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Accounting treatment of
loans and borrowings
Issue paper presented at the EPSAS
Working Group meeting
Luxembourg, 7-8 May 2018

Status report
and
preliminary
matters for
discussion
Contents

Introduction 3
Accounting and reporting guidance 5
Government practices in the EU 19
Matters for discussion 21

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Introduction
Objectives of the issue paper

• Prepare the future discussion on accounting for loans and

borrowings with the EPSAS stakeholders.
• This presentation addresses preliminary matters for discussion.
• Topics currently addressed in the paper:
- Main categories of loans and borrowings.
- Accounting and reporting guidance available or under development.
- Country analysis.
- Main difficulties in practice.
- Matters for discussion to achieve sound, efficient and harmonised
accounting for loans and borrowings by Member States.

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Introduction
Background of the issue

• Governments at all levels often incur large amounts of borrowings to

fund their activities. These represent a very significant portion of
liabilities in the balance sheet.
• They may also provide loans as financial support to certain categories
of economic operators, including in times of financial distress, and
not always at normal market conditions (concessionary loans).
• 2013 Staff Working Document from the Commission to the Council
and the European Parliament and PwC 2014 study.
- Diversity in accounting practices by Member States: use of nominal
amounts vs amortised cost method, etc.
- Difficulties to determine fair value in the public sector context.
- Complexity and extent of disclosures.

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 Accounting and reporting guidance
IPSAS (loans) (current guidance) (1/3)

• Financial instruments standards IPSAS 28 (presentation), IPSAS 29

(recognition and measurement) and IPSAS 30 (disclosures).
• Loans are financial assets (may be included in categories in red below).
Categories of financial assets Description, examples Measurement
At fair value through profit or Derivatives or designated at Fair value (FV) with changes
loss (FVTPL) inception in FV through P/L
Loans and receivables Fixed or determinable Amortised cost
amounts
Held to maturity (HTM) debt If intention and ability to Amortised cost
instruments hold to maturity (e.g. bonds)
Available for sale (AFS) debt Residual category Fair value with changes in FV
instruments in equity. Impact P/L upon
impairment or sale

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Accounting and reporting guidance
IPSAS (loans) (current guidance) (2/3)

• Special guidance on concessionary loans (at below market rates).

At inception
Dr Loan (at fair value - NPV using the prevailing market interest rate)
Dr Financial expense (day one loss)
To Cr Cash

Over the period of the loan

Dr Loan (gradually reconstitute nominal amount at maturity date)
To Cr Financial income (unwinding of the discount - financial income
reflecting normal market conditions)

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Accounting and reporting guidance
IPSAS (loans) (current guidance) (3/3)

• Impairment test (incurred credit loss model) if objective evidence of

impairment (e.g. decline in expected cash flows)
- Financial assets measured at amortised cost
Impairment loss: difference between the asset’s carrying amount and the
present value of expected future cash flows discounted at the financial
instrument’s original effective interest rate.
- Financial assets measured at fair value
The cumulative loss that had been recognised directly in equity should be
removed from equity and recognised in profit and loss for the period.
Impairment loss: difference between the acquisition cost (net of any
principal amount and amortisation) and current fair value, i.e. recoverable
amount calculated as the present value of expected future cash flows
discounted at the current market rate of interest for a similar financial asset.

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 Accounting and reporting guidance
IPSAS (borrowings) (current guidance)

• Borrowings are financial liabilities (included in categories in red

below).

Categories of financial assets Description, examples Measurement

At fair value through profit or Derivatives or designated at Fair value with changes in FV
loss (FVTPL) inception through P/L
Other financial liabilities Not entered into for trading Amortised cost
purposes

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Accounting and reporting guidance
IPSAS (loans and borrowings) (current guidance) (1/3)

• Amortised cost.
Unamortised
Amortised Principal premiums or
= Cash paid - +/- - Impairment
cost repayments discounts

- The effective interest rate is the rate that exactly discounts estimated
future cash payments or receipts through the expected life of the financial
instrument (excluding credit losses) to the net carrying amount of the
financial asset or financial liability.
- The calculation includes all fees and points paid or received that are an
integral part of the effective interest rate, transaction costs, and all other
premiums or discounts.
- The effective interest rate is the interest prevailing at the inception of the
loan and does not change subsequently.

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 Accounting and reporting guidance
IPSAS (loans and borrowings) (current guidance) (2/3)

• Amortised cost (illustrative example). Bond issued with a face value of

EUR 100,000 bearing interest at 10% and redeemable in 5 years. Issued with a
3% discount. Transactions costs of 2,000.

Effective interest 11.37%

rate
Number of years Carrying amount at Interest expense Cash flow Carrying amount at
1/1/N 31/12/N
0 - 95,000 95,000
1 95,000 10,797 (10,000) 95,797
2 95,797 10,888 (10,000) 96,685
3 96,685 10,988 (10,000) 97,673
4 97,673 11,101 (10,000) 98,774
5 98,774 11,226 (110,000) -

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Accounting and reporting guidance
IPSAS (loans and borrowings) (current guidance) (3/3)

• Fair value
• Fair value hierarchy:
- First, quoted prices in an active market (level 1).
- Then valuation techniques (market comparables, discounted cash flows)
making maximum use of market inputs (level 2 if inputs are based on
market data, level 3 if not).
• The best evidence of fair value is the transaction price unless fair
value is based on market comparables or on a valuation technique
whose variables only include data from observable markets.

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Accounting and reporting guidance
IPSAS (loans) (proposed new rules)

• ED 62 ‘Financial instruments’ inspired by IFRS 9 ‘Financial

instruments’.
• Main changes compared to the current IPSAS rules:
- New simplified classification and measurement rules for financial assets
which are aligned on the business model of the public sector entity and the
characteristics of the assets.
- New expected credit loss (ECL) model under ED 62 (versus incurred loss
model under IPSAS 29).

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Accounting and reporting guidance
IPSAS (loans) (proposed new classification and measurement
rules)

Debt instruments

Business model NO Business model NO

‘hold to collect’? ‘hold to collect & sell’?
F FVTPL = Fair Value
YES YES V
through Profit or Loss
NO
Solely payments of principal and interest? T
P
YES YES L
YES
Fair value option applied?
NO NO

Fair value through net

Amortised cost
assets/equity
Scope for impairment based on expected credit loss model

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Accounting and reporting guidance
IPSAS (loans) (proposed new impairment rules)

• The new ECL consists in a ‘three-stage’ model for impairment based on

changes in credit quality since initial recognition, distinguishing credit losses
on performing loans, underperforming loans and non-performing loans.

Change in credit quality since initial recognition

Stage 1 Stage 2 Stage 3

Underperforming
Performing Non-performing
Assets with significant increase in
(Initial recognition) (Credit impaired assets)
credit risk since initial recognition

Recognition of ECL

12 month ECL Lifetime ECL Lifetime ECL

Interest revenue
Effective interest on
Effective interest on gross Effective interest on gross amortised cost carrying
carrying amount carrying amount amount (i.e. net of credit
allowance)

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Accounting and reporting guidance
IPSAS (loans and borrowings) (disclosures)

• Key disclosures include:

- Classes of financial assets and liabilities.
- Summary of significant accounting policies.
- Fair value and fair value hierarchy: on level 1, 2 and 3 fair values.
- Risk management policies.
- Nature and extent of risks: credit risk (credit quality, concentration of
credit risk, collaterals, qualitative and quantitative information on ECL
and how risks evolve), liquidity risk (maturity analysis for financial
liabilities) and market risk (sensitivity analysis on movements in exchange
rates and interest rates).

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Accounting and reporting guidance
EAR

• EAR 11 ‘Financial instruments’ is based on IAS 39 (pending IPSAS 29

at the time EAR 11 was issued) and considering public sector
guidance (e.g. on concessionary loans).
• Specific guidance for financial support loans granted by EU entities
from borrowed funds (e.g. European Financial Stability Mechanism
and Balance of Payments loans): these are measured at nominal
value. The effective interest rate is the nominal interest rate.

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Accounting and reporting guidance
IFRS

• IFRS 9 ‘Financial instruments’ (IPSASB ED 62 is based on this

standard).
• To be noted:
- Concept of OCI (other comprehensive income) under IFRS (to reflect
changes in fair value).

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Accounting and reporting guidance
ESA 2010

• A financial claim is the right of a creditor to receive a payment or

series of payments from a debtor. In order to maintain symmetry at
the macroeconomic level, financial claims and corresponding liabilities
are recorded at the same value. These values exclude commissions,
fees and taxes.
• Loans, trade credits and deposits are valued at nominal value.
• Non-performing loans (i.e. that have not been serviced for some time)
are included as a memorandum item to the balance sheet of the
creditor but no impairment loss is recorded.
- Nominal value and market equivalent value should be disclosed.
• Debt securities are recorded at market value.
• Loans classified by original maturity, currency and purpose of lending.

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Government practices in the EU
PwC 2014 study report

The PwC 2014 study shows diversity in accounting for loans and
borrowings.

Borrowings 15 11

Amortised cost
Loans 14 13 Other method

0 10 20 30
Number of EU countries

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 Government practices in the EU
Country analysis

• Findings from country analysis (central governments of FR, LT and SE).

France Lithuania Sweden
Applicable rules National rules based on LPSAS (Lithuanian Public National rules for the
international standards Sector Accounting private sector (based on
(standards 7 and 11). Standards) based on IPSAS. IFRS and IPSAS).

Main categories Loans: loans to foreign Loans: domestic loans to Loans: loans to the Swedish
of loans and governments (e.g. Greek social security funds. National Bank and student
borrowings loan). Borrowings: bonds issued, loans.
Borrowings: bonds issued. loans from international Borrowings: bonds issued.
institutions.
Measurement Loans: initially at nominal Loans: amortised cost. Loans: amortised cost.
value and subsequently at Available-for-sale financial Students loans at their
their present value. assets at fair value. present value.
Borrowings: amortised cost. Borrowings: amortised cost. Borrowings: amortised cost.

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Matters for discussion
Difficulties encountered in practice

• Complexity of the subject-matter.

- Need to develop strong expertise to deal with the most complex issues.
• Inherently difficult measurement.
- Tailored (and sometimes complex) models to capture the risks inherent to
the recoverability of the loans (ECL model under the new proposed IPSAS
rules) and assess fair value for debts instruments measured at fair value.
- Management judgment to estimate cash outflows (including uncertainties
surrounding these estimates) and other measurement assumptions.
• Presentation and disclosures.
- Judgment in assessing categories to present on the balance sheet and
nature and extent of disclosures.

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Matters for discussion
Possible way forward

• Need for guidance or sharing of best practices relating to fair value

measurement and impairment models?
- Sharing of best practices regarding complex measurement of assets (at fair
value or using impairment models such as ECL models)?
- Need for consistency between member States when assessing similar risks
(e.g. impairment of loans to specific countries)?

• Presentation and disclosures.

- Need for consistency in presentation and disclosures? Determine guidance
in respect of the categories of loans and borrowings?

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Thank you!

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