How does Ind AS 109 classify a financial asset?
Ind AS 109 classifies a debt financial asset by two tests: the business model for managing it, and whether its contractual cash flows are solely payments of principal and interest. The asset is then at amortised cost, at fair value through other comprehensive income, or at fair value through profit or loss.
What is a financial instrument?
A financial instrument is a contract that gives one entity a financial asset and another entity a financial liability or an equity instrument. The contract need not be a single formal document. A statutory obligation is not a contract, so income tax payable is not a financial liability, and a constructive obligation that does not arise from a contract is not one either.
Which category applies?
Both tests have to be met for the first two categories. If either fails, the asset is at fair value through profit or loss.
| Category | When it applies |
|---|---|
| Amortised cost | The business model is to hold the asset to collect contractual cash flows, and those cash flows are solely payments of principal and interest. |
| Fair value through other comprehensive income | The business model is both to collect contractual cash flows and to sell the asset, and the cash flows are solely payments of principal and interest. |
| Fair value through profit or loss | Any other debt asset, and an equity instrument unless the other-comprehensive-income election is made. |
An equity instrument that is not held for trading may be irrevocably designated at fair value through other comprehensive income. Dividends may still go through profit or loss where they are a return on the investment. The fair-value changes in other comprehensive income are not later reclassified to profit or loss.
How is a financial liability measured?
A financial liability is measured at amortised cost, unless it is held for trading or is designated at fair value through profit or loss. On initial recognition, a financial asset or liability is measured at fair value. Transaction costs are added to that amount unless the item is at fair value through profit or loss, in which case those costs are expensed.
A loss allowance for a debt instrument uses expected credit losses. The entity does not wait for a default that has already occurred.
When can the category change?
Reclassification of financial assets is required, and permitted, only when the entity changes its business model for managing those assets. Selling one asset, or changing management’s intention for one loan, is not a change of business model. Financial liabilities are not reclassified.
Frequently asked questions
Four questions cover tax payable, an equity election, reclassification, and impairment.
Is income tax payable a financial liability?
No. A financial instrument comes from a contract. Income tax is imposed by statute. It is not a financial liability under Ind AS 109.
Can an equity investment be kept out of profit or loss?
An equity instrument not held for trading may be irrevocably designated at fair value through other comprehensive income. That election is not available for an instrument held for trading, and the amounts in other comprehensive income are not later recycled to profit or loss.
Does a change of intention reclassify the asset?
No. Reclassification is permitted only when the entity changes its business model for managing financial assets. A change of intention for a single asset is not a change of business model.
Is impairment recognised only after a default?
No. Ind AS 109 uses expected credit losses. The loss allowance is not limited to losses that have already been incurred.
Sources
Ind AS 109 classifies and measures financial instruments. Presentation is Ind AS 32. Disclosures are Ind AS 107.