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Impairment of financial assets

Impairment of financial assets. Tentative decisions and Issues for discussion. Outline of presentation. Overview – replacement of IAS 39 Impairment framework Background – why change? Tentative IASB decisions FASB convergence Discussion points. Overview – replacement of IAS 39.

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Impairment of financial assets

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  1. Impairment of financial assets Tentative decisions and Issues for discussion

  2. Outline of presentation • Overview – replacement of IAS 39 • Impairment framework • Background – why change? • Tentative IASB decisions • FASB convergence • Discussion points

  3. Overview – replacement of IAS 39 Financial instruments: IAS 39 replacement project Phase 1: Classification and measurement Phase 2: Impairment Phase 3: Hedging

  4. Expected loss model Incurred loss model Impairment framework Impairment models   Available for sale Amortised cost At cost Proposed Current

  5. Background – why change? • Perceived weaknesses in IAS 39 highlighted by financial crisis • be more forward-looking and have earlier recognition of loan losses • complexities in multiple impairment models within IAS 39

  6. effective return on a financial asset current cash flow information + cash flows on initial recognition Tentative IASB decisionsObjective of impairment model Expected loss model Incurred loss model • actual return on a financial asset (objective evidence of a loss event) • actual cash flow information

  7. Tentative IASB decisionsComparison of impairment models Recoverable amount – IAS 36 Expected loss model • Lower of: • Fair value less costs to sell and • Value in use = present value of expected future cash flows • Expected cash flows, discounted by the effective interest rate(s) • Only test for impairment if there is an indicator • Only reverse impairment if there is a reversal of the indicator • Impairment indicators not used • No reference to change in indicators for impairment reversal

  8. Tentative IASB decisionsMeasurement principles PV of expected cash flows over the remaining life discounted at effective interest rate expected cash flows effective interest rate • Expected cash flows • Inputs into cash flow expectations: • - contractual terms • - additional fees • - credit loss: application guidance • to be provided • When to re-estimate cash flows? • Effective interest rate • Fixed rate instruments: • - at inception • Variable rate instruments: • - applicable spot rate + initial • effective spread

  9. Catch-up adjustment – adjustment to profit or loss that changes the carrying amount Consistent measurement principles – EIR is constant Consistent application to fixed rate instrument Tentative IASB decisions Application to variable rate instruments Issue: unwinding of amortised cost

  10. Tentative guidance • conventional provisioning methods • best estimate • prevent double counting • data source • adjusting historical data Tentative IASB decisionsPractical guidance Concerns Treatment of trade receivables Collective (portfolio) assessment Forecasting cash flows – what is expected loss

  11. Tentative IASB decisionsPresentation • Statement of comprehensive income • Statement of financial position – net carrying amount

  12. Tentative IASB decisionsDisclosure • Notes to the financial statement • mandatory use of allowance account (includes movements within the account) • comparison between development of credit loss allowance over time and cumulative write-offs • details that distinguish changes that are credit-related from those that are not credit-related • management’s assumptions and methodology on the expected cash flow approach • explanation of sensitivities of key assumptions and stress testing

  13. Available for early application Application to existing financial assets at initial recognition Tentative IASB decisionsExpected timeline and transitions IFRS Comments due Effective RFI ED 3 yrs Jun 2009 Nov 2009 June 2010 End 2010? 2013?

  14. FASB convergence Liaising with IASB, but on a different timeline Key measurement bases effectively the same – amortised cost and fair value Some differences remain

  15. Discussion points (1) Would an expected loss model necessarily lead to an overall earlier recognition of impairments?

  16. Discussion points (2) Is there a need for more consideration to be given to financial assets that are not loan receivables?

  17. Discussion points (3) (3A) Is there a case for using impairment indicators under an expected loss model? (3B) Is there a case for using indicators of impairment reversals?

  18. Discussion points (4) Would ‘probability of default’ based on a probability-weighted calculation be appropriate?

  19. Discussion points (5) An expected cash flow approach means that interest income is generated through the effective interest method – is this application practical?

  20. Discussion points (6) Transitional arrangements – assuming the proposals proceed, what should be the basis for transition: retrospective, prospective or some combination approach?

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