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March 7, 2013

IASB consults on revised loan loss provisioning

The International Accounting Standards Board (IASB) has issued a revised set of proposals for the impairment of financial instruments.

The proposals change financial reporting requirements from the incurred loss model to an expected loss model. The proposal sees IFRS diverge from the US Financial Accounting Standards Board (FASB) as to how expected losses should be recognised.The FASB has chosen upfront recognition of lifetime day one losses, while the IASB tried to avoid "excessive front loading of losses" in an attempt to better reflect economic reality.

The Institute of Chartered Accountants in England and Wales’ Financial Reporting Faculty head Nigel Sleigh-Johnson ideally "we would now have one impairment standard in place that the IASB and the FASB, the US standard setter, agreed on".

"Despite several consultations and much deliberation, that has proved impossible. We need to accept it is now much more important to focus on finalising a quality solution for IFRS reporters."

KPMG’s global IFRS financial instruments leader Andrew Vials said the proposals would likely have a "significant impact on banks and similar financial institutions".

"Although focused relevant disclosures are essential for users to understand the entity’s exposure to credit risk and the critical judgements that it has made in preparing the accounts, some will see the proposals as adding to the perceived ‘disclosure overload’ that troubles many preparers and users," Vials warned.

KPMG said most banks are likely to see a significant impact, and would be likely to need additional systems and processes to collect the necessary information.

The Big Four firms International Standards Group partner Chris Spall added: "Estimating impairment is an art, rather than a science, involving difficult judgements about whether loans will be paid as due and, if not, how much will be recovered and when. The proposed model widens the scope of these judgements. It introduces a new threshold for determining whether there has been a significant deterioration in credit quality – which in turn is used to assess whether a loan should have an allowance to cover losses in the next 12 months, or to cover all expected losses over its life."

"These new rules would give rise to challenges, as new judgements would have to be made by preparers, reviewed by auditors and understood by users of financial statements, including prudential and securities regulators," Spall explained.

He also encouraged companies, in particular banks, not to delay assessing the impact of the proposals on their business.

"Credit risk is at the heart of a bank’s business and the proposed model is expected to have far-reaching implications for their credit systems and processes. Banks may face significant implementation issues," Spall remarked.

According to KPMG, corporates are also likely to be affected, but said the impact on short-term trade receivables is "likely to be small".

Deadline for comment on the draft proposals is 5 July.

Related linksInternational Accounting Standards Board

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