RECLASSIFICATION OF FINANCIAL ASSETS

IFRS 9 Financial instruments requires that when an entity changes its business model for managing financial assets, it should reclassify all affected financial assets. However, this reclassification only applies to debt instruments, as equity instruments must be classified as measured at fair value.

As an extension to the article Financial Instruments: Classification, we will now look at some examples under which financial assets classified on initial recognition may or may not be reclassified.

Examples of reclassification permitted

Reclassification is permitted under the following circumstances because a change in business model has taken place.

Example 1

An entity has a portfolio of commercial loans that it holds to sell in the short term. These are classified as financial assets measured at fair value through profit or loss (FVTPL). Subsequently, it acquires a company whose business model is to hold similar loans in order to collect the contractual cash flows. The portfolio of commercial loans originally held for sale are then transferred to the acquired company and managed together with the acquired loans and all are held to collect the contractual cash flows.

In this case, the entity has its business model changed from selling the financial assets to holding them to collect contractual cash flows. Therefore, a reclassification from the measured at FVTPL category to measured at amortised cost should be made.

Example 2

A financial services firm decides to shut down its retail mortgage business. The firm no longer accepts new business and is actively marketing its mortgage loan portfolio for sale.

The loans under the retail mortgage business are obviously held to collect contractual cash flows. Therefore, they are financial assets measured at amortised cost. However, when the business is subsequently curtailed, the loans are being marketed for sale. Therefore, the business model of the firm has changed from holding the financial assets to collect contractual cash flows to selling them. As a result, the loans should be reclassified as measured at FVTPL.

Examples of reclassification not permitted

Reclassification is not permitted under the following circumstances because a change in business model has not taken place.

1. A change in the intention related to particular financial assets (even in circumstances of significant changes in market conditions). 
2. A temporary disappearance of a particular market for financial assets. 
3. A transfer of financial assets between parts of the entity with different business models.