ipsas 29—financial instruments: recognition and measurement - IFAC

FINANCIAL INSTRUMENTS: RECOGNITION AND MEASUREMENT
that period, the expectation of effectiveness has to be based on existing fair value
exposures and the potential for interest rate movements without consideration of
future adjustments to those positions. Furthermore, the fair value exposure
attributable to prepayment risk can generally be hedged with options.
For a cash flow hedge to qualify for hedge accounting, the forecast cash flows,
including the reinvestment of cash inflows or the refinancing of cash outflows, must
be highly probable (IPSAS 29.98(c) and the hedge expected to be highly effective in
achieving offsetting changes in the cash flows of the hedged item and hedging
instrument (IPSAS 29.98(b)). Prepayments affect the timing of cash flows and,
therefore, the probability of occurrence of the forecast transaction. If the hedge is
established for risk management purposes on a net basis, an entity may have
sufficient levels of highly probable cash flows on a gross basis to support the
designation for accounting purposes of forecast transactions associated with a
portion of the gross cash flows as the hedged item. In this case, the portion of the
gross cash flows designated as being hedged may be chosen to be equal to the
amount of net cash flows being hedged for risk management purposes.
Systems Considerations
The accounting for fair value hedges differs from that for cash flow hedges. It is
usually easier to use existing information systems to manage and track cash flow
hedges than it is for fair value hedges.
Under fair value hedge accounting, the assets or liabilities that are designated as being
hedged are remeasured for those changes in fair values during the hedge period that are
attributable to the risk being hedged. Such changes adjust the carrying amount of the
hedged items and, for interest sensitive assets and liabilities, may result in an adjustment
of the effective interest rate of the hedged item (IPSAS 29.99). As a consequence of fair
value hedging activities, the changes in fair value have to be allocated to the assets or
liabilities being hedged in order for the entity to be able to recompute their effective
interest rate, determine the subsequent amortization of the fair value adjustment to
surplus or deficit, and determine the amount that should be recognized in surplus or
deficit when assets are sold or liabilities extinguished (IPSAS 29.99 and IPSAS 29.103).
To comply with the requirements for fair value hedge accounting, it will generally be
necessary to establish a system to track the changes in the fair value attributable to the
hedged risk, associate those changes with individual hedged items, recompute the
effective interest rate of the hedged items, and amortize the changes to surplus or deficit
over the life of the respective hedged item.
Under cash flow hedge accounting, the cash flows relating to the forecast
transactions that are designated as being hedged reflect changes in interest rates. The
adjustment for changes in the fair value of a hedging derivative instrument is initially
recognized in net assets/equity (IPSAS 29.105). To comply with the requirements for
cash flow hedge accounting, it is necessary to determine when the cumulative gains
and losses recognized in net assets/equity from changes in the fair value of a hedging
instrument should be recognized in surplus or deficit (IPSAS 29.111 and
IPSAS 29 IMPLEMENTATION GUIDANCE 1248