Converting accounting treatment from HGB to IFRS 9 - KPMG Germany
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Converting accounting treatment of financial instruments from HGB to IFRS 9

Converting accounting treatment from HGB to IFRS 9

The literature devotes a great deal of discussion to comparing the old (IAS 39) and the new (IFRS 9) standard on financial instruments.


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Converting to a new accounting standard always involves great challenges. This is true particularly if sweeping changes to the target standard are still pending or have only recently been decided. The literature devotes a great deal of discussion to comparing the old (IAS 39) and the new (IFRS 9) standard on financial instruments. The provisions of the IFRS, however, also intensify the tasks that must be observed when converting from HGB-based to an IFRS-based consolidated financial statement. As a complete listing of the (potential) conversion effects would be too lengthy for this article, I would like to discuss the main aspects that have become relevant in conversion projects. The topic of hedge accounting will be omitted here as well, as its application is optional under both GAAPs.

Rules for substantive recognition

Even the rules for substantive recognition (or, under IFRS, for recognition based on scope) vary. Under the German Commercial Code [HGB], financial instruments represent either recognised or provisional transactions; the IFRS applies its own definitions in this regard. There are many parallels between the two systems of accounting (trade receivables, liabilities to banks, bank balance, etc.), but under IFRS one will also confront the topics of embedded derivatives subject to mandatory separation and what is known as the ‘own use exemption’. In some cases, there is even substantive recognition of financial instruments that are not reported under HGB. Under IFRS, for instance, there are some cases of certain special rights of termination in financial debt in which derivatives arise that must be recognised separately. There may be provisional transactions that must or may be recognised entirely as derivatives but under the German Commercial Code would merely come in for examination for contingent losses. Accordingly, in a first step, those transactions must be identified that will be recognised differently under IFRS, whether for the first time or as a matter of principle.

Rules for recognition based on amount

At times, there are also considerable differences in the balance sheet recognition in terms of substance and amount. In light of this, the business transactions are grouped by scope for the conversion. Typically, this grouping is made for equity and borrowed capital instruments as well as debt, separated based on the respective principle of subsequent measurement (at amortised cost, at fair value in the reserve of other comprehensive income or at fair value in the profit and loss statement). As a rule, the procedures followed for initial and subsequent measurement can be systematised together in this uniform grouping. Even more than under the rules under the German Commercial Code, the intention that governs management of the financial instruments plays a major role in this grouping. Moreover, under IFRS 9, financial assets, for instance, can be recognised at amortised cost only if the contract provides for payment of interest and repayment of principal; on the other hand, under HGB, recognition at amortised cost is the rule for financial instruments (with the exception of derivatives). As a result, considerably more financial instruments are recognised at fair value under IFRS. In our experience, the greatest differences always arise out of the same financial instruments. In many conversion projects, for instance, hidden reserves were raised from investments in equity instruments held and not consolidated (HGB: securities held as investments or classified as current assets). Whereas, under the German Commercial Code, the moderated or strict principle of lower cost or market value applies, and acquisition costs cannot be exceeded, these instruments are recognised at fair value under IFRS 9. In the case of financial liabilities, the main change is in the reporting of transactions costs and discounts. Under IFRS, these amounts are recognised together with the book value of the liability and recognised as deferred charges and prepaid expenses only in exceptional cases.

Concepts for valuation allowances are considerably more complex

Along with the actual subsequent measurement, the conversion of the concepts for valuation allowances also creates considerable work. The reason for this is that the possibilities for tax valuation allowances, together with the principle of prudence under the German Commercial Code, typically led to solutions that were as prudent as they were pragmatic; under IFRS, however, these solutions are not permissible. In practice, it also turns out that, contrary to the widespread expectation by the auditor sector, not only the simplified approach but also the general approach is relevant with regard to mass data of corporate businesses.  The reason for this is the narrowly defined area of application of the simplified approach, which, for instance, does not include receivables from vendors. In addition, IFRS 9 calls for very extensive analyses of anticipated defaults; this involves not only historical analyses but also the inclusion of forward-looking information. These points are relevant to every IFRS 9 project, but for many (hitherto) Commercial Code-oriented companies, they come as a shock, as the break with the principle of prudence is particularly apparent here. For years, now, the issue of specific and general allowances has been considered resolved; under IFRS, however, these factors must be revisited, both as part of the conversion and annual back-testing.

More extensive disclosures in the notes

Financial statements drawn up under the German Commercial Code picks out disclosures in the notes as more or less short explanations; these disclosures are now exorbitantly more extensive under IFRS. This is particularly the case for financial instruments the disclosures of which actually regularly derive from two standards (IFRS 7 and IFRS 13). In addition to the sheer volume of disclosures, some conventions are difficult to grasp for firms with accounting based on the German Commercial Code (e.g. measurement of current FX exposures with FX sensitivity based on current book value for original financial instruments, and taking the trend in the nominal amount over time into account for derivatives). At the same time, the notes requirements have considerable repercussions for the creation of the chart of accounts, as only information found in the accounts (or controlling information) can be automatically compiled.

Replacing IAS 39 with IFRS 9 not only presents challenges to companies with accounting based on IFRS but has consequences for IFRS conversions as well. In addition to the conversion effects that have been known for years, IFRS 16 and IFRS 9 in particular are leading in some cases to considerable changes, not only in key figures but also in the structure of the financial statements and disclosures drawn up parallel to these.

Source: KPMG Corporate Treasury News, Edition 73, November 2017
Author: Felix Wacker-Kijewski, Senior Manager, Finance Advisory, 

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