IFRS 9 Classification
IFRS 9 simplifies the classification requirements of financial assets and liabilities.
Classification of financial assets
Under IFRS 9, subsequent to initial recognition, an entity classifies its financial assets as measured at amortized cost, fair value through other comprehensive income (FVOCI) and fair value through profit or loss (FVTPL) depending on the (a) the entity’s business model for managing the assets, and (b) the contractual cash flow characteristics of the financial assets.
A financial asset is classified as measured at amortized cost if (a) the company’s objective of holding the asset is to collect contractual cash flows, and (b) those contractual cash flows are solely payments of principal and interest (SPPI).
A financial asset is classified as measured at FVOCI if (a) the company’s objective is to collect the contractual cash flows or sell the asset, and (b) those cash flows are solely payments of principal and interest.
If a financial asset is neither measured at amortized cost nor at FVOCI, it is measured at fair value through profit or loss (FVTPL). However, an entity may designate an equity instrument to be measured at FVOCI.
Despite the foregoing requirements, at initial recognition, an entity may irrevocably designate any financial asset to be measured at FVTPL if doing so would reduce or eliminate a recognition or measurement inconsistency (i.e. accounting mismatch).
Classification of financial liabilities
An entity shall classify financial liabilities as subsequently measured at amortized cost except for financial liabilities at FVTPL, financial liabilities resulting from unrecognized transfers, financial guarantee contracts, commitments to provide loan at below market interest rate, and contingent consideration under IFRS 3.
At initial recognition, an entity may irrevocably elect to measure certain financial liabilities at FVTPL if doing so would improve recognition and measurement consistency or the liabilities relate to a group of assets/liabilities which are managed collectively and measured at fair value.
Treatment of embedded derivatives
If a hybrid contract contains a host which is an asset within the scope of IFRS 9, the whole contract must comply with the classification requirements for financial assets. However, if the host contract is not a financial asset within the scope of IFRS 9, an embedded derivative shall be separated and accounted for under IFRS 9 if and only if (a) economic characteristics and risk of the derivative are not closely related to those of the host, (b) a separate instruments with the same terms as the embedded derivative would meet the definition of a derivative, and (c) the hybrid contract is not measured at FVTPL.
Instead of separating the embedded derivative, an entity may designate the hybrid contract as measured at FVTPL except where (a) the embedded derivative does not materially alter the host contract cash flows, or (c) it is evident that separation of the embedded derivative is prohibited.
If the fair value of an embedded derivative cannot be reliability measured, it is measured as the difference between fair value of the hybrid contract and the fair value of the host contract. If this too cannot be reliability measured, the entity measures the whole hybrid contract at FVTPL.
IFRS 9 does not allow reclassification of financial liabilities but allows reclassification of financial assets only if there is a change in the business model for managing financial assets.