Strategic Business Reporting (International) · Foreign transactions and entities

Foreign Currency Transactions in Individual Entities under IAS 21

Updated 11 October 2026 · Fact-checked

Under IAS 21, an entity records a foreign currency transaction at the spot rate on the transaction date. At each reporting date, monetary items are retranslated at the closing rate. Non-monetary items stay at historical rate unless carried at fair value. Exchange differences on monetary items go to profit or loss, except for specific OCI cases.

Understand Foreign Currency Transactions in Individual Entities

A foreign currency transaction is one denominated in a currency other than the entity's functional currency. The functional currency is the currency of the main economic environment in which the entity operates. Every transaction must be measured in that currency before it goes into the accounts.

On initial recognition, you translate the foreign amount at the spot rate on the date of the transaction. An average rate may be used for a period if rates do not fluctuate significantly. Exam questions usually give you the spot rate directly.

At each reporting date, what you do depends on the type of item. Monetary items are units of currency held, and assets and liabilities to be received or paid in a fixed or determinable number of units of currency. Examples are receivables, payables, cash, loans and lease liabilities. You retranslate them at the closing rate.

Non-monetary items have no right to a fixed amount of currency. Examples are property, plant and equipment, inventory, intangible assets and prepayments. If carried at historical cost, they stay at the rate on the transaction date. If carried at fair value, you translate them at the rate on the date the fair value was measured.

Exchange differences arise when rates move between recognition and settlement, or between recognition and the reporting date. Normally they go to profit or loss. If a gain or loss on a non-monetary item is recognised in OCI (for example a revaluation under IAS 16), the exchange part of that gain or loss is also in OCI. Exchange differences on a monetary item that forms part of a net investment in a foreign operation are dealt with in group accounts.

Key rules to remember

Initial recognition: Functional currency amount = Foreign amount ÷ or × spot rate at transaction date; Check the quote direction. If the rate is 1.60 foreign per 1 functional, you divide the foreign amount by 1.60.
Monetary items at reporting date: Retranslate at closing rate. Exchange difference = closing carrying amount − previous carrying amount (or settlement amount); Taken to profit or loss in general.
Non-monetary items at historical cost: Not retranslated. Stay at the transaction-date rate; Includes PPE and inventory at cost. Inventory at net realisable value is compared in the same currency, translated at the rate when NRV was measured.
Non-monetary items at fair value: Translate at the rate on the date fair value was determined; Where the fair value gain goes to OCI, the related exchange element goes to OCI. Where it goes to profit or loss, so does the exchange element.
Settlement: Exchange difference = amount settled at settlement-date spot rate − carrying amount; Recognised in profit or loss in the period it arises.

How to solve Foreign Currency Transactions in Individual Entities questions

Use this order for any IAS 21 individual-entity question. It keeps monetary and non-monetary items apart and stops you mixing rates.

1Identify the entity's functional currency. Everything is measured in it.
2Record the transaction at the spot rate on the transaction date. Note the quote direction.
3Classify each balance at the reporting date as monetary or non-monetary.
4Retranslate monetary items at the closing rate. Calculate the exchange difference against the carrying amount.
5Leave non-monetary items at cost at the historical rate. If at fair value, use the rate on the date of fair value.
6If the transaction was settled in the period, compare the settlement-date amount with the carrying amount. This is the exchange difference.
7Post the exchange difference to profit or loss, unless the related gain or loss on a non-monetary item is in OCI.
8State the final figures clearly, with gain or loss labelled.

Quickest way: Three-column rate check

When to use it: Use when you have limited time and several foreign items to translate.

Write three columns: transaction date, reporting date, settlement date. Put the rate under each.
Mark each item M (monetary) or N (non-monetary).
Translate M items at every date. The movement between dates is the exchange difference.
Translate N items once, at the date set by cost or fair value. No exchange difference unless fair value is in use.
Total the gains and losses and write one line for profit or loss.

Common mistakes in Foreign Currency Transactions in Individual Entities

Retranslating inventory or PPE at the closing rate when carried at cost.
Students apply one closing rate to every balance.
Fix: Ask: monetary or non-monetary? Non-monetary items at cost stay at the historical rate.
Multiplying when you should divide (or the reverse).
The rate quote direction is not checked.
Fix: Write the rate as 'foreign currency per 1 of functional currency'. Divide foreign amounts by it. Do a quick sense check on size.
Treating a prepayment or advance payment as monetary.
It looks like a receivable.
Fix: Where advance consideration gives rise to a non-monetary prepayment or contract liability (IFRIC 22), it is non-monetary because it gives a right to goods or services, not cash. Keep it at the rate on the date the advance was paid or received. A deposit that is refundable in cash is monetary and is retranslated at the closing rate.
Posting all exchange differences to profit or loss.
Students remember the general rule only.
Fix: If the gain or loss on a non-monetary item, such as a revalued asset, goes to OCI, the exchange element goes to OCI as well.
Forgetting to compute the exchange difference up to settlement date when the item is paid before year end.
Students jump to the closing rate.
Fix: If settled in the year, compare the settlement-date amount with the original carrying amount. No closing-rate step is needed.
Using the wrong sign for gain or loss.
Liabilities behave opposite to assets.
Fix: If the foreign currency strengthens, a foreign liability costs more (loss) and a foreign receivable is worth more (gain). A rise in the number of foreign units per $1 (for example €1.20 to €1.25) means the foreign currency has weakened, so the effect is the reverse.

Worked examples

Example 1

Alpha has the dollar ($) as functional currency. On 1 November 20X1 it bought goods from a supplier in Europe for €240,000 on credit. The spot rate was €1.20 = $1. Alpha's year end is 31 December 20X1 when the rate was €1.25 = $1. Alpha paid the supplier on 31 January 20X2 when the rate was €1.30 = $1. The goods were all unsold at 31 December. Show the accounting for 20X1 and the settlement.

Show the solution

Initial recognition: €240,000 ÷ 1.20 = $200,000. Dr Inventory $200,000, Cr Payables $200,000.
Inventory is non-monetary at cost. It stays at $200,000.
Payables is monetary. At 31 December: €240,000 ÷ 1.25 = $192,000.
Exchange difference: $200,000 − $192,000 = $8,000 gain, because the euro weakened. Dr Payables $8,000, Cr Profit or loss $8,000.
Settlement on 31 January 20X2: €240,000 ÷ 1.30 = $184,615 (rounded).
Exchange difference in 20X2: $192,000 − $184,615 = $7,385 gain. Dr Payables $192,000, Cr Cash $184,615, Cr Profit or loss $7,385.

Answer: Inventory remains at $200,000. A $8,000 exchange gain is in 20X1 profit or loss. The payables balance is $192,000 at year end. Settlement gives a further gain of $7,385 (rounded) in 20X2.

Example 2

Beta has the dollar ($) as functional currency. On 1 October 20X1 it bought land in a foreign country for 6,000,000 francs (F) when F3 = $1. At 31 December 20X1, the land was revalued under the IAS 16 revaluation model to F7,200,000 when F3.30 = $1. Beta also received a non-refundable customer deposit of F300,000 on 1 December 20X1 for goods to be delivered in 20X2 (rate F3.10 = $1) which is treated as a contract liability. Explain the carrying amounts at 31 December 20X1 and where differences go.

Show the solution

Land at cost: F6,000,000 ÷ 3 = $2,000,000. This is the previous carrying amount.
Land is non-monetary at fair value. Translate the revalued amount at the rate on the revaluation date: F7,200,000 ÷ 3.30 = $2,181,818 (rounded).
Total change in dollars = revalued amount $2,181,818 − previous carrying amount $2,000,000 = $181,818. This net amount goes to OCI (revaluation surplus).
The $181,818 net surplus has two components, and both go to OCI. First, the opening carrying amount of F6,000,000 is worth F6,000,000 ÷ 3.30 = $1,818,182 at the closing rate, against $2,000,000 previously. That is an exchange loss of $181,818 because the franc weakened. Second, the revaluation gain in francs of F1,200,000 ÷ 3.30 = $363,636 is a gain.
Check: $363,636 gain − $181,818 exchange loss = $181,818 net surplus in OCI. This also agrees to the total fair value of F7,200,000 at the closing rate, $2,181,818, less $2,000,000. Both components go to OCI because the revaluation gain is in OCI. Nothing goes to profit or loss.
Customer deposit: the advance consideration gives rise to a non-monetary contract liability (IFRIC 22). It is measured at the rate on the date it was received: F300,000 ÷ 3.10 = $96,774 (rounded). It is not retranslated at the closing rate.
No exchange difference arises on the deposit. Under IFRIC 22, when the goods are delivered in 20X2, revenue for the portion of the consideration paid in advance is translated at the rate on the deposit date, giving $96,774. Any further consideration is translated at the rate on the later date. A refundable deposit would be monetary and would be retranslated.

Answer: Land is carried at $2,181,818 (rounded), against a previous carrying amount of $2,000,000. The net $181,818 revaluation surplus is in OCI. It is made up of a $363,636 gain on the F1,200,000 revaluation and a $181,818 exchange loss on the opening F6,000,000 carrying amount, both in OCI. The contract liability stays at $96,774 (rounded) with no exchange difference. Later revenue for the advance-paid portion uses the same deposit-date rate, and any further consideration uses the rate at its own date.

Exam tips

Always state whether each item is monetary or non-monetary. Markers award marks for the classification and the reasoning.
Show the rate used on every line. Marks are given for method even if arithmetic slips.
For fair-valued non-monetary items, say where the fair value change goes. The exchange element follows it.
In scenario questions, say who is affected and what a profit or loss exchange difference does to reported performance, to earn professional skills marks for analysis.
Write brief journals. They make a clear audit trail and help you see the net effect.

Practice questions from Foreign transactions and entities

Foreign Currency Transactions in Individual Entities in other exams

The same ground in other exams, if you are preparing for more than one or want another angle on it.

Foreign Currency Transactions in Individual Entities: frequently asked questions

What is the difference between monetary and non-monetary items under IAS 21?

Monetary items are cash and items to be received or paid in a fixed or determinable amount of currency, such as receivables, payables and loans. Non-monetary items have no such right, such as PPE, inventory and intangibles. Monetary items are retranslated at the closing rate. Non-monetary items are not, unless carried at fair value.

Where do exchange differences go under IAS 21?

For individual entities, they normally go to profit or loss. The exception is where a gain or loss on a non-monetary item is recognised in OCI, such as a revaluation under IAS 16. Then the exchange part goes to OCI too.

Which rate is used for initial recognition?

The spot rate on the date of the transaction. An average rate for a period can be used as an approximation if rates do not fluctuate significantly.

Is a deposit or prepayment monetary?

Usually no. A prepayment for goods or services gives the right to receive those goods or services rather than cash, so it is non-monetary. It is kept at the historical rate and not retranslated.