European Commission says no to IFRS 9

The Australian Accounting Standards Board is out of step with the European Commission over the issue of acceptance of the International Accounting Standards Board's new standard for the classification of financial instruments.

Australia is one of only three countries (with New Zealand and Hong Kong) to have endorsed IFRS 9, which was issued by the IASB in November and replaces IAS 39.

The director general of the European Commission, Jorgen Holmquist, has written to the IASB advising his organisation will not endorse the new standard in its current form because it has the potential to "exacerbate income volatility".

IAS 39 came in for a lot of criticism in the wake of the global financial crisis. It was said to be too difficult, with too many categories for classification of financial instruments and other complexities.

IFRS 9 reduces the number of classifications to two -  fair value and amortised cost - and works  on a  business model test. If the objective is to collect contractual cashflows, instruments will be measured at amortised cost. If it is a structured product, it will be measured at fair value.

One of the calls from the G20 has been to review accounting standards with a view to reducing income volatility. When it released IFRS 9 the IASB conceded that it did not know what the split between fair value and amortised cost classifications would be and, therefore, the impact on earnings reporting.

The European Commission's view is that: "The current draft may not have struck the right balance between fair value accounting and amortised cost accounting and may lead to more instruments being classified at fair value through profit or loss compared to IAS 39, thus potentially exacerbating income volatility."

The Commission has asked the IASB to undertake a further review of that aspect of  the standard "and  assess the extent to which input from stakeholders has been effectively translated into the  new text, especially as regards setting the right balance on fair value accounting and possible impact on financial stability."

When it released IFRS 9 the IASB acknowledged that some respondents to its exposure draft had criticised the two-classification approach because it would lead to more assets being measured at fair value.

The chair of KPMG's regional financial instruments team, Patricia Stebbens, said that was a concern for local institutions but the jury was still out.  She said: "We have had this discussion internally and no one has a strong view."

The chief financial officer for institutional banking at ANZ, Shane Buggle said: "What we were looking for was measurement based on the business model. The model they have adopted is a good one."

But on the question of whether the change will result in more or less financial instruments calculated at fair value, Buggle said: "We may have more because of changes in the rules on embedded derivatives. They can no longer be separated from hybrids and so they may go into fair value."

Stebbens said the old IAS 139 allowed issuers of instruments such as convertible notes to measure the element of the notes that had principle and interest characteristics at amortised cost and the equity component (the option) at fair value.

Stebbens said:  "The new standard won't allow you to pull out the embedded derivative. You have to assess the cash flow and if it is more than just principle and interest you would have to use fair value."