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HMRC internal manual

Corporate Finance Manual

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HM Revenue & Customs
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Accounting for corporate finance: International Financial Reporting Standards: IAS 39: measurement of financial liabilities

Initial and subsequent measurement of financial liabilities

Initial measurement

When a financial liability at fair value through the profit and loss account (FVTPL) is recognised initially, it is normally measured at its fair value. In the case of other financial instruments, initial measurement is at fair value plus transaction costs that are directly attributable to the acquisition or issue of the instrument.

Identical considerations relating to the meaning of fair value apply to financial liabilities as to financial assets (CFM21160). The fair value of a financial liability with a demand feature, such as a demand deposit, is not less than the amount payable on demand, discounted from the first date that the amount could be required to be paid.

Example

On 1 March 2007, a company overdraws its current account with the bank by £400,000. The overdraft is repayable on demand, so the fair value of the liability is £400,000. If the bank agrees with the company that it will refrain from demanding any repayment of the overdraft for 12 months, the company must calculate the net present value of its obligation to repay £400,000 on 1 March 2008. If the overdraft carries interest at a commercial rate, the fair value of the liability will still be £400,000.

But if the borrowing was interest-free (as might happen if the company had borrowed intra-group, rather than from a bank), the company would initially recognise a net present value lower than the amount borrowed, if the difference was material.

Subsequent measurement

After initial recognition, a company measures all financial liabilities at amortised cost using the effective interest method, except for:

  • Financial liabilities at FVTPL. Such liabilities, including derivatives that are liabilities, are measured at fair value, except for a derivative liability that is linked to, and must be settled by, delivery of an unquoted equity instrument whose fair value cannot be reliably measured. The latter are measured at cost.
  • Financial liabilities that arise when a transfer of a financial asset does not qualify for de-recognition or when the continuing involvement approach applies (see CFM21760).
  • Financial guarantee contracts, which shall be measured at the higher of the amount at initial recognition (less cumulative amortisation recognised under IAS 18) and the amount determined under IAS 37.
  • Commitments to provide loans at below market rates, which are measured at the higher of the amount at initial recognition (less cumulative amortisation recognised under IAS 18) and the amount determined under IAS 37.

Financial liabilities that are designated as hedged items are subject to measurement under the hedge accounting requirements (CFM27000).