Impairment – changes in amount or timing of payments
A bank is concerned that, because of financial difficulties, five customers, Companies A to E, will not be able to make all principal and interest payments due on originated loans in a timely manner. It negotiates a restructuring of the loans and expects the customers will meet their restructured obligations. The restructured terms are as follows:
- A will pay the full principal amount of the original loan five years after the original due date, but none of the interest due under the original terms;
- B will pay the full principal amount of the original loan on the original due date, but none of the interest due under the original terms;
- C will pay the full principal amount of the original loan on the original due date but with interest at a lower interest rate than the interest rate inherent in the original loan;
- D will pay the full principal amount of the original loan five years after the original due date and all interest accrued during the original loan term, but no interest for the extended term;
- E will pay the full principal amount of the original loan five years after the original due date and all interest, including interest on all outstanding amounts for both the original term of the loan and the extended term.
An impairment loss has been incurred if there is objective evidence of impairment – this is assumed to be the case here because of the customers’ financial difficulties. The amount of the impairment loss for a loan measured at amortised cost is the difference between the loan’s carrying amount and the present value of future principal and interest payments, discounted at the loan’s original effective interest rate.
For A to D, the present value of the future principal and interest payments discounted at the loan’s original effective interest rate will be lower than the carrying amount of the loan. Therefore an impairment loss is recognised in those cases. For E, even though the timing of payments has changed, the bank will receive interest on interest, so that the present value of the future principal and interest payments, discounted at the loan’s original effective interest rate, will equal the carrying amount of the loan. Therefore, there is no impairment loss. However, this fact pattern is unlikely given Company E’s financial difficulties. [IAS 39.E.4.3].