The boards discussed the three-category (or 'bucket')impairment model being developed, most notably the measurement of the allowance balance in the first bucket, the transfer principle out of that bucket (ie when a financial asset would qualify for recognition of lifetime expected losses), a few pervasive issues, and the application of the model to loans and publicly traded debt instruments (for example, debt securities).
Initial recognition�the first bucket
The boards previously decided that all financial assets would be classified into the first bucket when first recognised. At this meeting, the boards decided that the objective and measurement in Bucket 1 would be to capture the losses on financial assets expected in the next twelve months. The losses being measured are not just the cash shortfalls over the next twelve months, but also the lifetime expected losses on the portion of financial assets on which a loss event is expected over the next twelve months. The losses expected to occur in the next 12 months will be determined using all reasonable and supporting information, including forward-looking data, which will reflect updated estimates as expectations change.
Fifteen IASB members and six FASB members agreed.
Recognition of lifetime losses
The boards had previously decided that financial assets would move out of Bucket 1 if their credit quality deteriorated, and that lifetime expected losses would be recognised for financial assets in Buckets 2 and 3. At this meeting, the boards decided that recognition of lifetime losses would be appropriate (ie financial assets would move out of Bucket 1) when there is a more than insignificant deterioration in credit quality since initial recognition and the likelihood of default is such that it is at least reasonably possible that the contractual cash flows may not be recoverable. The boards asked the staff to develop examples to illustrate that the 'reasonably possible' criterion differs from how it may currently be interpreted in GAAP (particularly in the US), and primarily refers to when the likelihood of cash shortfalls begins to increase at an accelerated rate as an asset deteriorates. Fifteen IASB members and six FASB members agreed.
Regarding the recognition of lifetime expected losses, the boards also decided that the assessment of whether recognition of lifetime expected credit losses is required reflects the likelihood of not collecting all the cash flows, as opposed to incorporating the 'loss given default' in the assessment. Fourteen IASB members and seven FASB members agreed.
In addition, the boards decided to include within the model indicators (including those presented at the meeting) when the recognition of lifetime expected losses may be appropriate. Fifteen IASB members and seven FASB members were in favour of the decision.
Pervasive issues�Grouping of assets
The boards decided that the following principles should be used for aggregating financial assets into groups for the purposes of evaluating whether transferring out of Bucket 1 is appropriate:
- Assets are to be grouped on the basis of 'shared risk characteristics'.
- An entity may not group financial assets at a more aggregated level if there are shared risk characteristics for a sub-group that would indicate that recognition of lifetime losses is appropriate.
- If a financial asset cannot be included in a group because the entity does not have a group of similar assets, or if a financial asset is individually significant, an entity is required to evaluate that asset individually.
- If a financial asset shares risk characteristics with other assets held by an entity, the entity is permitted to evaluate those assets individually or within a group of financial assets with shared risk characteristics.
Fifteen IASB members and seven FASB members agreed.
Application of the credit deterioration model to publicly traded debt instruments (for example, debt securities) and loans
In applying the credit deterioration model to debt securities, the boards decided against a bright-line presumption that would result in recognition of lifetime expected losses (for example, when the fair value of a security is less than a specified percentage of the amortised cost basis for some specified time period). In applying the credit deterioration model to commercial and consumer loans, the boards decided against a presumption resulting in recognition of lifetime expected losses on the basis of an explicit bright line (for example, reaching a particular delinquency status).
Fifteen IASB members and five FASB members were in favour of the decision (two FASB members were absent from this portion of the meeting).
The boards directed the staff to consider whether application of the principle for recognition of lifetime expected losses and the indicators could be applied to financial assets that may improve in credit quality such that a move from Bucket 2 to Bucket 1 would be appropriate (that is, whether the model would be symmetrical). The boards also directed the staff to further analyse the practical application of the expected value objective.