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CA Final · Financial Reporting · Recognition and Derecognition of Financial Instruments

Himalaya Finance Ltd transferred a portfolio of loans to a trust for cash, but retained substantially all the risks and rewards, so the derecognition criteria are not met. The original funding creditor of the portfolio then legally releases Himalaya from its original liability. Which treatment is correct?

Himalaya should not derecognise the transferred loans, because the transfer fails the derecognition criteria, and should recognise a new liability relating to those assets. The legal release from the original creditor does not change the failed asset derecognition test.

  1. ADerecognise the loans, because the original creditor has released Himalaya
  2. BLeave the transferred loans on the balance sheet and recognise no liability for the cash received
  3. CDerecognise the original liability and also derecognise the loans, recognising a gain on the release
  4. DDo not derecognise the transferred loans, and recognise a new liability relating to the transferred assetsCorrect

Explanation

Legal release of a liability results in its derecognition. However, the entity may recognise a new liability if the derecognition criteria are not met for the financial assets transferred. In that case the transferred assets are not derecognised, and a new liability relating to them is recognised. Derecognising the loans contradicts the failed criteria, and ignoring the liability omits the obligation to the trust for the cash received.

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