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HMRC internal manual

Corporate Finance Manual

HM Revenue & Customs
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Accounting for corporate finance: International Financial Reporting Standards: IAS 39: measurement of financial assets: impairment: accounting treatment: example

Impairment of AFS assets: example

A UK company (which accounts to 31 December) holds, as an investment, sterling-denominated corporate bonds of par value £2 million, which are traded on an active market. They mature on 30 June 2008, and carry a 7.5% coupon. The company bought the bonds in the market on 1 July 2005 for £2,080.000. The yield to maturity is 6.0035%.

The amortisation table is therefore:

Period to P&L credit Interest receivable Amortisation Carrying value on amortised cost basis
Initial recognition       2,080,000
31/12/05 62,436 75,000 (12,564) 2,067,436
31/12/06 124,118 150,000 (25,882) 2,041,554
31/12/07 122,564 150,000 (27,436) 2,014,118
30/06/08 60,458 75,000 (14,452) 1,999,576

The company has not the positive intention of holding these bonds to maturity, and so accounts for them as an available for sale asset. At 31 December 2005, the fair value of the bonds is £2,071,000.

The yield on the bonds is credited to profit and loss each year. The P&L credit contains two components - the interest receivable (a credit) and amortisation of the premium over par value at which the bonds were purchased (a debit). Between 1 July and 31 December 2005, the fair value of bonds decreases by £9,000: however, deducting from this the £12,564 amortisation already debited to P&L, there is a fair value increase of £3,564 that is taken to equity.

In year ended 31 December 2006, the company that issued the bonds defaults on a loan commitment. At the year end, the bonds are trading at 101.50, so the market value of the holding is £2,021,000, less than the amortised cost. The loan default, coupled with the drop in value, provides objective evidence of impairment. The fair value has fallen by £50,000 during the year. This breaks down to:

  • amortisation £25,882 - debited to P&L
  • a fair value decrease of £24,118 which would be taken to equity.

However, because the asset is impaired, an impairment loss is “recycled” from equity and recognised in P&L. IAS 39 specifies that the amount of the loss is the difference between the acquisition cost, net of any principal repayment and amortisation (in other words, the carrying value on an amortised cost basis) and the current fair value. In this case, the impairment loss is £2,041,554 - £2,021,000 = £20,554. This amount is debited to P&L. The remainder of the fair value decrease, £3,564, is taken to equity, reversing the previous credit.

In 2007, the fortunes of the issuing company improve, and at 31 December 2007 the fair value of the bond is £2,015,000. The fair value, net of the £27,436 amortisation debited to P&L, has increased by £21,436. This increase can be objectively related to events occurring after recognition of the impairment debit.

The company therefore takes £20,554 to P&L in year ended 31 December 2007, reversing the impairment debit. The remaining £882 of the fair value increase is credited to equity.