Modification of Financial Instruments a Concept as per IFRS 9 (i.e. ‘Modification/Restructuring’ of financial liabilities and financial assets).
Table of Contents
Modification of Financial Instruments
The ‘Modification Gain or Loss‘ is determined by recalculating the gross carrying amount of the Financial Asset or Financial Liability by discounting the modified cash flows using the original Effective Interest Rate (IRR).
Modification of Financial Liabilities (As Per IFRS 9)
Where ‘Lender’ and ‘Borrower’ AGREE to revise the terms for an existing loan, e.g. change in timing of payment (restructuring) the liability, change in the rate of interest, waiving part of the loan, the financial liability is said to be MODIFIED.
The ‘accounting treatment‘ depends on whether the terms of the loan after the modification are SUBSTANTIALLY different from those of the original loan or not.
| The terms are ´Substantially Different´ if the discounted present value of the cash flows under the new terms, INCLUDING any fees paid net of any fees received and discounted using the original effective rate is at least 10% different from the discounted present value of the remaining cash flows of the original financial liability. |
1. Modification with Substantially Different Terms – Extinguishment Accounting
If the new terms are identified as a ‘Substantial Modification‘, the original loan is extinguished and a new financial liability is recognized in its place with any gain or loss recognized in P&L.
[Any costs or fees incurred are RECOGNIZED as part of the gain or loss on the extinguishment.]
The new liability is RECOGNIZED at its fair value in accordance with the normal rules of recognition of Financial Instruments. This is found by discounting the revised future payments at the market rate of interest that applies to such cash flows.
2. Modification with Terms that are Not Substantially Different – Modification Accounting
If the new terms are NOT substantially different, do not recognize the original liability. Recalculate the present value of the modified cash flows discounted at the original Effective Interest Rate.
[Any difference between this recalculated amount and the existing carrying value is RECOGNIZED as Modification gain/loss in P&L.]
Any Modification fee paid/received is adjusted against the carrying amount of modified financial liability and is amortized over the remaining term.
(New IRR would be calculated to AMORTIZE the ‘Modification Fee’).
Modification of Financial Assets – IFRS 9
Modifications that do NOT result in de-recognition, recalculate the present value of modified cash flows using the original effective interest rate.
[Any difference between this recalculated amount and the existing carrying value is RECOGNIZED as Modification gain/loss in P&L.]
Modification fee paid/received is recognized as part of the carrying amount of the modified financial asset and is amortized over the remaining term.
(New IRR would be calculated to AMORTIZE the ‘Modification Fee’).
Synopsis
Modification of Financial Instruments REFERS to the process of making changes or alterations to existing ‘Financial Instruments‘ such as adapting to changes in Market Conditions, addressing Regulatory Requirements, or customizing the Terms of the Instrument to fulfill the preferences of the parties involved.
Chartered Accountant – ICAP
Bachelor of Accounting (Honours) – AeU, Malaysia