Module 003 Introduction to Financial Instruments

A financial instrument is any contract that gives rise to a financial asset of one entity. A financial asset is any asset that includes cash, an equity
instrument of another entity, a contractual right, and a contract that will or may be settled in the entity's own equity intruments. A financial liability
is any liability that is a contractual obligation and a contract that will or may be settled in the entity's own equity instruments. At initial recognition,
an entity shall measure a financial asset at fair value plus, in case of a financial asset not at fair value through profit or loss, transaction costs that
are directly attributable to the acquisition of financial asset. Non-financial assets include physical assets, intangible assets, prepaid expenses, and
leased assets. Non-financial liabilities include deffered revenue and warranty obligations, income tax payable, and constructive obligations.

At the end of this module, you will be able to:

1. Define financial instruments
2. Categorize financial assets / financial liabilities
3. Learn the approach to accounting for financial instruments
4. Identify non-financial assets / non-financial liabilities

The common application of this lessons are under this module consists of being able to differentiate financial items from non-financial items and
identify how to recognize them.

Financial Instruments
A financial instrument is any contract that gives rise to a financial asset of one entity and a financial liability or equity instrument of another entity.
Thus the term "financial instruments" encompases a financial asset, financial liability, and an equity instrument.
The characteristics of financial intrument are:
a) There must be a contract
b) There are atleast two parties to the contract
c) The contract shall give rise to a financial asset of one party and a financial liability or equity instrument of another party.

A financial asset is any asset that is:

(a) cash;
(b) an equity instrument of another entity;
(c) a contractual right:
(i) to receive cash or another financial asset from another entity; or
(ii) to exchange financial assets or financial liabilities with another entity under conditions that are potentially
favourable to the entity; or
(d) a contract that will or may be settled in the entity’s own equity instruments and is:
(i) a non-derivative for which the entity is or may be obliged to receive a variable number of the entity’s own equity instruments; or
(ii) a derivative that will or may be settled other than by the
exchange of a fixed amount of cash or another financial asset for a fixed number of the entity’s own equity instruments.
For this purpose the entity’s own equity instruments do not include puttable financial instruments classified as equity instruments in accordance
with paragraphs 16A and 16B, instruments that impose on the entity an obligation to deliver to another party a pro rata share of the net assets of
the entity only on liquidation and are classified as equity instruments in accordance with paragraphs 16C and 16D, or
instruments that are contracts for the future receipt or delivery of the entity’s own equity instruments.

A financial liability is any liability that is:

(a) a contractual obligation:
(i) to deliver cash or another financial asset to another entity; or
(ii) to exchange financial assets or financial liabilities with another entity under conditions that are potentially unfavourable to the entity;
or
(b) a contract that will or may be settled in the entity’s own equity instruments and is:
(i) a non-derivative for which the entity is or may be obliged to deliver a variable number of the entity’s own equity instruments; or
(ii) a derivative that will or may be settled other than by the exchange of a fixed amount of cash or another financial asset for a fixed number of the
entity’s own equity instruments. For this purpose, rights, options or warrants to acquire a fixed number of the entity’s own equity instruments for a
fixed amount of any currency are equity instruments if the entity offers the rights, options or warrants pro rata to all of its existing owners of the
same class of its own non-derivative equity instruments. Also, for these purposes the entity’s own equity instruments do not include puttable
financial instruments that are classified as equity instruments in accordance with paragraphs 16A and 16B, instruments that impose on the entity an
obligation to deliver to another party a pro rata share of the net assets of the entity only on liquidation and are classified as equity instruments in
accordance with paragraphs 16C and 16D, or instruments that are contracts for the future receipt or
delivery of the entity’s own equity instruments.
As an exception, an instrument that meets the definition of a financial liability is classified as an equity instrument if it has all the features and
meets the conditions in paragraphs 16A and 16B or paragraphs 16C and 16D.
An equity instrument is any contract that evidences a residual interest in the
assets of an entity after deducting all of its liabilities.
Fair value is the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at
the measurement date. (See IFRS 13 Fair Value Measurement.)
A puttable instrument is a financial instrument that gives the holder the right to put the instrument back to the issuer for cash or another financial
asset or is automatically put back to the issuer on the occurrence of an uncertain future event or the death or retirement of the instrument holder.
The following terms are defined in Appendix A of IFRS 9 or paragraph 9 of IAS 39 Financial Instruments: Recognition and Measurement and are used
in this
Standard with the meaning specified in IAS 39 and IFRS 9.
• amortised cost of a financial asset or financial liability • derecognition • derivative
• effective interest method
• financial guarantee contract • financial liability at fair value through profit or loss
• firm commitment • forecast transaction • hedge effectiveness
• hedged item • hedging instrument • held for trading
• regular way purchase or sale • transaction costs.
In this Standard, ‘contract’ and ‘contractual’ refer to an agreement between two or more parties that has clear economic consequences that the
parties have little, if any, discretion to avoid, usually because the agreement is enforceable by law. Contracts, and thus financial instruments, may
take a variety of forms and need not be in writing.
In this Standard, ‘entity’ includes individuals, partnerships, incorporated bodies, trusts and government agencies.

Financial assets covered by PAS 32 & 39 cash- is described in the IAS 7 Statement of Cash Flows as comprising
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IAS 32 Financial Instruments: Presentation outlines the accounting requirements for the presentation of financial instruments, particularly as to the
classification of such instruments into financial assets, financial liabilities and equity instruments. The standard also provide guidance on the
classification of related interest, dividends and gains/losses, and when financial assets and financial liabilities can be offset.

IAS 32 was reissued in December 2003 and applies to annual periods beginning on or after 1 January 2005.
Summary of IAS 32
Objective of IAS 32
The stated objective of IAS 32 is to establish principles for presenting financial instruments as liabilities or equity and for offsetting financial assets
and liabilities. [IAS 32.1]

IAS 32 addresses this in a number of ways:

clarifying the classification of a financial instrument issued by an entity as a liability or as equity prescribing the accounting for treasury shares (an
entity's own repurchased shares) prescribing strict conditions under which assets and liabilities may be offset in the balance sheet
IAS 32 is a companion to IAS 39 Financial Instruments: Recognition and Measurement and IFRS 9 Financial Instruments. IAS 39 and IFRS 9 deal with
initial recognition of financial assets and liabilities, measurement subsequent to initial recognition, impairment, derecognition, and hedge
accounting. IAS 39 was progressively replaced by IFRS 9 as the IASB completed the various phases of its financial instruments project.

Scope
IAS 32 applies in presenting and disclosing information about all types of financial instruments with the following exceptions: [IAS 32.4]
interests in subsidiaries, associates and joint ventures that are accounted for under IAS 27 Consolidated and Separate Financial Statements, IAS 28
Investments in Associates or IAS 31 Interests in Joint Ventures (or, for annual periods beginning on or after 1 January 2013, IFRS 10 Consolidated
Financial Statements, IAS 27 Separate Financial Statements and IAS 28 Investments in Associates and Joint Ventures). However, IAS 32 applies to all
derivatives on interests in subsidiaries, associates, or joint ventures. employers' rights and obligations under employee benefit plans (see IAS 19
Employee Benefits) insurance contracts(see IFRS 4 Insurance Contracts). However, IAS 32 applies to derivatives that are embedded in insurance
contracts if they are required to be accounted separately by IAS 39 financial instruments that are within the scope of IFRS 4 because they contain a
discretionary participation feature are only exempt from applying paragraphs 15-32 and AG25-35 (analysing debt and equity components) but are
subject to all other IAS 32 requirements contracts and obligations under share-based payment transactions (see IFRS 2 Share-based Payment) with
the following exceptions:
this standard applies to contracts within the scope of IAS 32.8-10 (see below) paragraphs 33-34 apply when accounting for treasury shares
purchased, sold, issued or cancelled by employee share option plans or similar arrangements
IAS 32 applies to those contracts to buy or sell a non-financial item that can be settled net in cash or another financial instrument, except for
contracts that were entered into and continue to be held for the purpose of the receipt or delivery of a non-financial item in accordance with the
entity's expected purchase, sale or usage requirements. [IAS 32.8]

Key definitions [IAS 32.11]

Financial instrument: a contract that gives rise to a financial asset of one entity and a financial liability or equity instrument of another entity.

Financial asset: any asset that is:

cash- an equity instrument of another entity
a contractual right- to receive cash or another financial asset from another entity; or to exchange financial assets or financial liabilities with another
entity under conditions that are potentially favourable to the entity; or a contract that will or may be settled in the entity's own equity instruments
and is:
a non-derivative for which the entity is or may be obliged to receive a variable number of the entity's own equity instruments a derivative that will
or may be settled other than by the exchange of a fixed amount of cash or another financial asset for a fixed number of the entity's own equity
instruments. For this purpose the entity's own equity instruments do not include instruments that are themselves contracts for the future receipt or
delivery of the entity's own equity instruments puttable instruments classified as equity or certain liabilities arising on liquidation classified by IAS
32 as equity instruments
Financial liability: any liability that is:

a contractual obligation:
to deliver cash or another financial asset to another entity; or to exchange financial assets or financial liabilities with another entity under
conditions that are potentially unfavourable to the entity; or
a contract that will or may be settled in the entity's own equity instruments and is
a non-derivative for which the entity is or may be obliged to deliver a variable number of the entity's own equity instruments or a derivative that
will or may be settled other than by the exchange of a fixed amount of cash or another financial asset for a fixed number of the entity's own equity
instruments. For this purpose the entity's own equity instruments do not include: instruments that are themselves contracts for the future receipt
or delivery of the entity's own equity instruments; puttable instruments classified as equity or certain liabilities arising on liquidation classified by
IAS 32 as equity instruments
Equity instrument: Any contract that evidences a residual interest in the assets of an entity after deducting all of its liabilities.

Fair value: the amount for which an asset could be exchanged, or a liability settled, between knowledgeable, willing parties in an arm's length
transaction.

The definition of financial instrument used in IAS 32 is the same as that in IAS 39.

Puttable instrument: a financial instrument that gives the holder the right to put the instrument back to the issuer for cash or another financial
asset or is automatically put back to the issuer on occurrence of an uncertain future event or the death or retirement of the instrument holder.

Classification as liability or equity

The fundamental principle of IAS 32 is that a financial instrument should be classified as either a financial liability or an equity instrument according
to the substance of the contract, not its legal form, and the definitions of financial liability and equity instrument. Two exceptions from this principle
are certain puttable instruments meeting specific criteria and certain obligations arising on liquidation (see below). The entity must make the
decision at the time the instrument is initially recognised. The classification is not subsequently changed based on changed circumstances. [IAS
32.15]

A financial instrument is an equity instrument only if (a) the instrument includes no contractual obligation to deliver cash or another financial asset
to another entity and (b) if the instrument will or may be settled in the issuer's own equity instruments, it is either:

a non-derivative that includes no contractual obligation for the issuer to deliver a variable number of its own equity instruments; or a derivative that
will be settled only by the issuer exchanging a fixed amount of cash or another financial asset for a fixed number of its own equity instruments. [IAS
32.16]
Illustration – preference shares

If an entity issues preference (preferred) shares that pay a fixed rate of dividend and that have a mandatory redemption feature at a future date, the
substance is that they are a contractual obligation to deliver cash and, therefore, should be recognised as a liability. [IAS 32.18(a)] In contrast,
preference shares that do not have a fixed maturity, and where the issuer does not have a contractual obligation to make any payment are equity. In
this example even though both instruments are legally termed preference shares they have different contractual terms and one is a financial liability
while the other is equity.

Illustration – issuance of fixed monetary amount of equity instruments

A contractual right or obligation to receive or deliver a number of its own shares or other equity instruments that varies so that the fair value of the
entity's own equity instruments to be received or delivered equals the fixed monetary amount of the contractual right or obligation is a financial
liability. [IAS 32.20]

Illustration – one party has a choice over how an instrument is settled

When a derivative financial instrument gives one party a choice over how it is settled (for instance, the issuer or the holder can choose settlement
net in cash or by exchanging shares for cash), it is a financial asset or a financial liability unless all of the settlement alternatives would result in it
being an equity instrument. [IAS 32.26]

Contingent settlement provisions

If, as a result of contingent settlement provisions, the issuer does not have an unconditional right to avoid settlement by delivery of cash or other
financial instrument (or otherwise to settle in a way that it would be a financial liability) the instrument is a financial liability of the issuer, unless:

the contingent settlement provision is not genuine or the issuer can only be required to settle the obligation in the event of the issuer's liquidation
or the instrument has all the features and meets the conditions of IAS 32.16A and 16B for puttable instruments [IAS 32.25]

Puttable instruments and obligations arising on liquidation

In February 2008, the IASB amended IAS 32 and IAS 1 Presentation of Financial Statements with respect to the balance sheet classification of
puttable financial instruments and obligations arising only on liquidation. As a result of the amendments, some financial instruments that currently
meet the definition of a financial liability will be classified as equity because they represent the residual interest in the net assets of the entity. [IAS
32.16A-D]

Classifications of rights issues

In October 2009, the IASB issued an amendment to IAS 32 on the classification of rights issues. For rights issues offered for a fixed amount of foreign
currency current practice appears to require such issues to be accounted for as derivative liabilities. The amendment states that if such rights are
issued pro rata to an entity's all existing shareholders in the same class for a fixed amount of currency, they should be classified as equity regardless
of the currency in which the exercise price is denominated.

Compound financial instruments

Some financial instruments – sometimes called compound instruments – have both a liability and an equity component from the issuer's
perspective. In that case, IAS 32 requires that the component parts be accounted for and presented separately according to their substance based
on the definitions of liability and equity. The split is made at issuance and not revised for subsequent changes in market interest rates, share prices,
or other event that changes the likelihood that the conversion option will be exercised. [IAS 32.29-30]

To illustrate, a convertible bond contains two components. One is a financial liability, namely the issuer's contractual obligation to pay cash, and the
other is an equity instrument, namely the holder's option to convert into common shares. Another example is debt issued with detachable share
purchase warrants.

When the initial carrying amount of a compound financial instrument is required to be allocated to its equity and liability components, the equity
component is assigned the residual amount after deducting from the fair value of the instrument as a whole the amount separately determined for
the liability component. [IAS 32.32]

Interest, dividends, gains, and losses relating to an instrument classified as a liability should be reported in profit or loss. This means that dividend
payments on preferred shares classified as liabilities are treated as expenses. On the other hand, distributions (such as dividends) to holders of a
financial instrument classified as equity should be charged directly against equity, not against earnings. [IAS 32.35]

Transaction costs of an equity transaction are deducted from equity. Transaction costs related to an issue of a compound financial instrument are
allocated to the liability and equity components in proportion to the allocation of proceeds.

Treasury shares
The cost of an entity's own equity instruments that it has reacquired ('treasury shares') is deducted from equity. Gain or loss is not recognised on
the purchase, sale, issue, or cancellation of treasury shares. Treasury shares may be acquired and held by the entity or by other members of the
consolidated group. Consideration paid or received is recognised directly in equity. [IAS 32.33]

Offsetting
IAS 32 also prescribes rules for the offsetting of financial assets and financial liabilities. It specifies that a financial asset and a financial liability
should be offset and the net amount reported when, and only when, an entity: [IAS 32.42]

has a legally enforceable right to set off the amounts; and intends either to settle on a net basis, or to realise the asset and settle the liability
simultaneously. [IAS 32.48]
Costs of issuing or reacquiring equity instruments
Costs of issuing or reacquiring equity instruments are accounted for as a deduction from equity, net of any related income tax benefit. [IAS 32.35]

Disclosures
Financial instruments disclosures are in IFRS 7 Financial Instruments: Disclosures, and no longer in IAS 32.
The disclosures relating to treasury shares are in IAS 1 Presentation of Financial Statements and IAS 24 Related Parties for share repurchases from
related parties. [IAS 32.34 and 39]
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Scope Scope exclusions

IAS 39 applies to all types of financial instruments except for the following, which are scoped out of IAS 39: [IAS 39.2]

interests in subsidiaries, associates, and joint ventures accounted for under IAS 27 Consolidated and Separate Financial Statements, IAS 28
Investments in Associates, or IAS 31 Interests in Joint Ventures (or, for periods beginning on or after 1 January 2013, IFRS 10 Consolidated Financial
Statements, IAS 27 Separate Financial Statements or IAS 28 Investments in Associates and Joint Ventures); however IAS 39 applies in cases where
under those standards such interests are to be accounted for under IAS 39. The standard also applies to most derivatives on an interest in a
subsidiary, associate, or joint venture employers' rights and obligations under employee benefit plans to which IAS 19 Employee Benefits applies
forward contracts between an acquirer and selling shareholder to buy or sell an acquiree that will result in a business combination at a future
acquisition date rights and obligations under insurance contracts, except IAS 39 does apply to financial instruments that take the form of an
insurance (or reinsurance) contract but that principally involve the transfer of financial risks and derivatives embedded in insurance contracts
financial instruments that meet the definition of own equity under IAS 32 Financial Instruments: Presentation financial instruments, contracts and
obligations under share-based payment transactions to which IFRS 2 Share-based Payment applies rights to reimbursement payments to which IAS
37 Provisions, Contingent Liabilities and Contingent Assets applies
Leases

IAS 39 applies to lease receivables and payables only in limited respects: [IAS 39.2(b)]

IAS 39 applies to lease receivables with respect to the derecognition and impairment provisions IAS 39 applies to lease payables with respect to the
derecognition provisions IAS 39 applies to derivatives embedded in leases.
Financial guarantees

IAS 39 applies to financial guarantee contracts issued. However, if an issuer of financial guarantee contracts has previously asserted explicitly that it
regards such contracts as insurance contracts and has used accounting applicable to insurance contracts, the issuer may elect to apply either IAS 39
or IFRS 4 Insurance Contracts to such financial guarantee contracts. The issuer may make that election contract by contract, but the election for
each contract is irrevocable.

Accounting by the holder is excluded from the scope of IAS 39 and IFRS 4 (unless the contract is a reinsurance contract). Therefore, paragraphs 10-
12 of IAS 8 Accounting Policies, Changes in Accounting Estimates and Errors apply. Those paragraphs specify criteria to use in developing an
accounting policy if no IFRS applies specifically to an item.

Loan commitments

Loan commitments are outside the scope of IAS 39 if they cannot be settled net in cash or another financial instrument, they are not designated as
financial liabilities at fair value through profit or loss, and the entity does not have a past practice of selling the loans that resulted from the
commitment shortly after origination. An issuer of a commitment to provide a loan at a below-market interest rate is required initially to recognise
the commitment at its fair value; subsequently, the issuer will remeasure it at the higher of (a) the amount recognised under IAS 37 and (b) the
amount initially recognised less, where appropriate, cumulative amortisation recognised in accordance with IAS 18. An issuer of loan commitments
must apply IAS 37 to other loan commitments that are not within the scope of IAS 39 (that is, those made at market or above). Loan commitments
are subject to the derecognition provisions of IAS 39. [IAS 39.4]

Contracts to buy or sell financial items

Contracts to buy or sell financial items are always within the scope of IAS 39 (unless one of the other exceptions applies).
Contracts to buy or sell non-financial items
Contracts to buy or sell non-financial items are within the scope of IAS 39 if they can be settled net in cash or another financial asset and are not
entered into and held for the purpose of the receipt or delivery of a non-financial item in accordance with the entity's expected purchase, sale, or
usage requirements. Contracts to buy or sell non-financial items are inside the scope if net settlement occurs. The following situations constitute
net settlement: [IAS 39.5-6]

the terms of the contract permit either counterparty to settle net there is a past practice of net settling similar contracts there is a past practice, for
similar contracts, of taking delivery of the underlying and selling it within a short period after delivery to generate a profit from short-term
fluctuations in price, or from a dealer's margin, or the non-financial item is readily convertible to cash
Weather derivatives

Although contracts requiring payment based on climatic, geological, or other physical variable were generally excluded from the original version of
IAS 39, they were added to the scope of the revised IAS 39 in December 2003 if they are not in the scope of IFRS 4. [IAS 39.AG1]

Definitions
IAS 39 incorporates the definitions of the following items from IAS 32 Financial Instruments: Presentation: [IAS 39.8]
financial instrument financial asset financial liability equity instrument.
Note: Where an entity applies IFRS 9 Financial Instruments prior to its mandatory application date (1 January 2015), definitions of the following
terms are also incorporated from IFRS 9: derecognition, derivative, fair value, financial guarantee contract. The definition of those terms outlined
below (as relevant) are those from IAS 39.

Common examples of financial instruments within the scope of IAS 39

cash demand and time deposits commercial paper accounts, notes, and loans receivable and payable debt and equity securities. These are financial
instruments from the perspectives of both the holder and the issuer. This category includes investments in subsidiaries, associates, and joint
ventures asset backed securities such as collateralised mortgage obligations, repurchase agreements, and securitised packages of receivables
derivatives, including options, rights, warrants, futures contracts, forward contracts, and swaps.
A derivative is a financial instrument:

Whose value changes in response to the change in an underlying variable such as an interest rate, commodity or security price, or index; That
requires no initial investment, or one that is smaller than would be required for a contract with similar response to changes in market factors; and
That is settled at a future date. [IAS 39.9]
Examples of derivatives
Forwards: Contracts to purchase or sell a specific quantity of a financial instrument, a commodity, or a foreign currency at a specified price
determined at the outset, with delivery or settlement at a specified future date. Settlement is at maturity by actual delivery of the item specified in
the contract, or by a net cash settlement.

Interest rate swaps and forward rate agreements: Contracts to exchange cash flows as of a specified date or a series of specified dates based on a
notional amount and fixed and floating rates.

Futures: Contracts similar to forwards but with the following differences: futures are generic exchange-traded, whereas forwards are individually
tailored. Futures are generally settled through an offsetting (reversing) trade, whereas forwards are generally settled by delivery of the underlying
item or cash settlement.

Options: Contracts that give the purchaser the right, but not the obligation, to buy (call option) or sell (put option) a specified quantity of a
particular financial instrument, commodity, or foreign currency, at a specified price (strike price), during or at a specified period of time. These can
be individually written or exchange-traded. The purchaser of the option pays the seller (writer) of the option a fee (premium) to compensate the
seller for the risk of payments under the option.

Caps and floors: These are contracts sometimes referred to as interest rate options. An interest rate cap will compensate the purchaser of the cap if
interest rates rise above a predetermined rate (strike rate) while an interest rate floor will compensate the purchaser if rates fall below a
predetermined rate.

Embedded derivatives
Some contracts that themselves are not financial instruments may nonetheless have financial instruments embedded in them. For example, a
contract to purchase a commodity at a fixed price for delivery at a future date has embedded in it a derivative that is indexed to the price of the
commodity.

An embedded derivative is a feature within a contract, such that the cash flows associated with that feature behave in a similar fashion to a stand-
alone derivative. In the same way that derivatives must be accounted for at fair value on the balance sheet with changes recognised in the income
statement, so must some embedded derivatives. IAS 39 requires that an embedded derivative be separated from its host contract and accounted
for as a derivative when: [IAS 39.11]

the economic risks and characteristics of the embedded derivative are not closely related to those of the host contract a separate instrument with
the same terms as the embedded derivative would meet the definition of a derivative, and the entire instrument is not measured at fair value with
changes in fair value recognised in the income statement
If an embedded derivative is separated, the host contract is accounted for under the appropriate standard (for instance, under IAS 39 if the host is a
financial instrument). Appendix A to IAS 39 provides examples of embedded derivatives that are closely related to their hosts, and of those that are
not.

Examples of embedded derivatives that are not closely related to their hosts (and therefore must be separately accounted for) include:

the equity conversion option in debt convertible to ordinary shares (from the perspective of the holder only) [IAS 39.AG30(f)] commodity indexed
interest or principal payments in host debt contracts[IAS 39.AG30(e)] cap and floor options in host debt contracts that are in-the-money when the
instrument was issued [IAS 39.AG33(b)] leveraged inflation adjustments to lease payments [IAS 39.AG33(f)] currency derivatives in purchase or sale
contracts for non-financial items where the foreign currency is not that of either counterparty to the contract, is not the currency in which the
related good or service is routinely denominated in commercial transactions around the world, and is not the currency that is commonly used in
such contracts in the economic environment in which the transaction takes place. [IAS 39.AG33(d)]
If IAS 39 requires that an embedded derivative be separated from its host contract, but the entity is unable to measure the embedded derivative
separately, the entire combined contract must be designated as a financial asset as at fair value through profit or loss). [IAS 39.12]

Classification as liability or equity

Since IAS 39 does not address accounting for equity instruments issued by the reporting enterprise but it does deal with accounting for financial
liabilities, classification of an instrument as liability or as equity is critical. IAS 32 Financial Instruments: Presentation addresses the classification
question.

Classification of financial assets

IAS 39 requires financial assets to be classified in one of the following categories: [IAS 39.45]

Financial assets at fair value through profit or loss Available-for-sale financial assets Loans and receivables Held-to-maturity investments
Those categories are used to determine how a particular financial asset is recognised and measured in the financial statements.

Financial assets at fair value through profit or loss. This category has two subcategories:

Designated. The first includes any financial asset that is designated on initial recognition as one to be measured at fair value with fair value changes
in profit or loss. Held for trading. The second category includes financial assets that are held for trading. All derivatives (except those designated
hedging instruments) and financial assets acquired or held for the purpose of selling in the short term or for which there is a recent pattern of short-
term profit taking are held for trading. [IAS 39.9]
Available-for-sale financial assets (AFS) are any non-derivative financial assets designated on initial recognition as available for sale or any other
instruments that are not classified as as (a) loans and receivables, (b) held-to-maturity investments or (c) financial assets at fair value through profit
or loss. [IAS 39.9] AFS assets are measured at fair value in the balance sheet. Fair value changes on AFS assets are recognised directly in equity,
through the statement of changes in equity, except for interest on AFS assets (which is recognised in income on an effective yield basis), impairment
losses and (for interest-bearing AFS debt instruments) foreign exchange gains or losses. The cumulative gain or loss that was recognised in equity is
recognised in profit or loss when an available-for-sale financial asset is derecognised. [IAS 39.55(b)]

Loans and receivables are non-derivative financial assets with fixed or determinable payments that are not quoted in an active market, other than
held for trading or designated on initial recognition as assets at fair value through profit or loss or as available-for-sale. Loans and receivables for
which the holder may not recover substantially all of its initial investment, other than because of credit deterioration, should be classified as
available-for-sale.[IAS 39.9] Loans and receivables are measured at amortised cost. [IAS 39.46(a)]

Held-to-maturity investments are non-derivative financial assets with fixed or determinable payments that an entity intends and is able to hold to
maturity and that do not meet the definition of loans and receivables and are not designated on initial recognition as assets at fair value through
profit or loss or as available for sale. Held-to-maturity investments are measured at amortised cost. If an entity sells a held-to-maturity investment
other than in insignificant amounts or as a consequence of a non-recurring, isolated event beyond its control that could not be reasonably
anticipated, all of its other held-to-maturity investments must be reclassified as available-for-sale for the current and next two financial reporting
years. [IAS 39.9] Held-to-maturity investments are measured at amortised cost. [IAS 39.46(b)]

Classification of financial liabilities

IAS 39 recognises two classes of financial liabilities: [IAS 39.47]

Financial liabilities at fair value through profit or loss Other financial liabilities measured at amortised cost using the effective interest method
The category of financial liability at fair value through profit or loss has two subcategories:

Designated. a financial liability that is designated by the entity as a liability at fair value through profit or loss upon initial recognition Held for
trading. a financial liability classified as held for trading, such as an obligation for securities borrowed in a short sale, which have to be returned in
the future
Initial recognition
IAS 39 requires recognition of a financial asset or a financial liability when, and only when, the entity becomes a party to the contractual provisions
of the instrument, subject to the following provisions in respect of regular way purchases. [IAS 39.14]

Regular way purchases or sales of a financial asset. A regular way purchase or sale of financial assets is recognised and derecognised using either
trade date or settlement date accounting. [IAS 39.38] The method used is to be applied consistently for all purchases and sales of financial assets
that belong to the same category of financial asset as defined in IAS 39 (note that for this purpose assets held for trading form a different category
from assets designated at fair value through profit or loss). The choice of method is an accounting policy. [IAS 39.38]

IAS 39 requires that all financial assets and all financial liabilities be recognised on the balance sheet. That includes all derivatives. Historically, in
many parts of the world, derivatives have not been recognised on company balance sheets. The argument has been that at the time the derivative
contract was entered into, there was no amount of cash or other assets paid. Zero cost justified non-recognition, notwithstanding that as time
passes and the value of the underlying variable (rate, price, or index) changes, the derivative has a positive (asset) or negative (liability) value.

Initial measurement
Initially, financial assets and liabilities should be measured at fair value (including transaction costs, for assets and liabilities not measured at fair
value through profit or loss). [IAS 39.43]

Measurement subsequent to initial recognition

Subsequently, financial assets and liabilities (including derivatives) should be measured at fair value, with the following exceptions: [IAS 39.46-47]

Loans and receivables, held-to-maturity investments, and non-derivative financial liabilities should be measured at amortised cost using the
effective interest method. Investments in equity instruments with no reliable fair value measurement (and derivatives indexed to such equity
instruments) should be measured at cost. Financial assets and liabilities that are designated as a hedged item or hedging instrument are subject to
measurement under the hedge accounting requirements of the IAS 39. Financial liabilities that arise when a transfer of a financial asset does not
qualify for derecognition, or that are accounted for using the continuing-involvement method, are subject to particular measurement requirements.
Fair value is the amount for which an asset could be exchanged, or a liability settled, between knowledgeable, willing parties in an arm's length
transaction. [IAS 39.9] IAS 39 provides a hierarchy to be used in determining the fair value for a financial instrument: [IAS 39 Appendix A, paragraphs
AG69-82]

Quoted market prices in an active market are the best evidence of fair value and should be used, where they exist, to measure the financial
instrument. If a market for a financial instrument is not active, an entity establishes fair value by using a valuation technique that makes maximum
use of market inputs and includes recent arm's length market transactions, reference to the current fair value of another instrument that is
substantially the same, discounted cash flow analysis, and option pricing models. An acceptable valuation technique incorporates all factors that
market participants would consider in setting a price and is consistent with accepted economic methodologies for pricing financial instruments. If
there is no active market for an equity instrument and the range of reasonable fair values is significant and these estimates cannot be made reliably,
then an entity must measure the equity instrument at cost less impairment.
Amortised cost is calculated using the effective interest method. The effective interest rate is the rate that exactly discounts estimated future cash
payments or receipts through the expected life of the financial instrument to the net carrying amount of the financial asset or liability. Financial
assets that are not carried at fair value though profit and loss are subject to an impairment test. If expected life cannot be determined reliably, then
the contractual life is used.

IAS 39 fair value option

IAS 39 permits entities to designate, at the time of acquisition or issuance, any financial asset or financial liability to be measured at fair value, with
value changes recognised in profit or loss. This option is available even if the financial asset or financial liability would ordinarily, by its nature, be
measured at amortised cost – but only if fair value can be reliably measured.

In June 2005 the IASB issued its amendment to IAS 39 to restrict the use of the option to designate any financial asset or any financial liability to be
measured at fair value through profit and loss (the fair value option). The revisions limit the use of the option to those financial instruments that
meet certain conditions: [IAS 39.9]

the fair value option designation eliminates or significantly reduces an accounting mismatch, or a group of financial assets, financial liabilities or
both is managed and its performance is evaluated on a fair value basis by entity's management.
Once an instrument is put in the fair-value-through-profit-and-loss category, it cannot be reclassified out with some exceptions. [IAS 39.50] In
October 2008, the IASB issued amendments to IAS 39. The amendments permit reclassification of some financial instruments out of the fair-value-
through-profit-or-loss category (FVTPL) and out of the available-for-sale category – for more detail see IAS 39.50(c). In the event of reclassification,
additional disclosures are required under IFRS 7 Financial Instruments: Disclosures. In March 2009 the IASB clarified that reclassifications of financial
assets under the October 2008 amendments (see above): on reclassification of a financial asset out of the 'fair value through profit or loss' category,
all embedded derivatives have to be (re)assessed and, if necessary, separately accounted for in financial statements.

IAS 39 available for sale option for loans and receivables

IAS 39 permits entities to designate, at the time of acquisition, any loan or receivable as available for sale, in which case it is measured at fair value
with changes in fair value recognised in equity.

Impairment
A financial asset or group of assets is impaired, and impairment losses are recognised, only if there is objective evidence as a result of one or more
events that occurred after the initial recognition of the asset. An entity is required to assess at each balance sheet date whether there is any
objective evidence of impairment. If any such evidence exists, the entity is required to do a detailed impairment calculation to determine whether
an impairment loss should be recognised. [IAS 39.58] The amount of the loss is measured as the difference between the asset's carrying amount
and the present value of estimated cash flows discounted at the financial asset's original effective interest rate. [IAS 39.63]

Assets that are individually assessed and for which no impairment exists are grouped with financial assets with similar credit risk statistics and
collectively assessed for impairment. [IAS 39.64]

If, in a subsequent period, the amount of the impairment loss relating to a financial asset carried at amortised cost or a debt instrument carried as
available-for-sale decreases due to an event occurring after the impairment was originally recognised, the previously recognised impairment loss is
reversed through profit or loss. Impairments relating to investments in available-for-sale equity instruments are not reversed through profit or loss.
[IAS 39.65]

Financial guarantees
A financial guarantee contract is a contract that requires the issuer to make specified payments to reimburse the holder for a loss it incurs because a
specified debtor fails to make payment when due. [IAS 39.9]

Under IAS 39 as amended, financial guarantee contracts are recognised:

initially at fair value. If the financial guarantee contract was issued in a stand-alone arm's length transaction to an unrelated party, its fair value at
inception is likely to equal the consideration received, unless there is evidence to the contrary. subsequently at the higher of (i) the amount
determined in accordance with IAS 37 Provisions, Contingent Liabilities and Contingent Assets and (ii) the amount initially recognised less, when
appropriate, cumulative amortisation recognised in accordance with IAS 18 Revenue. (If specified criteria are met, the issuer may use the fair value
option in IAS 39. Furthermore, different requirements continue to apply in the specialised context of a 'failed' derecognition transaction.)
Some credit-related guarantees do not, as a precondition for payment, require that the holder is exposed to, and has incurred a loss on, the failure
of the debtor to make payments on the guaranteed asset when due. An example of such a guarantee is a credit derivative that requires payments in
response to changes in a specified credit rating or credit index. These are derivatives and they must be measured at fair value under IAS 39.

Derecognition of a financial asset

The basic premise for the derecognition model in IAS 39 is to determine whether the asset under consideration for derecognition is: [IAS 39.16]

an asset in its entirety or specifically identified cash flows from an asset or a fully proportionate share of the cash flows from an asset or a fully
proportionate share of specifically identified cash flows from a financial asset
Once the asset under consideration for derecognition has been determined, an assessment is made as to whether the asset has been transferred,
and if so, whether the transfer of that asset is subsequently eligible for derecognition.

An asset is transferred if either the entity has transferred the contractual rights to receive the cash flows, or the entity has retained the contractual
rights to receive the cash flows from the asset, but has assumed a contractual obligation to pass those cash flows on under an arrangement that
meets the following three conditions: [IAS 39.17-19]

the entity has no obligation to pay amounts to the eventual recipient unless it collects equivalent amounts on the original asset the entity is
prohibited from selling or pledging the original asset (other than as security to the eventual recipient), the entity has an obligation to remit those
cash flows without material delay
Once an entity has determined that the asset has been transferred, it then determines whether or not it has transferred substantially all of the risks
and rewards of ownership of the asset. If substantially all the risks and rewards have been transferred, the asset is derecognised. If substantially all
the risks and rewards have been retained, derecognition of the asset is precluded. [IAS 39.20]

If the entity has neither retained nor transferred substantially all of the risks and rewards of the asset, then the entity must assess whether it has
relinquished control of the asset or not. If the entity does not control the asset then derecognition is appropriate; however if the entity has retained
control of the asset, then the entity continues to recognise the asset to the extent to which it has a continuing involvement in the asset. [IAS 39.30]

These various derecognition steps are summarised in the decision tree in AG36.

Derecognition of a financial liability

A financial liability should be removed from the balance sheet when, and only when, it is extinguished, that is, when the obligation specified in the
contract is either discharged or cancelled or expires. [IAS 39.39] Where there has been an exchange between an existing borrower and lender of
debt instruments with substantially different terms, or there has been a substantial modification of the terms of an existing financial liability, this
transaction is accounted for as an extinguishment of the original financial liability and the recognition of a new financial liability. A gain or loss from
extinguishment of the original financial liability is recognised in profit or loss. [IAS 39.40-41]

Hedge accounting
IAS 39 permits hedge accounting under certain circumstances provided that the hedging relationship is: [IAS 39.88]

formally designated and documented, including the entity's risk management objective and strategy for undertaking the hedge, identification of the
hedging instrument, the hedged item, the nature of the risk being hedged, and how the entity will assess the hedging instrument's effectiveness
and expected to be highly effective in achieving offsetting changes in fair value or cash flows attributable to the hedged risk as designated and
documented, and effectiveness can be reliably measured and assessed on an ongoing basis and determined to have been highly effective
Hedging instruments

Hedging instrument is an instrument whose fair value or cash flows are expected to offset changes in the fair value or cash flows of a designated
hedged item. [IAS 39.9]

All derivative contracts with an external counterparty may be designated as hedging instruments except for some written options. A non-derivative
financial asset or liability may not be designated as a hedging instrument except as a hedge of foreign currency risk. [IAS 39.72]

For hedge accounting purposes, only instruments that involve a party external to the reporting entity can be designated as a hedging instrument.
This applies to intragroup transactions as well (with the exception of certain foreign currency hedges of forecast intragroup transactions – see
below). However, they may qualify for hedge accounting in individual financial statements. [IAS 39.73]

Hedged items

Hedged item is an item that exposes the entity to risk of changes in fair value or future cash flows and is designated as being hedged. [IAS 39.9]
A hedged item can be: [IAS 39.78-82]

a single recognised asset or liability, firm commitment, highly probable transaction or a net investment in a foreign operation a group of assets,
liabilities, firm commitments, highly probable forecast transactions or net investments in foreign operations with similar risk characteristics a held-
to-maturity investment for foreign currency or credit risk (but not for interest risk or prepayment risk) a portion of the cash flows or fair value of a
financial asset or financial liability or a non-financial item for foreign currency risk only for all risks of the entire item in a portfolio hedge of interest
rate risk (Macro Hedge) only, a portion of the portfolio of financial assets or financial liabilities that share the risk being hedged
In April 2005, the IASB amended IAS 39 to permit the foreign currency risk of a highly probable intragroup forecast transaction to qualify as the
hedged item in a cash flow hedge in consolidated financial statements – provided that the transaction is denominated in a currency other than the
functional currency of the entity entering into that transaction and the foreign currency risk will affect consolidated financial statements. [IAS 39.80]

In 30 July 2008, the IASB amended IAS 39 to clarify two hedge accounting issues:

inflation in a financial hedged item a one-sided risk in a hedged item.

Effectiveness

IAS 39 requires hedge effectiveness to be assessed both prospectively and retrospectively. To qualify for hedge accounting at the inception of a
hedge and, at a minimum, at each reporting date, the changes in the fair value or cash flows of the hedged item attributable to the hedged risk
must be expected to be highly effective in offsetting the changes in the fair value or cash flows of the hedging instrument on a prospective basis,
and on a retrospective basis where actual results are within a range of 80% to 125%.

All hedge ineffectiveness is recognised immediately in profit or loss (including ineffectiveness within the 80% to 125% window).

Categories of hedges
A fair value hedge is a hedge of the exposure to changes in fair value of a recognised asset or liability or a previously unrecognised firm commitment
or an identified portion of such an asset, liability or firm commitment, that is attributable to a particular risk and could affect profit or loss. [IAS
39.86(a)] The gain or loss from the change in fair value of the hedging instrument is recognised immediately in profit or loss. At the same time the
carrying amount of the hedged item is adjusted for the corresponding gain or loss with respect to the hedged risk, which is also recognised
immediately in net profit or loss. [IAS 39.89]

A cash flow hedge is a hedge of the exposure to variability in cash flows that (i) is attributable to a particular risk associated with a recognised asset
or liability (such as all or some future interest payments on variable rate debt) or a highly probable forecast transaction and (ii) could affect profit or
loss. [IAS 39.86(b)] The portion of the gain or loss on the hedging instrument that is determined to be an effective hedge is recognised in other
comprehensive income. [IAS 39.95]

If a hedge of a forecast transaction subsequently results in the recognition of a financial asset or a financial liability, any gain or loss on the hedging
instrument that was previously recognised directly in equity is 'recycled' into profit or loss in the same period(s) in which the financial asset or
liability affects profit or loss. [IAS 39.97]

If a hedge of a forecast transaction subsequently results in the recognition of a non-financial asset or non-financial liability, then the entity has an
accounting policy option that must be applied to all such hedges of forecast transactions: [IAS 39.98]

Same accounting as for recognition of a financial asset or financial liability – any gain or loss on the hedging instrument that was previously
recognised in other comprehensive income is 'recycled' into profit or loss in the same period(s) in which the non-financial asset or liability affects
profit or loss. 'Basis adjustment' of the acquired non-financial asset or liability – the gain or loss on the hedging instrument that was previously
recognised in other comprehensive income is removed from equity and is included in the initial cost or other carrying amount of the acquired non-
financial asset or liability.
A hedge of a net investment in a foreign operation as defined in IAS 21 The Effects of Changes in Foreign Exchange Rates is accounted for similarly to
a cash flow hedge. [IAS 39.102]

A hedge of the foreign currency risk of a firm commitment may be accounted for as a fair value hedge or as a cash flow hedge.

Discontinuation of hedge accounting

Hedge accounting must be discontinued prospectively if: [IAS 39.91 and 39.101]
the hedging instrument expires or is sold, terminated, or exercised the hedge no longer meets the hedge accounting criteria – for example it is no
longer effective for cash flow hedges the forecast transaction is no longer expected to occur, or the entity revokes the hedge designation
In June 2013, the IASB amended IAS 39 to make it clear that there is no need to discontinue hedge accounting if a hedging derivative is novated,
provided certain criteria are met. [IAS 39.91 and IAS 39.101]

For the purpose of measuring the carrying amount of the hedged item when fair value hedge accounting ceases, a revised effective interest rate is
calculated. [IAS 39.BC35A]

If hedge accounting ceases for a cash flow hedge relationship because the forecast transaction is no longer expected to occur, gains and losses
deferred in other comprehensive income must be taken to profit or loss immediately. If the transaction is still expected to occur and the hedge
relationship ceases, the amounts accumulated in equity will be retained in equity until the hedged item affects profit or loss. [IAS 39.101(c)]

If a hedged financial instrument that is measured at amortised cost has been adjusted for the gain or loss attributable to the hedged risk in a fair
value hedge, this adjustment is amortised to profit or loss based on a recalculated effective interest rate on this date such that the adjustment is
fully amortised by the maturity of the instrument. Amortisation may begin as soon as an adjustment exists and must begin no later than when the
hedged item ceases to be adjusted for changes in its fair value attributable to the risks being hedged.

Disclosure
In 2003 all disclosures about financial instruments were moved to IAS 32, so IAS 32 was renamed Financial Instruments: Disclosure and
Presentation. In 2005, the IASB issued IFRS 7 Financial Instruments: Disclosures to replace the disclosure portions of IAS 32 effective 1 January 2007.
IFRS 7 also superseded IAS 30 Disclosures in the Financial Statements of Banks and Similar Financial Institutions.
---------------------
Terms in this set (23)

Original
financial instrument
any contract that gives rise to both a financial asset of one entity and a financial liability or equity instrument of another entity.

financial asset
Cash
A contractual right
to receive cash or another financial asset or
to exchange financial assets or financial liabilities under potentially favorable conditions
An equity instrument of another entity
A contract that will or may be settled in the entity's own equity instruments and is not classified as
an equity instrument of the entity

Examples of financial assets include cash, receivables, loans made to other entities, investments in
bonds and other debt instruments, and investments in equity instruments of other entities.

03:30
financial liability
A contractual obligation
to deliver cash or another financial asset or
to exchange financial assets or financial liabilities under potentially unfavorable conditions
A contract that will or may be settled in the entity's own equity instruments.

Examples of financial liabilities include payables, loans from other entities (including banks), issued bonds and other debt instruments, and
obligations to deliver own shares for a fixed amount of cash.

An equity instrument
Any contract that evidences a residual interest in the assets of an entity after deducting all of its liabilities.

Liability or Equity
IAS 32 requires financial instruments to be classified as financial liabilities or equity or both in accordance with the substance of the contractual
arrangement and the definitions of financial liability and equity.

If an equity instrument contains a contractual obligation that meets the definition of a financial liability,
it should be classified as a liability even though its legal form is that of an equity instrument.

For example, if an entity issues preferred shares that are redeemable by the shareholder and the entity cannot avoid the payment of cash to
shareholders if they redeem the shares, the preferred shares should be accounted for as a liability. Preferred shares that are contingently
redeemable based on future events outside the control of either the issuer or the holder also would be classified as a financial liability.

"split accounting."
If a financial instrument contains both liability and equity elements it should be split into two components that are reported separately.

For example, a bond that is convertible into shares of common stock at the option of the bondholder is a compound financial instrument that is
subject to "split accounting." From the perspective of the issuer, the bond is comprised of two components:
1. A contractual obligation to make cash payments of interest and principal as long as the bond is not converted. This meets the definition of a
financial liability.
2. A call option that grants the holder the right to convert the bond into a fixed number of common shares. This meets the definition of an equity
instrument.

with‐and‐without method.
the initial carrying amounts of the liability and equity components are determined using what can be called the with ‐and ‐without method
The fair value of the financial instrument with the conversion feature is determined (i.e., the selling price of the instrument). Then the fair value of
the financial instrument without the conversion feature is determined. This becomes the carrying amount of the financial liability component. The
residual amount after subtracting from the fair value of the instrument as a whole the amount separately determined for the liability component is
allocated to the equity component, as follows:
Fair value of compound financial instrument
‐ Fair value of liability component (determined separately)
= Initial carrying amount of equity component

classification of Financial Assets and Financial Liabilities

IAS 39 establishes categories into which all financial assets and liabilities must be classified. The classification of a financial asset or financial liability
determines how the item will be measured.

A financial asset must be classified into one of the following categories

Financial assets at fair value through profit or loss (FVPL) - this includes financial assets that an
entity either
(a) holds for trading purposes or
(b) has elected to classify into this category under the
so‐called "fair value option"

Held‐to‐maturity investments - this includes financial assets with fixed or determinable payments and fixed maturity that the entity has the
intention and ability to hold to maturity.
Note: If an entity sells or reclassifies more than an insignificant amount of held‐to‐maturity investments prior to maturity, the entity normally will
be disqualified from using this classification during the following two‐year period. (The entity's intentions are said to be "tainted" in this case.)

Loans and receivables - this includes financial assets with fixed or determinable payments that do
not have a price that is quoted in an active market.

Available‐for‐sale financial assets - this category includes all financial assets that
(a) are notclassified in one of the other categories or
(b) the entity has elected to classify as available‐for‐sale.
Financial assets held for trading purposes may not be classified as available‐for‐sale.

A financial liability must be classified as one of the following

Financial liabilities at fair value through profit or loss (FVPL) - this includes financial liabilities that are held for trading or that the entity has opted to
classify into this category under the "fair value option." An example of a liability held for trading is a debt instrument that the issuer intends to
repurchase in the short‐term to make a gain from short‐term changes in interest rates.

Financial liabilities measured at amortized cost - this is the default category for most financial liabilities, including accounts payables, notes payable,
bonds payable, and deposits from customers.

Transfers between Categories of Financial Assets and Financial Liabilities

To reduce the ability to "manage earnings," IAS 39 severely restricts the ability to reclassify financial assets and liabilities. Financial instruments may
not be reclassified into or out of the FVPL category. Reclassification between the available‐for‐sale and held‐to‐maturity categories is possible, but
as noted
above, reclassification of more than an insignificant amount of held‐to‐maturity investments results in a two‐year ban on its use.

Initial Measurement
Financial assets and financial liabilities are initially recognized on the balance sheet at their fair value, which normally will be equal to the amount
paid or received.
Except for FVPL assets and liabilities, transaction costs are capitalized as part of the fair value of a financial asset or liability.
Transaction costs associated with FVPL assets and liabilities are expensed as incurred.

Subsequent Measurement
Subsequent to initial recognition, financial assets and liabilities are measured using one of three values:
1. Cost
2. Amortized cost
3. Fair value

Cost.
The only financial asset measured at cost is an unquoted investment in equity instruments that cannot be reliably measured at fair value. This type
of asset affects income only when dividends are received (dividend income is recognized) or the asset is sold (gain or loss is recognized). Unrealized
gains and losses are not recognized.

Amortized cost.
Three types of financial assets and liabilities are measured at amortized cost: Held‐to maturity investments, loans and receivables, and liabilities
measured at amortized cost. Amortized cost is the cost of an asset or liability adjusted to achieve a constant effective interest rate over the life of
the asset or liability. The effective interest rate is the internal rate of return of the cash flows of the asset or liability. Equity investments cannot be
measured at amortized cost because there are no fixed cash flows and therefore no constant effective interest rate.

Fair value.
Three categories of financial asset and liability normally are measured at fair value:
(1) FVPL financial assets, (2) FVPL financial liabilities, and (3) available‐for‐sale financial assets. The carrying amount of these items is adjusted to fair
value at each balance sheet date.

The unrealized gains and loss (changes in fair value) on FVPL assets and liabilities are recognized in net income.

The unrealized gains and losses on available‐for‐sale financial assets are deferred as a separate
component of equity until they are realized (or impairment occurs).

Derecognition
Derecognition refers to the process of removing an asset or liability from the balance sheet.
If a financial asset meets the criteria for derecognition, its carrying amount is removed from the balance sheet and any difference between that
amount and consideration received, if any, is recognized as a gain or loss in net income.
Derecognition of a financial liability is appropriate when the obligation specified in the contract has been extinguished; that is, it is discharged,
cancelled, or expires.
Under IAS 39, derecognition of a financial asset is appropriate if either of the following criteria is met:
(a) the contractual rights to the cash flows of the financial asset have expired, or
(b) the financial asset has been transferred and the transfer qualifies for derecognition based on an evaluation of the extent to which risks and
reward of ownership have been transferred.
Application of the second criterion is often complex. IAS 39, Appendix A, Application Guidance (AG36)
provides a flowchart to be followed in evaluating whether a financial asset may be derecognized
"pass‐through arrangements,"
which is a contractual arrangement in which an entity continues to collect cash flows from a financial asset it
holds, but immediately transfers those payments to other parties. This arrangement can qualify for derecogniton of the financial asset when certain
conditions listed in IAS 39.19 are met
Major Differences between IFRS and U.S. GAAP
There are differences in the two sets of standards with respect to which financial instruments are classified as liability and which instruments are
classified as equity.

Under U.S. GAAP, only mandatorily redeemable preferred stock is classified as a liability.
Split accounting in which a financial instrument is bifurcated into a liability component and an equity component is not followed under U.S. GAAP.

Differences exist with regard to impairment testing.

Both U.S. GAAP and IFRS have the "fair value option," but IFRS has certain criteria that must be met.

U.S. GAAP has a more comprehensive framework for determining fair value.

Differences exist in the criteria for derecognition of a financial asset. U.S. GAAP focuses on the concept of legal isolation.
Receivables
The accounting for receivables is governed by IAS 39, Financial Instruments: Recognition and Measurement, which identifies "loans and receivables"
as one of four categories of financial assets. IAS 39 defines loans and receivables as non‐derivative financial assets with fixed or determinable
payments that are not quoted in an active market.
Receivables are measured initially at fair value. Subsequently, they are measured at amortized cost using an effective interest method.
Impairment of Receivables
If there is objective evidence that receivables are impaired, a loss should be recognized. Individually significant receivables should be tested for
impairment individually. Individually insignificant receivables are assessed for impairment as a portfolio group. A bad debt loss and provision
(allowance) for uncollectible receivables is estimated. IAS 39 states that the loss should be measured as the difference between the carrying amount
of the portfolio of receivables and the present value of future cash flows expected to be received. Implementation guidance in IAS 39 suggests that
the aging method of estimating the provision for uncollectible receivables is not appropriate.
Sale of Receivables
A sale of receivables that does not meet the criteria for derecognition is accounted for as a loan payable.
When an entity sells receivables, there is a question as to whether a sale can be recognized and the
receivable removed from the accounting records (this is known as derecognition). IAS 39 allows financial assets (including receivables) to be
derecognized when:

The rights to the cash flows arising from the asset expire, or

The rights to the asset's cash flows and substantially all risks and rewards of ownership are
transferred to another party.

When an entity retains the right to collect cash flows from a receivable, but it is obligated to transfer those cash flows to a third party, derecognition
is appropriate only if each of the following "pass through" criteria is met (IAS 39.19):
(a) The entity has no obligation to pay amounts to the eventual recipients unless it collects equivalent
amounts from the original asset. Short‐term advances by the entity with the right of full recovery of
the amount lent plus accrued interest at market rates do not violate this condition.
(b) The entity is prohibited by the terms of the transfer contract from selling or pledging the original
asset other than as security to the eventual recipients for the obligation to pay them cash flows.
(c) The entity has an obligation to remit any cash flows it collects on behalf of the eventual recipients
without material delay. In addition, the entity is not entitled to reinvest such cash flows, except for
investments in cash or cash equivalents (as defined in IAS 7 Statement of Cash Flows) during the
short settlement period from the collection date to the date of required remittance to the eventual
recipients, and interest earned on such investments is passed to the eventual recipients.