Difference from present RBI classification

Ind AS 109 provides for classification of financial assets (debt instruments) as subsequently measured at Amortised Cost or FVOCI or FVTPL. However, the classification categories presently prescribed by RBI viz. HTM, AFS and HFT are different from those under Ind AS (IFRS).

Determining the business model

One of the key determinants for classification into Amortised Cost or FVOCI category is the business model test as brought out in section 2.4 of this report. The application guidance to Ind AS 109 (paragraphs B 4.1.1 to B 4.1.26) provides guidance on how to apply this condition. The standard requires an entity to classify financial assets as subsequently measured at Amortised Cost or FVOCI or FVTPL on the basis of the entity’s business model for managing the financial assets. An entity assesses whether its financial assets meet this condition on the basis of the objective of the business model as determined by the entity’s key management personnel (KMP) as defined in Ind AS 24. What would be the primary basis to evidence/ demonstrate a business model?

Splitting a financial instrument into two categories

Is it possible that a single financial instrument may have some portion classified as amortized cost and the remaining FVOCI or FVTPL category?

Sale of assets from Amortised Cost category

(a) Is it possible to sell some financial assets held under Amortised Cost category before maturity without contradicting the business model test?

(a) A reading of Ind AS 109 suggests that some sales of financial assets before contractual maturity are possible and permitted without contradicting the objective of the business model. The application guidance (paragraph B 4.1.3) to Ind AS 109 states that ‘although the objective of an entity’s business model may be to hold financial assets in order to collect contractual cash flows, the entity need not hold all of those instruments until maturity’. Further, the application guidance (paragraph B 4.1.2C) to Ind AS 109 states ‘it is necessary to consider the frequency, value and timing of sales in prior periods, the reasons for those sales and expectations about future sales activity’. However, sales in themselves do not determine the business model and therefore cannot be considered in isolation. Instead, information about past sales and expectations about future sales provide evidence related to how the entity’s stated objective for managing the financial assets is achieved, and, specifically, how cash flows are realised’. Therefore, the application guidance indicates the possibility of sale of financial assets before their contractual maturities without violating the objectives of the business model test. It also gives some examples of situations where such sales are acceptable such as:

(i) sale of the financial asset when there is an increase in assets’ credit risk or to manage credit concentration risk. Selling a financial asset because it no longer meets the credit criteria specified in the entity’s documented investment policy is an example of a sale that has occurred due to an increase in credit risk;

(ii) sales made close to the maturity of the financial assets and the proceeds from the sales approximate the collection of the remaining contractual cash flows; or

(iii) sales in ‘stress case’ scenario (e.g., a run on the bank’s deposits).

Elaboration of ‘infrequent number of sales’ or ‘insignificant in value’

While Ind AS 109 appears to envisage sale of assets held under the Amortised Cost category before maturity, the application guidance states that such sales may be consistent with a business model whose objective is to hold financial assets in order to collect contractual cash flows if those sales are infrequent (even if significant in value) or insignificant in value both individually and in aggregate (even if frequent). If more than an infrequent number of such sales are made out of a portfolio and those sales are more than insignificant in value (either individually or in aggregate), the entity needs to assess whether and how such sales are consistent with an objective of collecting contractual cash flows”.

The standard does not define or give any further guidance as to the meaning of the term ‘infrequent number of sales’ or ‘insignificant in value’. The issue is whether there is a need to develop banking industry level guidelines to interpret and implement these terms for a uniform and consistent approach?

1. The RBI could consider prescribing indicative thresholds for sales that are more than insignificant in value. For instance, there could be a rebuttable presumption that where there are more than 5% of sales by value of the total amortised cost of financial assets held in a particular business model, such a business model may be considered inconsistent with the objective to hold financial assets in order to collect contractual cash flows. However, this threshold may be treated as indicative. It should not preclude the classification of a business model as ineligible for amortised cost measurement, even where sales are less than the aforementioned threshold, where evidence suggests that the business model has been managed in a manner inconsistent with the objective to hold financial assets to collect contractual cash flows.

2. The threshold, if prescribed, would have to factor in a specified time period. For instance, the threshold could be reckoned with reference to each financial year.

3. The basis for measuring the threshold computation is also a relevant factor. For example, the average of the amortised cost portfolio as at the beginning and end of the financial year may be considered as a suitable basis.

What is the suitable category for the securities acquired/ held for SLR purposes

Concerns were raised that the investments by banks in financial assets to meet the stipulated Statutory Liquidity Ratios (SLR) would preclude such assets from being categorised under Amortised Cost as the intention of this liquidity requirement is to sell such investments in the event of liquidity crises.

The Working Group is of the opinion that the SLR are prescribed to maintain the solvency and stability of the individual banks and the system as a whole. Investments in SLR securities would by themselves thus not preclude the instruments from being categorised under amortised cost category if the business model and the contractual cash flow characteristics test are otherwise met.

Paragraph B 4.1.4 of Ind AS 109 adequately addresses the circumstances similar to holding financial assets to meet the statutory liquidity ratio requirements. However, the above referred application guidance also makes it very clear that if the entity is required by its regulator to routinely sell financial assets to demonstrate that the assets are liquid, and the value of the assets sold is significant, the entity’s business model is not to hold financial assets to collect contractual cash flows. Whether a third party imposes the requirement to sell the financial assets, or that activity is at the entity’s discretion, is not relevant to the analysis.

Can the securities acquired/ held for SLR purposes, which is specific to the Indian context, qualify for FVOCI category?

Concerns were raised whether the entity has a free option to classify the investments by banks in financial assets to meet the stipulated Statutory Liquidity Ratios under FVOCI or does it have to demonstrate by selling (though not frequently) some of these financial assets?

Can the securities acquired/ held in excess of SLR requirements, which is specific to the Indian context, qualify for Amortized Cost category?

Many entities will have securities in excess of, either due to policy choice or otherwise, SLR requirements. Questions were raised what would be the suitable classification for such excess holdings.

Liquidity Coverage Ratio (LCR)

According to the recent Banking Sector Prudential Regulations (Basel III Framework on Liquidity Standards – Liquidity Coverage Ratios (LCR), Liquidity Risk Monitoring Tools and LCR Disclosure Standards), banks are required to comply with a ratio known as ‘Liquidity Coverage Ratio (LCR)’, whose aim is to ensure that Banks maintain adequate level of High Quality Liquid Assets (HQLA) that can be converted into cash to meet its liquidity needs for a 30 calendar day time. Liquid assets comprise of high quality assets that can be readily sold or used as collateral to obtain funds in a range of stress scenarios. They should be unencumbered i.e. without legal, regulatory or operational impediments. Further, they should not be co-mingled with Trading Positions, should be managed with sole intent for use as a source of contingent funds and should be under the control of specific function/s charged with managing liquidity risk of the bank, e.g. ALCO.

One of the key regulatory requirements is that Banks should periodically monetize a proportion of assets through repo or outright sale to test the saleability of these assets and to minimize the risk of negative signalling during period of stress.

Whether investment portfolio held to comply with LCR qualifies the business model test for classification under Amortized Cost Category?

Base rate

In terms of the standard ( clause (b) Paragraph 4.1.2 and 4.1.2A of Ind AS 109), to qualify for Amortised Cost or FVOCI category, an entity shall assess whether the contractual cash flows are solely payments of principal and interest on the principal amount outstanding. In terms of RBI guidelines, in India, all categories of loans (with a few exceptions) should be priced with reference to the Base Rate. The issue that arises is whether there is a possibility that the interest priced by banks based on base rate methodology would result in cash flows that preclude Amortised Cost classification.

Interest rate concessions due to collateral

Another related issue is whether interest rate concession/ differential due to availability of collateral preclude loans from classification under the Amortised Cost category by not satisfying the characteristics of financial assets test?

Will all non-recourse loans be precluded from classification under Amortised Cost category?

This issue is raised in light of Paragraph B4.1.16 of Ind AS 109 as per which in some cases, a financial asset may have contractual cash flows that are described as principal and interest. However, those contractual cash flows may include payments for factors other than consideration for time value of money and for the credit risk. This could be the case when a creditor’s claim is limited to specified assets of the debtor or the cash flows from specified assets (e.g. ‘non-recourse’² financial asset)

Performance linked repayment

In some cases of project or object finance, interest or principal repayment is linked to performance of the project or object e.g. revenue generation. Does this amount to cash flow leverage and therefore does not meet the characteristics of cash flow test as explained in paragraph 2.4.2(b) above?

Right of possession/ liquidation

Loan covenants often enable lenders/bankers right of possession/liquidation of collateral or borrowers assets in the event of credit quality deterioration or default of the borrower or issuer of the bond. Does lending of this nature meet the characteristics of cash flow test as explained in paragraph 2.4.2(b) above?

Penal interest for delay/ default

A loan/credit facility attracts penal interest in the event of delay or default in repayment of principal or payment of interest. Does this meet the characteristics of cash flow test as explained in paragraph 2.4.2(b) above?

1. In some cases term loans or investment in bonds/debentures provide an option to convert into equity. Does this meet the characteristics of cash flow test as explained in paragraph 2.4.2(b) above

2. If in respect of situation described above, the conversion option is valid only in the event of default of the borrower or issuer of the bond. Does this meet the characteristics of cash flow test as explained in paragraph 2.4.2(b) above?

1. Where the option to convert is only given in exceptional situations, for instance, where there is a continuing payment default, it may still satisfy the cash flow characteristics test. However, where the term loan or bonds contain equity conversion option, without any added condition, it is likely that the interest consideration may not reflect only time value of money/credit risk but also reflects other factors/considerations. Therefore, it may be unlikely to meet the characteristics of financial asset test for Amortised Cost classification.

2. It is possible that some loan covenants provide an option for banks to convert the loan into equity in the event of defaults. This kind of clause is unlikely to have bearing on the consideration of interest or pricing charged, i.e. interest reflects time value of money and credit risk only. Therefore, such an option may not necessarily cause failure to meet the characteristics of financial asset test for Amortised Cost classification. The above conclusion would depend on the circumstances of the case.

Right to recall

Can a bank’s right to recall loans before maturity fail to meet the characteristics of financial asset test criteria for amortized cost? Can the borrower’s right to repay loans before maturity fail the characteristics of financial asset test criteria for Amortised Cost classification?

Subordinated loans and investments

Do subordinated loans or investments in subordinated bonds/debentures fail the characteristics of financial asset test thereby precluding such financial assets from being classified as Amortized Cost?

Additional Tier I(AT 1) instruments

As part of Basel III Capital Regulations in India, banks are permitted to include Perpetual Non Cumulative Preference Shares (PNCPS) and Perpetual Debt Instruments (PDI) issued by them subject to certain conditions as part of AT 1. These conditions inter-alia include loss absorption features that entail a write down/ conversion to equity at certain pre-specified triggers. In order to be eligible for inclusion in AT 1 these features have to be contractually included in the documents. The issue arises as to whether investments in such AT1 instruments would be eligible for amortised cost classification.

Contractually linked instruments

Paragraph B4.1.21 of the application guidance of Ind AS 109 outlines conditions whereby a particular tranche of a contractually linked instrument may meet the characteristics of financial asset test. Part (c) thereof requires that the exposure to credit risk in the underlying pool of financial instruments inherent in the tranche is equal to or lower than the exposure to credit risk of the underlying pool of financial instruments (for example, this condition would be met if the underlying pool of instruments were to lose 50 per cent as a result of credit losses and under all circumstances the tranche would lose 50 per cent or less).’ How should entities determine whether or not the ’exposure to credit risk’ in the tranche is less than that of the underlying pool of financial instruments?

Regulated interest rates

In cases where the interest rates are regulated, would interest charged meet the criteria of time value of money?

Absence of active markets

In the absence of an active and transparent market for loans and advances in India, how would an entity determine whether a loan is at a market rate or at an off-market rate?

Base Rate

As RBI has introduced a base rate mechanism for pricing all lending products, is there a need to evaluate rates charged by individual banks and thereby, fair values of individual loans, by comparing the base rates offered by other banks?

Directed lending

Directed lending (Priority sector lending (PSL)) mandates banks to lend at specified rates for certain products/ sectors– in such circumstances, are those loans considered off-market and require fair valuation using a valuation technique?

Concessional Staff Loans

Would loans given to employees at concessional rates be recognised at the transaction price?

Loan origination costs

Ind AS 109 provides that at initial recognition, an entity shall measure a financial asset or financial liability at its fair value plus or minus, in the case of a financial asset or financial liability not at fair value through profit or loss, transaction costs that are directly attributable to the acquisition or issue of the financial asset or financial liability. Thus, eligible transaction costs may be included at initial recognition of financial asset held in amortised cost/ FVOCI category, rather than being expensed. The issue is which transactions costs would be eligible for inclusion in the amount initially recognised.

Circumstances in which reclassification is permitted

In terms of Ind AS 109, when and only when, an entity changes its business model for managing financial assets it shall reclassify all affected financial assets. The question that arises now is that how to apply this requirement in practice. Also, how often can a bank re-classify financial assets?

Recording the reclassification

Paragraph 5.6.1 of Ind As 109 further goes on to state that ‘If an entity reclassifies financial assets in accordance with paragraph 4.9, it shall apply the reclassification prospectively from the reclassification date. The entity shall not restate any previously recognised gains, losses or interest.’ The issue that arises is that if a bank changes its business model during the year, and is required to reclassify all affected financial assets, when is the reclassification recorded?

Change in characteristics of financial instrument

Is reclassification permitted or required when the characteristics of a financial asset changes e.g., when the conversion option of a convertible bond lapses? Does the answer differ if the convertible bond is converted into shares of the issuer?

Demand and Savings Deposits

Current account deposits are repayable on demand and in India they are generally interest free. Most current account portfolios have a ‘core’ component that is constantly maintained with the Bank. Given that deposits are to be recognised at fair value on initial recognition, the issue for consideration was whether there is a need for an adjustment to fair value such interest free deposits using a valuation technique by comparing market rate applicable for behavioural tenor of the core component.

It is to be noted that domestic savings accounts carried interest rates fixed by RBI until October 25, 2011 when the interest rates on savings bank accounts of resident Indians was deregulated. With effect from December 16, 2011 banks are free to determine their interest rates on both savings deposits and term deposits of maturity of one year and above under Non-Resident (External) Rupee (NRE) Deposit accounts and savings deposit under Ordinary Non-Resident (NRO) account. However, interest rates offered by banks on NRE/ NRO deposits cannot be higher than those offered by them on comparable domestic rupee deposits.

Savings accounts are repayable on demand though there is a core of deposits that remains outstanding for a long period. In view of the above, the issue for consideration was whether the fair value of these deposits is less than the demand amounts and therefore there is a need to estimate the fair value by using a valuation technique by comparing the market rate.

Paragraph 47 of Ind AS 113 states that “the fair value of a financial liability with a demand feature (e.g. demand deposit) is not less than the amount of payable on demand, discounted from the first date that the amount could be required to be paid.” As such in the case of current deposits, no change from the current practice of accounting at transaction price is required.

Fair value of any financial instrument should be viewed from the lens of the prevailing market practices, as well as the features applicable for the individual product category/similar item. Regulated lower interest rate for certain categories of savings accounts is a general market feature of the industry. Therefore, there is no need for attempting to compute the fair value using an assumed/artificial surrogate market rate.

In light of deregulation of interest rates on savings bank account, banks will need to consider if their deposit rates are in line with the market range of rates being offered. Only in the case of outliers, it will be relevant to consider the need to fair value such deposits. A process needs to be instituted to ensure that there is a periodic comparison / analysis of market rates viz. the rates being offered by individual entities. Additionally, just like current deposits, savings account deposits can also be withdrawn on demand. Therefore, based on the guidance contained in the Ind AS standards, the fair value of such a liability cannot be determined to be lower than the amount that can be withdrawn on demand.

Term Deposits

Generally, banks at times offer preferential interest rates to certain customers (high value corporate deposits, senior citizens). Further, individual bank’s deposit rates may be different from other banks’ rates for similar tenor/amount. Rates would differ based on deposit size, bank's liquidity needs etc. The issue for consideration was whether there is a need to revisit and estimate the fair value for initial measurement of a term deposit by comparing with market rates.

Banks will need to consider if their deposit rates are in line with the market range of rates being offered. Only in the case of outliers, it will be relevant to consider the need to fair value such deposits. A process needs to be instituted to ensure that there is a periodic comparison / analysis of market rates vis-a-vis the rates being offered by individual entities. As a rule of thumb, an arms’ length transaction between unrelated parties can be assumed to be at fair value (unless there is evidence to the contrary or the transaction is part of a larger set of transactions and some additional value / consideration is sought to be paid / received through the deposit rate).

Areas where there is likely to be an impact of fair valuation would be the specific incentive based pricing offered to employees and ex-employees for term deposits (as these are specific to certain individuals for certain banks). The difference between fair value and transaction price would generally be considered as an employee cost. On the other hand, incentive pricing offered to senior citizens would not normally require adjustment as these are general market practice (i.e. offered by all banks to all senior citizens).

Financial Guarantee contracts

Currently, financial guarantees are shown as contingent liabilities. Disclosure requirements of contingent liabilities are governed by the extant accounting standard AS 29, in terms of which an entity should disclose, for each class of contingent liability, a brief description of the nature of contingent liability and where practicable, inter alia, an estimate of its financial effect. Such estimate should be a best estimate of the expenditure required to settle the present obligation at balance sheet. However, as per the Ind AS, financial guarantee contracts are covered by Ind AS 109, unless the issuer of such financial guarantees has previously asserted that it regards such contracts as Insurance Contracts and elects to apply Ind AS 104.

As per paragraph 5.1.1 of Ind AS 109, the issuer should initially measure the contract at fair value which at inception is generally the fee / premium received. Subsequently, unless the financial guarantee contract is part of FVTPL category or arising out of transfer of financial assets that does not meet derecognition criteria, it should be measured at higher of the amount of loss allowance determined as per Ind AS 109 and the amount initially recognised less cumulative amount of income recognised in accordance with Ind AS 115.

Trade date vs settlement date

IND AS 109 does not specify the basis of accounting to be followed between trade date and settlement date accounting except for trading liabilities and derivatives which are required to be accounted for on a trade date basis.

Financial liabilities under FVTPL

Presently under existing Indian GAAP standards, all financial liabilities except certain derivatives are measured at cost. In view of the FVTPL option under IAS 39, many prudential regulators had concerns on the incomes/expenses recognised in profit or loss account or OCI when there is a change in the credit worthiness of the issuer. The issue for consideration was whether there is a need to eliminate or remove the classification of financial liabilities under FVTPL category.

1. This approach is now taken across the globe because in reality, entities do realise gains in fair value (i.e. including on account of its own credit risk) by buying back debts/bonds.

2. Ind AS 109 has corrected the anomaly of recognising in income statement gains/losses due to own credit risk.

3. Availability of FV option eliminates the burden of complex hedge accounting. Further, this aligns the measurement of trading liabilities (where own credit risk changes are considered) with those liabilities designated as FVTPL.

4. There will be inconsistency with initial measurement of liability which includes credit risk element.

5. Use of ‘Fair Value’ option is not freely available. (Paragraph4.2.2 & 4.3.5 of Ind AS 109) There are stringent prerequisites and norms before any financial liability is designated as FVTPL.

6. RBI has considered different treatment of such gains/losses for prudential requirements under Basel III. Similar approach can be adopted in computing distributable profits.

Treatment of transaction costs incurred with raising liabilities

Amortised cost measurement includes the capitalisation of transaction costs that are incremental for an entity and are directly attributable to the issuance of the related liability. In terms of Paragraph 5.1.1 of Ind AS 109, at initial recognition, Financial Assets (FA) or Financial Liabilities (FL) shall be measured at Fair value, plus or minus, in the case of a FA or FL not at FVTPL, transaction costs that are directly attributable to the acquisition or issue of the FA or FL. Thus, Ind AS 109 requires transaction costs (incremental costs in nature and directly attributable to issue of FL) to be recognised as part of the Effective Interest Rate ‘EIR’ of the instrument issued (in effect amortised over the life of the instrument). Appendix A to Ind AS 109 defines transaction cost as incremental costs that are directly attributable to the acquisition, issue or disposal of a financial asset or financial liability (see paragraph B5.4.8). An incremental cost is one that would not have been incurred if the entity had not acquired, issued or disposed of the financial instrument.

Paragraph B5.4.8 of Ind AS 109 states that transaction costs include fees and commission paid to agents (including employees acting as selling agents), advisers, brokers and dealers, levies by regulatory agencies and security exchanges, and transfer taxes and duties. Accordingly, certain sourcing costs for raising deposits and borrowings will be required to be capitalised under Ind AS / IFRS compared to the current practice and requirement for immediate recognition in profit or loss under Indian GAAP / banking guidelines. Some NBFCs look to amortise these costs over the tenor of the underlying issued instrument.

Entities will often incur costs such as commissions, fees associated with raising funds through issuance of liabilities such as bonds both in the international and the domestic market. The issue for consideration was whether these costs should be recognised upfront or over the life of the instrument issued as also the type of costs that would qualify for amortisation.

Presentation of Inter Bank Participation Certificates (IBPC)

Interbank Participation Certificates in terms of extant RBI guidelines issued vide circular DBOD.No.BP.BC.57/62-88 dated December 31, 1988 may be of two types:

(i) with risk sharing, and
(ii) without risk sharing.

RBI has also prescribed the accounting treatment for both types of participations as under

(i) With Risk Sharing

In the case of the issuing bank, the aggregate amount of participation would be reduced from the aggregate advances outstanding. The participating bank would show the aggregate amount of such participations as part of its advances

(ii) Without Risk Sharing

The issuing bank will show the amount of such participations as borrowing while the participating bank will show the same under Advances to Banks i.e. due from banks.

Presentation of unrealised gains/losses (mark-to-market-MTM) of forex and derivatives

Presently, banks in India follow different presentation practices. A few banks follow Ind AS 32 principles of offsetting and hence present MTM gains/losses on gross basis. However, other banks offset unrealised gains and losses of forex and derivatives contracts and present one net amount within Other Assets” and “Other Liabilities” depending upon the net position. This accounting and presentation practice may not be in accordance with Ind AS 32 principles as the criteria for offsetting financial assets and financial liabilities is unlikely to be met in all cases.

(a) Balance Sheet and Schedules prescribed under the Third Schedule to the Banking Regulation Act 1949 need suitable amendments to facilitate the changed presentation/disclosures.

(b) Given that accounting offsetting may not be available, RBI may need to review and recalibrate prudential limits for inter-bank liabilities (IBL) issued vide circular DBOD.No.BP.BC.66/21.01.002/2006-2007 dated March 6, 2007. Further, there may also be a case to review the treatment of derivatives for the computation of demand and time liabilities (DTL).

Bills Payable and Acceptances

Under Ind AS, banks liabilities under acceptances, endorsements of customer bills will have to be recorded as liabilities on the balance sheet with a corresponding receivable shown as assets. Currently, these are recorded as off balance sheet items.

Perpetual Debt Instruments (PDI) qualifying for Additional Tier 1 Capital

(a) No Put option but Call option after 5 years at the option of the issuer only

(b) Non-cumulative

(c) Full discretion for banks at all times to cancel distributions; dividend stoppers permitted but it must not impede the full discretion that bank must have at all times to cancel distributions/payments

(d) Loss absorption features:

(i) Pre-specified trigger (6.125% of RWA) through conversion or write-down (temporary or permanent)

(ii) Conversion/write-down mechanism which allocates losses to these instruments must generate common equity Tier 1 under applicable accounting standards

(iii) Point of Non-Viability Trigger also at the option of RBI to be converted into common equity or fully and permanently written off

(e) Claims of investors in PDIs will be superior to claims of investors in equity shares and PNCPS but subordinated to the claims of subordinated debt, depositors and general creditors

(i) Instruments with Conversion Feature

If the instrument has a conversion feature, as the conversion option is not a “fixed for fixed” conversion option under Ind AS 32, the whole instrument is a liability and all payments made shall be characterised as interest in the income statement.

(ii) Instruments with Write Off Feature

As the issuer has no obligation to deliver cash / other financial assets or to exchange financial assets/financial liabilities, the instrument would be fully equity in nature and the coupons may be characterised as distribution of profits.

Perpetual Non Cumulative Preference Shares (PNCPS) as Additional Tier 1 Capital

(a) No put option but Call option after 5 years at the option of the issuer only

(b) Non-cumulative

(c) Full discretion for banks at all times to cancel distributions; dividend stoppers permitted but it must not impede the full discretion that bank must have at all times to cancel distributions/payments

(d) Loss absorption features:

i) Pre-specified trigger (6.125% of RWA) through conversion or write-down (temporary or permanent)

ii) conversion/write-down mechanism which allocates losses to these instruments must generate common equity Tier 1 under applicable accounting standards

iii) Point of Non-Viability Trigger also at the option of RBI to be converted into common equity or fully and permanently written off

(e) Claims are superior to the claims of investors in equity shares and subordinated to the claims of PDIs, and all Tier 2 capital instruments, depositors and general creditors

PNCPS will be classified as capital and shown under Schedule1-Capital of the Balance Sheet

(Annexure 3 of Master Circular Basel III Capital Regulations, dated July 1, 2015)

Debt instruments qualifying as Tier II Capital

(a) Stated maturity – minimum period of 5 years and no step-ups and other incentives to redeem,

(b) All instances of non-payment of coupons to be notified to the Reserve Bank

(c) No put option but Call option only after minimum period 5 years

(d) Mandatory stated coupon – fixed or market determined but no credit sensitive feature

(e) Loss Absorption:

i) such instruments, at the option of the RBI, will be either written off or converted into common equity upon occurrence of the trigger event, called the Point of Non-Viability (PONV)

ii) PONV trigger event is the earlier of:

iii) a decision that a conversion or write-off without which the firm would become non-viable is necessary, as determined by the RBI and

iv) the decision to make a public sector injection of capital or equivalent support, without which the firm would become non-viable, as determined by the Competent Authority

(f) No discretionary feature

As these instruments have a stated contractual maturity and a coupon; they meet the criteria of paragraph 16(a)(i) of Ind AS 32 for liability classification.

The loss absorption feature would not be an embedded derivative as it has a non-financial underlying variable that is specific to a party to the contract. (refer definition of derivative in Appendix A of Ind AS 109)

Perpetual Cumulative Preference Shares (PCPS) / Redeemable Non Cumulative Preference Shares(RNCPS) / Redeemable Cumulative Preference Shares (RCPS) – qualifying for Tier II capital

(a) Stated maturity – minimum period of 5 years and no step-ups and other incentives to redeem,

(b) All instances of non-payment of coupons to be notified to the Reserve Bank

(c) No put option but Call option only after minimum period 5 years

(d) Mandatory stated coupon – fixed or market determined but no credit sensitive feature

(e) Loss Absorption:

i) such instruments, at the option of the RBI, will be either written off or converted into common equity upon occurrence of the trigger event, called the Point of Non-Viability (PONV)

ii) PONV trigger event is the earlier of:

iii) a decision that a conversion or write-off without which the firm would become non-viable is necessary, as determined by the RBI and

iv) the decision to make a public sector injection of capital or equivalent support, without which the firm would become non-viable, as determined by the Competent Authority

(f) No discretionary feature

These instruments will be classified as 'Borrowings' under Schedule 4 of the Balance Sheet

(Annexure 6 of Master Circular Basel III Capital Regulations dated July 1, 2015)

Interest Rate Swaps and Forward Rate Agreements
(RBI circular MPD.BC.187/07.01.279/1999-2000 dated July 7, 1999)

Transactions for hedging and market making purposes should be recorded separately. While transactions for market making purposes should be marked to market (at least at fortnightly intervals), those for hedging purposes could be accounted for on accrual basis. For valuation purposes, the respective boards should lay down an appropriate policy to reflect the fair value of the outstanding contracts.

Interest Rate Swap which hedges interest bearing asset or liability should be accounted for on accrual basis except the swap designated with an asset or liability that is carried at market value or lower of cost or market value in the financial statements. In that case the swap should be marked to market with the resulting gain or loss recorded as an adjustment to the market value of designated asset or liability. Gains or losses on the termination of swaps should be recognised when the offsetting gain or loss is recognised on the designated asset or liability. Consequently, any gain or loss on the terminated swap would be deferred and recognised over the shorter of the remaining contractual life of the swap or the remaining life of the asset / liability.

Trading swaps should be marked to market with changes recorded in the income statement. Income and expenses relating to these swaps should be recognised on the settlement date. Fee should be recognised as immediate income or expenditure. Gains or losses on the termination of the swaps should be recorded as immediate income or expenses.

Exchange Traded Interest Rate Derivatives
(RBI circular IDMC.MSRD.4801/06.01.03/2002-03 dated June 3, 2003)

Till the issuance of a comprehensive Accounting Standard on financial instruments by the ICAI, Scheduled Commercial Banks(SCBs) and All-India Financial Institutions (AIFI) have been advised to follow the a Guidance Note on Accounting for Equity Index Futures issued by ICAI, mutatis mutandis for accounting of interest rate futures also. Further, the following norms are applicable

1. If the hedge is "highly effective", the gain or loss on the hedging instruments and hedged portfolio may be set off and net loss, if any, should be provided for and net gains if any, ignored for the purpose of Profit & Loss Account.

2. If the hedge is not found to be "highly effective" no set off will be allowed and the underlying securities will be marked to market as per the norms applicable to their respective investment category.

3. Trading position in futures is not allowed. However, a hedge may be temporarily rendered as not "highly effective". Under such circumstances, the relevant futures position will be deemed as a trading position. All deemed trading positions should be marked to market as a portfolio on a daily basis and losses should be provided for and gains, if any, should be ignored for the purpose of Profit & Loss Account. SCBs and AIFIs should strive to restore their hedge effectiveness at the earliest.

4. Any gains realized from closing out / settlement of futures contracts cannot be taken to Profit & Loss account but carried forward as ‘Other Liability’ and utilized for meeting depreciation provisions on the investment portfolio.

Foreign Currency – Rupee Options
(FEDAI circular SPL-24/ FC-Rupee Options/ 2003 dated May 29, 2003 read with RBI Master Circular on Risk Management and Inter-Bank Dealings dated July 1, 2015)

Detailed entries have been prescribed for recording premium received/ paid and gains/losses on revaluation.

Credit Default Swaps (CDS)
(Based on (i) IDMD.PCD.No.5053/14.03.04/2010-11 dated May 23, 2011 and
(ii) DBOD.BP.BC.No.61/21.06.203/2011-12 dated November 30, 2011)

The accounting norms applicable to CDS contracts shall be on the lines indicated in the 'Accounting Standard AS-30 - Financial Instruments: Recognition and Measurement', 'AS- 31, Financial Instruments: Presentation' and 'AS-32 on Disclosures' as approved by the ICAI. As the accounting standards on derivatives are still evolving, market participants, with the approval of their respective boards, shall adopt appropriate norms for accounting of CDS transactions which are in compliance with the Indian accounting standards and approved by the regulators from time to time.

Movement from Stage 1: 12 month expected losses to Stage 2: Lifetime Expected Losses

In terms of Ind AS 109, at each reporting date, an entity is required to assess whether the credit risk on a financial instrument has increased significantly since initial recognition.

Further, regardless of the way in which an entity assesses significant increases in credit risk, there is a rebuttable presumption that the credit risk on a financial asset has increased significantly since initial recognition when contractual payments are more than 30 days past due.

The correct determination of the point when increase in credit risk becomes significant is critical since a delay in this recognition can lead to substantial under provisioning.

Rebuttable presumption of 30 days ‘past due’ for determining significant increase in credit risk

As per Ind AS 109, regardless of the way in which an entity assesses significant increases in credit risk, there is a rebuttable presumption that the credit risk on a financial asset has increased significantly since initial recognition when contractual payments are more than 30 days past due. During the course of discussions, some bankers expressed the concern that due to the prevalent 90 day norms for classification of an account as NPA and the lack of substantial penalty for delayed payments, borrowers, who otherwise have satisfactory accounts very often do make payments after 30 days but before turning NPA. Rebutting the presumption in each individual case may be time consuming.

The Application Guidance to Ind AS 109 provides that an entity can rebut the presumption of significant increase in credit risk when contractual payments become more than 30 days past due only when it has reasonable and supportable information available that demonstrates that even if contractual payments become more than 30 days past due, this does not represent a significant increase in the credit risk of a financial instrument. Ind AS 109 gives the example of an entity having access to historical evidence that demonstrates that there is no correlation between significant increases in the risk of a default occurring and financial assets on which payments are more than 30 days past due, but that evidence does identify such a correlation when payments are more than 60 days past due.

Some members of the Working Group were of the view that looking at the behavioural pattern and credit culture in India, 30 days delay is quite common, even in cases where the borrower is comfortable and shows no signs of stress. The Working Group deliberated on the issue of considering a 60 day threshold period initially for “significant increases in credit risk”, which will also be consistent with the SMA -2 threshold. This could be phased down to 30 DPD over a 2-3 year period based on banks individual estimates.

However, it was noted by the Working Group that it is expected that even the 30 DPD criterion has to be supported with analysis clearly evidencing that 30 days past due is not correlated with a significant increase in credit risk. Besides, the implementation of 30 day norm of Ind AS 109 may facilitate better repayment discipline as well as strengthen credit risk management. Banks may take this opportunity to educate their customers about the importance to making contractual payments within 30 days of due dates. Further, banks may also consider imposing higher penalties for delays in payments beyond 30 days. Banks need to work on historical data of DPD status and subsequent recoveries/slippages to rebut the 30-day presumption and arrive at the alternate threshold period.

Definition of default

Ind AS 109 states that when defining default for the purposes of determining the risk of a default occurring, an entity shall apply a default definition that is consistent with the definition used for internal credit risk management purposes for the relevant financial instrument and consider qualitative indicators (for example, financial covenants) when appropriate. However, there is a rebuttable presumption that default does not occur later than when a financial asset is 90 days past due unless an entity has reasonable and supportable information to demonstrate that a more lagging default criterion is more appropriate. The definition of default used for these purposes shall be applied consistently to all financial instruments unless information becomes available that demonstrates that another default definition is more appropriate for a particular financial instrument.

The issue for consideration is whether the 90-day criteria for default is acceptable and that for the purpose of consistency the RBI should define default.

The 90 day threshold is consistent with the IRB approach under the Basel framework as well as with the extant RBI guidelines, except for agricultural loans, where the current RBI thresholds of defaults are different from 90-days.

It is suggested that RBI may continue to define default for consistency across the banking system keeping in view the Basel framework as well as the Ind AS 109 prescriptions. Banks may be permitted the discretion to formulate more stringent standards.

It may be noted that Ind AS 109 envisages other types of defaults, e.g., breach of covenants, which are not accompanied by payment defaults. With respect to such defaults (not accompanied by payment defaults), banks will need to build up adequate records to evidence the impact of these events on the level of credit risk and if these events constitute a significant increase in credit risk.

Estimation of 12 month expected credit losses

As per Ind AS 109, if at the reporting date, the credit risk on a financial instrument has not increased significantly since initial recognition, an entity shall continue to measure the loss allowance for that financial instrument at an amount equal to 12-month expected credit losses. The issue here is that the historical behaviour data is currently limited and as such whether it is possible for all the banks to estimate such losses in accordance with the provisions of the standard.

1. Result in differentiating the degree of credit risk in different credit exposures of a bank.

2. Identify concentration in the portfolios

3. Identify problem credits before they become NPAs

4. Identify adequacy/inadequacy of loan provisions

5. Help in pricing of credit

6. Recognise variations in macro-economic factors and a possible impact under alternative scenarios

7. Determine the impact on profitability of transactions and relationship

Estimation of lifetime expected credit losses

Given that even the IRB approaches under the Basel framework use only 12 month probabilities of default (PD) and not lifetime PDs, estimating lifetime expected credit losses may be challenging.

Internal ratings based approaches

Do banks have to use the IRB approaches to estimate credit losses?

It may be noted that Ind AS 109 does not mandate the use of a framework akin to the Basel IRB framework and entities have the discretion to build their own models for estimation of expected credit losses consistent with the largely principle based requirements of the standard.

In respect of banks desirous of moving to IRB approaches, RBI instructions on Implementation of the Internal Rating Based (IRB) Approaches for Calculation of Capital Charge for Credit Risk issued vide circular DBOD.No.BP.BC.67/21.06.202/2011-12 dated December 22, 2011 may also be pertinent. In terms of the aforementioned circular

“Internal ratings and default and loss estimates must play an essential role in the credit approval, risk management, internal capital allocations, and corporate governance functions of banks using the IRB approach. Ratings systems and estimates designed and implemented exclusively for the purpose of qualifying for the IRB approach and used only to provide IRB inputs are not acceptable. It is recognised that banks will not necessarily be using exactly the same estimates for both IRB and all internal purposes. For example, pricing models are likely to use PDs and LGDs relevant to the life of the asset. Where there are such differences, a bank must document them and demonstrate their reasonableness to the RBI.” The intention of these instructions is perhaps to avoid scenarios where banks use an IRB approach merely to compute capital and not to manage risk.

Thus, for banks, especially those that are desirous of migrating to Basel IRB approaches it may be efficient, though not imperative, to build upon the Basel IRB approach suitably modified to comply with Ind AS 109.

Low credit risk exemption

As per Ind AS 109, an entity may assume that the credit risk on a financial instrument has not increased significantly since initial recognition if the financial instrument is determined to have low credit risk at the reporting date. In other words, entities have an option not to assess whether credit risk has increased significantly since initial recognition for “low credit risk exposures”.

In terms of Ind AS 109, credit risk is considered to be low if the risk of default is low, borrower has strong capacity to meet its contractual cash obligations in near term and adverse changes in economic and business conditions in the longer term may but will not necessarily reduce borrower’s ability to fulfil its obligations.
The issue for consideration is which type of instruments can be considered to have ‘low credit risk‘, keeping in view the requirements of the standard.

As per the Application Guidance to Ind AS 109, to determine whether a financial instrument has low credit risk, an entity may use its internal credit risk ratings or other methodologies that are consistent with a globally understood definition of low credit risk and that consider the risks and the type of financial instruments that are being assessed. An external rating of ‘investment grade’ is an example of a financial instrument that may be considered as having low credit risk. However, financial instruments are not required to be externally rated to be considered to have low credit risk. They should, however, be considered to have low credit risk from a market participant perspective taking into account all of the terms and conditions of the financial instrument.

The Working Group discussed the issue as to whether financial instruments which have the best credit rating (say AAA or AA), and where the stability of ratings is high (say more than 95 per cent), can be considered to have low credit risk. While recognising that this could indeed be the case, the Working Group refrained from any prescriptive recommendations in this regard. The Group was of the view that although the use of low credit risk exemption is provided as an option in Ind AS 109, use of this judgement is merely an operational simplification that should not be used by banks liberally since it would reflect a low-quality implementation of the standard. Even if the bank assigns a ‘low credit risk’ rating ( its best rating ) to an exposure, it is still expected to assess whether credit risk has increased significantly and continue to assess those exposures for changes in credit risk and recognise changes in 12 month ECL through provisions.

The Working Group was of the view that this ‘low credit risk’ exemption would be used by banks only in rare circumstances. The Group also deliberated as to what could be the categories of exposures across banks in our jurisdiction which could qualify for the “low credit risk “exemption in the standard. Keeping in view the rationale given in the standard, investments in rupee denominated SLR securities and central government guaranteed advances could be considered as low credit risk.

Application of impairment requirements to financial guarantees and loan commitments

Ind AS 109 requires that its impairment provisions are also applied to loan commitments and financial guarantees. This would inter-alia entail estimating the draw downs on loan commitments or cash shortfalls¹² for financial guarantee contracts.

Transitional requirements of Ind AS 109

As per Ind AS 109, an entity shall apply the impairment requirements retrospectively. At the date of initial application, an entity shall use reasonable and supportable information that is available without undue cost or effort to determine the credit risk at the date that a financial instrument was initially recognised.

The issue for consideration is that the extensive historical data that is required for this is not likely to be available. This is especially true in the case of Revolving credit facilities such as cash credit, credit cards or bank overdrafts, can have a life of many years, with balances being drawn and repaid (partly or fully) at short intervals. In such cases, if the date of initial recognition is considered to be the date on which agreement was signed with the customer, banks would need to compare current level of credit risk to a level that existed many years before to assess if credit risk has increased significantly.

Extant guidelines on restructuring

Over time the RBI has issued detailed prudential guidelines on restructuring of advances by banks, which have been consolidated in its Master Circular on Prudential norms on Income Recognition, Asset Classification and Provisioning pertaining to Advances. How does Ind AS address the issue of restructuring of advances?

Under Ind AS 109, restructured assets would generally fall into the category of modified financial assets. As per Ind AS 109, if contractual cash flows of a financial asset have been renegotiated or modified, banks should distinguish between a modification that results in derecognition and a modification that does not result in derecognition.

If a modification results in derecognition, the modified asset is considered to be a new asset. The date of modification is treated as the date of initial recognition for impairment assessment. In such cases, it is suggested by the Working Group that banks and their auditors exercise caution to ensure that any change in risk is suitably factored in failing which an assessment of the fair value of the new financial asset being recognised may need to be made. Banks and auditors need to be careful as renegotiations and modifications in loan agreements could mask significant increases in credit risk, resulting in underestimation of losses and delay in transfer to life time expected losses.

If a modification does not result in derecognition, subsequent assessment of whether there has been a significant increase in credit risk is made by comparing the risk of default at the reporting date (based on modified contractual terms of the financial asset) with risk of default at initial recognition (based on original, unmodified contractual terms of the financial asset.). Care should be taken to guard against inappropriate movement for lifetime expected losses to 12 month expected credit losses.

Derecognition under Securitisation of Assets – Derecognition criteria

Extant RBI guidelines¹⁵ require ‘true sale’ criteria to be met to permit assets transferred under securitisation to be removed from the balance sheet of the originator. The guidelines provide for an illustrative list of conditions which should be met to consider a transfer to be a true sale including immediate legal separation, effective transfer of all risks/rewards and rights/obligations pertaining to the asset, cessation of originator’s economic interest in the assets after its sale, etc. Certain requirements of the RBI guidelines are more conservative than the derecognition requirements under Ind As. One instance is that RBI guidelines require the sale to be only on cash basis and the consideration to be received not later than at the time of transfer of assets to the SPV. Further, if the originator indulges in market making or dealing in the securities issued by the SPV it shall result in a violation of the true sale criteria. Ind AS109 does not specify such requirements implying that even where the sale is on a non-cash basis or subsequent trading is carried out in the financial assets sold, the assets would remain derecognised subject to the Ind AS 109 specified derecognition criteria.

Therefore the more stringent requirements may result in situations wherein certain transactions may qualify for derecognition under Ind AS109 but not under RBI guidelines.

Derecognition under Securitisation of Assets - Profit on transfer

As per the extant RBI guidelines any loss arising on account of the sale should be accounted accordingly and reflected in the Profit & Loss account for the period during which the sale is effected and any profit / premium arising on account of sale should be amortised over the life of the securities issued or to be issued by the SPV. The treatment specified in the RBI guidelines is asymmetric requiring immediate recognition of losses and deferred recognition of gains. However, Ind AS 109 provides that on derecognition of a financial asset the difference between the carrying amount measured at the date of derecognition and the consideration received shall be recognised in the profit or loss account.

Thus, the accounting framework specified in the extant RBI guidelines is inconsistent with the derecognition requirements of Ind AS 109.

Sale of Non Performing Assets (NPA)

The guidelines pertaining to sale of NPAs issued from time to time have been consolidated in the Master Circular on ‘Prudential norms on Income Recognition, Asset Classification and Provisioning pertaining to Advances’ issued vide circular DBOD.No.BP.BC.2/21.04.048/2015-16 dated July 1, 2015 (paragraph 6 and 7). Certain aspects of these extant instructions, explained below, may not be in alignment with Ind AS 109.

(a) Sales to Reconstruction Companies (RC)/ Securitisation Companies (SCs) under the Securitisation and Reconstruction of Financial Assets and Enforcement of Security Interest Act, 2002 (SARFAESI Act)

i. Sales are recognised at lower of (i) redemption value of the Security Receipts (SRs)/ Pass Through Certificates (PTCs) or (ii) the Net Book Value (NBV, i.e. book value less provisioning held). The investment should be carried in the books based on the price as determined above until its sale of realisation, at which time the loss or gain may be dealt with in a prescribed manner (refer (ii) and (iii) below).

ii. For sales to RCs/SCs between February 26, 2014 and March 31, 2016, banks have been permitted to spread the shortfall between the sale value and the NBV, over a period of two years, subject to necessary disclosures in the notes to account in the annual financial statements.

iii. Where the sale value is in excess of the NBV, banks can reverse excess provision only when cash is received (by way of initial consideration and/or redemption of Security Receipts (SRs)/ Pass Through Certificates (PTCs).

(b) In the case of sales of NPAs, other than to RCs/SCs, the extant instructions provide that where the sale value is greater than the NBV, the excess provision should not be reversed, but shall be utilised to meet the shortfall/ loss on account of sale of other NPAs.

Mandate for Consolidated Financial Statements

AS 21 does not mandate an enterprise to present consolidated financial statements. However, if an enterprise, due to any statutory or regulatory requirement, needs to present consolidated financial statements, it is required to comply with the requirements of AS 21. At present, as per extant RBI guidelines, consolidated financial statements are required to be prepared in addition to the solo financial statements. Statutorily, the B R Act,1949 does not provide for preparation of consolidated financial statements by banks. However, Ind AS110 requires that an entity (the parent) that controls one or more entities (subsidiaries) to present consolidated financial statements.

Formats

Since AS 21 has not prescribed any format for publishing consolidated financial statements, the RBI has prescribed a format. The consolidated financial statements are in addition to the bank’s separate financial statements prepared as per the formats prescribed under Section 29 of Banking Regulation Act, 1949.

The format specified in the guidelines dated February 25, 2003 may be inconsistent with the requirements of Ind AS 110.

Scope

At present AS 21 provides certain exclusions from consolidation where a subsidiary is excluded from consolidation because control is intended to be temporary or the subsidiary operates under severe long term restrictions which significantly impair its ability to transfer funds to the parent. RBI guidelines¹⁶ require that the Board of Directors of the bank should invariably record the intent of holding of the investment for a temporary period or otherwise at the time of investment in the subsidiary, associate or joint venture. In the absence of record of such intent by the Board at the time of such investment, the same would be taken into account for the purpose of consolidation.

Ind AS 110 does not provide such scope exclusions.

Regional Rural Banks (RRBs)

In terms of extant RBI guidelines investments in RRBs should be treated as investments in associates for the purpose of consolidated supervision.

RRBs are established in terms of the Regional Rural Banks Act, 1976. The Central Government, respective State Government and the Sponsor Bank hold shares in the ratio of 50%, 15% and 35% respectively. The management of the RRB is vested in its Board of Directors. The Chairman and two directors on its Board are appointed by the Sponsor Bank while the Central and State Governments nominate two members each. The RBI and National Bank for Agriculture and Rural Development (NABARD) nominate one member each.

Investments in Joint Ventures

The extant RBI guidelines provide that investments in joint ventures should be accounted for under the ‘proportionate consolidation’ method as per AS 27. However, Ind AS 28 on Investments in Associates and Joint Ventures does not provide for ‘proportionate consolidation’ and instead requires that entity should use the ‘equity method’ for consolidation where it has joint control.

Differences in Accounting policies

AS 21 while specifying the requirement of uniform accounting policies while preparing consolidated financial statements, also provides that if it is not practicable to use uniform accounting policies the fact should be disclosed together with the proportions of the items in the consolidated financial statements to which the different accounting policies have been applied.

This practicability exemption is not available in Ind AS110 and requires that where a member of the group uses accounting policies other than those adopted in the consolidated financial statements for like transactions and events in similar circumstances, appropriate adjustments are made to that group member’s financial statements in preparing the consolidated financial statements to ensure conformity with the group’s accounting policies.

Further, the RBI guidelines provide that if different entities in a group are governed by different accounting norms laid down by the concerned regulator for different businesses then, where banking is the dominant activity, accounting norms applicable to a bank should be used for consolidation purposes in respect of like transactions and other events in similar circumstances.

Acquisition of voting power in satisfaction of advances

In terms of guidelines contained in RBI circular reference DBOD.No.BP.BC.89/21.04.018/2002-03 dated March 29, 2003 even though a bank may acquire more than 20% of the voting power in the borrower entity in satisfaction of its advances, it may be able to demonstrate that it does not have the power to exercise significant influence since the rights exercised are protective in nature and not participative. In such circumstance banks may not treat such investments as investments in associates. Further, the guideline states that the test should not merely be the proportion of investment but the intention to acquire the power to exercise significant influence.

As per IndAS 28, where an entity holds 20% or more of the voting power (directly or through subsidiaries) on an investee, it will be presumed the investor has significant influence unless it can be clearly demonstrated that this is not the case. If the holding is less than 20%, the entity will be presumed not to have significant influence unless such influence can be clearly demonstrated.

Strategic Debt Restructuring

In terms of DBR. No. BP DBR.No.BP.BC.101/21.04.132/2014-15 dated June 8, 2015, provides that lending banks acting through a Joint Lenders Forum (JLF) should actively consider change in ownership in cases of restructuring of accounts where borrower companies are not able to come out of stress due to operational/ managerial inefficiencies despite substantial sacrifices made by the lending banks. In order to achieve the change in ownership, the lenders under the JLF should collectively become the majority shareholder by conversion of their dues from the borrower into equity. Further, in terms of the aforementioned circular as the lender acquires such voting power in the borrower entity in satisfaction of its advances under the SDR, and the rights exercised by the lenders are more protective in nature and not participative, such investment may not be treated as investment in associate.

As per IndAS 28, where an entity holds 20% or more of the voting power (directly or through subsidiaries) on an investee, it will be presumed the investor has significant influence unless it can be clearly demonstrated that this is not the case. If the holding is less than 20%, the entity will be presumed not to have significant influence unless such influence can be clearly demonstrated.

Requirements of Ind AS 27 read with Ind AS110 – cases where an entity does not have a subsidiary but an investment in associate(s) and/ or joint venture(s)

Ind AS 27 provides that “separate financial statements are those presented in addition to consolidated financial statements or in addition to financial statements in which investments in associates or joint ventures are accounted for using the equity method.” It further provides that “Financial statements in which the equity method is applied are not separate financial statements”. Ind AS110 defines consolidated financial statements as “the financial statements of a group in which the assets, liabilities, equity, income, expenses and cash flows of the parent and its subsidiaries are presented as those of a single economic entity ” i.e. consolidated financial statements are required where there are subsidiaries.

Based on the above, in cases where an entity does not have a subsidiary but investments in associates and/ or joint ventures it is required to prepare financial statements where the associate and/ or joint venture are accounted for using the equity method. However, this requirement of preparing financial statements including associate(s) and/ or joint venture(s) using equity method where an entity does not have any subsidiaries, does not exist as per the extant RBI guidelines read with AS 21, AS 23 and 27.

Consolidation of Mutual Funds, Venture Capital Funds, etc.

Several banks have subsidiaries which are Asset Management Companies (AMC) for mutual funds. In many cases, these AMCs can appoint a majority/ all the trustees of the trust managing the mutual fund. In a similar scenario, banks also through their subsidiaries have venture capital investments. The issue for consideration is whether such investments through mutual funds, venture capital, etc. need to be consolidated under Ind AS 110.

Segment Reporting

With a view to adapt the disclosure format prescribed in Appendix III to AS17 to suit banks, RBI vide circular DBOD.No.BP.BC. BC. 81 /21.04.018/2006-07 dated April 18, 2007 advised banks to adopt a specified disclosure format. The format prescribed by RBI indicates the minimum disclosure requirements under Accounting Standard 17 and banks are allowed the discretion to enhance the disclosure levels. RBI has also specified the business segments as ‘Treasury’, ’Corporate/ Wholesale Banking’, ‘Retail Banking’ and ‘Other Banking Business’. An indicative list of items to be included under each category has been prescribed. The geographical segments will be domestic and international.

Ind AS 108 requires operating segments to be identified inter-alia on the basis of operating results being reviewed by the entity’s chief operating decision maker implying that the segments are to be decided by a bank on the basis of its internal MIS in the context of resource allocation decisions. A set of segments imposed by an external body such as a regulator may be inconsistent with the provisions of the standard.

Accounting for Effects of changes in Foreign Exchange Rate-: Classification of Integral and non-integral operations

The current standard under Indian GAAP, AS 11: “The Effects of Changes in Foreign Exchange Rates” is based on the integral and non-integral foreign operations approach, i.e., the approach which was followed in the earlier IAS 21 (revised 1993) wherein foreign operations are to be categorised as integral and non-integral. An integral foreign operation carries on its business as if it were an extension of the enterprise and consequently changes in foreign exchange rate have an almost immediate effect on the reporting enterprise’s cash flows from operations. In contrast, a non-integral foreign operation accumulates cash and other monetary items, incurs expenses, generates income and perhaps arranges borrowings, all substantially in the local currency (e.g. the foreign branch of an Indian bank). Thus when there is a change in exchange rate it does not affect the cash flow from operations of the reporting enterprise and instead affects the net investment in the foreign operations.

Based on the above differentiation between the nature of integral and non-integral operations there is a difference in accounting treatment. In the case of integral operations the exchange difference is routed through the P&L whereas in the case of non-integral operations it is accumulated in a Foreign Currency Translation Reserve.

The RBI vide its guidelines (DBOD No.BP.BC.76/21.04.018/2004-05 & 2005-06 dated March 15, 2005 and April 5, 2006), taking into consideration the operation of the foreign branches of Indian banks and the indicators listed in paragraph 20 of AS 11, advised that foreign branches of Indian banks would be classified as "non-integral foreign operations". Similarly, the guidelines provided that offshore Banking Units (OBUs) set up in India by banks would also be classified as "non-integral foreign operations" while representative offices of banks set up abroad would be classified as "integral foreign operations" for the limited purpose of compliance with AS 11.

However, this approach explained above is different from the functional currency approach followed under Ind AS 21. Under the functional currency approach the entity first determines its functional currency and then translates all foreign currency items into the functional currency. The functional currency is the currency of the primary economic environment in which the entity operates. Under Ind AS, there is no distinction between integral foreign operations and non-integral foreign operations. In fact an entity that was previously classified as integral foreign operation will have the same functional currency as the reporting entity. As per the standard, when a reporting entity prepares financial statements, each individual entity, included in the reporting entity –whether it is a standalone entity , an entity with foreign operations ( such as a parent) or a foreign operation ( such as a subsidiary or branch)- is to determine its functional currency and measure the results and financial position in that currency. An entity is required to translate its results and financial position from its functional currency into a presentation currency using the specified method in the standard for translating a foreign operation for inclusion in the reporting entity’s financial statements.

Generally an entity such as representative offices of banks set up abroad that was previously classified as integral as per AS 11/extant RBI guidelines would have the same functional currency as the reporting entity under the provisions of Ind AS 21. In the case of non-integral operations as defined in AS 11/extant RBI guidelines (such as a subsidiary or branch or associate or Joint Venture of the bank abroad), the functional currency may be different from the reporting currency and it would involve a translation into the reporting entity’s presentation currency in terms of Ind AS 21.

RBI may need to consider withdrawing the current guidelines on classification of operations as integral or non-integral since it is not relevant in the context of Ind AS 21. Further, Ind AS 21 provides guidance on selection of the functional currency which may be supplemented by the ICAI in its educational material at a later stage if required.

Accounting for Effects of changes in Foreign Exchange Rate- Exchange rate for recording foreign currency transactions and translation to presentation currency -Rates used for translation

At initial recognition, Ind AS 21 (paragraph21) requires that a foreign currency transaction shall be recorded, on initial recognition, in the functional currency by applying to the foreign currency amount the spot exchange rate between the functional currency and the foreign currency at the date of the transaction. For practical reasons, the standard allows the use of a rate that approximates the actual rate at the date of the transaction. For example, an average rate for a week or a month may be used for all transactions in foreign currency occurring during that period (paragraph 22).

Further, paragraph38 also states that when a group contains individual entities with different functional currencies, the results and financial position of each entity are expressed in a common currency so that consolidated financial statements may be presented. Paragraph 39 states that while translating the results and financial position into the presentation currency:

a.) the assets and liabilities for each statement of financial position presented (including comparatives) shall be translated at the closing rate at the date of that statement of financial position;

b.) the incomes and expenses for each statement of comprehensive income (including comparatives) shall be translated at exchange rates at the dates of the transactions ;

and c) all resulting exchange differences shall be recognised in OCI.

Paragraph 40 states that In respect of translation into presentation currency, an average rate for the period, is often used to translate income and expense items. . However, Ind AS 21 states that if the exchange rates fluctuate significantly, the use of the average rate for a period is inappropriate.

The method for translation as per Ind AS 21 as stated above is almost similar to the current AS 11.

In order to facilitate the implementation of AS-11, the RBI has provided the following guidance with respect to banks using average rates

(a) In respect of Indian branches and integral foreign operations, which are currently not being recorded in Indian rupees at the date of the transaction or are being recorded using a notional exchange rate, foreign currency transactions may be recorded at the date of the transaction by using the weekly average closing rate of the preceding week, published by FEDAI, if the same approximates the actual rate at the date of the transaction.

(b) Generally, Indian banks prepare the consolidated accounts for their domestic and foreign branches at quarterly or longer intervals. Hence, banks may use the quarterly average closing rate, published by FEDAI at the end of each quarter, for translating the income and expense items of non-integral foreign operations during the quarter.

(c) If the weekly average closing rate of the preceding week does not approximate the actual rate at the date of the transaction, the closing rate at the date of the transaction should be used. For this purpose, the weekly average closing rate of the preceding week would not be considered approximating the actual rate at the date of the transaction if the difference between (i) the weekly average closing rate of the preceding week and (ii) the exchange rate prevailing at the date of the transaction, is more than three and a half percent of (ii) In respect of non-integral foreign operations, if there are significant exchange fluctuations during the quarter, the income and expense items of non-integral foreign operations should be translated by using the exchange rate at the date of the transaction instead of the quarterly average closing rate. For this purpose, the exchange rate fluctuation would be considered as significant, if the difference between the two rates is more than seven percent of the exchange rate prevailing at the date of the transaction. The limit of three and a half / seven percent variation has been considered as appropriate since such variation is not expected to have a material impact on the amount of the relevant items such as foreign currency loans and advances and deposits, and operating results.

(d) Banks are, however, encouraged to equip themselves to record the foreign currency transactions of Indian branches as well as integral foreign operations and translate the income as well as expense items of non-integral foreign operations at the exchange rate prevailing on the date of the transaction.

Paragraph 8 of Ind AS 21 defines ‘closing rate’ as the spot exchange rate at the end of the reporting period. (AS 11 defines closing rate as the exchange rate at the balance sheet date). In order to ensure uniformity among banks, RBI had stated that the closing rate to be applied for the purposes of AS 11 (revised 2003) for the relevant accounting period would be the last closing spot rate of exchange announced by FEDAI for that accounting period.

Depreciation

Extant RBI instructions require that banks charge depreciation on computers on a straight line method at the rate of 33.33 percent per annum. However, in terms of IAS 16 and its Indian equivalent Ind AS 16 on Property Plant and Equipment, the depreciable amount of asset shall be allocated on a systemic basis over its useful life. The useful life of asset is defined in terms of the asset’s expected utility to the entity. The depreciation method used should reflect the pattern in which the asset’s future economic benefits are expected to be consumed by the entity. A variety of depreciation methods can be used to allocate the depreciable amount of an asset on a systematic basis over its useful life. These methods include the straight-line method, the diminishing balance method and the units of production method. The entity selects the method that most closely reflects the expected pattern of consumption of the future economic benefits embodied in the asset.

The extant RBI instructions requiring 33% depreciation for computers would not be in line with the principle based Ind AS, where the depreciation has to be based on the useful life of the asset.

It is recommended that while RBI need not withdraw the circular, it may clarify that the rates prescribed are indicative and that the banks may comply with the accounting standards in this regard.

Related Party Disclosure

The present reporting framework for related party transactions is based on AS 18 Related Party Disclosures issued by ICAI read with RBI guidelines on the matter. In order to facilitate compliance with AS 18, RBI has advised banks that the related parties for a bank are its parent, subsidiary(ies), associates/joint ventures, Key Management Personnel (KMP) and relatives of KMP. KMP are the whole time directors for an Indian bank and the chief executive officer for a foreign bank having branches in India. Relatives of KMP would be on the lines indicated in Section 45 S of the R.B.I. Act, 1934. The definition of related party as per Ind AS 24 is given in Annex. Ind AS 24, includes, among others, a person or a close member of that person’s family as related to a reporting entity if that person has control or joint control or has significant influence over the reporting entity. The RBI guidelines while defining related party do not provide for inclusion of such persons as “related parties”. Therefore it appears, for instance that shareholders/ promoters with significant influence/ control are outside the definition of related party.

According to AS 18, as notified by the Government, a non-executive director of a company should not be considered as a key management person by virtue of merely his being a director unless he has the authority and responsibility for planning, directing and controlling the activities of the reporting enterprise. However, Ind AS 24 defines KMP as those persons having authority and responsibility for planning, directing and controlling the activities of the entity, directly or indirectly, including any director (whether executive or otherwise) of that entity.

Business Combinations

Under the relevant provisions of the Banking Regulation Act, 1949, the RBI is required to approve schemes for voluntary merger of banks.

Discontinuing operations

The RBI vide circular reference DBOD.No.BP.BC.82/21.04.018/2003-04 dated April 30, 2004 had advised banks that Merger / closure of branches of banks by transferring the assets / liabilities to the other branches of the same bank may not be deemed as a discontinuing operation and hence Accounting Standard 24 issued by ICAI on Discontinuing operations will not be applicable to merger / closure of branches of banks by transferring the assets / liabilities to the other branches of the same bank.

As per Ind AS 105, a discontinued operation is a component of an entity that either has been disposed of or is classified as held for sale, and:

(a) represents either a separate major line of business or a geographical area of operations, and

(b) is part of a single co-ordinated plan to dispose of a separate major line of business or geographical area of operations, or

(c) is a subsidiary acquired exclusively with a view to resale and the disposal involves loss of control.

Materiality threshold for prior period items

RBI vide its circular DBOD.No.BP.BC.89/21.04.018/2002-03 dated March 29, 2003 has issued guidelines on Compliance with Accounting Standards (AS) by Banks. In respect of AS 5: Net Profit or Loss for the Period, Prior Period Items and Changes in Accounting Policies, issued by the ICAI, the RBI has provided guidance on a quantitative threshold for materiality by requiring compliance with AS 5 for in respect of any item of prior period income or prior period expenditure which exceeds one percent of the total income/total expenditure of the bank if the income/expenditure is reckoned on a gross basis or one percent of the net profit before taxes or net losses as the case may be if the income is reckoned net of costs. A similar threshold has also been prescribed in the case of revenue recognition.

Revenue recognition in the case of non-performing assets

In the context of AS 9: Revenue Recognition, RBI has clarified that non-recognition of income by the banks in case of non-performing advances and non-performing investments, in compliance with the regulatory prescriptions of the RBI, should not attract a qualification by the statutory auditors as this would be in conformity with provisions of the standard, since it recognises postponement of recognition of revenue where collectability of the revenue is significantly uncertain.

DTL on Special Reserve under Section 36(1)(viii) of the Income Tax Act, 1961

The RBI vide its circular BP.BC.77/21.04.018/2013-14 dated December 20, 2013 on ‘Deferred Tax Liability on Special Reserve created under Section 36(1) (viii) of the Income Tax Act, 1961’ has advised banks to create deferred tax liability (DTL) on Special Reserve created under section 36(1)(viii) of the Income Tax Act, 1961. These instructions are based on the current AS 22: Accounting for taxes on income issued by the ICAI. AS 22, being based on the pre-1996 IAS 12 uses an income statement liability method whereas the current IAS 12 uses balance sheet liability method.

The ICAI may be requested to issue clarifications in the context of Ind AS 12.

The issue of DTL/DTA in respect of HTM investments and provision for bad and doubtful debts in the case of banks has been examined by the Expert Advisory Committee (EAC) of the ICAI in the past. Given that these issues are especially relevant to the banking industry, the ICAI may also consider issuing clarifications on these aspects.

Availability of OCI for distribution of dividend

Would Other Comprehensive Income be available for distribution as dividend.

Comprehensive income represents all non-owner changes in equity. This is further segregated into profit or loss and OCI. The IASB is yet to provide a principle based approach to segregate items into OCI and classification of particular item into OCI is based on the specific requirements of individual standards.

Availability for distribution as dividend in dependent upon the statutory provisions of the Companies Act, 2013, the Banking Regulation Act, 1949 and the regulations made there under. Since these statutes were enacted prior to the implementation of Ind AS, it is unclear at this stage whether OCI would be permitted as available for distribution from a statutory perspective.

Items in OCI generally represent unrealised gains/losses and remeasurements and therefore from a prudential perspective these may not qualify as available for distribution of dividend.

The declaration of dividend by banks is governed by instructions contained in RBI circular DBOD.No.BP.BC.88/21.02.067/2004-05 dated May 4, 2005.

RBI may, in consultation with MCA and other authorities, if required, review the same in light of the implementation of Ind AS.

As has been pointed out at various places in this Report, there may be a need to withdraw certain guidelines which are inconsistent with Ind AS. In such cases RBI may consider placing prudential filters such as restrictions on dividend to address its regulatory and supervisory concerns.

Taxes
- Current tax
- Deferred Tax

A (i) Items that will not be reclassified to profit or loss
(specify items and amounts)

(ii) Income tax relating to items that will not be reclassified to profit or loss

Subtotal

B (i) Items that will be reclassified to profit or loss
(specify items and amounts)

(ii) Income tax relating to items that will be reclassified to profit or loss

Subtotal

* Other basis of measurement such as cost may be explained as a footnote

Extant guidelines appear to be consistent with Ind AS requirements in respect of securities for which active markets exist. In rare instances of illiquid listed shares for which prices are not available on an ongoing basis, recourse to an external valuation may need to be taken.

In the specific case of investments in subsidiaries, joint ventures and associates the option to value these at cost in separate financial statements may be exercised as discussed under (6) below.

The extant instructions provide for a rule based mark ups over the YTM based rates which may not be consistent with the Ind AS 113 principles.

Where the valuation provided by an independent agency such as FIMMDA is the reference valuation (as currently mandated by RBI for many securities) , it may be necessary for FIMMDA to put in place a valuation methodology and provide valuations for such securities taking into consideration the application guidance and valuation principles specified in Ind AS 113 to ensure consistent application across the banking industry.

Extant guidelines requiring instruments to be valued at cost are not consistent with Ind AS 113 and may need to be modified to be in line with valuation on fair value basis as required under Ind AS 113

An independent agency such as FIMMDA may provide the valuation taking into account the principles of Ind AS 113 to ensure consistent application as discussed above.

Rule based mark ups on YTM may not be consistent with Ind AS

An independent agency such as FIMMDA may provide the valuation taking into account the principles of Ind AS 113 to ensure consistent application as discussed under (2) above.

Such debentures/bonds may be of different companies having different ratings. These will be valued with appropriate credit spread over the YTM rates for Central Government securities, as published by PDAI / FIMMDA periodically.

The credit spread would be graded according to the ratings assigned to the debentures/bonds by the rating agencies subject to the condition

that the rate used for YTM for rated debentures/bonds should be at least 50 basis points above the rate applicable to GoI loan of equivalent maturity

Further, where the debenture/bond is quoted and there have been transactions within 15 days prior to the valuation date, the value adopted should not be higher than the rate at which the transaction is recorded on the stock exchange

These will be valued with appropriate credit spread over the YTM rates for Central Govt. securities, as put out by PDAI / FIMMDA periodically.

The rate used for the YTM for unrated debentures/bonds should not be less than the rate applicable to rated debentures/bonds of equivalent maturity.

The credit spread for the unrated debentures/bonds should appropriately reflect the credit risk borne by the bank.

Valuation to be done on YTM basis in a manner similar to debentures explained above subject to the following considerations

(i) The YTM rate should not be lower than the coupon rate/YTM for a GoI loan of equivalent maturity.

(ii) Rate used for YTM for unrated preference share should not be less than rate applicable to rated preference shares of equivalent maturity. Credit spread for unrated preference shares should appropriately reflect the credit risk borne by the bank

(iii) Where preference dividends are in arrears no credit should be taken for accrued dividends and the value determined on YTM should be discounted by at least 15% if arrears are for one year, and more if arrears are for more than one year.

(iv) Preference share should not be valued above its redemption value

(v) When a preference share has been traded on a stock exchange within 15 days prior to the valuation date, the value should not be higher than the price at which the share was traded.

(vi) Investment in preference shares as part of project finance may be valued at par for a period of two years after commencement of production or five years after subscription whichever is earlier.

Such bonds are to be valued on YTM basis using the YTM rates for central government securities of equivalent maturity as put out by FIMMDA on the valuation day with the following mark ups:

a) During the period when bonds’ liabilities are with the State Discoms and guaranteed by respective state government then75 bps. If not guaranteed by the respective state government then a markup of 100 bps

b) During the period when the bonds’ liabilities are with the respective state governments -50 bps

Quoted prices from active markets. However, where these are not available a valuation technique may be used based on market observable inputs.

Depending upon the use of non-market observable inputs and their significance to the measurement, the measurement would be categorised as either Level 2 or Level 3.

Carrying cost, i.e. acquisition cost plus discount accrued at the rate prevailing at the time of acquisition, which may be marked to market with reference to the market value.

In the absence of market value, the ZCBs may be marked to market with reference to the present value of the ZCB. The present value of the ZCBs may be calculated by discounting the face value using the 'zero coupon yield curve', with appropriate mark up as per the zero coupon spreads put out by FIMMDA periodically.

In case the bank is still carrying the ZCBs at acquisition cost, the discount accrued on the instrument should be notionally added to the book value of the scrip, before marking it to market.

The extant RBI guidelines may not be consistent with Ind AS requirement.

Where NAV/ repurchase price is available for SEBI registered mutual funds it may be used as a base to determine valuation.

In other cases, it is suggested that the valuation may be carried out or certified by an independent external valuer taking into account Ind AS requirements.

Classified under HTM for initial period of three years and valued at cost during this period. After three years unquoted shares / bonds / units transferred to AFS and valued as below:

Units – Valuation will be done at NAV shown by the VCF in its financial statements. Units to be valued at least once a year based on audited results. If audited balance sheet/financial statements showing NAV figures are not available continuously for more than 18 months as on date of valuation, investments are to be valued at Re. 1 per VCF.

Equity – Valued at break up value ascertained from VCFs latest balance sheet. In case latest balance sheet is not available or more than 18 months the shares are to be valued at Rs.1/-

Bonds - Bonds of VCFs should be valued as per prudential norms on classification, valuation of investment portfolio issued by RBI from time to time.

As per Ind AS 27: Separate Financial Statements, when an entity prepares separate financial statements it can elect to account for investments in subsidiaries, joint ventures and associates either at cost or in accordance with Ind AS109. In the case of investments in subsidiaries/JVs/ associate as defined in the accounting standards as well as for Regional Rural Banks (RRBs) the RBI may consider prescribing that these may only be accounted for at cost thereby limiting the option provided by Ind AS 27.

Apart from the cases above, where adequate, timely and reliable information is available, banks may rely on valuations determined by themselves internally if based on sound and established internal systems with the approval of their Board of Directors provided, however, that a valuation of such instruments is carried out by an independent external valuer/expert at intervals not exceeding 12 months.

For other equity instruments (not quoted or traded) for which data for valuation are neither reliable, adequate nor timely the Working Group recommends that such instruments be valued at carrying cost and subjected to testing for impairment. This would be a regulatory override to the principles of the accounting standards and its application is expected only in limited or rare cases. Alternatively, a carve out may be avoided and regulatory concerns could instead be addressed through other measures such as limiting the extent of such investments.

Where current quotations are not available or where the shares are not quoted on the stock exchanges, should be valued at break-up value (without considering revaluation reserves, if any)

Break-up value to be ascertained from the company's latest balance sheet (not more than one year prior to date of valuation).

In case latest balance sheet is not available, the shares are to be valued at Re. 1 per company.

As per RBI instructions, currently are to be classified under HTM.

Currently, therefore, no question of fair value.

Investments need not be marked to market and will be carried at acquisition cost. Banks to recognise any diminution, other than temporary, in the value of their investments and provide accordingly.

Equity, debentures and other financial instruments acquired by way of conversion of outstanding principal and/or interest should be classified in the AFS category and valued in accordance with the extant instructions on valuation of banks’ investment portfolio, except to the extent that :

a) Equity may be valued at market value if quoted

b) In cases where equity is not quoted, valuation may be at break-up value in respect of standard assets and in respect of substandard/doubtful assets, equity may be initially valued at rupee one and at break-up value after restoration/ upgradation to standard category.

DBOD.BP.BC.No.81/21.01.002/2009-10

30-Mar-10

Classification in the Balance Sheet - Capital Instruments

Master Circular on Basel III
Capital Regulations

The treatment specified in the RBI guidelines is asymmetric requiring immediate recognition of losses and deferred recognition of gains. However, Ind AS 109 provides that on derecognition of a financial asset the difference between the carrying amount measured at the date of derecognition and the consideration received shall be recognised in the profit or loss account. Thus the accounting framework specified in the extant RBI guidelines is inconsistent with the derecognition requirements of Ind AS 109.

RBI may consider aligning the accounting framework for derecognition with the principles of Ind AS109. In order to address its concerns as a regulator, RBI may consider using prudential tools/filters such as non-recognition of such profits in computation of regulatory capital as also for dividend distribution, etc.

RBI guidelines require that Consolidated Financial Statements should be prepared using uniform accounting policies for like transactions and other events in similar circumstances. If it is not practicable to do so, that fact should be disclosed together with the proportions of the items in the consolidated financial statements to which the different accounting policies have been applied. RBI guidelines also provide that if different entities in a group are governed by different accounting norms laid down by the concerned regulator for different businesses then, where banking is the dominant activity, accounting norms applicable to a bank should be used for consolidation purposes in respect of like transactions and other events in similar circumstances.

The RBI may consider withdrawing its guidelines. Where an entity has control and the power to direct relevant activities, it is presumed that it would be able to either ensure uniform accounting policies or be able to obtain necessary adjustments to ensure that the consolidation is based on uniform accounting policies.

In terms of DBR. No. BP DBR.No.BP.BC.101/21.04.132/2014-15 dated June 8, 2015, provides that lending banks acting through a Joint Lenders Forum (JLF) should actively consider change in ownership in cases of restructuring of accounts where borrower companies are not able to come out of stress due to operational/ managerial inefficiencies despite substantial sacrifices made by the lending banks. In order to achieve the change in ownership, the lenders under the JLF should collectively become the majority shareholder by conversion of their dues from the borrower into equity. Further, in terms of the aforementioned circular as the lender acquires such voting power in the borrower entity in satisfaction of its advances under the SDR, and the rights exercised by the lenders are more protective in nature and not participative, such investment may not be treated as investment in associate.

The Working Group arrived at the conclusion that this aspect may be additionally examined by preparers and auditors based on the circumstances of each case rather than based on a uniform regulatory prescription. Therefore, RBI may consider amending this instruction.

Generally an entity such as representative offices of banks set up abroad that was previously classified as integral as per AS 11/extant RBI guidelines would have the same functional currency as the reporting entity under the provisions of Ind AS 21. In the case of non-integral operations as defined in AS 11/extant RBI guidelines (such as a subsidiary or branch or associate or Joint Venture of the bank abroad), the functional currency may be different from the reporting currency and it would involve a translation into the reporting entity’s presentation currency in terms of Ind AS 21.

RBI may need to consider withdrawing the current guidelines on classification of operations as integral or non-integral since it is not relevant in the context of Ind AS 21. Further, Ind AS 21 provides guidance on selection of the functional currency which may be supplemented by the ICAI in its educational material at a later stage if required

The RBI vide its circular BP.BC.77/21.04.018/2013-14 dated December 20, 2013 on ‘Deferred Tax Liability on Special Reserve created under Section 36(1) (viii) of the Income Tax Act, 1961’ has advised banks to create deferred tax liability (DTL) on Special Reserve created under section 36(1)(viii) of the Income Tax Act, 1961. These instructions are based on the current AS 22: Accounting for taxes on income issued by the ICAI. AS 22, being based on the pre-1996 IAS 12 uses an income statement liability method whereas the current IAS 12 uses balance sheet liability method. The ICAI may issue clarification in the context of Ind AS 12.

The issue of DTL/DTA in respect of HTM investments and provision for bad and doubtful debts in the case of banks has been examined by the Expert Advisory Committee (EAC) of the ICAI in the past. Given that these issues are specially relevant to the banking industry, the ICAI may consider issuing including issuing clarifications on these aspects also

Certain sourcing costs for raising deposits and borrowings will be required to be capitalised under Ind AS / IFRS compared to the current practice and requirement for immediate recognition in profit or loss under Indian GAAP / banking guidelines.

The provisions of Section 15 of the Banking Regulation Act would also need to be either modified or be interpreted in such a manner to allow banks to capitalise / defer certain origination costs that qualify as transaction costs associated with the issuance of liabilities that are not classified as fair value through profit or loss.

It is recommended by the Working Group that the Central Government may consider delegating its power of amending the Third Schedule under section 29(4) to the Reserve Bank of India, on lines similar to the authority delegated to Insurance Regulatory and Development Authority

Third Schedule to the Banking Regulation Act 1949 need suitable amendments to facilitate the changed presentation.

What are the titles of the financial statements in order of presentation?

In terms of paragraph 10 of IAS1, an entity may use titles for the statements other than those used in the Standard. For example, an entity may use the title ‘statement of comprehensive income’ instead of ‘statement of profit or loss and other comprehensive income’.

Further, IAS 1 does not specify the order in which the various statements should be presented

1. Income Statement

2. Statement of Comprehensive Income

3. Balance Sheet

4. Statement of Changes inequity

5. Cash flow statement

6. Notes to the financial statements

1. Profit and Loss Account

2. Statement of Net Income and Changes in Assets and Liabilities Recognised Directly in Equity

3. Balance Sheet

4. Cash Flow Statement

5. Statement of Changes in Shareholders’ Equity

6. Notes to the financial statements

1. Statement of Income

2. Statement of Comprehensive Income

3. Balance Sheet

4. Statement of Changes of Equity

5. Statement of Changes of Cash Flows

6. Notes to the Consolidated Financial Statements

1. Income Statement

2. Statement of Comprehensive Income

3. Balance Sheet

4. Statement of Cash Flows

5. Statement of Changes in Equity

6. Notes on the financial statements

1. Income Statement

2. Statement of Comprehensive Income

3. Balance Sheet

4. Statement of Changes in Equity

5. Cash Flow Statement

6. Notes to the financial statements

1. Income Statement

2. Statement of Comprehensive Income

3. Balance Sheet

4. Statement of Changes in Equity

5. Cash Flow Statement

6. Accounting policies

7. Notes on the financial statements

1. Income Statement

2. Statement of Comprehensive Income

3. Balance Sheet

4. Statement of Changes in Equity

5. Cash Flow Statement

6. Notes to the financial statements

1. Income Statement

2. Statement of Comprehensive Income

3. Balance Sheet

4. Statement of Changes in Equity

5. Statement of Cash Flows

6. Notes to the financial statements

What is the order of items in the Balance Sheet?

In terms of paragraph 60 of IAS 1, an entity shall present current and non-current assets, and current and non-current liabilities, as separate classifications in its statement of financial position, except when a presentation based on liquidity provides information that is reliable and more relevant. When that exception applies, an entity shall present all assets and liabilities in order of liquidity.

Is the Profit or Loss and OCI a single statement or are they presented as separate statements?

In terms of paragraph 10A of IAS 1, An entity may present a single statement of profit or loss and other comprehensive income, with profit or loss and other comprehensive income presented in two sections. The sections shall be presented together, with the profit or loss section presented first followed directly by the other comprehensive income section. An entity may present the profit or loss section in a separate statement of profit or loss. If so, the separate statement of profit or loss shall immediately precede the statement presenting comprehensive income, which shall begin with profit or loss.

In the Profit or Loss Statement, is the analysis of expenses, based on nature or function?

In terms of paragraph 99 of IAS 1, An entity shall present an analysis of expenses recognised in profit or loss using a classification based on either their nature or their function within the entity, whichever provides information that is reliable and more relevant.

In the statement on OCI, are the items net of related taxes or before related tax effects?

As per paragraph 91 of IAS 1, An entity may present items of other comprehensive income either (a) net of related tax effects, or (b) before related tax effects with one amount shown for the aggregate amount of income tax relating to those items.