When is the appropriate time to derecognise trade receivables and payables settled via electronic bank transfers?

Up to now, IFRS 9 Financial Instruments did not explicitly specify whether an entity must apply trade date accounting or settlement date accounting when recognising or derecognising a financial asset or liability, except for regular way purchase or sale of assets (such as ASX trades). This resulted in diversity in practice, with different interpretations as to when the right to receive cash flows has expired, or when an obligation has been discharged.

Date for recognising financial assets and financial liabilities

Recent amendments to IFRS 9 Financial Instruments and IFRS 7 Financial Instruments: Disclosures (Amendments) clarify when financial assets and financial liabilities must be recognised.

Date for derecognising financial assets and financial liabilities

IFRS 9 requires derecognition for financial assets and liabilities as follows:

• Financial assets - when the contractual rights to the cash flows from the financial asset expire
• Financial liabilities - when it is extinguished, i.e. when the obligation is discharged, is cancelled, or expires.

Because of differing interpretations about when contractual rights to cash flows expire, or when a financial liability is extinguished, the Amendments clarify the appropriate date for derecognising financial assets and liabilities. These are shown in the table below.

	Financial assets	Financial liabilities
		Other than those being settled with cash using an electronic payment system1	Liabilities being settled with cash using an electronic payment system1
Recognition (except for regular way purchase or sale)	On the date on which the entity becomes party to the contractual provisions of the instrument
Derecognition	On the date on which the contractual rights to the cash flows expire or the asset is transferred	Settlement date	Option to deem discharge before the settlement date if specific criteria are met (IFRS 9.B3.3.8)
1 Financial liabilities settled with cash using an electronic payment system mean electronic cash transfers between a transferor’s and a recipient’s bank accounts. When the cash leaves the transferor’s bank account, it is not simultaneously recognised in the recipient’s bank account because not all banks process cash transfers in real-time.

Therefore, financial assets are derecognised on the date on which the contractual rights to the cash flows expire and generally, financial liabilities are derecognised on the ‘settlement date’. However, there is an exception where financial liabilities are settled with cash using an electronic payment system. In such cases, there is an option to deem the financial liability discharged before the ‘settlement date’ if certain criteria are met. This is discussed in more detail below.

Settlement date

Other than those settled with cash using an electronic payment system, financial liabilities are derecognised on the ‘settlement date’. Settlement date’ is described in IFRS 9 as the date that an asset is delivered to or by an entity. Settlement date accounting refers to:

1. The recognition of an asset on the day the entity receives it, and
2. The derecognition of an asset and recognition of any gain or loss on disposal on the day that the entity delivers it.

The ‘settlement date’ for trade receivables is essentially the same as ‘the date on which the contractual rights to cash flows expire’, which is the derecognition requirement for financial assets noted in the above table. The Exposure Draft to these Amendments proposed ‘settlement date’ accounting for derecognising both financial assets and financial liabilities. However, to avoid the risk of unintended consequences, the International Accounting Standards Board (IASB) decided to only apply settlement date accounting for the derecognition of financial liabilities.

The IASB noted in its Basis for Conclusions to the Amendments that the derecognition of a financial asset is based on the expiry of the right to receive cash (or another financial asset). When a creditor receives notification that a debtor has submitted a payment instruction, the creditor does not have the practical ability to access the cash. Therefore, the creditor still has a right to receive cash. The right to receive cash only expires when the cash is delivered into the creditor’s bank account.

Financial liabilities settled using an electronic payment system (option to deem discharge before settlement date)

As noted above, the settlement date for a trade payable is the date when the asset – cash – is credited into the supplier’s bank account, which is the date that the entity’s obligation is extinguished.

The Amendments permit an entity to deem a financial liability (or part of it) to be discharged before the settlement date if it is settled in cash using an electronic payment system. This option is available if, and only if, the entity has initiated a payment instruction that resulted in:

1. The entity having no practical ability to withdraw, stop or cancel the payment instruction
2. The entity having no practical ability to access the cash to be used for settlement as a result of the payment instruction, and
3. The settlement risk associated with the electronic payment system being insignificant.

If an entity elects to use this option, it is required to do so for all settlements made through the same electronic payment system.

What is meant by insignificant settlement risk?

The Amendments clarify that settlement risk associated with an electronic payment system is insignificant if:

• The completion of the payment instruction follows a standard administrative process, and
• The time between i. and ii. below is short:
  1. The entity ceasing to have the practical ability to withdraw, stop or cancel the payment instruction and to access the cash to be used for settlement as a result of the payment instruction (i.e. the point in time when criteria a. and b. specified above are met)
  2. The cash being delivered to the counterparty.

If completion of the payment instructions were subject to the entity’s ability to deliver cash on the settlement date, the settlement risk would not be insignificant.

Option not available for financial assets

It is important to note the following key points:

• The accounting policy election to deem a financial liability to be discharged before the settlement date applies only to financial liabilities settled in cash using an electronic payment system.
• A similar accounting policy election is not available for financial assets.
• This accounting policy election is not available for other modes of settling financial liabilities such as cheques, debit/ credit cards. This is because the entity would still have the practical ability to withdraw, stop or cancel the payment instruction (i.e. stop the cheque).

Implications for entities using an electronic payment system

We do not anticipate significant impacts for entities receiving and paying cash via electronic payments in Australia because the clearing system is efficient, and Australian dollar transfers between Australian financial institutions usually settle the same or the following business day. However, we may see asymmetrical accounting between the recipient and payer as follows:

• The recipient must wait until cash is in its bank account to derecognise the receivable and recognise cash received
• The payer, if they meet the criteria for the exception to settlement date accounting described above, may be able to derecognise the trade payable and corresponding cash balance once the electronic payment has been made.

Implications for entities still using cheques

Although in the minority, some Australian businesses may still use cheque payments to settle their financial liabilities. Some of these entities may derecognise trade payables (and cash) once a cheque has been sent to the supplier, even if the cheque has not been deposited by the customer and cleared by the debtor’s bank from their account prior to the reporting date. This would usually occur if the funds were debited to the bank account within a reasonable period (few days) of the reporting date (referred to as ‘outstanding cheques’).

Not all electronic payment systems will meet the criteria to deem discharge before the settlement date

We anticipate that most Australian entities will be able to apply the option to deem the discharge of financial liabilities before the settlement date because the Australian banking clearing system is efficient. However, if other electronic payment means are used, and for electronic payment systems in other countries, entities will need to prove that the exception criteria above have been met. For example, if the payer can cancel the instruction within the first 48 hours, such payments will not result in the derecognition of the associate financial liability and cash.

More information

Please refer to our IFR Bulletin for more information on these Amendments.

Need help?

The requirements for recognising and derecognising financial assets and financial liabilities are complex, and are soon to become more so. Please contact our IFRS & Corporate Reporting team if you require assistance.