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Section 11: Basic Financial Instruments.
11.2 Accounting policy choice.
11.2.1 Extract from FRS 102 Section 11.2-11.2A.
11.2.2 OmniPro comment – Accounting Policy Choice.
11.3 Scope of the Section 11 and Section 12.
11.3.1 Extract from FRS 102 Section 11.3, 11.5, 11.7 and Glossary to FRS 102.
11.3.2 OmniPro comment – Scope of Section 11.
11.3.2.1 Financial assets and liabilities not within the remit of Section 11 and 12.
11.4 Classification of financial instruments.
11.4.1 Extract from FRS 102 Section 11.6 and 11.8.
11.4.2 OmniPro comment – classification of financial instruments and scope (within Section 11 or 12)
11.4.2.2 – Investment in Shares.
11.5 Conditions for debt instruments to meet the definition of a basic financial instrument
11.5.1 Extract from FRS 102 Section 11.9.
11.5.2 OmniPro comment – basic financial instruments.
11.6 Initial and subsequent measurement of debt instruments.
11.6.1 Extract from FRS 102 Section 11.12-11.20.
11.6.1.2 Subsequent measurement
11.6.1.3 Amortised cost and effective interest method.
11.6.2.2 Short-term receivables/payable within one year
11.6.2.3 Transaction costs – definition/treatment
11.6.2.4 Effective interest rate calculation and amortised cost
11.6.2.4.1 Effective interest rate
11.6.2.4.3 Put or call options when calculating effective interest rate
11.6.2.4.4 Diagram 1 Rules for Accounting for basic financial instruments
11.6.2.4.5 – Financing Arrangement
11.6.2.4.6 Steps in determining the effective interest rate
11.6.2.4.7 Changes in cash flow estimates (amortised cost model)
11.6.2.4.8 Non market loans- inter-company loan / director’s loans
11.6.2.4.8.1 Determining the market rate of interest
11.6.2.4.8.2: Analysis of debt and credits on initial recognition of loans – financing arrangements.
11.6.2.4.9 Sales and purchases made under unusual credit terms – Debtors/creditors
11.6.2.4.11 Loans repayable on demand
11.6.2.4.12 Loan repayable on demand but with notice of 1 year and 1 day
11.6.2.4.15 Variable interest rate over the life of the loan
11.6.2.4.16 Issues surrounding directors or intra-group loans
11.6.2.4.16.1 Factors that indicate a related party loan is not at market rates.
11.7.1 Extract from FRS 102 Section 11.27-11.32.
11.7.2.1.2 Fair value hierarchy
11.8 Impairments of financial assets held at cost or amortised cost
11.8.1 Extract from FRS 102 Section 11.21-11.26.
11.8.2.1 Indicators of Impairment
11.8.2.2 Individual and group impairments.
11.8.2.3 Impairment debt instruments.
11.8.2.4 Reversal of Impairments.
11.8.2.5 Impairment of financial assets carried at cost
11.9 Derecognition of a Financial Asset
11.9.1 Extract from FRS 102 Section 11.33-11.35.
11.9.2 OmniPro comment – Decrecognition of Financial Assets.
11.10 Derecognition of financial liabilities.
11.10.1 Extract from FRS 102 Section 11.36-11.38.
11.6.2.4.5 Derecognition rules – overview
11.10.2.2 Derecognition of Financial Liability.
11.11.1 Extract from FRS 102 Section 11.38A.
11.11.2 OmniPro comment – Presentation – set off
11.12.1 Extract from FRS 102 Section 11.39-11.48A.
11.12.2.1 Disclosure requirements.
11.12.2.2 Sample Disclosure requirements.
11.12.2.2.1 Extract from accounting policy notes
11.12.2.2.2 Extract of notes to the financial statements – Financial instruments note disclosures
11.12.2.2.3 Extract of notes to the financial statements – interest disclosures.
11.12.2.2.3.1 Note: Interest receivable and similar income.
11.12.2.2.3.2 Note: Interest payable and similar expenses.
11.12.2.2.4 – Debtors Disclosures
11.12.2.2.5 – Creditors disclosures
11.12.2.2.7 Statement of Comprehensive Income
11.12.2.2.8 – Statement of Change in Equity
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The below extracts and guidance is applicable for periods beginning before 1 January 2019 and are based on the September 2015 version of FRS 102. For periods beginning on or after 1 January 2019, the March 2018 version of FRS 102 applies which incorporates the changes made by the Triennial review of FRS 102. Note the March 2018 version of FRS 102 can be voluntarily applies for periods beginning before 1 January 2019. For the extracts from the March 2018 version of FRS 102 and the related guidance please click on the following link. For details of a summary of the main changes as a result of the triennial review please see the following link.
11.5 Conditions for debt instruments to meet the definition of a basic financial instrument
11.5.1 Extract from FRS 102 Section 11.9
11.9 The conditions a debt instrument shall satisfy in accordance with paragraph 11.8(b) are:
(a) The contractual return to the holder (the lender), assessed in the currency in which the debt instrument is denominated, is:
(i) a fixed amount;
(ii) a positive fixed rate or a positive variable rate; or
(iv) a combination of a positive or a negative fixed rate and a positive variable rate (eg LIBOR plus 200 basis points or LIBOR less 50 basis points, but not 500 basis points less LIBOR).
(aA) The contract may provide for repayments of the principal or the return to the holder (but not both) to be linked to a single relevant observable index of general price inflation of the currency in which the debt instrument is denominated, provided such links are not leveraged.
(aB) The contract may provide for a determinable variation of the return to the holder during the life of the instrument, provided that:
(i) the new rate satisfies condition (a) and the variation is not contingent on future events other than:
- a change of a contractual variable rate;
- to protect the holder against credit deterioration of the issuer;
- changes in levies applied by a central bank or arising from changes in
- relevant taxation or law; or
(ii) the new rate is a market rate of interest and satisfies condition (a). Contractual terms that give the lender the unilateral option to change the terms of the contract are not determinable for this purpose.
(b) There is no contractual provision that could, by its terms, result in the holder losing the principal amount or any interest attributable to the current period or prior periods. The fact that a debt instrument is subordinated to other debt instruments is not an example of such a contractual provision.
(c) Contractual provisions that permit the issuer (the borrower) to prepay a debt instrument or permit the holder (the lender) to put it back to the issuer before maturity are not contingent on future events other than to protect:
(i) the holder against the credit deterioration of the issuer (eg defaults, credit downgrades or loan covenant violations), or a change in control of the issuer; or
(ii) the holder or issuer against changes in levies applied by a central bank or arising from changes in relevant taxation or law. The inclusion of contractual terms that, as a result of the early termination, require the issuer to compensate the holder for the early termination does not, in itself, constitute a breach of this condition.
(f) Contractual provisions may permit the extension of the term of the debt instrument, provided that the return to the holder and any other contractual provisions applicable during the extended term satisfy the conditions of paragraphs (a) to (c).
11.5.2 OmniPro comment – basic financial instruments
In relation to Section 11.9 (a) of FRS 102, the assessment needs to be completed in the currency of the financial asset or liability it was given or received. There is no requirement that interest is charged on the loan, however where it is charged it can only be a normal interest rate based on the value of the loan which is observable and interest may be a combination of a positive or a negative fixed rate and a positive variable rate.
Example 3: variable and fixed interest payments (Section 11.9 (a) of FRS 102)
A loan contract was issued which stated that the interest rate on the principal is calculated at 12 months LIBOR minus 3%.
In this particular case, this loan consists of a positive variable return (that being 12 month LIBOR) and a negative fixed return (i.e. 3%). Therefore, this meets condition (a) above.
Example 4: A zero coupon (Section 11.9 (a) (i) of FRS 102)
A loan contract was issued which stated that the interest rate on the principal is calculated at 12 months LIBOR plus 3%.
In this particular case, this loan consists of a variable return (that being 12 month LIBOR) plus a fixed return (i.e. 3%). Therefore, this meets condition (a) above.
Example 5: Fixed and variable interest payments (Section 11.9 (a) of FRS 102)
A loan contract was issued which stated that the interest rate on the principal is calculated at 12 months LIBOR plus 3%.
In this particular case, this loan consists of a variable return (that being 12 month LIBOR) plus a fixed return (i.e. 3%). Therefore, this meets condition (a) above.
Example 6: Fixed rate loan for a set period and then a reversion to the banks variable rate (Section 11.9 (a) (ii) and 11.9 (aA) of FRS 102)
For such a loan, as it meets the condition in 11.9 (a) (ii) and given that the variable rate is an observable interest rate, it is a permissible link. Also as the interest rate is a positive rate this meets the definition of a basic instrument.
Example 7: Fixed and variable interest payments where there a fixed positive return and a negative variable return (Section 11.9 (a) (iv) of FRS 102)
A loan contract was issued which stated that the interest rate on the principal is calculated at 10% less 12 months LIBOR.
For such a loan, the condition in 11.9(a)(i) of FRS 102 is satisfied however, condition 11.9(a)(iv) of FRS 102 is not as it is a negative variable rate.
Example 8: Loan/bond which is convertible into the borrower’s equity
For such a loan as there is an option to convert to equity it does not meet the definition of a basic instrument. An assessment would have to be made as to whether some of this comes within the remit of Section 22of FRS 102 Equity and Liabilities. The liability element may still come within the remit of Section 11 assuming there are no other unusual conditions attached which could bring it within the remit of Section 12.
Example 9: Loan issued which is linked to a general inflation index (Section 11.9 aA) of FRS 102
Such a loan is a basic financial instrument. However, if it is linked to an inflation index which is not general and instead is specific to market, it does not meet the definition of a basic instrument.
Example 10: Variation in return (Section 11.9 (aB) of FRS 102)
A loan stating that interest is payable at fixed rate of 2% for the first 2 years and 4% for the remain-ing 3 years. Such a loan is a basic instrument as it meets the requirement in 11.9 (aB) of FRS 102 i.e. the variation is not contingent on future events as it is explicitly stated from the start.
If in the above example the interest was fixed for the 5 years and then reverts to variable LIBOR rate, this is also determined to be basic financial instrument as it is in the contract, is determinable and not dependent on future contingencies.
Example 11: Prepayment options (Section 11.9 (c) of FRS 102)
A loan is issued which states that if repayment is made early, then penalties will be payable to the issuer to compensate them for a fall in interest rates since inception.
Such a clause would meet the basic financial instrument definition as the clause was included to pro-tect the issuer for early termination which is allowed as per Section 11.9(c).
Example 12: Loan extension option (Section 11.9 (AB) of FRS 102)
A loan is issued for 10 years at a rate of 3% which provides an option to the borrower to extend the loan for a further 3 years and at that point pay interest at a rate of LIBOR plus 1% at that time.
Given that the variation in return is contingent on the borrower extending the loan and given that the market rate of the loan cannot be known at that time, this does not meet the condition in 11.9(aB). In order for this condition to be met the loan agreement would have to specify that the interest rate charged on the loan after 10 years would be determined at that time. As a result, the loan is classed as complex and within the remit of Section 12. In this case under Section 12, the fair value of the op-tional exemption would have to be determined based on the facts at each reporting period and the movement posted to the profit and loss account assuming it is permitted to be fair valued under Company Law.
Example 12a: Unguaranteed Capital
Company A invested CU100,000 with a Bank. The return on this investment is linked to a particular fund performance on the stock exchange and the Capital is not guaranteed. As this investment is not capital guaranteed and as the return is variable and linked to the stock exchange it does not meet the definition of a basic financial instrument and therefore must be fair valued under the rules of Section 12.
Example 12b: Collective investment funds
Company A invested CU100,000 in a collective investment fund where the return depends on the per-formance of the fund and is capped at 20%.
As the return is not pre-determined and as the return is linked to the stock exchange it does not meet the definition in Section 11.9 of FRS 102 and therefore is considered a complex instrument and must be fair valued under Section 12 of FRS 102.
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Examples
Example 1: Investment in shares.
Example 2: Investment in shares – 15%.
Example 3: variable and fixed interest payments.
Example 5: Fixed and variable interest payments.
Example 6: Fixed rate loan for a set period and then a reversion to the banks variable rate.
Example 8: Loan/bond which is convertible into the borrower’s equity.
Example 9: Loan issued which is linked to a general inflation index.
Example 10: Variation in return.
Example 11: Prepayment options.
Example 12: Loan extension option.
Example 12a: Unguaranteed Capital
Example 12b: Collective investment funds.
Example 13: loan at market rates with transaction costs.
Example 13a: Change in estimate.
Example 14: Intercompany loan from a parent company.
Example 15: Loan provided to the company by a director
Example 16a: Intercompany loan from a related party or a fellow subsidiary.
Example 16b: Loan from subsidiary to the parent company.
Example 16c: Sale with unusual credit terms.
Example 16d: Purchase with unusual credit terms.
Example 17a: Loans repayable on demand..
Example 17b: Loan repayable on demand but with notice of 1 year and 1 day.
Example 18: Bonds – discount/premium.
Example 20: Impairment of debt instruments.
Example 20a: Bonds with an impairment
Example 21: Asset recognised due to settlement
Example 22: Sale of debtors with recourse.
Example 23: Sale of debtors without recourse.
Example 24: Transfer of assets at fair value subject to a call option.
Example 25: Substantial modification of a loan.
Example 26: Sample disclosure requirements
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