However, the criteria may be relevant to any onward transfer by the subsidiary or
consolidated SPE, and to the transferor’s separate financial statements, if prepared
(see Chapter 8). Moreover, the criteria may well be relevant to determining whether the
transferee is an SPE that should be consolidated. A transfer that leaves the entity,
through its links with the transferee, exposed to risks and rewards similar to those
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arising from its former direct ownership of the transferred asset, may in itself indicate
that the transferee is an SPE that should be consolidated.
Figure 48.1:
Derecognition flowchart [IFRS 9.B3.2.1]
1
Consolidate all subsidiaries (including any SPE).
[See immediately above]
2
Determine whether the derecognition principles below are
applied to a part or all of an asset or
group of similar assets. [See 3.3 below]
3
Have the rights to the cash flows from the asset expired?
Yes
Derecognise the asset
[See 3.4 below]
No
4
Has the entity transferred its rights to receive the cash
flows from the asset? [See 3.5.1 below]
No
5
Has the entity assumed an obligation to pay the
Yes
cash flows from the asset under a ‘pass-through
No
Continue to recognise the asset
arrangement’? [See 3.5.2 below]
Yes
6
Has the entity transferred substantially all risks
Yes
Derecognise the asset
and rewards? [See 3.8 below]
No
7
Has the entity retained substantially all risks
Yes
Continue to recognise the asset
and rewards? [See 3.8 below]
No
8
Has the entity retained control of the asset?
No
Derecognise the asset
[See 3.9 below]
Yes
9
Continue to recognise the asset to the extent of
the entity’s continuing involvement.
[See 5.3 below]
The subsequent steps towards determining whether derecognition is appropriate are
discussed below. Some examples of how these criteria might be applied to some
common transactions in financial assets are given in 4 below. The accounting
consequences of the derecognition of a financial asset are discussed at 5 below.
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3.2.1
Importance of applying tests in sequence
The derecognition rules in IFRS 9 are based on several different accounting concepts,
in particular a ‘risks and rewards’ model and a ‘control’ model, which may lead to
opposite conclusions.
For example, an entity (A) might have a portfolio of listed shares for which there is a
deep liquid market. It might enter into a contract with a third party counterparty (B) on
the following terms. A sells the portfolio to B for €10 million, agreeing to repurchase it
in two years’ time for €10 million plus interest at market rates on €10 million less
dividends on the shares.
The nature of the portfolio is such that B is able to sell it to third parties (since it will
easily be able to reacquire the necessary shares to deliver back to A under the
repurchase agreement). This indicates that B has control over the portfolio and
therefore, since the same asset cannot be controlled by more than one party, that A does
not. Thus, under a ‘control’ model of derecognition, A would derecognise the portfolio.
However, the nature of the repurchase agreement is also such that A is exposed to all
the economic risks and rewards of the portfolio as if it had never been sold to B (since
the repurchase price effectively returns to A all dividends paid on the portfolio, and all
movements in its market value, during its period of ownership by B). Thus, under a ‘risks
and rewards’ model of derecognition, A would continue to recognise the portfolio.
IFRS 9 seeks to avoid the potential conflict between those accounting models by the
practically effective requirement to consider them in the strict sequence in the flowchart
in 3.2 above – i.e. the ‘risks and rewards’ model first and the ‘control’ model second. Thus,
as will be seen from the discussion below (particularly at 4 and 5 below) if an entity (A)
transfers an asset to a third party (B) on terms that B is free to sell the asset:
• if A retains substantially all the risks and rewards of the asset (i.e. the answer to
Box 7 in the flowchart is ‘Yes’), B’s right to sell is irrelevant and the asset continues
to be recognised by A; but
• if A has neither transferred nor retained substantially all the risks and rewards of
the asset (i.e. the answer to Box 7 in the flowchart is ‘No’), B’s right to sell is highly
relevant, indicating a loss of control over the asset by A (i.e. the answer to Box 8 in
the flowchart is ‘No’), such that A derecognises the asset.
In other words, depending on the reporting entity’s position in the decision tree at 3.2
above, the fact that B has the right to sell the asset is either irrelevant or leads directly
to derecognition of the asset by A. It is therefore crucial that the various asset
derecognition tests in IFRS 9 are applied in the required order.
3.3
Derecognition principles, parts of assets and groups of assets
The discussion in this section relates to Box 2 in the flowchart at 3.2 above.
IFRS 9 requires an entity, before evaluating whether, and to what extent, derecognition
is appropriate, to determine whether the provisions discussed at 3.4 below and the
following sections should be applied to the whole, or a part only, of a financial asset (or
the whole or, a part only, of a group of similar financial assets).
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It is important to remember throughout the discussion below that these are criteria for
determining at what level the derecognition rules should be applied, not for determining
whether the conditions in those rules have been satisfied.
The derecognition provisions must be applied to a part of a financial asset (or a part of
a group of similar financial assets) if, and only if, the part being considered for
derecognition meets one of the three conditions set out in (a) to (c) below.
(a) The part comprises only specifically identified cash flows from a financial asset (or
a group of similar financial assets).
For example, if an entity enters into an interest rate strip whereby the counterparty
obtains the right to the interest cash flows, but not the principal cash flows, from a
debt instrument, the derecognition provisions are applied to the interest cash flows.
(b) The part comprises only a fully proportionate (pro rata) share of the cash flows
from a financial asset (or a group of similar financial assets).
For example, if an entity enters into an arrangement in which the counterparty
obtains the rights to 90% of all cash flows of a debt instrument, the derecognition
provisions are applied to 90% of those cash flows. The test in this case is whether
the reporting entity has retained a 10% proportionate share of the total cash flows.
If there is more than one counterparty, it is not necessary for each of them to have
a proportionate share of the cash flows.
(c) The part comprises only a fully proportionate (pro rata) share of specifically
identified cash flows from a financial asset (or a group of similar financial assets).
For example, if an entity enters into an arrangement whereby the counterparty obtains
the rights to a 90% share of interest cash flows from a financial asset, the derecognition
provisions are applied to 90% of those interest cash flows. The test is whether the
reporting entity has (in this case) retained a 10% proportionate share of the interest
cash flows. As in (b), if there is more than one counterparty, it is not necessary for each
of them to have a proportionate share of the specifically identified cash.
If none of the criteria in (a) to (c) above is met, the derecognition provisions are applied
to the financial asset in its entirety (or to the group of similar financial assets in their
entirety). For example, if an entity transfers the rights to the first or the last 90% of cash
collections from a financial asset (or a group of financial assets), or the rights to 90% of
the cash flows from a group of receivables, but provides a guarantee to compensate the
buyer for any credit losses up to 8% of the principal amount of the receivables, the
derecognition provisions are applied to the financial asset (or a group of similar financial
assets) in its entirety. [IFRS 9.3.2.2].
The various examples above illustrate that the tests in (a) to (c) are to be applied very
strictly. It is essential that the entity transfers 100%, or a lower fixed proportion, of a
definable cash flow. In the arrangement in the previous paragraph, the transferor
provides a guarantee the effect of which is that the transferor may have to return some
part of the consideration it has already received. This has the effect that the
derecognition provisions must be applied to the asset in its entirety and not just to the
proportion of cash flows transferred. If the guarantee had not been given, the
arrangement would have satisfied condition (b) above, and the derecognition provisions
would have been applied only to the 90% of cash flows transferred.
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The criteria above must be applied to the whole, or a part only, of a financial asset or
the whole, or a part only, of a group of similar financial assets. This raises the question
of what comprises a ‘group of similar financial assets’ – an issue that has been discussed
by the Interpretations Committee and the IASB but without them being able to reach
any satisfactory conclusions (see 3.3.2 below).
3.3.1
Credit enhancement through transferor’s waiver of right to future
cash flows
IFRS 9 gives an illustrative example, the substance of which is reproduced as
Example 48.15 at 5.4.4 below, of the accounting treatment of a transaction in which 90% of
the cash flows of a portfolio of loans are sold. All cash collections are allocated 90:10 to the
transferee and transferor respectively, but subject to any losses on the loans being fully
allocated to the transferor until its 10% retained interest in the portfolio is reduced to zero,
and only then allocated to the transferee. IFRS 9 indicates that in this case it is appropriate
to apply the derecognition criteria to the 90% sold, rather than the portfolio as whole.
At first sight, this seems inconsistent with the position in the scenario in the penultimate
paragraph of 3.3 above, where application of the derecognition criteria to the 90%
transferred is precluded by the transferor’s having given a guarantee to the transferee. Is
not the arrangement in Example 48.15 below (whereby the transferor may have to cede
some of its right to receive future cash flows to the transferee) a guarantee in all but name?
Whilst IFRS 9 does not expand on this explicitly, a possible explanation could be that
the two transactions can be distinguished as follows:
(a) the transaction in Example 48.15 may result in the transferor losing the right to
receive a future cash inflow, whereas a guarantee arrangement may give rise to an
obligation to return a past cash inflow;
(b) the transaction in Example 48.15 gives the transferee a greater chance of
recovering its full 90% share, but does not guarantee that it will do so. For example,
if only 85% of the portfolio is recovered, the transferor is under no obligation to
make up the shortfall.
It must be remembered that, at this stage, we are addressing the issue of whether or not
the derecognition criteria should be applied to all or part of an asset, not whether
derecognition is actually achieved.
In many cases an asset transferred subject to a guarantee by the transferor would not
satisfy the derecognition criteria, since the guarantee would mean that the transferor
had not transferred substantially all the risks of the asset. For derecognition to be
possible, the scope of the guarantee would need to be restricted so that some significant
risks are passed to the transferee. However, if the guarantee has been acquired from a
third party, there are additional issues to consider that may affect the derecognition of
the asset and/or the guarantee (see 3.3.2 below).
3.3.2
Derecognition of groups of financial assets
As described above, the derecognition provisions of IFRS 9 apply to the whole, or a part
only, of a financial asset or a group, or a part of a group, of similar financial assets (our
emphasis). However, transfers of financial assets, such as debt factoring or
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securitisations (see 3.6 below), typically involve the transfer of a group of assets (and
possibly liabilities) comprising:
• the non-derivative financial assets (i.e. the trade receivables or securitised assets)
that are the main focus of the transaction;
• financial instruments taken out by the transferor in order to mitigate the risk of
those financial assets. These arrangements may either have already been in place
for some time, or they may have been entered into to facilitate the transfer; and
• non-derivative financial guarantee contracts that are transferred with the assets.
These are not always recognised separately as financial assets, e.g. mortgage
indemnity guarantees which compensate the lending bank if the borrower defaults
and there is a deficit when the secured property is sold. Such guarantees may be
transferred together with the mortgage assets to which they relate.
Financial instruments transferred with the ‘main’ assets typically include derivatives
such as interest rate and currency swaps. The entity may have entered into such
arrangements in order to swap floating rate mortgages to fixed rate, or to change the
currency of cash flows receivable from financial assets to match the currency of the
borrowings, e.g. sterling into euros.
Both the Interpretations Committee and the IASB have considered whether the
reference to transfers o
f ‘similar’ assets in IFRS 9 is intended to require:
• a single derecognition test for the whole ‘package’ of transferred non-derivative
assets, and any associated financial instruments, as a whole; or
• individual derecognition tests for each type of instrument (e.g. debtor, interest rate
swap, guarantee or credit insurance) transferred.
The IASB and Interpretations Committee did not succeed in clarifying the meaning of
‘similar assets’. The Interpretations Committee came to a tentative decision but passed
the matter to the IASB, together with some related derecognition issues, in particular,
the types of transaction that are required to be treated as ‘pass through’ and the effect
of conditions attached to the assets that have been transferred (discussed at 3.5 below).
In November 2006 the Interpretations Committee issued a tentative decision not to
provide formal guidance, based on the views publicly expressed by the IASB in the IASB
Update for September 2006. The Interpretations Committee’s decision not to proceed
was withdrawn in January 2007 on the basis of comment letters received by the
Interpretations Committee that demonstrated that the IASB’s ‘clarification’ was, in fact,
unworkable and further guidance was required after all. The Interpretations Committee
announced this as follows:
‘In November 2006, the IFRIC published a tentative agenda decision not to
provide guidance on a number of issues relating to the derecognition of financial
assets. After considering the comment letters received on the tentative agenda
decision, the IFRIC concluded that additional guidance is required in this area. The
IFRIC therefore decided to withdraw the tentative agenda decision [not to provide
further guidance] and add a project on derecognition to its agenda. The IFRIC
noted that any Interpretation in this area must have a tightly defined and limited
scope, and directed the staff to carry out additional research to establish the
questions that such an Interpretation should address.’1
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The next section describes the Interpretations Committee’s and IASB’s attempts to
establish the meaning of ‘similar’, which demonstrated the absence of a clear principle.
There is bound to be diversity in practice in the light of the failure to provide an
interpretation, so it is most important that entities establish an accounting policy that
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