Agenda decision: Accounting for prepaid transaction costs on financial instruments

It is important to understand the meaning of ‘transaction costs’ in IFRS 9 Financial Instruments because they are included in the initial measurement of a financial asset or financial liability if they are directly attributable to its acquisition or issue, and they are not measured at fair value through profit or loss.

Examples of transaction costs include fees and commissions paid to agents (including employees acting as selling agents), advisers, brokers and dealers; levies by regulatory agencies and security exchanges; and transfer taxes and duties. Transaction costs do not include debt premiums or discounts, financing costs or internal administrative or holding costs.

Fact pattern

Entity ABC intends to enter into a loan contract with Bank XYZ. Entity ABC incurs legal fees and advisory fees while analysing the terms and conditions of the proposed loan. Entity ABC expects to proceed with the loan contract. The loan contract is not signed at the date that Entity ABC’s financial statements are authorised for issue.

Question put to the Committee

How does Entity ABC determine whether costs that are directly attributable to the origination or issuance of the loan, but incurred before entering into the contractual arrangement with Bank XYZ, are incremental and, therefore, meet the definition of ‘transaction costs’ in Appendix A of IFRS 9?

There are two possible views:

• View one: Costs incurred before entering into the loan contract cannot meet the definition of transaction costs in Appendix A
• View two: Costs incurred before entering into the loan contract can meet the definition of transaction costs in Appendix A, even if there is a possibility that the loan contract might not be originated or issued.

Assuming View two, how should Entity ABC account for the ‘prepaid transaction costs’, i.e. the costs incurred in the periods before the loan contract is signed?

Committee findings

Evidence gathered by the Committee indicated no diversity that could have a material effect on entities’ financial statements when determining and accounting for costs incurred before entering into a loan contract. Feedback suggested that:

• Costs directly attributable to the origination or issuance of a financial instrument that are incurred before entering into a contractual arrangement are not precluded from being ‘incremental’, and could, therefore, meet the definition of ‘transaction costs’ in IFRS 9
• Transaction costs are recognised in the statement of financial position, often as prepayments or other assets.

Conclusion

The Committee concluded that this matter did not have a widespread effect and, therefore, decided not to undertake a standard-setting project to amend IFRS 9 in this regard.

More information

Please refer to the agenda decision for more information.