An entity would have to discontinue hedge accounting if the qualification criteria are no longer met. As also mentioned at ‘Assessment of effectiveness‘, this includes if the risk management objective for the hedging relationship has changed.
In an important change to IAS 39, IFRS 9 now introduces ‘partial discontinuation’ of hedge accounting, which means that hedge accounting continues for the remaining part of the hedging relationship.
The table below summarises the main scenarios resulting in either full or partial discontinuation:
The risk management objective has changed
Full or partial
There is no longer an economic relationship between the hedged item and the hedging instrument
The effect of credit risk dominates the value changes of the hedging relationship
As part of rebalancing, the volume of the hedged item or the hedging instrument is reduced
The hedging instrument expires
The hedging instrument is (in full or in part) sold, terminated or exercised
Full or partial
The hedged item (or part of it) no longer exists or is no longer expected to occur
Full or partial
The application guidance in IFRS 9 provides three examples elaborating on what constitutes a change in risk management objective. We believe that a change in risk management objective has to be a matter of fact that can be observed in the entity’s actual risk management. The examples below, the first of which is derived from the application guidance to IFRS 9, demonstrate how this could be assessed in practice.
The above example only illustrates the outcome of one particular course of action. The entity could also have adjusted its interest rate exposure in a different way in order to remain in the target range for its fixed-rate funding, for instance by swapping CU20m of the new fixed-rate bond into variable-rate funding. In that case, instead of discontinuing a part of the already existing cash flow hedge the entity would have designated a new fair value hedge.
The example in the application guidance of the standard is obviously a simplified one. In practice, entities tend to have staggered maturities for different parts of their financing. In such situations, it would often be obvious from the maturity of the new interest rate swaps if they are a fair value hedge of the debt or a reduction of the already existing cash flow hedge volume. For example, if the new CU50m fixed rate bond is for a longer period than the existing debt and the new interest rate swap is for the same longer period, it would suggest that it is a fair value hedge of the new fixed rate bond instead of a reduction of the cash flow hedge for the already existing debt. Conversely, a reduction of the cash flow hedge volume would be consistent with entering into a new interest rate swap that has the same remaining maturity as the existing interest rate swap and offsets it partially.
A consequence of linking the discontinuation to the risk management objective is that voluntary discontinuations just for accounting purposes are no longer permitted. This change, introduced in the Exposure Draft leading up to the final published amendments, gave rise to concern among some constituents who argued that, given hedge accounting is optional, voluntary discontinuation should be retained.
Entities have often voluntarily discontinued hedge accounting to adjust, for instance:
- The hedge ratio for a change in the expected relationship between the hedged item and the hedging instrument
- The volume of hedged forecast transactions if part of the volume is no longer highly probable
Each of the scenarios mentioned above is addressed in IFRS 9 by introducing a new effectiveness assessment, rebalancing and partial discontinuation. Hence, voluntary discontinuation is no longer needed in such situations.
In its redeliberations, the IASB noted that hedge accounting is an exception to the general accounting principles in IFRS to present in the financial statements a particular risk management objective of a risk management activity. If that risk management objective is unchanged and the qualifying criteria for hedge accounting are still met, a voluntary discontinuation would jeopardise the original reason for applying hedge accounting. The Board believes that hedge accounting, including its discontinuation, should have a meaning and should not be a mere accounting exercise. Based on this, the IASB decided not to allow voluntary discontinuation for hedges with unchanged risk management objectives.