F or most accountants without specialised technical experience, IAS 39 is generally regarded as one of the most daunting accounting standards to apply in practice. IAS 39 has been with us for a number of years now, yet it is arguably the one accounting standard that continues to cause the most headaches for accounting practitioners. IAS 39 was first issued in March 1999 by the then International Accounting Standards Committee, and the standard was subsequently inherited by the successor standard setting body, the International Accounting Standards Board (IASB). Throughout its existence over the last decade, the standard has undergone countless revisions and amendments by both bodies, and compared to other accounting standards, it is probably the one of the most amended and revised standard in the entire body of IFRSs. The main reason for these frequent changes is that IAS 39 is perceived to be a very complicated standard. Whether this is because of the standard itself, or rather the underlying subject matter of the standard is a topic that has caused considerable debate, but the fact remains that IAS 39 in its current form remains a standard that is difficult to understand, apply and interpret. The IASB's project to overhaul the standards dealing with financial instruments began some time ago, and one of the first major steps in this project was the issuing of IFRS 7 in August 2005. IFRS 7 replaced IAS 30 and most of IAS 32 , but apart from various 'patch-up' amendments and revisions, the basic principles in IAS 39 remained unchanged. Even now that the IASB’s project to overhaul the recognition and measurement standard for financial instruments is finally underway, the process is nowhere near complete. The issuing of IFRS 9 during November 2009 was the first step in what will be a lengthy process. The ultimate plan is for IFRS 9 to completely replace IAS 39, but in the meantime, thefirst phase of IFRS 9 that was issued in November 2009 deals only with the classification and measurement of financial assets. The remaining aspects dealing with the classification, recognition, and measurement of other financial instruments will be completed on a piecemeal basis, and as each phase is completed, new chapters will be created in IFRS 9 and the replaced portions of IAS 39 will cease to be effective. The IASB's original intention was to have completed this process by the end of 2010, but at the time of writing this article, it appears as if a date some time in 2011 is more likely. The spirit of IFRS 9 Part of IAS 39's perceived complexity arose from the numerous categories of financial instruments, and the myriad of rules applicable to each category. This was further exacerbated by the fact that many entities were forced into accounting for certain financial instruments a particular way as a result of the financial instruments falling into various categories purely by virtue of their nature and the definitions applicable to those categories. This was despite the fact that the entity would have had no intention of dealing with the financial instruments in such a manner. In contrast to the very rulesoriented IAS 39, IFRS 9 follows a more principles-based approach, especially with regard to the classification and measurement of financial assets. In terms of IFRS 9, all financial assets are to be: ! • on the basis of the entity's "#$ %&! for managing the financial assets and the contractual cash flow characteristics of the financial asset ! ' • $ ( % #) at ) * # plus, in the case of a financial asset not at fair value through profit or loss, particular transaction costs ' • #" +# $ ( % #) ! either at %&)' ! &' ) or * # , depending on the nature of the instrument at hand. This is covered below. The IASB's ultimate aim is for a single impairment method for financial instruments (although the impairment phase of IFRS 9 is not yet complete). Scope IFRS 9 applies to all financial assets that presently fall within the scope of IAS 39. Defined terms At this point, IFRS 9 applies the same definitions as currently exist in IAS 32 and IAS 39, and in fact continues to refer to those standards directly. Once those standards are completely replaced, it is the scope paragraphs and the definitions will be incorporated into IFRS 9. The only new defined term in IFRS 9 relates to the definition of 'reclassification date', which is the first day of the first reporting period following the change in business model that results in an entity reclassifying financial assets (more on reclassification later). Initial recognition of financial assets The initial recognition of financial assets under IFRS 9 is very similar to that of IAS 39. An entity recognises a financial asset in its statement of financial position when it becomes party to the contractual provisions of the instrument. Regular way purchases or sales of financial assets continue to be accounted for in accordance with IAS 39.* Classification of financial assets Effectively, three classifications exist: Financial assets at amortisedcost * A regular way purchase or sale is a purchase or sale of a financial asset under a contract whose terms require delivery of the asset within the time frame established generally by regulation or convention in the marketplace concerned. This refers to a situation where there may be a compulsory timing difference between the point in time when the entity commits to the purchase or sale of a financial asset and the eventual delivery of the asset. for this classification, both of the following conditions must be met: the asset is held within a business model whose objective is to hold assets in order tocollect contractual cash flows AND the contractual terms of the financial asset give rise on specified dates to cash flows that are solely payments of principal and interest on the principal amount outstanding (The standard provides detailed guidance on how to interpret and apply these conditions) Financial assets at fair value this classification applies to all financial assets that do not meet both of the conditions forfinancial assets at amortised cost above Financial assets designated at fair value through profit or loss This classification is available at initial recognition if doing so will eliminate or significantlyreduce a measurement or recognition inconsistency (also known as an 'accounting mismatch') that would otherwise arise from measuring assets or liabilities or the gains and losses from these on different bases (this particular rule is basically the same as its current equivalent inIAS 39, and the standard actually directly refers to IAS 39 in this regard). Embedded derivatives If a hybrid contract contains a host that is within the scope of IFRS 9, the classification requirements ofIFRS 9 are applied to the entire hybrid contract without the need for separation of the embedded derivative from the host contract. If a hybrid contract contains a host that is not within the scope of IFRS 9, an entity should apply IAS39to determine whether the embedded derivative must be separated fromthe host. If separation is necessary, the derivative is classified in accordance with either IFRS 9 or IAS39, and the host is accounted for in accordance with the applicable IFRS. Reclassification Reclassification may only occur when an entity changes its business model for managing financial assets. Where such reclassification is deemed necessary, any changes to be made are only permissible with effect from the beginning of the next financial period. This is to avoid situations where entities would manipulate the accounting for their financial instruments to achieve a particular financial effect. Initial measurement Initial measurement of all financial assets is at fair value plus, in the case of financial assets $&' at fairvalue through profit or loss, transaction costs that are directly attributable to the acquisition of thefinancial assets. For items that are carried at fair value through profit or loss, any transaction costs are expensed at acquisition. Subsequent measurement Subsequent measurement of financial assets is either at fair value or amortised cost, depending on theclassification of the financial assets. Financial assets at amortised cost are subject to the impairment requirements of IAS 39. Financial assets that are designated hedged items are subject to the hedge accounting requirements ofIAS 39. Measurement on reclassification Reclassification is applied prospectively from the reclassification date. Restatement of previouslyrecognised gains, losses or interest is prohibited. If a financial asset is reclassified from amortised cost to fair value, its fair value is determined at thereclassification date. Any gain or loss arising from a difference between the previous carrying amountand the fair value is recognised in profit or loss. If a financial asset is reclassified from fair value to amortised cost, its fair value at reclassification datebecomes its new carrying amount. Gains and losses A gain or loss on a financial asset measured at fair value that is not part of a hedging relationship isrecognised in profit or loss, unless the financial asset is an investment in an equity instrument and theentity has elected to present gains and losses on that investment in other comprehensive income. A gain or loss on a financial asset measured at amortised cost that is not part of a hedging relationship isrecognised in profit or loss when the financial asset is derecognised, impaired or reclassified, andthrough the amortisation process. Gains or losses on financial assets that are hedged items are accounted for in accordance with IAS 39. Gains or losses on financial assets that are accounted for using settlement date accounting are accounted for in accordance with IAS 39. that thetransitional provisions permit otherwise. However, it must not be applied to financial assets that havealready been derecognised at the date of initial application. The transitional provisions are very detailed,and will not be covered in this article. Investments in equity instruments At initial recognition, an entity may make an irrevocable election to present in other comprehensiveincome subsequent changes in the fair value of an investment in an equity instrument within the scopeof IFRS 9 that is not held for trading (i.e. long term investments in equity instruments). If such anelection is made, dividends from these investments are recognised in profit or loss when the entity'sright to receive payment of the dividend is established, in accordance with IAS 18 Revenue. It must, however, be noted that any gains and losses recognised in other comprehensive income will not be recycled on disposal of the investment and, as such, this will ultimately have an impact on the earnings per share and headline earnings per share calculations of the entity. Application guidance IFRS 9 is accompanied by detailed application guidance. Due to the detailed nature of this guidance, itwill not be covered in this summary. Effective date IFRS 9 must be applied for annual periods beginning on or after 1 January 2013. Early application is permitted. If an entity early-adopts IFRS 9, that fact must be disclosed. Transitional provisions IFRS 9 must be applied retrospectively, in accordance with IAS 8, except to the extent Conclusion Based on the fact that IFRS 9 presently deals only with financial assets, and considering the numerouscross-references to the very standard that it is intended to replace (IAS 39), it is clear that IFRS 9 is verymuch a work in progress at this point. By the time the IASB’s remaining projects on overhauling financialinstruments are finally completed, it is possible that the version of IFRS 9 covered in thissummary may have been amended extensively. However, it must be acknowledged that, in its current form,IFRS 9 has taken some positive steps in adopting a more principles-based approach in accounting forfinancial assets as compared to its predecessor. &#' ' #'&) " Blaise Colyvas (CA(SA), RA) is a technical director at W.consulting. His areas of expertise include IFRS/SA GAAP, IFRS for SMEs, and GRAP. He provides technical consulting services and training to the firm’s clients on these frameworks. This article summarises the most important aspects of IFRS 9 Financial Instruments and should not be utilised as a substitute for the actual standard. The summary and/or opinions expressed are those of the author and do not constitute official views of W.consulting. No party may rely upon the accounting opinions expressed during this article for any purpose whatsoever. W.consulting, its directors, employees and agents shall not be liable to anyone in respect of any reliance placed on information received from or views expressed during this seminar. Should you wish to obtain an official view on a specific issue or structure, please contact W.consulting and we will be happy to assist you once the specific facts and circumstances of your query have been fully understood. All rights reserved. No part of this publication may be translated, reprinted or reproduced in any form either in whole or in part or by any electronic, mechanical or other means, including photocopying without prior permission in writing from W.consulting©