Home > Accounting Entries > Assets > Financial Assets > Investments > Amortised Cost (AC)
Definition:
Accounting for Investment in Financial Assets is governed under IFRS 9 according to which it can be categorised under three types of financial assets, (i) held at Amortised Cost, (ii) held at Fair Value through Other Comprehensive Income (FVOCI) and (iii) held at Fair Value through Profit or Loss (FVPL).
Categorisation depends upon the business model under which the investment is made by the organisation. First test is with respect to nature of payments from the asset, whether the payments from asset are 'Solely Payments for Principal and Interest' (SPPI test). If the first test is passed, second test is for the business model, whether the asset is held to maturity and collect all contractual cashflows or collect cashflows and sell before maturity as opportunity occurs.
In case SPPI test is failed at the first instance itself, the financial asset is directly categorised as Fair Value through Profit or Loss (FVPL).
Below is brief matrix for categorisation:
Meet SPPI Test Business Model Accounting Category
Yes Collect contractual cashflows Amortised Cost (AC)
Yes Collect contractual cashflows Fair Value through Other Comprehensive Income (FVOCI)
and gain from sale
Yes Held for Trading and gain from Fair Value through Profit or Loss (FVPL)
price change and sale
No - Fair Value through Profit or Loss (FVPL)
Amortised Cost:
Investment categorised at amortised cost are accounted on accrual basis where the income from asset is accrued through effective interest rate (EIR) method. Any processing costs or fee incurred to acquire the asset is adjusted in the value of asset and considered for computation of income under EIR method. The asset is kept at book value and not fair value during the tenure of the asset. Book value = Nominal value + Unamortised Premium/ Transaction cost - Unamortised Discount.
Exception to holding at book value is in case of financial asset under fair value hedge where the asset is fair valued to the extent changes due to hedged risk.
Accounting Entries:
Purchase of Financial Asset categorised under AC:
Financial Assets (AC) A/c DR
Premium on purchase A/c DR
Discount on purchase A/c CR
Cash/Bank A/c CR
Amount: Amount paid to acquire asset. In case the asset is acquired at a price above par, difference between nominal value and par is premium. In case the asset is acquired at a price below par, difference between nominal value and par is discount.
Cum-interest paid on acquisition of financial asset:
Interest income on AC Asset A/c DR
Cash/Bank A/c CR
Amount: Accrued interest on asset from last coupon date till purchase settlement date.
Transaction costs incurred to acquire the asset:
Transaction costs on AC Asset A/c DR
Cash/Bank A/c CR
Amount: Processing Fees, Brokerage etc incurred on acquisition.
Recognition of income (in case of coupon paying investment):
Coupon Receivable A/c DR
Interest income on AC Asset A/c CR
Amount: Coupon accrued based on nominal value, coupon rate and period from last coupon date till reporting date.
Amortisation of premium and fee on reporting date:
Interest income on AC Asset A/c DR
Premium on purchase A/c CR
Transaction costs on AC Asset A/c CR
Amount: Amortisation computed based on straight line basis or EIR method.
Accretion of discount on reporting date:
Discount on purchase A/c DR
Interest income on AC Asset A/c CR
Amount: Amortisation computed based on straight line basis or EIR method.
Receipt of coupon on coupon payment date:
Cash/Bank A/c DR
Coupon Receivable A/c CR
Amount: Coupon computed based on nominal value, coupon rate and coupon period or frequency.
Maturity of Asset:
Cash/Bank A/c DR
Financial Asset (AC) A/c CR
Coupon Receivable A/c CR
Amount: Payment received towards principal and interest on maturity date.
Sale / Disposal of asset:
Cash/Bank A/c DR
Discount on purchase A/c DR
Loss on Sale A/c DR
Premium on purchase A/c CR
Transaction costs on AC Asset A/c CR
Financial Asset (AC) A/c CR
Coupon Receivable A/c CR
Amount: At time of sale, sale price is compared with book value, in case sale price > book value, then gain or if sale price < book value, then loss.
Book value = Nominal value + Unamortised Premium/ Transaction cost - Unamortised Discount.