When the International Accounting Standards Board (IASB) adopted IFRS 9 in the summer of 2014 and it was endorsed by the EU in the autumn of 2016, the formal foundation was laid for the greatest change in bank accounting since the introduction of the International Financial Reporting Standards (IFRS). Now financial institutions must complete the transition from the previously applicable accounting standard IAS 39 to the new rules of IFRS 9. By contrast, the insurance sector has been given a grace period until the new insurance standard enters into force.
Change in Accounting due to IFRS 9
The first trial by fire for financial institutions will take place with the quarterly financial statements or at least with the FINREP Report on March 31, 2018. When IFRS 9 enters into force, the accounting for assets on the balance sheet will change fundamentally. On the one hand, the categorization methods will change completely in phase 1. Even if the valuations "fair value through profit or loss," "fair value through other comprehensive income," and amortized cost were retained de facto, the principles of allocation were fundamentally changed. In phase 2, the change from the so-called incurred loss model to the expected loss model for an impairment will also give rise to numerous challenges in terms of data, methods, and processes. Phase 3, hedge accounting, will only be applied voluntarily for the time being – but even if the old rules are retained, hedge accounting is nevertheless tied to categorization. There are a number of technical advantages in converting the hedge accounting to the new rules of IFRS 9, but this conversion is connected with a number of issues that are not clearly described. IASB also published Implementation Guidance for IFRS 9, which includes important information on the introduction of or conversion IFRS 9 accounting.
Phase 1: Categorization in Accordance with IFRS 9 – Business Model and SPPI Test
Two factors are critical for future categorization: The business model on the portfolio level and the payment flow criterion (SPPI) on the level of individual transactions. According to IFRS 9, the first step for the business model is determined by whether the accounting must fundamentally be handled at amortized cost, fair value reported in other comprehensive income (FVOCI), or completely at market value (fair value through profit or loss). The SPPI criterion in particular raises technical questions for banks: One is what contractual clauses are harmless in accordance with IFRS 9 Amortized Cost and what ones will lead to a mandatory fair value valuation. While this can be judged in a purely qualitative way in some cases, a quantitative examination in other cases is relevant either as part of the benchmark test or also with regard to compliance with the threshold values and key performance indicators.
Phase 2: Impairment – Expected Losses as Accounting Method
After a so-called incurred loss method applied under IAS 39 where impairments were only set up for losses that had occurred, IFRS 9 will also allow impairments to be set up for expected losses. Depending on whether or not there has been a significant deterioration in the credit rating since the addition, this expected loss is set up either as a 12 months expected loss (level 1) or as live time expected loss (level 2). Receivables that have already been defaulted on (level 3) largely follow the method described under IAS 39. Besides the impairment requirements in accordance with IFRS 9, it is also necessary for banks to consider the Basel Committee guidance (BCBS 350) and the EBA requirements.
Phase 3: Hedge Accounting
In hedge accounting, various simplification options have been implemented, but a number of banks have decided to make use of a waiver and are waiting for the still outstanding requirements on macro hedge accounting before they implement this part of IFRS 9. The possibility of separating a foreign currency basis spread and amortizing over the term was a critical consideration for banks that decided in favor of a voluntary application of IFRS 9 Rules on General Hedge Accounting.
Implementation of IFRS 9 together with Interface Topics
When introducing IFRS 9, however, it is necessary not only to follow the direct technical requirements, but also to consider interface topics with regard to regulatory legislation, for example, and to take account of secondary conditions such as accounting management. Since the introduction of IFRS 9 will usually also require extensive adjustments to IT systems and corresponding test activities, this will also lead to a further increase in the complexity and the necessary division of work between finance, risk controlling, the back office, and treasury.
FAS AG Supports You in the Conversion to IFRS 9
FAS AG has many years of experience in the field of IFRS launches and conversion to new standards. Even in the field of IFRS 9 conversions, our advisors have also already helped various clients both in the areas of categorization, impairment, and the necessary adjustments in hedge accounting. Besides advising on the interpretation and implementation of the technical requirements, FAS AG also advises on the design of the processes under IFRS 9. Furthermore, we have workaround solutions if the technical implementation has not yet been completed.