Summary of IFRS 9

Initial measurement of financial instruments

All financial instruments are initially measured at fair value plus or minus, in the case of a financial asset
or financial liability not at fair value through profit or loss, transaction costs. [IFRS 9, paragraph 5.1.1]

Subsequent measurement of financial assets

IFRS 9 divides all financial assets that are currently in the scope of IAS 39 into two classifications - those
measured at amortised cost and those measured at fair value. Where assets are measured at fair value,
gains and losses are either recognised entirely in profit or loss (fair value through profit or loss, FVTPL),
or recognised in other comprehensive income (fair value through other comprehensive income,
FVTOCI).

For debt instruments the FVTOCI classification is mandatory for certain assets unless the fair value
option is elected. Whilst for equity investments, the FVTOCI classification is an election. Furthermore,
the requirements for reclassifying gains or losses recognised in other comprehensive income are
different for debt instruments and equity investments.

The classification of a financial asset is made at the time it is initially recognised, namely when the entity
becomes a party to the contractual provisions of the instrument. [IFRS 9, paragraph 4.1.1] If certain
conditions are met, the classification of an asset may subsequently need to be reclassified.

Impairment
The impairment model in IFRS 9 is based on the premise of providing for expected losses.

Scope
IFRS 9 requires that the same impairment model apply to all of the following:[IFRS 9 paragraph 5.5.1]
 Financial assets measured at amortised cost;
 Financial assets mandatorily measured at FVTOCI;
 Loan commitments when there is a present obligation to extend credit (except where these are
measured at FVTPL);
o Financial guarantee contracts to which IFRS 9 is applied (except those measured at
FVTPL);
o Lease receivables within the scope of IAS 17 Leases; and
o Contract assets within the scope of IFRS 15 Revenue from Contracts with Customers (i.e.
rights to consideration following transfer of goods or services).

General approach
With the exception of purchased or originated credit impaired financial assets (see below), expected
credit losses are required to be measured through a loss allowance at an amount equal to:[IFRS 9
paragraphs 5.5.3 and 5.5.5]
 the 12-month expected credit losses (expected credit losses that result from those default
events on the financial instrument that are possible within 12 months after the reporting date);
or 
 full lifetime expected credit losses (expected credit losses that result from all possible default
events over the life of the financial instrument).

A loss allowance for full lifetime expected credit losses is required for a financial instrument if the credit
risk of that financial instrument has increased significantly since initial recognition, as well as to contract
assets or trade receivables that do not constitute a financing transaction in accordance with IFRS 15.
[IFRS 9 paragraphs 5.5.3 and 5.5.15]
Additionally, entities can elect an accounting policy to recognise full lifetime expected losses for all
contract assets and/or all trade receivables that do constitute a financing transaction in accordance with
IFRS 15. The same election is also separately permitted for lease receivables. [IFRS 9 paragraph 5.5.16]

For all other financial instruments, expected credit losses are measured at an amount equal to the 12-
month expected credit losses. [IFRS 9 paragraph 5.5.5]

Significant increase in credit risk

With the exception of purchased or originated credit-impaired financial assets (see below), the loss
allowance for financial instruments is measured at an amount equal to lifetime expected losses if the
credit risk of a financial instrument has increased significantly since initial recognition, unless the credit
risk of the financial instrument is low at the reporting date in which case it can be assumed that credit
risk on the financial instrument has not increased significantly since initial recognition. [IFRS 9
paragraphs 5.5.3 and 5.5.10]

The Standard considers credit risk low if there is a low risk of default, the borrower has a strong capacity
to meet its contractual cash flow obligations in the near term and adverse changes in economic and
business conditions in the longer term may, but will not necessarily, reduce the ability of the borrower
to fulfil its contractual cash flow obligations. The Standard suggests that ‘investment grade’ rating might
be an indicator for a low credit risk. [IFRS 9 paragraphs B5.5.22 – B5.5.24]
The assessment of whether there has been a significant increase in credit risk is based on an increase in
the probability of a default occurring since initial recognition. Under the Standard, an entity may use
various approaches to assess whether credit risk has increased significantly (provided that the approach
is consistent with the requirements). An approach can be consistent with the requirements even if it
does not include an explicit probability of default occurring as an input. The application guidance
provides a list of factors that may assist an entity in making the assessment. Also, whilst in principle the
assessment of whether a loss allowance should be based on lifetime expected credit losses is to be
made on an individual basis, some factors or indicators might not be available at an instrument level. In
this case, the entity should perform the assessment on appropriate groups or portions of a portfolio of
financial instruments.
The requirements also contain a rebuttable presumption that the credit risk has increased significantly
when contractual payments are more than 30 days past due. IFRS 9 also requires that (other than for
purchased or originated credit impaired financial instruments) if a significant increase in credit risk that
had taken place since initial recognition and has reversed by a subsequent reporting period (i.e.,
cumulatively credit risk is not significantly higher than at initial recognition) then the expected credit
losses on the financial instrument revert to being measured based on an amount equal to the 12-month
expected credit losses. [IFRS 9 paragraph 5.5.11]

Purchased or originated credit-impaired financial assets

Purchased or originated credit-impaired financial assets are treated differently because the asset is
credit-impaired at initial recognition. For these assets, an entity would recognise changes in lifetime
expected losses since initial recognition as a loss allowance with any changes recognised in profit or loss.
Under the requirements, any favourable changes for such assets are an impairment gain even if the
resulting expected cash flows of a financial asset exceed the estimated cash flows on initial recognition.
[IFRS 9 paragraphs 5.5.13 – 5.5.14]

Credit-impaired financial asset

Under IFRS 9 a financial asset is credit-impaired when one or more events that have occurred and have a
significant impact on the expected future cash flows of the financial asset. It includes observable data
that has come to the attention of the holder of a financial asset about the following events:[IFRS 9
Appendix A]
 significant financial difficulty of the issuer or borrower;
 a breach of contract, such as a default or past-due event;
  the lenders for economic or contractual reasons relating to the borrower’s financial difficulty
granted the borrower a concession that would not otherwise be considered;
 it becoming probable that the borrower will enter bankruptcy or other financial reorganisation;
 the disappearance of an active market for the financial asset because of financial difficulties; or
 the purchase or origination of a financial asset at a deep discount that reflects incurred credit
losses.

Basis for estimating expected credit losses

Any measurement of expected credit losses under IFRS 9 shall reflect an unbiased and probability-
weighted amount that is determined by evaluating the range of possible outcomes as well as
incorporating the time value of money. Also, the entity should consider reasonable and supportable
information about past events, current conditions and reasonable and supportable forecasts of future
economic conditions when measuring expected credit losses. [IFRS 9 paragraph 5.5.17]
The Standard defines expected credit losses as the weighted average of credit losses with the respective
risks of a default occurring as the weightings. [IFRS 9 Appendix A] Whilst an entity does not need to
consider every possible scenario, it must consider the risk or probability that a credit loss occurs by
considering the possibility that a credit loss occurs and the possibility that no credit loss occurs, even if
the probability of a credit loss occurring is low. [IFRS 9 paragraph 5.5.18]
In particular, for lifetime expected losses, an entity is required to estimate the risk of a default occurring
on the financial instrument during its expected life. 12-month expected credit losses represent the
lifetime cash shortfalls that will result if a default occurs in the 12 months after the reporting date,
weighted by the probability of that default occurring.

An entity is required to incorporate reasonable and supportable information (i.e., that which is
reasonably available at the reporting date). Information is reasonably available if obtaining it does not
involve undue cost or effort (with information available for financial reporting purposes qualifying as
such).
For applying the model to a loan commitment an entity will consider the risk of a default occurring
under the loan to be advanced, whilst application of the model for financial guarantee contracts an
entity considers the risk of a default occurring of the specified debtor.  [IFRS 9 paragraphs B5.5.31 and
B5.5.32]

An entity may use practical expedients when estimating expected credit losses if they are consistent
with the principles in the Standard (for example, expected credit losses on trade receivables may be
calculated using a provision matrix where a fixed provision rate applies depending on the number of
days that a trade receivable is outstanding). [IFRS 9 paragraph B5.5.35]

To reflect time value, expected losses should be discounted to the reporting date using the effective
interest rate of the asset (or an approximation thereof) that was determined at initial recognition. A
“credit-adjusted effective interest” rate should be used for expected credit losses of purchased or
originated credit-impaired financial assets.  In contrast to the “effective interest rate” (calculated using
expected cash flows that ignore expected credit losses), the credit-adjusted effective interest rate
reflects expected credit losses of the financial asset. [IFRS 9 paragraphs B5.5.44-45]

Expected credit losses of undrawn loan commitments should be discounted by using the effective
interest rate (or an approximation thereof) that will be applied when recognising the financial asset
resulting from the commitment. If the effective interest rate of a loan commitment cannot be
determined, the discount rate should reflect the current market assessment of time value of money and
the risks that are specific to the cash flows but only if, and to the extent that, such risks are not taken
into account by adjusting the discount rate. This approach shall also be used to discount expected credit
losses of financial guarantee contracts. [IFRS 9 paragraphs B5.5.47]