an entity has a portfolio of originated domestic mortgages which are accounted for a 599070

Servicing assets and liabilities

An entity has a portfolio of originated domestic mortgages which are accounted for at amortised cost and have a carrying amount of 10 million. The mortgages bear interest at a fixed rate of 7.5%. The average life of the mortgages in the portfolio (taking account of prepayment risk) is 12 years and the fair value of the portfolio is 11 million, representing 4.5 million in respect of future interest payments and 6.5 million in respect of the principal amounts. The entity assesses the amount that would compensate it for servicing the assets to be 0.5 million.

The entity sells the entire portfolio to a bank (on terms such that it qualifies for derecognition under IAS 39 (IFRS 9)) but continues to service the portfolio. If the entity does not retain any part of the interest payments, the selling price would be the fair value of the assets of 11 million (or very close to it). It would then assume a servicing liability of 0.5 million, giving rise to the accounting entry:

Alternatively, it retains interest payments of 1% and the right to service the portfolio. The entity estimates that the fair value of the right to receive interest payments of 1% is 0.6 million. In this case, the bank would be expected to pay fair value of 10.4 million (or very close to it).

The standard states – see above – that, if (as is the case here) the entity would not give up any interest on termination or transfer of the contract, then the whole of the interest spread is an interest-only strip receivable. In order to calculate the amount of the portfolio to be derecognised, the carrying value of 10 million is pro-rated (as in Example 50.6 above) as to 9.45 million disposed of (10m × 10.4/11) and the part retained of 0.55 million (10m × 0.6/11). However, as it has allocated the full amount of the interest spread to an interest-only strip receivable, it would need to recognise a servicing liability of 0.5 million in respect of its obligations under the contract. This gives rise to the following accounting entry:

If the entity were to retain only 0.1 million of the interest spread on termination or transfer of the servicing contract, then IAS 39 (IFRS 9) requires – see above:

• the part of the interest payments that the entity would not give up (i.e. 0.1 million) to be treated as an interest-only strip receivable; and
• the part of the interest payments that the entity would give up (i.e. 0.45 million – 0.55 million as above less 0.1 million in previous bullet) upon termination or transfer of the servicing contract to be allocated to the servicing asset or servicing liability.

This suggests that the following accounting entry would be made: