many more transactions to be tested for derecognition. In turn, we would expect
this to lead to greater emphasis being placed on the derecognition tests. This makes it very
important that the tests reflect the underlying economics of the transaction without adding further
complexity. It also has unfortunate consequences for the scope of the disclosure requirements and
our concerns in this regard are set out in question 11.
Question 4- Determination of ‘continuing involvement’
Do you agree with the ‘continuing involvement’ filter proposed in paragraph 17A(b), and also
the exceptions made to ‘continuing involvement’ in paragraph 18A? If not, why? What would
you propose instead, and why?
We have significant reservations about this proposal, particularly the implications for repos. As we
understand the proposal, it will require some repurchase contracts to be treated as sales rather than
as secured loans as at present. This will have a fundamental impact on existing accounting and will
not represent the substance of the transactions, i.e. secured borrowing. We therefore believe that
this issue should be explored in more detail before adoption. In particular, the decision to eliminate
the ‘substantially all the risks and rewards’ test should be reconsidered. In our view, the financial
turmoil has not identified that the assessment of risks and rewards was a weakness of the current
derecogntion model and we strongly believe that abandoning the current model in the current
environment is inappropriate. The 28 July 2009 report of the Financial Crisis Advisory Group in
broad terms recommends that off-balance sheet issues and the more transparent depiction of the
risks associated with complex financial instruments be addressed by the Board.
Question 5- ‘Practical ability to transfer for own benefit’ test
Do you agree with the proposed ‘practical ability to transfer’ derecognition test in paragraph
17A(c)? If not, why? What would you propose instead, and why?
Do you agree with the ‘for a transferee’s own benefit’ test proposed as part if the ‘practical
ability to transfer’ test in paragraph 17A(c)? If not, why? What would you propose instead,
and why?
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We do not support the practical ability to transfer test proposed in paragraph 17A(C) as it focuses on
the proceeds of a transfer rather than on control over the asset or access to its cash flows. Further,
whilst we acknowledge that the test is substantially similar to the arrangements under IAS 39 for
assessing transfer of control, we are concerned that the test is intended to play a more pivotal role in
the new derecognition model and that this therefore amplifies its weaknesses. As above, we see a
case for the Board to reconsider this issue.
Question 6- Accounting for retained interests
Do you agree with the proposed accounting (both recognition and measurement) for an
interest retained in a financial asset or group of financial assets in a transfer that qualifies for
derecognition (for retained interest in a financial asset or group of financial assets see
paragraph 21A; for an interest in a financial asset or group of financial assets retained
indirectly through an entity, see paragraph 22A)? If not, why? What would you propose
instead, and why?
We agree that it is logical for the retained interest to be accounted for on the same basis as was the
whole immediately prior to derecognition.
However, we share the concern expressed in the Alternative View with regard to the operability of
paragraph 22A. In many instances we do not believe that the transferor will have the necessary
information about the assets and liabilities held by the transferee.
Question 7- Approach to derecognition of financial assets
Having gone through the steps/tests of the proposed approach to derecognition of financial
assets (Question 1-6), do you agree that the proposed approach as a whole should be
established as the new approach for determining the derecognition of financial assets? If
not, why? Do you believe that the alternative approach set out in the alternative views should
be established as the new derecognition approach instead, and if so, why? If not, why?
What alternative approach would you propose instead, and why?
As described above, we believe the proposed approach has significant short comings, particularly in
relation to the weaknesses of continuing involvement and practical ability to transfer tests and the
impact we believe the proposals will have on repos. Furthermore, whilst we would be content to
consider the Alternative Approach as a longer-term solution, we do not believe that it would be
appropriate to make such a significant change in the context of a financial turmoil related project,
which has been fast tracked straight to the Exposure Draft stage.
This therefore leaves us in the position of favouring the retention of the existing model, but with
incremental improvements. These could include the incorporation of the wording of paragraph 15A
regarding the determination of the level at which the instrument should be assessed for
derecognition and some target improvements to the disclosure regime as discussed in response to
question 11.
Ideally a more fundamental change should be contemplated only in the context of a new, joint
exposure draft issued by both the IASB and FASB.
Question 8- Interaction between consolidation and derecognition
In December 2008, the Board issued an exposure draft ED 10 Consolidated Financial
Statements. As noted in paragraphs BC28 and BC29, the Board believes that its proposed
approach to derecognition of financial assets in this exposure draft is similar to the approach
proposed in ED10 (albeit derecognition is applied at the level of assets and liabilities,
whereas consolidation is assessed at the entity level). Do you agree that the proposed
derecognition and consolidation approaches are compatible? If not, why? Should the Board
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consider any other aspects of the proposed approaches to derecognition and consolidation
before it finalises the exposure drafts? If so, which ones, and why? If the Board were to
consider adopting the alternative approach, do you believe that that approach would be
compatible with the proposed consolidation approach?
Whilst we agree that symmetry between the consolidation and derecognition models is desirable, we
do not believe it is essential. That being said, we are not convinced by the statement in BC28 that
‘the proposed derecognition approach for financial assets is similar to the approach by the Board in
the recently published exposure draft ED 10’. In our view, there are both similarities – the definitions
of control – and differences – for example ED10 requires the control criteria to be evaluated on the
controlling entity side whereas these proposals require control to be evaluated on the transferee side
as soon as there is continuing involvement. In terms of whether or not the two sets of proposals are
compatible, we would suggest that the only way of determining this would be to conduct further fieldtesting which considers whether that testing produces a consistent outcome. We have concerns that
ED 10 did not adequately address SPVs/structured entities which is commonly encountered with
many derecognition scenarios.
Question 9- Derecognition of financial liabilities
Do you agree with the proposed amendments to the principle for derecognition of financial
liabilities in paragraph 39A? If not, why? How would you propose to amend that principle
instead, and why?
The definition of a liability in the Framework requires (as noted in BC89) there to be both a present
obligation and that the settlement of that obligation should result in the outflow of resources
embodying economic benefits from the entity. The Basis of Conclusions does not make clear what
effect the Board expects this difference to have in practice, it would be helpful if this were to be
considered. For example, legal extinguishment is required before an instrument (such as a dormant
bank account) can be derecognised under the existing IAS 39 provisions. Do the proposals mean
that liabilities will be derecognised which do not have a present obligation even if they have not been
legally extinguished?
Question 10- Transition
Do you agree with the proposed amendments to the transition guidance in paragraphs 106
and 107? If not, why? How would you propose to amend that guidance instead, and why?
Whilst we generally believe in retrospective application to maintain comparability of financial
statements, we agree with the Board’s decision in this instance to prospectively apply the proposals
to new transactions occurring after the effective date. These proposals would be very difficult and
costly to implement; indeed, we question whether it would be possible to obtain information
pertaining to financial assets held by transferees which are no longer under the preparer’s control..
The disclosures are likely to be difficult to do and unlikely to be meaningful and therefore we
question whether they would pass a cost/benefit test.
Question 11- Disclosures
Do you agree with the proposed amendments to IFRS 7? If not, why? How would you
propose to amend those requirements instead, and why?
In our view, disclosure is the key issue to be addressed through a crisis-related project. We agree
that some users of financial statements did not fully understand the nature or extent of some of the
risks that entities were exposed to and, as the financial crisis developed, did not understand why
assets and liabilities which had previously been derecognised were re-consolidated. It is therefore
appropriate for the IASB consider whether improvements can be made to the understandability of
disclosures.
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In our view, the IASB should propose disclosures which enable users to assess and evaluate the
nature and extent of exposures arising from financial instruments as well as information about the
key judgements made by management when preparing the financial statements. In our view, all
financial instruments should be considered together and we are not convinced that separate
disclosure of some financial instruments is providing relevant and understandable information. The
wording of paragraph 42B (“The entity shall disclose information that enables users of its financial
statements to understand the relationship between those assets and associated liabilities after the
transfer”) and 42C meet sensible objectives about explaining transfers. Other more detailed
disclosures which follow in 42B (a) to (c) and 42D and read as checklists seem excessive and
unlikely to be of much assistance to users as well as being difficult to obtain. We would prefer these
to be replaced by more general principles, which require an entity to carefully consider the
information it should disclose. This is the way to achieving higher quality information and would
ensure that any new requirements are compatible with and incorporated into the existing disclosures
required by IFRS 7.
Yours sincerely,
Paul Chisnall
Executive Director
Direct Line: 020 7216 8865
E-mail: paul.chisnall@bba.org.uk
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