Comment on the Proposed Accounting Standards Update “Accounting for Financial Instruments and Revisions to the Accounting for Derivative Instruments and Hedging Activities”
We appreciate the FASB’s efforts to improve the accounting for financial instruments and welcome
the opportunity to comment on the above Proposed Accounting Standards Update (hereinafter
referred to as the “ED”). The views expressed in this letter are those of the Financial Instruments
Technical Committee, which has been set up within the Accounting Standards Board of Japan.
We support a mixed measurement attribute system in which the measurement attribute reflects the
entity’s business activities. Under this system, the measurement attribute is determined in relation
to the objective of holding the instruments or to the way an entity manages its instruments, which we
think is essential for financial reporting to be useful. In this regard, we appreciate that the ED has
taken into account the perspective of the business strategy when classifying financial instruments.
However, we are concerned that the ED would broaden the scope of instruments which would be
measured at fair value. In our view, amortized cost is appropriate for certain instruments and, for
those instruments, rather than measuring them at fair value with qualifying changes in fair value
recognized in other comprehensive income, requiring only amortized cost on the balance sheet and
requiring fair value information in the notes should be sufficient.
We acknowledge that the financial instruments project is one of the most important joint efforts
between the FASB and the IASB. However, the proposals in the ED differ in several fundamental
aspects from the requirements in IFRS 9 “Financial Instruments” and the proposals in the IASB’s
exposure draft “Financial Instruments: Amortised Cost and Impairment.” In addition, while the ED
has proposed improvements to current hedge accounting, the IASB’s current discussion is not
necessarily in line with these proposals. Accordingly, we urge the Boards to continue their efforts
Finally, we are concerned about the proposal that all investments in equity instruments be treated in
the same manner as fair value through net income (FV-NI) because the proposal might not represent
the economic substance of some investments. We urge the FASB to continue to discuss how to
account for investments in equity instruments, taking into account the exceptional treatment to
FV-NI in IFRS 9 which has been provided to deal with such an issue.
We have provided responses to several specific questions raised in the ED in the appendix to this
We hope our comments will contribute to forthcoming deliberations in the project.
Chairman of the Financial Instruments Technical Committee
Vice Chairman of the Accounting Standards Board of Japan
Appendix: Responses to specific questions Question 13: The Board believes that both fair value information and amortized cost information
should be provided for financial instruments an entity intends to hold for collection or payment(s) of
contractual cash flows. Most Board members believe that this information should be provided in the
totals on the face of the financial statements with changes in fair value recognized in reported
stockholders’ equity as a net increase (decrease) in net assets. Some Board members believe fair
value should be presented parenthetically in the statement of financial position. The basis for
conclusions and the alternative views describe the reasons for those views. Do you believe the
default measurement attribute for financial instruments should be fair value? If not, why? Do you
believe that certain financial instruments should be measured using a different measurement
We note that this response relates to financial assets. For financial liabilities, please refer to
Although we acknowledge there is an argument that fair value information presented on the
face of the financial statements is generally of higher quality compared to such information
presented in the note disclosures, we do not agree with the proposal that the default
measurement attribute for financial assets should be fair value. If the entity’s business strategy
is to collect the contractual cash flows rather than to sell the financial asset, amortized cost
measurement and its resulting profit or loss information better represents the entity’s business
strategy for holding the asset. Therefore, we believe that an entity should apply amortized
cost if certain criteria, including when the entity’s business strategy is to collect the contractual
cash flows rather than to sell the financial asset, are met.
We are aware that the FASB provides the FV-OCI category for cases mentioned in the
preceding paragraph. The accounting treatment for this category is similar to
“available-for-sale” securities (AFS securities) and, thus, the category is confusing to users to
understand the entity’s ordinary business strategy. While entities are expected to hold FV-OCI
instruments for a significant portion of their contractual terms, no such condition exists for AFS
securities. Thus, the fair value information and resulting other comprehensive income similar
to information provided for AFS securities may be taken to suggest that the instruments are held
under a different business strategy from that of FV-OCI.
Currently entities usually disclose fair value information in the accompanying notes to their
financial statements (FASB Accounting Standards Codification TM 825-10-50-10). Users can
obtain fair value information by looking at the information presented in the notes.
Question 15: Do you believe that the subsequent measurement principles should be the same for
financial assets and financial liabilities? If not, why?
We are of the view that subsequent measurement principles do not need to be the same for
financial assets and financial liabilities.
Entities generally assume financial liabilities to pay their contractual cash flows. Unlike
financial assets, financial liabilities are rarely transferred except when businesses are transferred.
A transfer of a financial liability usually requires the permission of the counterparty, and some
liabilities cannot be transferred in any practical way. Accordingly, we are of the view that
financial liabilities with fixed or slightly variable cash flows should not be remeasured. Fair
value measurement should be limited only to financial liabilities held for trading and derivative
In addition, the FASB’s proposal includes exceptions specific to financial liabilities, which may
suggest that financial liabilities have different characteristics from financial assets that should
be taken into account when determining the measurement attribute.
Regarding the treatment of hybrid instruments, it seems reasonable to retain the bifurcation of
embedded derivatives if we are to emphasize the issue on the presentation of entity’s own credit
Question 16: The proposed guidance would require an entity to decide whether to measure a
financial instrument at fair value with all changes in fair value recognized in net income, at fair
value with qualifying changes in fair value recognized in other comprehensive income, or at
amortized cost (for certain financial liabilities) at initial recognition. The proposed guidance would
prohibit an entity from subsequently changing that decision. Do you agree that reclassifications
should be prohibited? If not, in which circumstances do you believe that reclassifications should be
According to the ED, an entity would initially be given a choice of measurement attributes
under certain conditions. For example, a financial instrument is not “required” to but “may”
be classified as FV-OCI if it meets certain criteria. This optional feature also appears in the
amortized cost measurement for financial liabilities. Prohibition of reclassification seems to
be conceptually consistent with this optional feature.
10. We are, however, of the view that an entity basically should not be provided with an option to
determine the measurement attributes. Financial statements should reflect the entity’s business
strategy or how the instrument is managed. Also, the ED’s criteria articulate the situations in
which the effective interest rate method is suitable. Therefore, in our view, reclassification
should be required when an entity changes its business strategy.
11. The same may apply to financial liabilities, but the prohibition of reclassification might not be a
significant problem if fair value measurement is limited only to instruments mentioned in our
Question 17: The proposed guidance would require an entity to measure its core deposit liabilities at
the present value of the average core deposit amount discounted at the difference between the
alternative funds rate and the all-in-cost-to-service rate over the implied maturity of the deposits. Do
you believe that this remeasurement approach is appropriate? If not, why? Do you believe that the
remeasurement amount should be disclosed in the notes to the financial statements rather than
presented on the face of the financial statements? Why or why not?
12. We understand the constituents’ view that core deposits often are the primary source of value
for a financial institution. However, we do not agree with the remeasurement of the core
deposit liabilities. In our view, the proposed approach does not seem to be the only approach
for estimating the benefit of core deposit liabilities, and it is not necessarily a familiar method
for those not involved in M&A practice. In addition, it would invite complexity by
introducing a measurement attribute that is different from fair value or amortized cost.
13. We rather prefer that the FASB proposes to disclose information related to the benefit of core
deposit liabilities in the accompanying notes or outside the financial statements instead of
requiring core deposit liabilities to be remeasured at present value based on the implied maturity,
provided that the IASB also follows the same direction. In this case, we prefer disclosing the
information necessary for users to calculate a rough estimate of the benefit of core deposit
liabilities according to the M&A practice, rather than to disclose the calculated amount of the
14. We also wonder whether this treatment would raise the issue of the accounting unit. The
approach would apply to a portfolio of demand deposits by considering the average amount as
core deposits, which is different from the usual accounting treatment of financial instruments
that normally determines the measurement attribute on an individual instrument basis.
Question 32: For financial liabilities measured at fair value with all changes in fair value recognized
in net income, do you agree that separate presentation of changes in an entity’s credit standing
(excluding changes in the price of credit) is appropriate, or do you believe that it is more appropriate
to recognize the changes in an entity’s credit standing (with or without changes in the price of credit)
in other comprehensive income, which would be consistent with the IASB’s tentative decisions on
financial liabilities measured at fair value under the fair value option? Why?
15. As mentioned earlier in our response to Question 15, we are of the view that the scope of
instruments which should be measured at fair value should be limited to financial liabilities held
for trading, and derivative liabilities. If the scope of instruments is limited as suggested, own
credit risk should not be a significant problem.
16. For other financial liabilities, we generally agree with the tentative decision by the IASB, on the
premise that the criteria for the fair value option remains as they are today. That is, we agree
that most financial liabilities should be measured at amortized cost and that an entity recognizes
changes in fair value attributable to entity’s own credit risk in other comprehensive income if a
financial liability is designated as fair value through profit or loss, because we are of the view
that including such changes in net income would not provide useful information to users.
17. The ED’s approach of separating changes in entity’s credit standing and those in the price of
credit is persuasive, but in many cases it seems practically difficult to separate them in the same
Question 38: The proposed guidance would require an entity to recognize a credit impairment
immediately in net income when the entity does not expect to collect all contractual amounts due for
originated financial asset(s) and all amounts originally expected to be collected for purchased
The IASB Exposure Draft, Financial Instruments: Amortised Cost and Impairment (Exposure Draft
on impairment), would require an entity to forecast credit losses upon acquisition and allocate a
portion of the initially expected credit losses to each reporting period as a reduction in interest
income by using the effective interest rate method. Thus, initially expected credit losses would be
recorded over the life of the financial asset as a reduction in interest income. If an entity revises its
estimate of cash flows, the entity would adjust the carrying amount (amortized cost) of the financial
asset and immediately recognize the amount of the adjustment in net income as an impairment gain
Do you believe that an entity should immediately recognize a credit impairment in net income when
an entity does not expect to collect all contractual amounts due for originated financial asset(s) and
all amounts originally expected to be collected for purchased financial asset(s) as proposed in this
Update, or do you believe that an entity should recognize initially expected credit losses over the life
of the financial instrument as a reduction in interest income, as proposed in the IASB Exposure
18. Under the proposed model, for financial assets evaluated on a collective basis, our
understanding is that a credit impairment would generally be recognized in the period of the
origination of the assets based on historical experience corresponding to their contractual term
19. We believe that recognizing a loss on initial recognition of the financial asset for financial
reporting purposes even though there has been no loss incurred from the asset would result in
unfaithfully representing the underlying economic phenomenon.
20. Although we acknowledge the notion that financial assets often are priced assuming a certain
amount of losses on the total pool even though the entity initially expects to collect all on each
individual asset, we are of the view that such initially expected losses should be allocated to
each period over the life of those financial assets. This approach is in line with the purpose of
the business strategy for which an entity holds financial instruments for a significant portion of
their contractual terms (that is, to collect the related contractual cash flows rather than to sell
Question 40: For a financial asset evaluated in a pool, the proposed guidance does not specify a
particular methodology to be applied by individual entities for determining historical loss rates.
Should a specific method be prescribed for determining historical loss rates? If yes, what specific
21. As mentioned later in our response to Question 48, the measurement of the historical loss rate
affects not only the amount of credit impairment but also the amount of interest income.
Accordingly, we are of the view that, to ensure the comparability of credit impairment and
interest income among entities, it would be necessary to incorporate in the final standard an
additional guidance for determining historical loss rates.
Question 48: The proposed guidance would require interest income to be calculated for financial
assets measured at fair value with qualifying changes in fair value recognized in other
comprehensive income by applying the effective interest rate to the amortized cost balance net of
any allowance for credit losses. Do you believe that the recognition of interest income should be
affected by the recognition or reversal of credit impairments? If not, why?
22. We are of the view that the method of interest income recognition shall be consistent with how
the loans are evaluated for impairment, that is, whether they are evaluated on a present value
technique basis or a historical loss rate basis.
23. Our understanding is that the method of recognizing interest income under the proposed model
is consistent with the method of recognizing credit impairment on a present value technique
basis. The present value technique, which takes into consideration expected interest cash
flows, results in a discounted present value of expected cash flows, which is equal to amortized
cost after netting the allowance for credit losses. The amount of interest income shall be
determined by applying the financial asset’s effective interest rate to the amortized cost balance
after netting the allowance for credit losses.
24. On the other hand, since the proposal does not specify a particular methodology for determining
the historical loss rate (refer to our response to Question 40), that rate may be calculated based
on the loss on the collection of the principal only, and not necessarily all cash flows. In such a
case, we are of the view that the amount of interest income shall be determined by applying the
financial asset’s effective interest rate to the amortized cost balance (before netting the
allowance for credit losses) and the amount of credit impairment shall be measured based on
Question 56: Do you believe that modifying the effectiveness threshold from highly effective to reasonably effective is appropriate? Why or why not?
25. The highly effective criteria are currently causing problems in the application of hedge
accounting, such as (a) an entity may not be able to apply hedge accounting consistently
because, even though the hedging relationship is eligible for hedge accounting in one period,
such relationship may not meet the highly effective criteria in the next period, and (b) an entity
may avoid applying hedge accounting to a hedging relationship for its whole period that the
entity believes is highly effective for fear of being unable to demonstrate that the hedging
relationship meets the highly effective criteria in some reporting periods (as described in
paragraph BC218 of the ED). We believe that modifying the effectiveness threshold from
highly effective to reasonably effective would resolve those problems. This change would
reduce complexity in the qualifications for hedge accounting, make it easier for entities to
consistently apply hedge accounting, and maintain comparability and consistency in financial
Question 57: Should no effectiveness evaluation be required under any circumstances after
inception of a hedging relationship if it was determined at inception that the hedging relationship
was expected to be reasonably effective over the expected hedge term? Why or why not?
26. The determination at the inception of a hedging relationship that the hedging relationship is
expected to be reasonably effective over the expected hedge term is at best based on an entity’s
estimate. The entity does not prove that the hedging relationship will actually be reasonably
effective over the expected hedge term. It is reasonable to say that there will be a difference in
the change in fair value and in cash flows between the hedged item and the hedging instrument,
except when the hedged item is perfectly hedged using a hedging instrument that has the same
risk profile as that of the hedged item. Therefore, we are of the view that, in some cases, an
effectiveness evaluation would be required subsequently, even if it was determined at the
inception that a hedging relationship was expected to be reasonable effective over the expected
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