Question

Discuss the fair value concept of transferor’s journal entry for a transfer of financial assets

Answer 1

RECOGNITION AND MEASUREMENT OF FINANCIAL INSTRUMENTS Financial Asset Amortized cost FVTPL FVTOCI T Financial Liability Amortized cost FVTPL III. Derivatives, Instruments whether classified as FA or FL, they will be accounted using FVTPL. FVTPL 1. The accounting for FA and FL is based on any of the following three methods. 1. AMORTIZED COST METHOD a) The initial recognition of FA/FL will be done at fair value including the transaction costs. b) The Interest Income / Interest Expense will be recognized using effective Interest method. (IIR) c) There will be no subsequent revaluation..

bol +16 2. FAIR VALUE THROUGH PROFIT OR LOSS (FVTPL) and at The initial recognition will be done at fair value at the transaction costs are directly transferred to P&L A/c. by On each balance sheet date, the FA/ FL will be Fair valued and the resulting gain / loss shall be recognized in P&L A/C. 3. FAIR VALUE THROUGH OTHER COMPREHENSIVE INCOME (FVTOCI) a) The initial recognition of FA will be done at Fair value including transaction costs b) If the cash flows from FA are in the nature of Interest and principal, the Interest Income shall be recognized on effective Interest basis. c) On each balance sheet date the FA is fair valued and the resulting Gain / loss will be recognized in other comprehensive Income separately. The Gain / loss So accumulated in OCI may or may not be re-classified to P&L A/C subsequently

Standards that require or permit measurements that are similar to fair value, but that are not intended to measure fair value such as: (i) lower of cost or market (net realizable value) measurements in accordance with ASC 330.

Step one: determine unit of account The reporting entity must determine the unit of account (i.e., what is being measured). As discussed in ASC 820

Step two: determine valuation premise After determining the unit of account, the reporting entity must assess the valuation premise based on the nature of the asset or liability being measured

The concept of “highest and best use” does not apply to financial assets. The fair value of financial assets must be measured on a standalone basis. The fair value standards include an exception in instances in which an entity manages its market risk(s) and/or counterparty credit risk exposure within a group (portfolio) of financial instruments on a net basis (the “portfolio exception”). If elected, the portfolio exception allows an entity to measure the fair value of those financial assets (and financial liabilities) based on the net position of the portfolio (i.e., the price that would be received to sell a net long position or transfer a net short position for a particular market or credit risk exposure), rather than the individual positions within the portfolio (i.e., the gross positions).

Step three: determine markets for basis of valuation Once a reporting entity has considered the unit of account, potential markets, market participants, and the valuation premise, it must assess whether it has access to any observable markets

Step four: apply the appropriate valuation approaches/technique The fair value standards outline three potential valuation approaches: the market approach, the cost approach, and the income approach. It requires that the reporting entity consider and apply each valuation approach and technique that is appropriate in the circumstances and for which market participant pricing inputs can be obtained without undue cost and effort. For example, a reporting entity should consider market conditions, nonperformance risk, risks and uncertainties, and other attributes and inputs that would bear on the fair value measurement

Step five: determine fair value The outcome of the market determination and the application of valuation approaches/techniques will be a fair value measurement. If a nonfinancial asset is valued in combination with other assets, the fair value is calculated based on the assumption that the market participant already owns the other assets. In certain circumstances, the total calculated value must be allocated to each unit of account in the asset grouping. Finally, the standards include a portfolio exception for measuring a group of financial assets and liabilities at fair value on a net basis. The exception allows for the measurement of fair value based on the net risk position of a group of financial assets and liabilities.

As the fair value method can be elected at the beginning of any fiscal year, “concurrent” would mean that a company documents its election at the beginning of the fiscal year in which it applies the fair value method to that specific class of servicing assets or servicing liabilities. The fair value measurement method requires an entity to measure classes of servicing assets or servicing liabilities at fair value at each reporting date, with changes in fair value recorded in earnings in the period during which they occur. ASC 860 does not define how fair value must be measured. An entity should look to ASC 820 for guidance on how to measure the fair value of servicing assets and liabilities.

Under ASC 820, fair value is the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. The basis for a fair value measurement is the market price at which a company would sell or otherwise dispose of assets or transfer liabilities (i.e., an exit price), not the market price that an entity pays to acquire assets or assume liabilities