IFRS 9 – Financial Instruments (SBR Study Notes)

Key Concepts & Exam Tips: Under IFRS 9, classification of a financial asset depends on its contractual
cash flows and the entity’s business model. Initial recognition is always at fair value (plus transaction
costs if not FVTPL). Debt instruments are measured subsequently at amortised cost, fair value
through OCI (FVTOCI) or fair value through P&L (FVTPL) as follows:

• Amortised Cost: Held to collect contractual cash flows, and those cash flows are solely payments
of principal and interest (the “SPPI” test). Interest revenue is recorded using the effective interest
method. Impairment (expected credit losses) applies to AC assets.
• FVTOCI (Debt): Held in a “collect and sell” model and passing the SPPI test. Interest and credit
losses are recognised in profit or loss; all other fair-value changes go to OCI. On disposal, any
cumulative OCI gain/loss is reclassified to P/L 1 (like IAS 39 AFS debt).
• FVTPL (Debt or Equity): Default category if the above criteria fail or if elected to avoid an
accounting mismatch. All fair-value gains/losses (and impairment) go to profit or loss.

Equity investments are by default FVTPL. However, an irrevocable election at initial recognition allows
non-trading equities to be measured at FVTOCI. Under FVTOCI-equity, all fair-value changes (except
dividends) go to OCI, and no recycling to profit or loss on disposal. Dividends from equity (non-
exchange) are taken to profit or loss in all cases.

Bullet-point Summary:
- Recognition: Financial instruments are recognised when you become party to the
contract.
- Initial Measurement: Always at fair value. Add directly attributable costs if the asset is
not measured at FVTPL. (Exception: trade receivables at transaction price if no significant
finance component.)
- Contractual Cash-Flow (SPPI) test: 4% income, market-linked returns, or leverage
features mean not SPPI (so FVTPL).
- Business Model test: Decide if assets are held to collect, collect & sell, or trading. This is a
facts-and-circumstances test (look at how portfolio is managed).
- Effective Interest Rate (EIR): Apply EIR to AC financial assets/liabilities for interest
revenue/expense.
- Impairment (ECL): Use the forward-looking expected credit loss model for AC and
FVTOCI-debt instruments. (Key: 12-month vs. lifetime loss based on credit deterioration.)
- Equity FVTOCI election: One-time, irrevocable at acquisition. No recycling of gains on
sale.
- Fair Value Option: Can designate assets or liabilities at FVTPL to eliminate mismatches.
For liabilities at FVTPL, IFRS 9 requires credit-risk changes to go to OCI (not P/L).
- Derecognition: Follows IAS 39 rules. Generally, remove a financial asset when rights
expire or are transferred (sold) and risks/rewards are passed. Remove a liability when
extinguished (paid off) or legally cancelled.

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Financial Assets

Classification (Debt vs Equity)

• Debt Instruments (non-equity): Use the SPPI and business-model tests. If both the cash flows
are SPPI and held to collect, measure at amortised cost. If SPPI and held to collect and sell,
measure at FVTOCI. Otherwise, measure at FVTPL. (Default category is FVTPL.)
• Equity Instruments: Default to FVTPL. The only alternative is an FVTOCI election (only at
purchase, irrevocable, and only if not held for trading). If equity FVTOCI, all gains/losses go to
OCI; dividends (if any) to P/L. No recycling on disposal – accumulated OCI stays in equity.

Diagram: IFRS 9 classification of equity investments. By default FVTPL; FVTOCI only if elected (non-trading).

Measurement & Journal Entries (Assets)

• Amortised Cost (Debt held to collect):

Initial: Dr Financial Asset (loan/bond) (at fair value) , Cr Cash. (Include fees/costs in carrying
amount.)
Subsequent: Record interest by EIR. Example: A 3-year debt of face \$100, 5% coupon, issued at
a 6% market yield. Purchase price ≈\$97.33. Journal entries: Initial – Dr Debt 97.33; Cr Cash 97.33.
End of Year 1 – effective interest = 6% of 97.33 = \$5.84: Dr Cash 5.00; Dr Debt 0.84; Cr Interest
Income 5.84. (Receives \$5 coupon, the extra \$0.84 amortises the discount.) Repeat each year.
Derecognition: On sale or maturity, difference between carrying value and cash proceeds is
profit/loss. (Credit asset, debit cash, etc.) Also reverse any allowance for credit losses if
necessary.

• FVTOCI (Debt collect-and-sell):

Initial: Same as amortised cost (Dr Asset at fair value; Cr Cash).
Subsequent: Record interest by EIR (to P/L) and impairment (to P/L). All other fair value changes
go to OCI (Equity). Dr Asset (or Cr Asset) with Cr (Dr) OCI for the FV change. Example: Bond FV rises
by \$10 at year end – Dr Debt 10; Cr OCI 10.
Sale/Derecognition: On disposal, Dr Cash and Cr Debt (remove carrying value). Critically: also
transfer the accumulated FV gain/loss from OCI to P/L 1 . In effect, P/L gets the total gain (cash
price – amortised cost). For example, if a bond’s carrying amount (amortised cost) was \$98 and
it’s sold for \$120 (and OCI held \$20 gain), journal: Dr Cash 120; Dr OCI 20; Cr Debt 98; Cr Gain on
disposal 42. (This ensures the entire \$22 gain is in P/L 1 .)

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 • FVTPL (Debt or Equity):
Initial: Dr Asset at fair value; Cr Cash.
Subsequent: Every period, adjust to fair value with P/L. Example: You hold an equity or trading
bond. If FV increases \$X, Dr Asset X; Cr Gain (P/L) X. If FV decreases, reverse the entry (Dr Loss; Cr
Asset). Dividends from equity FVTPL go to P/L when declared.
Derecognition: On disposal, Dr Cash, Cr Asset; any remaining difference between carrying value
and proceeds is P/L.

• Equity FVTOCI (Special case):

Initial: Dr Equity Investment at cost (≈fair value); Cr Cash.
Subsequent: Fair value changes to OCI (Equity). Dividends in P/L.
Sale: Dr Cash, Cr Equity Investment. Do not reclassify OCI gains to P/L. (Typically, one would
simply reverse the Investment account; the OCI reserve remains in equity permanently.)

Financial Liabilities
• General Rule: IFRS 9 requires most financial liabilities to be measured at amortised cost (using
EIR). Entry at issue: Dr Cash, Cr Financial Liability (bond/loan) at fair value of proceeds (fees
reduce/modify liability). Subsequently, interest expense = carrying amount × EIR, recorded in P/L.
Example: Issue \$100 bond at 5% coupon, repayable at par. Dr Cash 100; Cr Bonds Payable 100.
Each interest date: Dr Interest Expense 5; Cr Cash 5. If issued at a discount, amortise discount
similarly (Dr Interest Exp, Cr Liability for the amortisation).

• Fair Value Through P/L: Some liabilities (e.g. trading liabilities, derivatives, or ones designated
FVTPL) are measured at fair value. All gains/losses go to P/L. Example: A derivative liability
(forward, swap) is re-measured to fair value at period end. If fair value falls by \$50, Dr P/L (loss)
50; Cr Derivative Liability 50. If the company designates a debt at FVTPL to eliminate an accounting
mismatch, changes in its own credit risk go to OCI and the rest to P/L.

• Special Cases:

• Financial guarantees & loan commitments: IFRS 9 says measure at the higher of (a) the loss
allowance (ECL) or (b) the amount initially recognised minus amortised revenue. (Exam note:
guarantee fees are often amortised to P/L, but potential guarantee liability stays until expiry.)
• Compound Instruments: See below – a convertible liability with an equity option is split (not
treated wholly as a liability).

Compound (Hybrid) Instruments – Convertible Bonds

A compound financial instrument (e.g. a convertible bond) has both a liability and an equity
component. Under IAS 32/IFRS 9 you allocate the proceeds between these parts:

• Liability component: Calculate the present value of the bond’s contractual cash flows (interest
and principal) discounted at the market rate for a similar non-convertible bond.
• Equity component: The residual: proceeds – liability value.

The journal on issuance is: Dr Cash (total proceeds); Cr Liability (the PV value); Cr Equity
(conversion option residual). For example, a \$100 face-value bond with a low coupon: if the PV of its
cash flows is \$89.36, the equity is \$10.64. The entry is:

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 Dr Cash 100; Cr Convertible Bond Liability 89.36; Cr Equity (Conversion Option) 10.64.

Chart: Splitting a convertible bond’s proceeds. The liability is measured first (present value of cash flows) and
the equity is the residual.

After initial recognition:

- Liability part: Account for it as a normal financial liability (usually at AC with EIR interest expense).
Example (carrying value \$89.36, coupon 2%): annual interest = 5%×\$89.36 = \$4.47; journal: Dr Interest
Exp 4.47; Cr Cash 2.00; Cr Liability 2.47 (accreting to \$91.83).
- Equity part: Remains in equity (no subsequent remeasurement). It represents the conversion feature.
When conversion occurs, eliminate the liability and transfer to share capital (and possibly share
premium) – Dr Liability; Cr Share Capital (and any Premium). If the bond is redeemed for cash instead of
converted, the equity component is transferred within equity (often to retained earnings) upon
extinguishment.

Key Point: Always treat a convertible as compound. Do NOT forget the equity component – it must
appear in equity (e.g. share options reserve) 2 . (Examiners note that failing to include the equity
portion in the statement of changes in equity is a very common mistake 2 .)

Derivatives & Embedded Derivatives

• Derivatives (standalone): All (unless a hedging instrument) are accounted as FVTPL. This
includes forwards, futures, swaps, options, etc. At inception most are at fair value zero (no entry).
Subsequently, remeasure to fair value each period: Dr Derivative Asset (or Cr Liability) and Cr (or
Dr) Profit or Loss for the change. For example, an FX forward that has \$5,000 gain at period-end:
Dr Derivative Asset \$5,000; Cr Gain on Derivatives \$5,000. If it had a \$3,000 loss instead: Dr Loss \
$3,000; Cr Derivative Liability \$3,000.

• Embedded Derivatives: If a host contract (e.g. a debt or lease) contains a non-equity derivative,
IFRS 9 generally bifurcates it when the host is measured at AC or FVTOCI and the embedded
term is not “closely related.” (If the host is measured at FVTPL, the entire hybrid is FVTPL and no
separation is needed.) For example, a debt instrument with an embedded option to buy oil is
separated: treat the option as a derivative at FV (with changes in P/L) and the remaining debt on
normal terms. In ACCA exams, focus on simple hybrids like convertibles (above) or foreign-
currency components.

• Journal Examples: Apart from issuance as above, derivative accounting entries are usually:

• At fair value increase: Dr Derivative; Cr Profit (gain).

• At fair value decrease: Dr Loss; Cr Derivative.

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Hedge Accounting
IFRS 9’s hedge accounting rules let entities match hedge gains/losses to hedged items in P/L (or OCI) if
strict criteria are met (formal documentation at inception, effectiveness tests, no over-hedging, etc.).
Two common types:

• Fair Value Hedge: Hedges changes in fair value of a recognised asset/liability or an

unrecognised firm commitment. Treatment: Adjust both the hedging instrument and the
hedged item in profit or loss. (Any gain/loss on the hedge goes to P/L, and the carrying amount
of the hedged item is adjusted for the hedged risk – also P/L.) Example: A company fixes the
interest on a fixed-rate loan with an interest-rate swap. If market rates fall, the loan’s fair value
rises (gain) and the swap incurs a loss. Journal at period end:
• Dr Loan Liability (hedged item) $X; Cr P/L $X (gain on loan).

• Dr P/L $X; Cr Swap Liability (or Cr P/L if asset) $X (loss on swap).

Net effect: interest risk impact is offset; any residual gain/loss (ineffectiveness) is in P/L. (If the
hedged item is an equity FVTOCI instrument, the hedge adjustments go to OCI instead of P/L.)

• Cash Flow Hedge: Hedges variability in cash flows (e.g. future interest on a floating-rate debt,
forecast FX sale, etc.). Treatment: The effective portion of the hedge’s gain or loss goes to OCI (a
hedge reserve within equity); the ineffective portion to P/L. When the hedged cash flow affects P/L
(e.g. when interest is paid or forecast sale occurs), the related OCI amounts are recycled to P/L.
Example: Forecast \$100,000 sale in foreign currency, hedged with a forward. At year end the
forward has a \$4,000 gain (effective). Record: Dr Forward $4,000; Cr OCI – Cash Flow Hedge
Reserve $4,000. Later, when the sale occurs (and currency received), transfer the hedge gain: Dr
OCI $4,000; Cr Revenue (or Foreign Exchange Gain) $4,000. Meanwhile, any minor ineffectiveness
always hits P/L immediately.

Hedge types – summary:

| Hedge Type | Hedge Instrument | Gains/Losses on Instrument | Hedge Item Impact | Accounting (P/
L vs OCI) |
|-------------------|-------------------|-------------------------------|---------------------------|--------------------------------------------------------------------------
| Fair Value | Derivative (FV) | Profit/Loss (FV change) | Carrying value adj (FV) | Both instrument and
hedged item flows through Profit or Loss. | | Cash Flow | Derivative (FV) | Effective to OCI (reserve);
ineffective to P/L | When cash occurs, OCI → P/L | Effective in OCI; when hedged item affects P/L,
reclassify OCI to P/L. Ineffective portion always to P/L. |

Illustration – Fair Value Hedge: A fixed-rate bond (liability) is hedged by an interest-rate

swap. If rates rise, the bond’s fair value falls (\u2248\$10 loss) and the swap shows a \$10
gain. Entries: Dr P/L 10; Cr Bond (hedged item) 10 and Dr Swap 10; Cr P/L 10. Net P/L ≈0
(perfect hedge).
Illustration – Cash Flow Hedge: A floating-rate loan’s interest payments are hedged with
a fixed-rate swap. If market rates rise, the swap’s effective loss (say \$8) goes to OCI: Dr
OCI 8; Cr Swap 8. When the higher interest (\$8 more) is paid on the loan, we move the \$8
from OCI to P/L: Dr Interest Exp 8; Cr OCI 8.

Common Mistakes & Exam Tips

• Don’t forget IFRS 9: Always reference the correct standard. Examiners note students often omit
IFRS 9 or confuse it with older IAS 39 or other standards. For example, a question about a foreign

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 exchange contract was clearly IFRS 9 territory, but many candidates missed it. (Also be careful
with currency: a non-monetary financial asset isn’t retranslated at the closing rate.)
• Classification errors: Misclassifying assets is common. Always go step-by-step: SPPI test ➔
business model test. Remember debt ≠ equity. If you declare “Equity FVTOCI with recycling”
you’re wrong – equity FVTOCI has no recycle.
• Convertible bonds: A must-remember ACCA point – split into liability/equity and include the
equity part in equity statements. Examiners frequently report students failing to record the
equity component in the statement of changes in equity 2 . Write the two-part entry on issue
(as shown above), and thereafter interest only on the liability.
• Hedge accounting pitfalls: Many candidates know the definitions but can’t produce journal
entries. Understand the flows: fair value hedge = P/L for both hedge and item; cash flow hedge =
OCI for effective portion, recycle on realization. Don’t simply write “FX hedge → financial liability = \
$X” and leave it. Show how the hedge reserve works. (One examiner noted that many only
recorded the year-end liability and seemed unaware of the OCI accounting for a cash flow hedge
3 .)

• SPPI and business model in exam: Remember that intent (“held-to-collect”) is a business
model, not a single instrument’s purpose. Provide justification (e.g. “the company normally
holds loans to collect interest”). Also mention the SPPI key words (time value, credit risk).
• Impairment: If asked, outline the 3-stage ECL model (12-month vs lifetime loss). Candidates
often skip impairment, but ACCA SBR expects at least mention of expected credit losses on AC/
FVTOCI debt.
• Presentation: In exam answers, label your journal entries clearly, showing accounts and
amount. Use headings and bullet points. Examiners love clarity. Highlight technical terms (e.g.
SPPI, EIR, OCI, hedge reserve) in bold. Stick to IFRS terms, not colloquial ones (e.g. “fair value
option” not “FVO”).

By keeping these points clear and practising journal entries for each scenario (e.g. loans, bonds,
equities, hybrids, hedges), you’ll be prepared for any IFRS 9 question on the SBR exam.

Sources: IFRS 9 text and authoritative guidance; ACCA and IFRS illustrative examples; examiner reports
2 .

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