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CMA Final · Corporate Financial Reporting

Accounting of Financial Instruments for CMA Final

Accounting of financial instruments covers how you classify, recognise, measure, impair, derecognise, hedge and disclose financial assets and liabilities under Ind AS 32, 109 and 107. To solve questions, first classify the instrument, then pick the measurement basis, then compute interest, ECL or gain and loss, and pass journal entries.

What this chapter covers

This chapter in Corporate Financial Reporting deals with financial instruments: loans, bonds, receivables, investments, derivatives and equity issued by a company. Three Ind AS work together. Ind AS 32 decides presentation, that is whether an instrument is a liability or equity. Ind AS 109 decides recognition, classification, measurement, impairment, derecognition and hedge accounting. Ind AS 107 decides what you disclose.

The split matters in the exam. Ind AS 32 itself says it does not deal with recognition or measurement of financial instruments. Those requirements are in Ind AS 109. So you must know which standard answers which question.

The chapter links to the rest of the paper. Consolidation and business combinations use it for contingent consideration, which Ind AS 109 says is measured at fair value with changes in profit or loss. Leases, employee benefits, insurance contracts and interests in subsidiaries, associates and joint ventures are mostly outside Ind AS 109, subject to the exceptions in its scope paragraph. You also need it for financial statements of banks and NBFCs, and for share-based questions.

Financial instruments give you numerical questions with clear step-by-step workings: effective interest tables, ECL provisions, derecognition entries and hedge entries. A student who knows the method can score full marks on these, and the theory also feeds the 2-mark MCQs in Section A. The chapter is dense, so most students skip parts of it. If you prepare it well, you get an edge in a paper where case-based application matters.

Accounting of Financial Instruments: topics in the order to study them

  1. 1Introduction to Financial InstrumentsYou need the definitions and the scope of Ind AS 32, 109 and 107 before anything else, including what is excluded.
  2. 2Classification of Financial Liabilities and EquityLiability or equity is the first decision for any instrument the company issues, and it is mostly theory with short examples.
  3. 3Recognition and Classification of Financial AssetsThe business model and cash flow tests decide the measurement category, so this comes before measurement.
  4. 4Measurement and Effective Interest MethodThis is the core calculation skill. Build amortisation tables here, as impairment and derecognition depend on them.
  5. 5Impairment of Financial Assets (ECL Model)ECL works on the gross carrying amount and amortised cost you have just learned to compute.
  6. 6Derecognition of Financial InstrumentsYou apply the transfer and risk-and-reward tests to assets already measured and impaired, and the extinguishment rules to liabilities.
  7. 7Derivatives and Hedge AccountingThis is the hardest part. It needs the measurement basics and fair value ideas to be firm first.
  8. 8Presentation and Disclosure (Ind AS 107)Disclosure is best revised last, as it summarises everything you have learned in the chapter.

How to prepare Accounting of Financial Instruments

Treat this chapter as a decision flow plus a set of calculation formats. Learn the flow first, then practise the formats until they are automatic.

  1. Draw one page on your own showing the flow: scope, liability or equity, asset classification, measurement, impairment, derecognition. Keep it for revision.
  2. Learn the classification rules in plain words. For liabilities, remember that the default is amortised cost, with listed exceptions such as fair value through profit or loss, financial guarantee contracts, below-market loan commitments and contingent consideration in a business combination.
  3. Practise the effective interest method with a table: opening balance, interest at the effective rate, cash flow, closing balance. Solve at least five problems including transaction costs and discounts.
  4. Practise ECL in three stages. Note that interest is on the gross carrying amount, except for credit-impaired assets, where it is on amortised cost.
  5. Do derecognition and hedge questions with full journal entries. Write the entry for each date separately and check that it balances.
  6. Solve past paper and ICMAI practice questions under time. Then revise the Ind AS 107 disclosure points as short lists.
  7. Revise weekly. Keep a one-page list of formulas and rules, and test yourself on the exceptions.

Common mistakes in Accounting of Financial Instruments

  • Mixing up what Ind AS 32 and Ind AS 109 decide

    Fix: Remember that Ind AS 32 decides liability or equity and presentation, and Ind AS 109 decides recognition and measurement.

  • Charging effective interest on the wrong base

    Fix: Apply the rate to the gross carrying amount, and switch to amortised cost only for credit-impaired assets as the standard requires.

  • Ignoring transaction costs when finding the effective rate

    Fix: Include costs in the initial carrying amount and solve the rate that discounts all cash flows to that amount.

  • Measuring equity issued against a liability at the carrying amount of the liability

    Fix: Measure the shares at fair value, and show the difference from the liability's carrying amount in profit or loss.

  • Applying Ind AS 109 to items outside its scope

    Fix: Check the scope list first and note the exceptions, such as lease receivables and lease liability derecognition.

  • Writing incomplete hedge and derecognition entries

    Fix: Give a dated journal entry with a short working, so marks are awarded for method even if the figure is wrong.

Last-day revision: Accounting of Financial Instruments

  • Ind AS 32 covers presentation; Ind AS 109 covers recognition and measurement; Ind AS 107 covers disclosure.
  • Financial liabilities are measured at amortised cost unless an exception in Ind AS 109 applies.
  • Exceptions include FVTPL liabilities, failed-derecognition liabilities, financial guarantees, below-market loan commitments and contingent consideration.
  • Contingent consideration in a business combination is at fair value, with changes in profit or loss.
  • Interest revenue = effective interest rate × gross carrying amount, except for credit-impaired assets.
  • For a credit-impaired asset that was not so at origination, apply the effective interest rate to amortised cost.
  • Equity issued to extinguish a liability is consideration paid and is measured at fair value, unless that cannot be reliably measured.
  • The gain or loss on extinguishment is the carrying amount of the liability less the consideration paid, taken to profit or loss.
  • Multiple embedded derivatives are generally treated as one compound derivative, with exceptions for equity-classified or independent risks.
  • Remove a financial liability only when it is extinguished.
  • Write the journal entry for every date in hedge and derecognition problems.

Accounting of Financial Instruments practice questions

Accounting of Financial Instruments in other exams

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

Accounting of Financial Instruments: frequently asked questions

Which Ind AS should I study for Accounting of Financial Instruments?

Study Ind AS 32, Ind AS 109 and Ind AS 107. Ind AS 32 covers presentation, Ind AS 109 covers recognition, measurement, impairment, derecognition and hedging, and Ind AS 107 covers disclosure.

Is this chapter more theory or numerical?

It is both. Classification and disclosure are mostly theory and suit MCQs. Effective interest, ECL, derecognition and hedge accounting are numerical, so practise full workings.

How are financial liabilities measured after initial recognition?

By default at amortised cost. Ind AS 109 lists exceptions, such as liabilities at fair value through profit or loss, financial guarantee contracts, below-market loan commitments and contingent consideration of an acquirer.

What happens when a company issues shares to settle a loan?

The shares are treated as consideration paid and measured at fair value, unless that cannot be reliably measured. The difference from the liability's carrying amount goes to profit or loss.

Which topic should I leave for last?

Leave Presentation and Disclosure (Ind AS 107) for last, as it summarises the rest. Do not leave hedge accounting too late, as it needs the most practice.