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HMRC internal manual

Corporate Finance Manual

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HM Revenue & Customs
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Foreign exchange: matching: effect of IAS

Matching under IAS

For periods beginning on or after 1 January 2005, some companies have adopted IAS 39 and IAS 21 (or FRS 26 and FRS 23) as the standard for dealing with foreign exchange transactions.

Under FRS 23/26 and IAS, virtually all foreign exchange gains and losses are now taken through the profit and loss account at the individual company level, including those relating to the hedging of a foreign currency equity investment. One exception relates to instruments taken out to act as cash flow hedges of forecast future transactions, where gains and losses on the instrument should be deferred in equity (reserves) until such time as the transaction takes place. When the forecast transaction takes place the gains and losses are recycled from reserves and form part of the initial cost of the asset or liability acquired. As such the exchange gains and losses affect profit and loss in the period which the relevant asset or liability assumed affects profit or loss.

Under SSAP 20 the exchange gain or loss in respect of a cash flow hedge was only recognised when the forecast transaction took place, again as part of the cost of the liability or asset acquired. There were no exchange gains or losses to deal with before this point.

It is also possible under FRS 23/26 and IAS for exchange gains and losses to be taken directly to reserves if they relate to the retranslation of a foreign currency overseas operation or branch included in the financial statements of an individual company. The exchange gains and losses on the retranslation may be taken directly to reserves, along with those on any hedging instruments under the closing rate/net investment method. This is the same treatment as allowed by SSAP 20.

Adoption of IAS means that there is no need for the special matching tax rules described at CFM62210. Without any provision to the contrary, foreign exchange gains and losses of companies adopting IAS would then fall to be dealt with for tax purposes under the ordinary rules relating to loan relationships or derivatives as appropriate.

However, following representations from affected parties, it was agreed that, for tax purposes, the matching rules could continue for companies adopting IAS in relation to one or more liabilities or derivatives which the company intends to function as a hedge of shares, ships or aircraft. This is achieved by means of the ‘Disregard Regulations’, which are described at CFM62600.