Derecognition of Financial Assets and Liabilities under Ind AS 109

Understand Derecognition of Financial Instruments

Key rules to remember

When to derecognise a financial asset (para 3.2.3)

Derecognise only when (a) cash flow rights expire, or (b) the asset is transferred and the transfer qualifies under 3.2.6

Both limbs are 'when, and only when'. A transfer that fails 3.2.6 gives no derecognition.

Risks and rewards test (para 3.2.6)

Substantially all transferred → derecognise | Substantially all retained → continue to recognise | Neither → test control

Control test: control not retained → derecognise; control retained → recognise to extent of continuing involvement.

Transfer not qualifying (para 3.2.15)

Continue to recognise the asset in full + recognise a financial liability for consideration received

Later, show income on the asset and expense on the liability separately. Do not net them.

Continuing involvement: guarantee (para 3.2.16(a))

Extent = lower of (asset amount, maximum consideration received that could be required to be repaid)

The second amount is the guarantee amount.

Continuing involvement: options (para 3.2.16(b))

Extent = amount of the transferred asset that the entity may repurchase

For a written put on an asset measured at fair value, extent is limited to the lower of fair value of the asset and option exercise price.

Part-asset continuing involvement (para 3.2.20)

Gain/loss = Consideration received for part no longer recognised − carrying amount allocated to that part

Allocate the previous carrying amount between the parts on the basis of relative fair values at the transfer date. The difference goes to profit or loss.

Liability settled with equity (Appendix D, para 9)

P&L = Carrying amount of liability extinguished − fair value of equity instruments issued (consideration paid)

Equity is measured at the date the liability is extinguished. A positive result is a gain.

Option moneyness (B3.2.16)

Deeply in the money → keep asset | Deeply out of the money → derecognise | Fair value exercise price → derecognise

Applies to deeply in-the-money call or put options. Readily obtainable asset with an option neither deep in nor out: derecognise.

How to solve Derecognition of Financial Instruments questions

1. 1Identify the instrument and ask whether the contractual cash flow rights have expired. If yes, derecognise and stop.
2. 2If not, check whether there is a transfer of the asset (paragraph 3.2.4). No transfer means continue to recognise.
3. 3Assess risks and rewards: look at recourse, guarantees, options, repurchase terms, and who bears credit, late-payment and price risk.
4. 4Classify the outcome: substantially all transferred, substantially all retained, or neither. Use the option guidance, such as deeply in or out of the money, if options exist.
5. 5If neither, test control. Ask whether the transferee can sell the asset freely. If it cannot without restrictions, the transferor has retained control.
6. 6Pass the entries. Full derecognition: remove the asset, record proceeds, recognise any retained right or obligation separately, and take the difference to profit or loss. Retained: keep the asset and credit a financial liability. Continuing involvement: recognise an asset and an associated liability to the extent of involvement.
7. 7For liabilities, check extinguishment or substantial modification, then take the difference between carrying amount and consideration paid to profit or loss.
8. 8Add the Ind AS 107 disclosure points if the question asks for them (para 42D for assets not derecognised in their entirety).

Quickest way: Three-question shortcut for transfers

Common mistakes in Derecognition of Financial Instruments

• Derecognising a receivable simply because it has been legally sold or factored.

  Students follow legal form and ignore the risks and rewards test.

  Fix: Always test risks and rewards first. With full recourse for credit losses, the seller usually keeps the asset and records a liability under paragraph 3.2.15.

• Skipping the control test when risks and rewards are neither transferred nor retained.

  Students treat the test as only two outcomes.

  Fix: Remember there are three outcomes. The third needs a control assessment under paragraph 3.2.6(c).

• Measuring continuing involvement at the full asset value for a guarantee.

  Students forget the 'lower of' rule.

  Fix: Take the lower of the asset amount and the maximum consideration that could be required to be repaid (paragraph 3.2.16(a)).

• Treating a deeply in-the-money call option as allowing derecognition.

  Students focus on the option giving the right, not an obligation to the buyer, and miss that the seller benefits from gains.

  Fix: A deeply in-the-money call or put means substantially all risks and rewards are retained. The asset stays on the books (B3.2.16(f)).

• Netting the retained asset against the liability for proceeds.

  Students think the cash received settles the receivable.

  Fix: Show the full asset and a separate financial liability. Income and expense are also recognised separately.

• Applying the extinguishment gain on equity settlement using the face value of shares issued.

  Students use nominal value of shares instead of the consideration measured at extinguishment date.

  Fix: Measure the equity instruments at the date the liability is extinguished, then take the difference from the carrying amount to profit or loss (Appendix D).

Worked examples