For accounting periods commencing on or after 1 January 2015, current UK GAAP has been replaced by a single standard. The transition requires all UK companies’ financial information to be prepared in accordance with FRS 102. The only exceptions will be those applying International Financial Reporting Standards (IFRS) or Financial Reporting Standard for Smaller Entities (FRSSE).
Below is a summary of the key changes to accounting for financial instruments under the new standard.
A financial instrument is a contract that gives rise to a financial asset in one entity and a financial liability or equity instrument of another entity. Common financial instruments would include cash, trade debtors and interest rate swaps.
FRS 102 classifies financial instruments as either basic financial instruments or other financial instruments. The accounting treatment varies according to the classification.
Basic financial instruments are defined as one of the following:
All other financial instruments are classed as other financial instruments and treated accordingly.
Common examples of other financial instruments are:
The definitions of basic financial instruments were updated by the FRC in August 2014.This broadened the types of debt instrument that; would qualify as basic financial instruments, as the previous definitions were considered too restrictive.
Basic financial instruments are initially accounted for at their transaction price except for financing transactions (such as certain debt instruments) which are measured at the present value of the future payments discounted using a market rate of interest. Subsequently, basic financial instruments are measured as follows:
All other financial instruments are initially recognised at fair value, which is normally the transaction price. Other financial instruments are subsequently measured at fair value with any changes in the fair value recorded in the profit and loss account.
For many businesses with other financial instruments, such as interest rate swaps or forward foreign currency contracts, FRS 102 will mean that they are included on balance sheet for the first time and will have a direct impact on reported profits.
In certain circumstances, hedge accounting may be applied to ensure that the gain or loss on a hedged item and a hedged instrument are recognised at the same time. In order to apply hedge accounting, which can reduce volatility in reported results, the following rules must be met:
The revisions to FRS 102 published in August 2014 removed the requirement for a hedge to be highly effective.
The rules for hedge accounting as complex and many commercial hedges may not meet the accounting definitions.
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