​​​​​IFRS: take into account the business models ​

Updated: October 2019

PROPOSED SOLUTIONS AND ACTIONS 

• IBOR: We are concerned about splitting the project in two different projects and the limited topics that have been addressed under Phase I. One important point for the industry is that any proposals should make clear their scope of application. The Board may be aware that in the case of EURIBOR we do not foresee a replacement of the benchmark, instead we are considering a change in the estimation methodology, therefore, we believe that the Boards’ relief is not applicable and the industry will keep the current status with no accounting. Moreover, the IASB should provide as soon as possible a relief on derecognition, modification gain or loss and hedge accounting in order to avoid irrelevant impact of a changes in contractual interests due to the IBOR reform. 

• Macro-hedging: the new approach being proposed is materially different from the current accounting under IAS 39 and IFRS 9. Compared to these standards, the new approach will require significant IT developments and may lead to more volatility in OCI, given that the changes in the value of the hedging instrument will not be offset in OCI with the hedged item, and in a certain way will provide less flexibility and move away from current risk management practices carried out by entities. We would suggest the Board to consider in the future an approach or model that could be a continuity of IFRS 9 requirements for macro-hedges that better align accounting with risk management. 

• FICE: the IASB DP has caused some concern among the banking industry, as some entities may not be convinced that the expected benefits of the IASB’s preferred approach outweigh the costs of its implementation. We would expect the Board to decide on the project direction taking into consideration the feedback received and provide a comprehensive analysis on undated or perpetual hybrid securities such as AT1 instruments and cooperative bank shares. 

• Impairment model and recycling: ESBG is in favour of the reintroduction of recycling that should also be subject to impairment (similar to the IAS 39 model but with additional guidance to reduce subjectivity). 

• IFRS 17: ESBG believes that the standard cannot be endorsed without a solution to the issues mentioned previously, as certain business models would not be faithfully portrayed under the current requirements of the standard. Moreover, a deferral of at least two years in the current effective date of IFRS 17 is needed to ensure a successful implementation. 

The IASB decided in October 2018 to consider reopening the standard and explore potential areas of improvements to IFRS17 and, while targeted improvements have been made, there are still significant issues not considered. The most critical topics that still have to be addressed, and that were included between the issues highlighted by the EFRAG, are the IFRS17 requirements related to transition, to the level of aggregation and to the amortisation of the Contractual Service Margin for certain products with investment related services. In particular: 

• Transition: amendments are necessary in the transition requirements of the standard in order to (a) provide useful information and correctly reflect how certain business lines, as long-term saving-products, are managed, and (b) not impair comparability between contracts written before and after the date of transition. 

• Level of aggregation: annual cohorts and portfolio aggregation by profitability requirement does not portray the business performance for long-term contracts like annuities and the way insurance contracts are managed by insurers (pricing, etc.), additionally introducing operational complexity. 

• Amortisation of the Contractual Service Margin: current requirements do not correctly reflect the economic performance of certain products with investment-related services. 

• Reinsurance contracts (ceded or accepted) should be eligible to the variable fee approach (VFA) in order to avoid mismatch with underlying insurance contracts.

IDENTIFIED CONCERNS 

The major points of concern identified by the ESBG members are the following: 

IFRS 9 FINANCIAL INSTRUMENTS 

Multiple issues related directly or indirectly with IFRS 9 Financial Instruments have been spotted: 

Within IASB work plan (standard setting process and research projects) 

• IBOR (Interbank Offered Rate) – Recent market developments have brought into question the longterm viability of some IBORs even though they are used as benchmarks for a broad range of financial products and contracts. 
• Macro-hedging – Volatility in accounting equity and total comprehensive income due to the cash flow hedge-based model is affected. The amount of risk is expressed as present value sensitivity or net interest income sensitivity considering relevant assets and liabilities across all time relevant buckets. The macro-hedge accounting should better reflect the risk management of financial institutions. 
• FICE (Financial Instruments with Characteristics of Equity) – uncertainty and diversity in practice exists today on the classification of some instruments such as AT1 contingent convertible instruments (CoCos) and cooperative bank shares. 

Within the European Commission and EFRAG work plan 

• Impairment model and recycling – the European Commission ("EC") requested EFRAG to investigate the potential effects on long-term investment of the IFRS 9’s requirements on accounting for equity instruments and gather views on impairment and the re-introduction of recycling for equity instruments carried at FVOCI. 
• •Equity instruments – as part of its Action Plan on Sustainable Finance, the EC asked EFRAG to explore potential alternative accounting treatments to ("FV") measurement for long- term investment portfolios of equity and equity-type instruments. 

IFRS 17 INSURANCE CONTRACTS 

Entities with insurance business face the implementation of IFRS 17 Insurance Contracts facing several issues. IFRS 17 Insurance contracts sets out the requirements an entity must apply when accounting for insurance contracts issued and reinsurance contracts entered into. The currently approved effective date of this standard is 1 January 2021, at which time it will replace IFRS 4 Insurance Contracts, a temporary standard allowing for the continued use of local accounting practices, whereby insurance contracts are accounted for differently in different jurisdictions. 

In December 2018 the IASB tentatively decided to defer the date on which the standard will be first be applied, in addition to other aspects. Therefore, in the event of this decision being final, the effective date would ultimately be 1 January 2022 (with a minimum of one-year comparative information). 

Implementation of IFRS 17 will standardise the accounting treatment for all insurance contracts, based on a measurement model using calculation assumptions updated at each reporting date (such as the discount rate, mortality and survival tables, and other variables). Ongoing implementation projects, however, have identified the need for more time and for improvements to the standard in order to address issues that impact on meaningful reporting and introduce significant operational challenges. 

BACKGROUND 

International Financial Reporting Standards (IFRS) set common rules so that financial statements can be consistent, transparent and comparable around the world. IFRS are issued by the International Accounting Standards Board (IASB). They specify how companies must maintain and report their accounts, defining types of transactions and other events with financial impact. IFRS were established to create a common accounting language, so that businesses and their financial statements can be consistent and reliable from company to company and country to country. The current suite of IFRS consists of 25 IAS, 17 IFRS and 18 Interpretations. 144 jurisdictions require IFRS or 87% of the world. IFRS are designed to bring consistency to accounting language, practices and statements, and to help businesses and investors make educated financial analyses and decisions.