Impairment of financial assets

Tentative decisionsand

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

Financial instruments:

IAS 39 replacement project

Phase 1: Classification and

measurement

Phase 2: Impairment

Phase 3: Hedging

Impairment models

Available for sale

Impairment framework

Amortised cost At cost

Expected loss model

Incurred loss model

ProposedCurrent

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

Tentative IASB decisionsObjective of impairment model

• effective return on a financial asset

• current cash flow information + cash flows on initial recognition

Expected loss model Incurred loss model• actual return on a financial

asset (objective evidence of a loss event)

• actual cash flow information

Tentative IASB decisionsComparison of impairment models

Recoverable amount – IAS 36

• Lower of:• Fair value less costs to sell

and• Value in use = present value

of expected future cash flows

Expected loss model• 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

Tentative IASB decisionsMeasurement principles

PV of expected cash flows over the remaining life discounted at 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

expected cash flowseffective interest rate

Tentative IASB decisions Application to variable rate instruments

• 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

Issue: unwinding of amortised cost

Tentative IASB decisions Practical guidance

Treatment of trade receivables

Collective (portfolio)

assessment

Forecasting cash flows – what is expected loss

• conventional provisioning

methods

• best estimate • prevent double

counting

• data source• adjusting

historical data

Tentative guidanceConcerns

Tentative IASB decisionsPresentation

$

Interest revenue based on contractual cash flows XXX

Less Allocation of initial expected losses X

Net interest revenue XX

Changes in expectations (i.e. additional impairment charges or reversals) Y

• Statement of comprehensive income

• Statement of financial position – net carrying amount

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

Tentative IASB decisionsExpected timeline and transitions

• Available for early application• Application to existing financial assets at initial recognition

2013?June 2010

End 2010?

Jun 2009

Nov 2009

RFI EDComments

due Effective3 yrsIFRS

FASB convergence

Liaising with IASB, but on a different timeline

Key measurement bases effectively the same – amortised cost and fair value

Some differences remain

Discussion points (1)

Would an expected loss model necessarily lead to an overall earlier recognition of

impairments?

Discussion points (2)

Is there a need for more consideration to be given to financial assets that are not loan

receivables?

(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?

Discussion points (3)

Discussion points (4)

Would ‘probability of default’ based on a probability-weighted calculation be

appropriate?

Discussion points (5)

An expected cash flow approach means that interest income is generated through the

effective interest method – is this application practical?

Transitional arrangements – assuming the proposals proceed, what should be the

basis for transition: retrospective, prospective or some combination

approach?

Discussion points (6)