Repurchase agreement accounting treatment under IFRS 9 has become an increasingly important topic in recent times, especially for financial institutions. In this article, we will explore the basics of repurchase agreements, their accounting treatment and how IFRS 9 has impacted this treatment.
Understanding Repurchase Agreements
A repurchase agreement, commonly known as a repo, is a financial instrument used for short-term borrowing or lending of securities. In a repo, one party sells securities to another with an agreement to buy it back at a later date and at a predetermined price. For the seller, the transaction is a form of short-term borrowing, while for the buyer, it`s a form of short-term lending.
Accounting Treatment of Repurchase Agreements
Under IFRS 9, repurchase agreements are treated as financial instruments and accounted for based on the substance of the transaction. This means that the accounting treatment is determined by the economic nature of the transaction, rather than its legal form.
For the seller, a repo is recognized as a sale, and the cash received is recognized as revenue or interest income, depending on the terms of the agreement. The securities sold are removed from the balance sheet, and any gain or loss arising from the transaction is recognized in profit or loss.
On the other hand, the buyer accounts for the repo as a purchase of securities, with the cash paid recorded as an investment. The securities purchased are recorded on the balance sheet as an asset, and any gain or loss is recognized in profit or loss.
Impact of IFRS 9 on Repurchase Agreements
The introduction of IFRS 9 has brought some changes to the accounting treatment of repurchase agreements. The key change is the requirement for financial institutions to consider the business model for holding the repurchase agreement as a financial instrument. Under IFRS 9, financial institutions must categorize financial instruments based on whether they are held for trading, held-to-maturity, or held-for-collection.
For financial institutions that hold repurchase agreements for trading purposes, the gains and losses must be recognized in profit or loss. Any changes in fair value of the securities sold must also be recognized in profit or loss.
For those holding repo agreements for holding-to-maturity, the gains and losses should be recognized in other comprehensive income. And for financial institutions that hold repurchase agreements for collecting credit risk premiums, the gains and losses should be recognized in other comprehensive income.
Conclusion
In summary, understanding the basic accounting treatment of repurchase agreements and the impact of IFRS 9 is crucial for financial institutions. It`s important to recognize that the accounting treatment of these instruments is determined by the substance of the transaction, and not its legal form. As such, financial institutions must carefully evaluate their business model for holding repurchase agreements and categorize them accordingly to ensure compliance with IFRS 9.