‘Big Bang’ regulatory changes for banks in the offing
How does IFRS9 work?
The major change that IFRS9 brings to the table is in the impairment of assets. IFRS 9 adopts a single forward-looking expected credit loss (ECL) model that is applicable to all types of financial instruments subject to impairment accounting.
In essence, the new regulation will strongly affect the way in which credit losses are recognised in the balance sheet and profit and loss statement. Under the new regulation, banks are required to move from recognising losses immediately, from an ‘incurred loss’ basis (i.e. when a loss actually happens at a future date) to an ‘expected loss’ basis (i.e. the measured probability of a loss taking place in future on existing loans).
For example, currently if a bank gives a loan to a customer, there are several ways this can turn into a non-performing loan - i.e. the customer
the new accounting standards will have far-reaching consequences for the entire banking sector, and has forced several banks to prepare for expected credit loss requirements whilst acting to comply to all of its requirements
IFRS9 will have also have a significant impact on the future behaviour and the business direction of banks. For instance, banks may avoid more risky loans and increase pricing to customers. The regulation will also impact other financial institutions, such as the insurance sector, which will affect how they classify their assets and investments.
Overall however, this is a good move by regulators for market stability and transparency. It is a change that is forward looking as opposed to reactive, as in the past, banks have been accused of doing too little, too late, as far as recognizing bad assets and providing for them. In contrast, this model is likely to be extremely versatile and will recognise underperforming assets quickly, which was impossible under IAS 39.
Looking ahead
Initially, there is a risk that the size and impact of ECL estimates can lead to material misstatements in bank financial statements. Under IFRS 9 there will be important disclosure requirements that will need to be adhered to. Luckily, Banks do have experience with ECL - for regulatory reporting and computation of capital adequacy — but there are some differences. Banks are also actively working with auditors and adapting technology and systems, to ensure they can identify forward-looking losses in accordance to this model.
With this significant regulation set to alter the financial for the better, education on the impact and compliance to these regulations will be especially important for banks. At the Emirates Institute for Banking and Financial Studies (EIBFS), we already hosted an interactive workshop earlier this year, on Basel III and the regional implementation of IFRS9. Going forward, there is no doubt that we will continue to include this system into our new curriculums for our students and trainees.