Accounting Update: FRED 54 – Proposed Amendment to FRS 102 on the treatment of financial instruments
The FRC has recently issued a proposed amendment to FRS 102 known as FRED 54. This governs the treatment of “Basic” Financial Instruments under section 11 of FRS 102: FRS Accounting and Reporting Policy
The aim of FRED 54 is to allow a wider range of debt instruments to be classified as Basic and held at amortised cost. It is the intention that FRED 54 will be incorporated into the final amendments to FRS 102 by summer 2014 so Housing Associations will apply the changes proposed in FRED 54 on initial transition.
We welcome the approach of allowing more instruments to be classified as Basic as this will reduce volatility in the financial statements and avoid having to assess the criteria for hedge accounting under section 12 of FRS 102.
In particular, FRED 54 clearly allows for inflation linked debt to be treated as Basic, so embedded inflation swaps (cumulative and year on year) and inflation linked loans will now have more favourable accounting treatment than previously proposed.
However, some of the requirements in FRED 54 for instruments to be classified as Basic are still unclear in section 11.9. In particular the treatment of LOBO loans (Lender Option Borrower Option) is still unclear, and is not included as one of the example instruments in the Appendix. The treatment of embedded cancellable swaps is also not explicitly dealt with, but we believe this could now be interpreted as a Basic financial instrument under the revised criteria, and indeed this is in line with the spirit of FRED 54 to allow a wider range of instruments to be captured as Basic.
So whilst there is still some way to go on obtaining clarity of accounting treatment for a number of financial instruments, FRED 54 is a step in the right direction.
Please contact one of our specialists below if you would like to discuss the implications of FRS 102 and FRED 54 on your debt portfolio:
William Meers: williammeers@traderisks.com
Elizabeth Snape: elizabethsnape@traderisks.com
Ben Fry: benjaminfry@traderisks.com