IFRS 9 introduces a new approach to the classification and measurement of financial assets. IAS 39’s ‘incurred loss’ has been replaced with a forward-looking ‘expected loss’ model. In this model a loss event does not have to have happened before credit losses are documented. The new standard requires an entity to recognize a loss allowance for all financial assets based on expected losses. Is your financial institution prepared?
For the first time, financial institutions will have to recognize not only credit losses that have already occurred but also losses that are expected.
To be compliant, Tunisian banks will need to have new accounting functionality in place and ready to operate from January 2021. Since an effective accounting system will take roughly 2-3 months to implement a decision about your accounting system needs to be made now, before it’s too late.
The classification requirements for financial liabilities are mostly unchanged. The new standard introduces requirements for accounting, for changes in the value of an entity’s debt instruments when the fair value option is applied. This addresses the ‘own credit’ issue and prevents the organization from recognizing value gains in profit and loss terms when the asset credit quality declines.
The introduction of IFRS 9 overhauls hedge accounting policies and is an attempt to align accounting treatment with risk management activities.
Given the widespread nature of these changes, many banks are falling behind with their IFRS 9 implementation plans. The reasons for these delays vary, but five key IFRS 9 implementation challenges emerged from a recent S&P survey:
- Capital and income volatility. More than half of respondents, according to S&P, expect an increase of at least 15% in total balance sheet allowances because of IFRS 9, and over 80% expect more volatile income. In anticipation of potential capital shocks, according to S&P, some banks are producing their accounts under IFRS 9 guidelines in parallel with current IAS 39 rules, requiring much additional resources to be applied.
- Shifting product lines. According to an IFRS 9 lead at a global bank in the Netherlands, quoted by S&P, the new accounting standard will cause banks to reconsider their product line-ups. Depending on their duration, rating, and guarantee, some products might become unprofitable.
- Data and modeling. Much more data is required under IFRS 9 than IAS 39. Not just historical data, but risk data too. As such, almost a quarter (23%) of respondents are concerned about meeting data requirements to support ECL modelling says S&P. More than half have partial to substantial data gaps in ECL estimation. Finding the necessary resources, whether in-house or external, to build the ECL model is also a significant concern for banks.
- Systems infrastructure. IFRS 9 requires complex calculations to be done within short timescales using large amounts of data. In turn, this requires a robust and flexible systems infrastructure. But many are finding that preparing the systems infrastructure for IFRS 9 is difficult. Even where short-term solutions have been used, they do not always work with legacy systems. As such, many banks that were hoping to adopt short-term measures are finding that nothing less than a complete systems infrastructure overhaul is necessary.
- Cost. Despite the International Accounting Standards Board’s original intent for IFRS 9 to be performed without additional undue costs, almost half of respondents to the S&P survey expect to spend more than USD1 million on IFRS 9 implementation. The additional costs goes beyond system transition into operational processes such as forecasting, validation, and modeling.
The impact of IFRS 9 will affect smaller institutions more than their larger counterparts. Banks of all sizes are finding IFRS 9 more challenging than they had envisaged. Banks which are behind on their IFRS 9 implementation projects will need to work quickly now in order to find tactical solutions to meet the deadline.
In another recent report Deloitte makes two core recommendations, in the context of regulatory capital adequacy, to banks that are transitioning to IFRS 9. First, banks should prepare a fair and open assessment of potential IFRS 9 impacts to provide prudential regulators with the facts to establish whether the impact could be significantly greater than current models. This should include consideration of operational and financial consequences.
Financial institutions will have to analyze the business model information and the cash flow characteristics of their financial assets to determine whether the assets should be measured at amortized cost or fair value. Banks will also need to calculate the expected credit loss for your assets over either a 12-month or lifetime period.
So, with just 4 months to go, are you ready?
Temenos provides a standardized solution with the capability to support all three key areas. The IFRS 9 solution integrated with Temenos Transact is also compliant with the rules under IAS 39.