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AASB 7 - Financial Instruments Disclosures

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					Review of AASB 7
Financial Instruments: Disclosures




Commissioned by
Local Government Victoria,
Department of Planning and Community Development


Date: 11/7/2008
       AASB 7 – Financial Instruments: Disclosures

1. Introduction to AASB 7:
1.1. Background

AASB 7 “Financial Instruments: Disclosures” was issued by the AASB in August 2005 and is
effective for the first time for 2007/08 financial statements. This standard moved the
disclosure requirements contained in paragraphs 51-95 of the former AASB 132 "Financial
Instruments: Disclosure and Presentation" into AASB 7 so as to include all financial
instrument disclosures in one place. The relevant paragraphs of AASB 132 were deleted via
AASB omnibus 2005-10 so that AASB 132 now contains only presentation requirements for
financial instruments. As a result it was also renamed AASB 132 "Financial Instruments:
Presentation".

There are no changes in the requirements of AASB 139 Financial Instruments: Recognition
& Measurement resulting from the application of AASB 7.


1.2. Main differences compared to previous Australian requirements

AASB 7 broadens the scope of financial instruments covered under the previous AASB 132
to include financial instruments covered by AASB 130 and requires more extensive balance
sheet and income statement disclosures – refer below.

The Standard requires minimum disclosures about credit risk, liquidity risk and market risk in
addition to those required under AASB 132 (AASB 7, paras 31-42), including:

      Qualitative information for each type of risk arising from an entity’s financial
       instruments, including the exposures and how they arise; objectives, policies and
       processes for managing risk; the methods used to measure the risk; and any
       changes since the previous reporting period (AASB 7, para 33). AASB 132 required
       disclosure only of financial risk management objectives and policies.

      Quantitative disclosures, including summary data about exposure to each type of
       risk, based on information provided internally to key management personnel of the
       entity, as well as concentrations of risk (AASB 7, para 34).

      Specific quantitative disclosures required for credit risk, liquidity risk and market risk.

               -   Credit risk – maximum exposure to credit risk, an analysis of financial
                   assets that are either past due or impaired, information about the credit
                   quality of financial assets that are neither past due nor impaired and
                   collateral and other credit enhancement obtained (AASB 7, paras 36-38).
                   Previously, only disclosure of the maximum exposure to credit risk was
                   required.

               -   Liquidity risk – a maturity analysis for financial liabilities that shows the
                   remaining contractual maturities and description of how the liquidity risk is
                   managed (AASB 7, para 39). Previously, only banks disclosed this
                   information under AASB 130.

               -   Market risk – a sensitivity analysis for each type of market risk to which
                   the entity is exposed, showing how profit or loss and equity would have
                   been affected by changes in the risk variable, the methods and


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       AASB 7 – Financial Instruments: Disclosures

                   assumptions used in preparing the analysis and changes from the
                   previous period (AASB 7, paras 40-42 and Appendix B Application
                   Guidance, paras B17-B28).

   Other AASB 7 disclosures not previously required under AASB 130 or AASB 132
   include:

      the carrying amount for each AASB 139 category of financial assets and liabilities
       (AASB 7, para 8). Previously, AASB 132 only required this information for financial
       assets and liabilities at fair value through profit or loss.

      credit risk information about loans or receivables and financial liabilities designated at
       fair value through profit or loss, including disclosure of the amount of the change in
       fair value attributable to changes in credit risk and the method used to determine the
       amount of the change (AASB 7, paras 9 - 11).

      a reconciliation of changes in any allowance accounts for credit losses for each class
       of financial assets (AASB 7, para 16).

      disclosure of the net gains or net losses on all classes of financial instruments (AASB
       7, para 20(a)). Previously, AASB 132 only required the information for financial
       instruments at fair value through profit or loss and available for sale financial assets.

      disclosure of fee income and expense from financial instruments not at fair value
       through profit or loss and trust and other fiduciary activities (AASB 7, para 20(c))
       Previously, this information was only required for financial institutions.

      additional disclosures regarding gains or losses on fair value hedges and for cash
       flow hedges, the ineffectiveness recognised in profit or loss (AASB 7, para 24).


1.3. Application of AASB 7

AASB 7 – Financial Instruments: Disclosures has been lying dormant since its release
during the 06/07 financial year – due to an application date that only “kicked in” for the 07/08
Financial Year.

Accordingly, with the 07/08 end of year financial reports all but upon everyone, AASB 7 has
“come into its own” through its first application!!

As can be determined from its Australian Accounting Standard numbering, AASB 7 relates
to the International Financial Reporting Standard IFRS 7 of the same name, and reflects a
“new” International standard - “new” is in inverted comma’s because in fact it reflects partly
new disclosure requirements and also previous requirements that have been taken from the
existing AASB 130 – Disclosures in the Financial Statements of Banks & similar
Institutions and AASB 132 – Financial Instruments: Disclosure and Presentation.




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       AASB 7 – Financial Instruments: Disclosures

2. Objectives of AASB 7:
AASB 7 is purely a disclosure standard with the intention to permit users to understand &
appreciate:

   (i) the “significance of financial instruments for the entity’s financial position and
          performance”,

   (ii) the “nature & extent of risks arising from financial instruments”, and

   (iii) “how the entity manages those risks”

by requiring the reporting entity to provide certain information within its financial reports.


3. Applicability of AASB 7:
The Standard applies to ALL General Purpose Financial Reports and/or Financial Reports
that are held out to be General Purpose Financial Reports and with no specific exclusions
available to not-for-profit entities, Local Government (in producing end of year General
Purpose Financial Reports) is therefore required to apply AASB 7.

As is the “norm” with applying all Australian Accounting Standards – both existing ones and
the future AIFRS’s – the requirements of this standard is to be complied with where the
information resulting from the application of AASB 7 is material – ie. if an omission,
misstatement or non-disclosure of the AASB’s requirements has the potential to (i) influence
the decisions of users or (ii) affect the discharge of accountability by management.

This means then that there is always “an out” for entities (including Local Government) from
complying with an Australian Accounting Standard (or specific paragraphs contained within
one) if such non compliance can be deemed to be immaterial when related to the individual
item and the level of reported profit & loss, class of balance sheet item and overall net
financial equity of the entity.


4. Scope of AASB 7:
AASB 7 is applicable to all entities and to all financial instruments that they hold – both
assets & liabilities.

While there are some minor exclusions (including Investments that relate to Joint Ventures,
Investments in Associated Entities & Subsidiaries), none would appear to effect Local
Government – meaning all financial instruments are caught!


5. Terminology within AASB 7:
Perhaps the most important definition to clarify is exactly what a “Financial Instrument” is
which therefore determines all those items for which the standard is applicable.

The definition of a “Financial Instrument” is in fact found within AASB 132 – Financial
Instruments: Disclosure and Presentation;



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         AASB 7 – Financial Instruments: Disclosures

“A financial instrument is any contract that gives rise to a financial asset of one entity
and a financial liability or equity instrument of another entity.”

where,

“a financial asset is any asset that is:

(a) cash;
(b) an equity instrument of another entity;
(c) a contractual right to:

      (i) receive cash or another financial asset from another entity; or
      (ii) exchange financial assets or financial liabilities with another entity under
           conditions that are potentially favourable to the entity;...”

and

“a financial liability is any liability that is:

(a) a contractual obligation to:

      (i) deliver cash or another financial asset to another entity; or
      (ii) exchange financial assets or financial liabilities with another entity under
           conditions that are potentially unfavourable to the entity;...”


In other words, the definition of a “Financial Instrument” is wide and all
encompassing!!

                                  Rate debtors and parking debtors
  Take Note
                                  Councils should be aware that rates debtors and parking debtors
                                  are not considered to be financial instruments. The definition of a
                                  financial instrument in accounting standards requires there to be a
                                  contractual right or obligation. Therefore liabilities or assets that
                                  are not contractual but are created as a result of statutory
                                  requirements imposed by governments (as are rates and parking
                                  fees) are not financial instruments.

                                  Whilst this means Rates & Parking Debtors fall outside of the
                                  scope of AASB 7, Councils can still apply AASB 7’s requirements
                                  to these debtors for consistency.



6. The requirements of AASB 7:
In accordance with the primary objectives of AASB 7, the Standard’s requirements are
divided across 2 separate & distinct headings:

    a. Disclosures relating to the Significance of Financial Instruments to the Entity’s
       Financial Position & Performance, and

    b. Disclosures relating to the Nature & Extent of Risks (that the entity is subject to)
       arising from Financial Instruments.


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       AASB 7 – Financial Instruments: Disclosures

6.1 Disclosures relating to the significance of Financial Instruments to the Entity’s
    Financial Position & Performance

Major disclosures that would relate to Local Government include:

Balance Sheet Disclosures

   a. Either on the face of the Balance Sheet or within the Notes, an entity must disclose
      the carrying amount of all its Financial Instruments (both assets & liabilities) across
      the following categories;

       -     Financial Assets at Fair Value through Profit & Loss, showing separately;
                o those designated as such on initial recognition, and
                o those classified as Held for Trading.

       -     Held To Maturity Investments,

       -     Loans & Receivables, and

       -     Available for Sale Financial Assets

       -     Financial Liabilities at Fair Value through Profit & Loss, showing separately;
                o those designated as such on initial recognition, and
                o those classified as Held for Trading.

       -     Financial Liabilities measures at amortised cost.              AASB 7 - paragraph 8



                                For Victorian Councils, this classification break up should be
           Take Note            incorporated at the various Financial Instrument Notes including
                                Notes 18 & 20 for Financial Assets, Note 27 for Trade and Other
                                Payables ,& Note 30 for Financial Liabilities (as a below the line
                                disclosure).

                                Otherwise, a separate Note will be required listing how Council
                                has classified its Financial Instruments across the AASB 139
                                classifications.


   b. Various disclosure requirements if an entity designates a Loan or Receivable as “at
      fair value through profit or loss”. AASB 7 – paragraphs 9&10


   c. If any financial assets are reclassified (i) from Fair Value to Amortised cost or (ii)
      from Amortised Cost to Fair Value, then it shall disclose the amount reclassified into
      & out of each category & the reason for the reclassification.


                                There are quite specific rules & criteria relating to when
            Take Note
                                reclassifications can occur – refer AASB 139 paragraphs 51-54.




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        AASB 7 – Financial Instruments: Disclosures

   d. Any collateral pledged (in relation to an entities liabilities/contingent liabilities) needs
      to be disclosed. AASB 7 - paragraph 14


   e. Where the reporting entity holds collateral (in relation to financial assets) and is
      permitted to sell or re-pledge the collateral in the absence of default by the owner ,
      then certain disclosures are required. AASB 7 – paragraph 15


   f.   Where the impairment of Financial Assets due to Credit Losses is recorded in a
        provision for impairment account (eg a Provision for Doubtful Debtors relating to
        Accounts Receivable), it shall disclose a reconciliation of the changes that occurred
        in that account during the reporting period. AASB 7 – paragraph 16


            TIP                  Such a reconciliation disclosure would look something along the lines
                                 of the following:




   g. Any Loans Payable that are recognised at reporting date where the entity was either
      in default at year end is required to be disclosed (including any defaults that occurred
      during the year). AASB 7 – paragraph 18


Income Statement Disclosures

   h. The following specific revenue item disclosures are required (either on the face of the
      financial report or in the accompanying notes):

        -     The net gain or loss on financial assets & liabilities designated “at fair value
              through profit & loss”, showing separately;

                  o   those designated upon initial recognition, and
                  o   those classified as Held for Trading.

        -     The net gain or loss on “Available for Sale” Financial Assets, showing separately;

                  o   the amount of gain or loss recognised directly in equity during the period,
                      and
                  o   the amount removed from equity and recognised in the profit & loss for
                      the period,




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AASB 7 – Financial Instruments: Disclosures

-     The net gain or loss on “Held to Maturity” Investments,

-     The net gain or loss on Financial Instruments classified as “Loans &
      Receivables”, and

-     The net gain or loss on financial liabilities measured at amortised cost,

-     Total Interest Income & Total Interest Expense for Financial Assets & Financial
      Liabilities that are not at fair value through profit or loss,

-     The Total Interest Income on Impaired Financial Assets, and

-     The amount of any Impairment Losses for each class of Financial Asset

AASB 7 – paragraph 20



                         Be aware of the various Net Gain or Loss disclosure requirements
    Take Note            (above) that are required to be disclosed for;

                         (i)    financial instruments that Council sells at a profit or loss to
                                its book value (e.g. the sale of an Investment before
                                maturity), and

                         (ii)   financial instruments not sold during the year but where
                                their book value every year needs to reflect Fair Value
                                movements.


                         Ideally any gains/(losses) on the sale of a Financial Instrument
                         would be disclosed as part of an overall additional disclosure Note
                         that details the break up of Councils “Net gain/(loss) derived
                         from the Disposal of all Assets” during the year (both I,PP&E
                         and Financial Instruments). Refer to the next page for an example
                         disclosure.


                         The disclosure of other Fair Value movements relating to
                         Financial Instruments and in particular Financial Assets (eg.
                         Investments) should be disclosed as an additional disclosure Note
                         that breaks up the line item “Net asset revaluation increment
                         (decrement) reversals” on the face of the Income Statement,
                         and would include;

                        net gain or loss on financial assets designated “at fair value
                         through profit & loss”,
                        net gain or loss on financial assets designated as “Held for
                         Trading”
                        net gain or loss on financial assets designated as “available for
                         Sale”




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        AASB 7 – Financial Instruments: Disclosures




Other Disclosures required:

   i.   The Measurement Basis used in preparing the financial report as regards Financial
        Instruments is required to be disclosed. AASB 7 – paragraph 21

   j.   For each class of Financial Asset & Financial Liability, the reporting entity shall
        disclose the fair value of that class in such a way that it permits the value to be
        compared to its carrying amount. AASB 7 – paragraph 25

   k. In relation to Fair Values (whether top be booked or just disclosed), the methods and
      valuations techniques need to be disclosed. AASB 7 – paragraph 27


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         AASB 7 – Financial Instruments: Disclosures

6.2 Disclosures relating to the Nature & Risks arising from Financial Instruments

The disclosures relating to the Risks arising from Financial Instrument held by the reporting
entity focus on the 3 “traditional” financial risks:

    1. Credit Risk

         “The risk that one party to a financial instrument will cause a financial loss for the
         other party by failing to discharge an obligation” AASB 7

    2. Liquidity Risk

         “The risk that an entity will encounter difficulty in meeting obligations associated with
         financial liabilities” AASB 7

    3. Market Risk

         “The risk that the fair value or future cash flows of a financial instrument will fluctuate
         because of changes in market prices. Market risk comprises three types of risk:
         currency risk, interest rate risk and other price risk” AASB 7


Qualitative Disclosures

For each type of risk that relates to an entity’s holding of financial instruments, an entity is
required to disclose:

    a.   the risk exposures & how they arise,
    b.   the entity’s objectives, policies & processes for managing the risk,
    c.   the methods used to measure the risk, and
    d.   any changes in a,b or c (above) from previous years.      AASB 7 – paragraph 33



Quantitative Disclosures

   Credit Risk

   (i)   For each class of Financial Instrument, an entity is required to disclose:

         -     its maximum credit risk exposure at the reporting date, without taking into any
               collateral held or credit enhancements,

         -     a description of any collateral held,

         -     information regarding the credit quality of financial assets that are neither past
               due nor impaired, and

         -     the carrying amount of financial assets that would otherwise be past due if the
               terms had not been renegotiated. AASB 7 – paragraph 36


             Take Note
                                  Presumably the most material of these Financial Instrument Classes
                                  will be that relating to Investments.



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    AASB 7 – Financial Instruments: Disclosures


                             This disclosure requirement means you will have to analyse your
                             Investments and determine the single counterparty whom Council is
                             most exposed to (in $ terms),

(ii) For Financial Assets that are either past due or impaired, an entity must disclose by
     class of financial asset;

    -     an aging analysis of those financial assets past due but not impaired,


                             Yes – that’s correct…in effect the Debtors Trial Balance aging (at a
        Take Note            total level) will need to actually be disclosed within the Financial
                             Reports for at least Note 19 – Trade and Other Receivables.




                             NB. If Council also has Investments (as per Notes 18 & 20) that are
                             in default of any coupon or principal payments (ie. past due), then
                             Notes 18 & 20 will also require the disclosure of an aging analysis.

    -     an aging analysis of those financial assets that are individually determined to
          be impaired (ie. specific debtors identified as impaired), including factors used to
          determine impairment, and




    -     a description of any collateral held or credit enhancements & an estimate of their
          fair value. AASB 7 – paragraph 37


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        AASB 7 – Financial Instruments: Disclosures

  Liquidity Risk

  (iii) An entity must disclose:

        -   a maturity analysis for financial liabilities that shows the remaining contractual
            maturities, and

        -   a description of how it manages the liquidity risk inherent in its financial assets &
            liabilities. AASB 7 – paragraph 39


                        a. The Maturity analysis is in fact only mandatory for Financial Liabilities,
      Take Note
                            although it would not be a bad idea to also disclose a maturity analysis
                            for Financial Assets as well.

                        b. AASB 7 has not designated specific Time Bands regarding the maturity
                            analysis disclosures.

                        c. Where a Counterparty has a choice as to when an amount is paid, the
                            liability is included on the basis of the earliest date when payment could
                            occur,

                        d. The amounts to be disclosed are the contractual undiscounted
                            GROSS cash flows…ie. including interest amounts!!

                            This means the amounts disclosed in any maturity analysis will not
                            agree to the book values listed in the Balance Sheet!!

                        e. Where the amounts payable are not fixed (but tied to future movements –
                            eg. floating interest rates), the gross cash flows are to reflect conditions
                            at the reporting year end date!

                            In other words, the Interest Rates used to determine the future interest
                            rate inflows can either be (i) the existing interest rates applicable or (ii)
                            the forward interest rates predicted by the market at reporting date – so
                            long as the entity disclose the interest rates used!

An example disclosure which could be included within Note 42 includes;




NB.     (i) The above table needs to be provided for the comparative period.
        (ii) The above table could also be disclosed for Financial Assets (but is not mandatory)



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       AASB 7 – Financial Instruments: Disclosures

Market Risk

   (iv) An entity is required to disclose;

       -      a sensitivity analysis for each type of market risk (currency risk, interest rate risk
              and other price risk) to which the entity is at exposed to at the reporting date,
              showing how profit or loss and equity would have been affected by these risk
              factors,

       -      the methods & assumptions used in preparing the sensitivity analysis, and

       -      any changes in the prior period methods & assumptions.

       AASB 7 – paragraph 40



7. Transition Implications for the 07/08 YE Financial Report
Don’t forget the new standard will also apply to the Comparative Figures within the Report!!

AASB 7 is of course applicable for the first time for the 07/08 YE Financial Reports.

Unfortunately there are no transitional arrangements within the Standard itself which means
that AASB 108 - Accounting Policies, Changes in Accounting Estimates and Errors
applies.

This means that all the disclosure requirements are required to be retrospectively applied
and will therefore require all 06/07 comparative figure disclosures to also be couched under
the terms & requirements of AASB 7! 

                         Remember that all new AASB 7 required disclosures, break ups &
  Take Note
                         additional information will also be required for the Comparative figures as
                         well!

                         One of the big issues in that regard will be the recasting of the Financial
                         Liabilities Contractual Maturities table (as discussed earlier) for the 06/07
                         comparatives so that it reflects Gross Cash Flows (ie. Principal/Capital &
                         Interest).




                         NB. The previous maturity disclosures for Financial Liabilities & Financial
                         Assets were based solely on principal amounts (ie. book values) but did not
                         include contracted interest amounts!!



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       AASB 7 – Financial Instruments: Disclosures

8. AASB 7: Some conclusions & your “way ahead”
So...where to begin with AASB 7 for Year End!?

As always, the best place to start with new/revised Accounting standards and YE reporting
changes is to canvass some opinions!

In this regard, one “port of call” should be your auditor’s opinions on the implications of
AASB 7 as they relate to your 07/08 Year End Financial Reports.

Secondly of course, you have our summary and pointers as detailed in this review! 

In summary, there are really 4 main issues/changes that you will (or should) be required to
accommodate from AASB 7:

   1. Councils will need to provide a reconciliation of their Provision for Doubtful Debts
      balances relating to all Financial Assets (in most cases this will relate to Note 19 –
      Trade & Other Receivables),

   2. The disclosure of any Net Gains or Losses on the sale of Financial Assets across the
      various AASB 139 classifications, eg: “designated at fair value through profit or loss”,
      “held for trading”, “held to maturity” investments, “loans & receivables” & “available
      for sale” – relating both to any sales and any Fair Valuation changes.

   3. Disclosure of an aging profile for those financial assets that are past due, &

   4. A maturity analysis of Council’s Financial Liabilities using undiscounted Gross Cash
      Flows (inclusive of Interest Amounts)!

And don’t forget, in relation to each of these requirements, you will need to also report the
same for the 06/07 comparative figures.




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              AASB 7 – Financial Instruments: Disclosures

Require More Information?

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on Accounting and Financial Management issues. This is achieved through a number of avenues, including our
Monthly Newsletter LG “Debits & Credits”, our Best Practice Guides, individual client specific engagements
and through our website & local government web forum.

To contact us or to ascertain how we can assist you in “all things that are Local Government Accounting and
Financial Management”, you are invited to either visit our web address at www.lgsolutions.net.au or contact us
at info@lgsolutions.net.au.



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organisation. The transfer however of this document to non purchasing organisations or individuals (beyond
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Regarding the discussion of any Accounting Standards or Legislative Requirements within this publication,
readers are reminded that these discussions and interpretations are of a general and summarised nature, and
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