Amendments to IFRS 9 on Derecognition of Financial Liabilities

The International Accounting Standards Board (IASB) issued amendments to IFRS 9 Financial Instruments in May 2024 (the Amendments), clarifying when financial liabilities and assets should be derecognised, particularly those settled through electronic payment systems, such as BACS.

The amendments are effective for annual reporting periods beginning on or after 1 January 2026, where accounts are prepared in accordance with IFRS. There have not been any corresponding changes made to FRS 102 or UK GAAP generally.
 

Understanding the Amendments: Key changes and new exemption

Under the Amendments, the IASB has clarified the timing of recognition and derecognition of financial assets and liabilities. Financial assets are derecognised on the date when the contractual rights to the cash flow expire, or the asset is transferred. Financial liabilities are derecognised on the settlement date: the date on which the obligation specified in the contract is discharged or cancelled or expires.

The basic rule is that the settlement is only recorded when the cash is transferred i.e., when the payment process is complete. This would remove all reconciling items between bank account and balance sheet for such payments and receipts.

However, the IASB has introduced an optional and conditional exemption to this basic rule, applicable to the payment of liabilities only. An entity may choose to derecognise financial liability before the settlement date if the liability is settled in cash through an electronic payment system at the point in time that all the following criteria are met:

• the entity has no practical ability to withdraw, stop or cancel the payment instruction ensuring the liability is only derecognised when the entity has irrevocably committed the funds
• The entity has no access the cash to be used for settlement as a result of the payment instruction, so the cash is no longer under the entity's control for any other purpose
• The settlement risk associated with the electronic payment system is insignificant and the likelihood of the payment failing to complete, reversing the commitment, is remote.

The criteria are unlikely to be met when the process is first initiated. Instructions to a bank to make electronic transfers can usually be rescinded for at least part of the process period. For example, if an electronic transfer process takes three days but it can be cancelled up to 24 hours after initiation. The accounting options will be to derecognise the liability one day after the bank instruction is given or when the cash is actually transferred on the third day.
 

How will the Amendments change your financial reporting?

The clarification of the basic rule in these amendments applies to all financial assets and financial liabilities regardless of the payment method chosen. The practical implications of the amendments could be significant for entities whether they settle financial liabilities using cheques, debit/credit cards or electronic payment systems.

For cheques, the amendments indirectly clarify that the payer has not settled the financial liability until the cheque clears. This means the longstanding accounting practice of deducting outstanding cheques from cash and derecognising the corresponding financial liability, such as trade payables, will have to be revisited. For example, a buyer issues a cheque to settle a financial liability and the liability is derecognised on the date when the cheque clears in the recipient’s bank account, while a seller derecognises a financial asset, such as a trade receivable upon receipt of cash in their bank account.

The new accounting policy option offers flexibility for entities using electronic payment systems as their payment method. For entities that initially derecognise liabilities after the counterparty receives funds, this amendment allows for earlier derecognition when certain criteria are met, potentially impacting liquidity and other ratios. Entities that elect this option must apply it consistently to all financial liabilities settled through the same electronic payment system.

To apply the new optional exemption, preparers must carefully analyse the payment process to determine at what point in the process the criteria are met. They must determine the point in time when their instruction can no longer be rescinded.

It is important to note that this elective accounting treatment does not extend to the derecognition of financial assets. For receivables settled electronically, derecognition only occurs when the contractual rights to the cash flows expire or the asset is transferred, which generally aligns with the actual receipt of cash by the entity.
 

Staying ahead of the Amendments

These amendments are intended to promote greater consistency in how entities account for electronic settlements and reduce current diversity in practice. Entities are encouraged to consider how the amendments will affect existing accounting policies and systems, including controls and processes, and whether any changes are needed to accommodate them.

Understanding the terms and conditions of an electronic payment system is critical to determining whether certain criteria for early derecognition are met. This may require extensive operational and legal analysis, particularly for entities operating in multiple jurisdictions, using multiple payment systems or engaging in complex financing arrangements.

A preparer of UK GAAP accounts might consider the developments in IFRS accounting when reviewing their own accounting policies, but they will not be required to make any changes.
 

Background

There have been two alternative views on when a transaction settled using a system such as BACS should be recorded in the financial statements. One view is that a liability could be derecognised when the payer had instructed the bank to make the payment, even though the cash would not be transferred to the creditor’s bank account for 2-3 days. If the processing period straddled an entity’s balance sheet date, then there would be a reconciling item, such as uncleared electronic payments, between the payer’s bank statement and the bank balance reported in its balance sheet.

Another view is that a liability should only be derecognised when the cash has been transferred to the creditor’s bank account at the end of the electronic process. Under this approach there would be no reconciling item between the payer’s bank account and the balance sheet.

Similar alternative views existed in respect of amounts received through the same electronic systems – some recipients accounted for the cash when the debtor initiated the payments, others when the payment was received in the bank accounts.

We would be delighted to provide further information or clarification. Please get in touch with Gareth Singleton for advice.