Enquiry:
Issue-I
Many entities have continued financial support from their directors/ sponsors etc. in form of interest free loans. There are normally no determinable repayment terms.
IAS-39 requires:
Borrowings are initially recognized at fair value less attributable transaction cost. Subsequent to initial recognition, these are stated at amortized cost with any difference between cost and redemption value being recognized ‘ in profit or loss over the period of the borrowings on an effective interest basis.”
As per paragraph 47 of the Standard, all financial liabilities, with exception of certain liabilities specifically excluded by the standard from scope of the paragraph, are required to be measured at amortized cost using the effective interest method.
The normal treatment in the audited financial statements is through disclosure in the notes to the accounts with emphasis on the fact that repayment terms are not determinable.
lAS 1 requires:
15. Financial statements shall present fairly the financial position, financial performance and cash flows of an entity. Fair presentation requires the faithful representation of the effects of transactions other events and conditions in accordance with the definitions and recognition criteria for assets, liabilities, income and expenses set out in the Framework The application of IFRSs, with additional disclosure when necessary, is presumed to result in financial statements that achieve a fair presentation.
16 An entity whose financial statements comply with IFRSs shall make an explicit and unreserved statement of such compliance in the notes. An entity shall not describe financial statements as complying with IFRSs unless they comply with all the requirements of IFRSs.
17 In virtually all circumstances, an entity achieves a fair presentation by compliance with applicable IFRSs. A fair presentation also requires an entity:
(a) to select and apply accounting policies in accordance with lAS 8 Accounting Policies, Changes in Accounting Estimates and Errors. lAS 8 sets out a hierarchy of authoritative guidance that management considers in the absence of an IFRS that specifically applies to an item.
(b) to present information, including accounting policies, in a manner that provides relevant reliable, comparable and understandable information.
(c) to provide additional disclosures when compliance with the specific requirements in IFRSs is insufficient to enable users to understand the impact of particular transactions, other events and conditions on the entity’s financial position and financial performance.
18 An entity cannot rectify inappropriate accounting policies either by disclosure of the accounting policies used or by notes or explanatory material.
It is clear that lAS-I requires compliance to all IFRSs and lASs.
OPINION REQUIRED:
- Is it sufficient to give disclosure that the repayment terms for the loans from directors’ sponsors etc are not determinable?
- Is it not a departure from IAS-39 requirements? Accordingly should not the audit report be qualified indicating that the requirements of IAS-39 have not been met with an explanations of the reasons for non -compliance?
- Should not the departure be identified in the ‘Compliance Statement’?
- Is the repayment tenure considered to be determinable if loans from directors’ sponsors etc. are subordinated to loans from banks and financial institutions?
It may be noted in some cases where the audit report has been qualified; SECP has forced the entity to measure loans from directors’ sponsors etc. at amortized cost using the effective interest method even in absence of determinable repayment terms.
Issue-2
In many entities there are issues pertaining to loans from banks and financial institutions which are in default and/or subjudice. It has been observed that a disclosure to the fact is made in the notes to financial statements with the explanation that classification between current and non-current liabilities is not practicable. Additionally if the matter is subjudice no provisions are made for markup.
OPINION REQUIRED:
- Is it sufficient to give disclosure as noted above?
- Is it not a departure from lAS-I requirements? Accordingly should not the audit report be qualified indicating that the requirements of lAS-I have not been met with an explanation of the reasons for non-compliance?
- Should not the departure be identified in the ‘Compliance Statement’?
Opinion:
The Committee considered your queries and response to the questions are as follows:
Issue-1
1. If the repayment terms of the loans from directors’ sponsors are not determinable then the payment of loan would remain on demand by the director’ sponsor; and hence should be disclosed as short term loan.
However, if the loan is of long term nature then there should be a loan covenant and in that case, the loan shall be stated at amortized cost in accordance with the requirements of lAS 39
2 & 3. It will always be the auditor’s prerogative to give an opinion, based upon the evidence obtained whether or not to qualify audit report. The Committee is of the view that the auditor will have to form an appropriate opinion, based on his own judgment, after analyzing the evidences obtained.
4. The Committee is of the view that a director loan subordinated to a bank loan will be payable after the bank loan has been fully extinguished. Therefore, the minimum term of the director’s loan can be taken as the term of the bank loan, however, the exact term is indeterminable in the absence of a covenant.
Issue-2
1. Where the loans from banks or financial institutions are in default or subjudiced, the payment of loan would be considered on demand; and therefore classified as current.
2. It will always be the auditor’s prerogative to give an opinion, based upon the evidence obtained whether or not to qualify audit report. The Committee is of the view that the auditor will have to form an appropriate opinion , based on his own judgment, after analyzing the evidences obtained
3. The issue identified in the query does not raise any effect on the ‘Compliance Statement’.
(August 29, 2013)