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Contents
12.1 Deciding what instruments come within the scope of section 12.
12.2 Accounting policy choice.
12.2.1 Extract from FRS 102-Sections 12.2–12.2A.
12.2.2.1 What is the accounting policy choice?
12.2.2.2 What accounting policy to choose for an entity.
12.3.1 Extract from FRS 102-Section 12.3–12.5.
12.3.2.1 Items excluded from Section 12 of FRS 102:
12.3.2.2 Items coming within the scope of Section 12 of FRS 102.
12.3.2.2.1.1 Unguaranteed Capital and variation in return linked to a fund.
12.3.2.2.1.2 Collective investment funds.
12.3.2.2.1.3 Loan extension option where rate on the extension is determined at inception.
12.3.2.2.1.5 Variation in return which is dependent on future contingencies.
12.2.2.2.1.7 Investments with profit bonds.
12.3.2.2.1.8 Loans which are linked to value of net assets.
12.3.2.2.1.9 Loan repayments linked to repayments on another loan or tranche of a loan.
12.3.2.2.1.12 Leases with non-standard contractual terms.
12.3.2.2.1.13 Contingent consideration for the seller.
12.3.2.2.1.14.1 The own use exemption.
12.3.2.2.1.16 Warrants that can be settled in cash or in exchange for another financial instrument;
12.3.2.2.1.19 Repurchase agreements;
12.3.2.2.1.20 Compound financial instruments.
12.3.2.2.1.21 A firm commitment which is contractually binding.
12.3.2.2.1.22 Where the variable rate on a loan is leveraged.
12.3.2.2.1.23 Where a bond has a negative yield.
12.4 Initial recognition and subsequent measurement of financial assets and liabilities.
12.4.1 Extract from FRS 102-Section 12.6-12.9.
12.4.2.2 Subsequent recognition.
12.4.2.2.1 Subsequent recognition – General.
12.4.2.2.1.1.1 Financial instruments not permitted to be fair valued under Company Law.
12.4.2.2.1.1.1.1 The accounting treatment where this exception applies.
12.4.2.2.1.1.2.1 The accounting treatment where this exception applies.
12.4.2.2.1.1.3 Where hedge accounting is applied.
12.4.2.2.2 Financial instruments not permitted to be fair valued under Company Law.
12.4.2.2.2.1.1 Financial instruments permitted to be fair valued under Company Law.
12.4.2.2.2.1.1.2.2 Derivative financial instrument.
12.4.2.2.2.1.1.2.2.1 Derivative – defined.
12.4.2.2.2.1.1.2.2.1.1 Examples of Derivatives.
12.4.2.2.2.1.1.2.3 Eliminate an accounting mismatch.
12.4.2.2.2.1.1.2.4 Instrument contains an embedded derivative that is not closely related.
12.4.2.2.2.1.1.2.4.0 Overview.
12.4.2.2.2.1.1.2.4.2 Embedded derivative defined.
12.4.2.2.2.1.1.2.4.3 Identify whether the embedded derivative is or is not closely related.
12.4.2.2.2.1.1.2.4.3.1 Examples where the embedded derivative is not closely related.
12.4.2.2.2.1.1.2.4.3.2 Examples where the embedded derivative is closely related.
12.5.1 Extract from FRS 102 section 12.10 – 12.12.
12.5.2.1 The fair value model to utilise.
12.5.2.2 The fair value of a financial instrument due on demand.
12.5.2.3 Transaction costs and fair value.
12.5.2.4 Examples of fair valuation techniques for complex instruments.
12.5.2.5 Deferred tax and the fair value adjustments.
12.5.2.5.1 Deferred tax and fair value adjustments where they relate to trade assets/liabilities.
12.5.2.5.3 Deferred tax where hedge accounting is applied.
12.5.2.6 Examples of fair valuing financial instruments where market rates are not available.
12.5.2.7 Foreign currency forward contracts.
12.5.2.7.2 Accounting for forward foreign currency contracts – non hedging – Examples.
12.5.2.7.3 Accounting for interest rate swaps – non hedging – Examples.
12.6 Impairment of financial instruments measured at cost or amortised cost.
12.6.1 Extracts from FRS 102 – section 12.3.
12.7 Derecognition of a financial asset or financial liability.
12.7.1 Extract from FRS 102 – section 12.14.
12.7.2.1 Non-hedged instruments.
12.8.1 Extract from FRS102 section 12.15 – 12.17C.
12.8.2.2 Hedged item – defined.
12.8.2.3 Hedging instrument – defined.
12.8.2.4 Purpose of hedge accounting.
12.8.2.5 What can be hedged under hedge accounting?
12.8.2.6.1 Firm commitment – Defined.
12.8.2.6.2 Classification of Firm commitments as a hedge – fair value or cash flow hedge?
12.8.2.6.3 The exception for fair valuing firm commitments – Own use exception to fair value.
12.8.2.6.4 Determining the fair value of a commitment.
12.8.2.7 Forecast transaction.
12.8.2.7.1 Forecast transaction – Defined.
12.8.2.7.2 Forecast transaction – Indicators that such a transaction exists.
12.8.2.8 Intra-group hedging & when hedge accounting can be applied.
12.8.2.8.1 Intra-group hedging – Example.
12.9 Grouping of items as hedged items.
12.9.1 Extract from FRS102-Section 12.16B.
12.10 Hedging a component of an item.
12.10.1 Extract from FRS102-Section 12.16C.
12.10.2.2 Examples illustrating hedging a component of an item.
12.10.2.2.1 Hedging with a forward contract where contract is less than the probable sale amount.
12.10.2.2.2 Hedging part payments.
12.10.2.2.3 Hedging part payments.
12.11.1 Extract from FRS102-Section 12.17-12.17C.
12.11.2.1 What instruments can be classified as a hedging instrument?
12.11.2.2 Portion of a hedging instruments.
12.11.2.3 Instrument used to hedge a foreign currency risk.
12.11.2.4.1 What is an option and what is a written option?
12.11.2.4.2 Determining the fair value of an option and using it as a hedging instrument.
12.12 Conditions for hedge accounting.
12.12.1 Extract from FRS102-Section 12.18-12.18A.
12.12.2.1 When can hedge accounting be applied from and conditions must be met?
12.12.2.2 What is an economic relationship?
12.12.2.3 Designation and documentation.
12.12.2.4 Causes of hedge ineffectiveness.
12.12.2.4.2 Example of hedge ineffectiveness documented for an interest rate swap.
12.13 Accounting for qualifying hedging relationships.
12.13.1 Extract from FRS102-Section 12.19-12.19A.
12.13.2.1 The three types of hedge relationships for hedge accounting.
12.14.1 Extract from FRS102 – Section 12.19B-12.22.
12.14.2.1 What is a fair value hedge and what does it do?
12.14.2.2 The accounting for a fair value hedge.
12.14.2.2.1 Examples of fair value hedges and the accounting for same.
12.14.2.2.1.1 Fixed interest rate on a debt instrument (financial instrument).
12.14.2.2.1.1.1 Amortised cost on cessation of hedging where financial instrument exists.
12.14.2.2.1.2 Firm commitment not recognised on balance sheet.
12.14.2.2.1.3 Hedge of a foreign currency risk of an unrecognised firm commitment.
12.15.1 Extract From FRS 102 – Section 12.22(b) and 12.23.
12.15.2.1 Cash flow hedge defined.
12.15.2.2 Accounting for cash flow hedges – hedge accounting.
12.15.2.3 Examples of cash flow hedge accounting.
12.15.2.3.1 Forward contract for a probable forecasted sale.
12.15.2.3.1.1 Forward contract for a probable forecasted sale.
12.15.2.3.1.2 Forward contract for a probable forecasted purchase.
12.15.2.3.2 Hedge of variability in cash flows in a floating rate loan due to interest rate risk.
12.15.2.3.2.1.1 Fair valuing an interest rate swap.
12.15.2.3.2.3 Hedge of variability in cash flows in a floating rate loan due to interest rate risk.
12.16 Hedges of a net investment in a foreign operation.
12.16.1 Extract from FRS 102 Section 12.24.
12.16.2.1 Net investment in a foreign operation defined.
12.16.2.2 When can a net investment in a foreign operation be hedged?
12.16.2.3 What is the hedged item and instrument in a net investment in a foreign operation?
12.17 Discontinuing hedge accounting.
12.17.1 Extract from FRS102 Section 12.25 to 12.25A.
12.17.2.2 When can/must hedge accounting be discontinued and is it applied retrospectively.
12.17.2.2.1 Fair value hedge and discontinuance rules.
12.17.2.2.2 Cash flow hedge and discontinuance rules.
12.17.2.2.3 Net investment in a foreign operation hedge and discontinuance rules.
12.17.2.2.4 Examples of discontinuance.
12.18 Taxation of fair valuing derivatives – current and deferred tax.
12.19.1 Extract from FRS102-Section 12.25B.
12.20.1 Extracts from FRS 102 section 12.26 – 12.29.
12.20.2.2 Sample Disclosure requirements.
12.20.2.2.1 Extract from accounting policy notes.
12.20.2.2.2 Extract of notes to the financial statements – Financial instruments note disclosures.
12.20.2.2.3 Extract of notes to the financial statements – interest disclosures.
12.20.2.2.3.1 Note: Interest receivable and similar income.
12.20.2.2.3.2 Note: Interest payable and similar expenses.
12.20.2.2.4 – Debtors Disclosures.
12.20.2.2.5 – Creditors disclosures.
12.20.2.2.7 Statement of Comprehensive Income.
12.20.2.2.8 – 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.
12.2 Accounting policy choice
12.2.1 Extract from FRS 102-Sections 12.2–12.2A
12.2 An entity shall choose to apply either:
(a) the provisions of both Section 11 and Section 12 in full; or
(b) the recognition and measurement provisions of IAS 39 Financial Instruments: Recognition and Measurement (as adopted for use in the EU), the disclosure requirements of Sections 11 and 12 and the presentation requirements of paragraphs 11.38A or 12.25B; or
(c) the recognition and measurement provisions of IFRS 9 Financial Instruments and/or IAS 39 (as amended following the publication of IFRS 9) subject to the restriction in paragraph 12.2A, the disclosure requirements of Sections 11 and 12 and the presentation requirements of paragraph 11.38A or 12.25B;
to account for all of its financial instruments. Where an entity chooses (b) or (c) it applies the scope of the relevant standard to its financial instruments. An entity’s choice of (a), (b) or (c) is an accounting policy choice. Paragraphs 10.8 to 10.14 contain requirements for determining when a change in accounting policy is appropriate, how such a change should be accounted for and what information should be disclosed about the change in accounting policy.
12.2A An entity, including an entity that is not a company, that has made the accounting policy choice in paragraph 12.2(c) to apply the recognition and measurement provisions of IFRS 9 shall depart from those provisions of IFRS 9 as follows: A financial asset that is not permitted by the Small Companies Regulations, the Regulations, the Small LLP Regulations or the LLP Regulations to be measured at fair value through profit or loss shall be measured at amortised cost in accordance with paragraphs 5.4.1 to 5.4.4 of IFRS 9.
12.2.2 OmniPro comment
12.2.2.1 What is the accounting policy choice?
On transition to FRS 102, Section 12.2 of FRS102 provides an accounting policy choice to either:
- Apply the recognition, measurement and hedge accounting requirements of IAS 39 or IFRS 9 (which are IRFS standards) with Section 11 and Section 12 disclosures; or
- Apply the recognition, measurement and hedge accounting requirements of Section 11 and Section 12.
12.2.2.2 What accounting policy to choose for an entity
Consideration should be given as to what suits a company. In reality for small to medium companies it might make sense to adopt Section 11 and Section 12 for the following reasons:
- No concept of embedded derivatives which can cause complex accounting issues;
- Hedge accounting is simpler under Section 12 than IAS 39 and IFRS 9 and the requirements are not as stringent; and
- When assets are assessed individually for impairment they do not have to be reassessed as part of a group of assets.
An entity might apply IAS39 or IFRS9 for the following reasons:
- IAS39 does not require temporary impairments to be recognised (Section 11 of FRS 102 does)
- Certain items that do not meet the definition of a basic instrument under Section 11 (i.e. the requirements of Section 11.8 of FRS102) would need to be fair valued under Section 12 rules, however that same instrument could be held at amortised cost under IAS39 / IFRS9
Careful consideration should be given as if an entity changes the standard under which it accounts for financial instruments this would constitute a change in accounting policy and therefore a prior year adjustment would be required, and all of the disclosures in Section 10 of FRS 102 would be required as detailed at 10.7.2.
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Examples
Example 1: Unguaranteed Capital and variation in return linked to a fund.
Example 2: Collective investment funds.
Example 3: Loan extension option (Section 11.9 (AB) of FRS 102).
Example 5: Variation in return (Section 11.9 (aB) of FRS 102).
Example 6: Prepayment options (Section 11.9 (c) of FRS 102.
Example 6a: Investments held at fair values – market rates available.
Example 6b: Fair valuing complex financial instruments where no active market available.
Example 6c: Fair valuing complex financial instruments where no active market available.
Example 6d: Fair valuing complex financial instruments where no active market available.
Example 8: Foreign currency forward contract to hedge a sale.
Example 9: Foreign currency forward contract to hedge a future purchase.
Example 10: Interest rate swap – non hedge accounting.
Example 11: Hedging in a group context.
Example 13: Hedging with a forward contract where contract is less than the probable sale amount.
Example 14: Hedging part payments.
Example 15: Hedging part payments.
Example 16: Partial term hedging.
Example 17: Portion of a hedging instruments.
Example 19: Forward contract option.
Example 22: Hedge of a foreign currency risk of an unrecognised firm commitment.
Example 23: Forward contract for a probable forecasted sale.
Example 24: Probable forecasted purchase of equipment.
Example 26: Fair valuing an interest rate swap.
Example 27: Hedge of variability in cash flows in a floating rate loan due to interest rate risk.
Example 28: Net investment in a foreign operation (Extracted from Appendix to Section 12 of FRS 102.
Example 29: Discontinuance of a cash flow hedge – forecasted sale/purchase.
Example 30: Cash flow hedge example.
Example 31: Interest rate swap – cash flow hedge accounting.
Example 32: Sample Disclosure Requirements.
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