Course on Bank Accounting

The Course on Banking Accounting, which the Center for Latin American Monetary Studies organizes annually in collaboration with the Bank of Spain and the Association of Banking Supervisors, was celebrated on this occasion under the auspices of the Central Bank of Chile. The Course was held in Santiago, Chile, from August 26 to 29, 2019, and was attended by 35 participants from 17 institutions, including central banks and financial authorities of Latin America and the Caribbean.

The course was aimed to addressing issues related to accounting standards of classification and valuation for financial assets and liabilities of financial entities and the central bank, based on the International Financial Reporting Standards (IFRS). The novelties of this set of rules that relate to leasing and their accounting were also presented, as well as specific considerations of IFRS on capital, international reserves and the financial result of central banks.

From the discussions held during the Course, the following can be highlighted:

Conceptual framework

First, it was pointed out that the objective of the financial information is to provide relevant information on the financial health of an entity and that it focuses on providing inputs for both the 1) decision making of investors, and 2) to identify possible vulnerabilities that the entity has and that require the intervention of the relevant authorities.

One issue that was highlighted is that, to a large extent, financial reports are based on estimates, judgments and models, rather than accurate representations. Based on this, the main limitations of the financial information were identified:

• Not providing all the information that investors, lenders and other existing creditors need.
• It is not designed to display all the financial conditions of the reporting entity.
• It is not aimed at all types of users or all their needs.

In this context, it was commented that the International Accounting Standards Board (IASB) has played an important role in reducing differences in accounting definitions and criteria in different countries, through searching for harmonization between regulations, accounting standards and procedures related to the preparation and presentation of the financial statements. In this regard, it was concluded that the best way to pursue a broader harmonization is to focus efforts on the financial statements that are prepared in order to provide useful information for making economic decision.

Recognition and classification

In this theoretical-practice session, special attention was paid to understanding why it is important for the accounting regulation of the financial system and the central bank to have solid bases about the initial recognition of transactions with financial instruments. In that sense, it was shown through several examples that any transaction that meets the following elements should be recognized: (a) when is probable that any economic (positive or negative) benefit associated with the transaction; and (b) the underlying instrument has a cost or value that can be measured reliably.

As general criteria of an accounting framework that contains these grounds for adequate recognition and assessment, it can be mentioned the following:

• A financial instrument that will generate future economic benefits must be recognized in the balance sheet assets of any financial entity, and it should also be contemplated that the instrument may have a cost or value that must be measured reliably.
• A liability must be recognized in the balance sheet when it is probable that, from the payment of that present liability, the outflow of resources that incorporate economic benefits will be derived, and also the amount of the outlay can be reliably evaluated.
• An income is recognized in the income statement when an increase in future economic benefits has arisen, related to an increase in the value of the assets or a decrease in the value of the liabilities, and also the amount of the income must be measurable reliably.
• An expense is recognized in the income statement when there has been a decrease in future economic benefits, related to a decrease in the value of the assets or an increase in the value of the liabilities, and in addition the expense must be reliably measured.

Derivatives and leases accounting

As part of the program, a session was dedicated to the accounting of derivative instruments, due to their increasing importance and complexity from the point of view of the valuation of mentioned transactions.

These instruments have been increasingly used as a tool to hedge positions of financial institutions in a financial context of volatility, low returns and difficulty in understanding the implications of structured financial product contracts, given a change in financial conditions.

These instruments, which can be classified into futures, options, swaps and forwards, and that are generally traded outside standardized markets, have very specific characteristics and - in some cases - made to measure, which require a clear and reliable accounting treatment so that the financial information presented is reliable and timely. In that sense, as presented in the course, it can be said that its classification is divided into two broad categories: 1) instruments for hedge accounting and 2) instruments for negotiation. Likewise, through different practical exercises it was confirmed that your accounting has to be done at reasonable value.

In the case of leases, in recent years the regulation of this type of transactions has been strengthened, especially to better reflect its accounting within an entity. In particular, seeking to improve transparency on possible risks that may be important for the parties that are part of a lease and that may directly or indirectly affect the entities in question, given the possible connection of a lease contract with the behavior of a financial asset and that in effect may have important implications for the health of the entities. In the Course, emphasis was placed on the differences and improvements achieved with the revision of IFRS.

Disclosures

As part of the pillars of a solid and reliable accounting framework, the Course dedicated a space to present the importance of disclosures based on the framework provided by IFRS 7. In this regard, it was mentioned that the objective is to require entities to disclose information in its financial statements that allows users to evaluate: 1) the relevance of the financial instruments in the financial situation and performance of the entity and 2) the nature and extent of the risks arising from the financial instruments to which the entity has been exposed during the period and at the close of the period on which it is reported and how the entity manages such risks.

Credit losses

With volatility and the resulting possible changes in value to which financial instruments are exposed, the economic sense and determination of credit losses is a central component of accounting. In other words, a financial asset may deteriorate when one or more events that have an unfavorable impact on the estimated future cash flows of that financial asset have occurred, therefore, it is important to measure the impacts of these changes in health of a financial entity.

In that sense, some of the general criteria that an entity must adopt and the authorities in charge of its supervision, refer to the possible corrections in the value of an instrument that has been recognized under an accounting: at amortized cost; or at reasonable value with changes in other integral results; or that they are part of the accounts receivable for lease; or that they are a contract asset or a loan commitment; or that refer to financial guarantee contracts.

The fundamentals of the credit losses that were presented in the Course have to do with a significant increase in credit risk and that is related to the following aspects:

Significant changes in:

• Credit risk indicators.
• In the rates or conditions of the instrument.
• In the external market indicators of credit risk.
• In the external credit rating.
• In the operating results of the borrower.

Actual or expected adverse change in regulation.

Late payment information

Central Bank Accounting

Several sessions were organized around central bank accounting and the role of international financial regulation, as well as the process of adoption and convergence to standards and best practices.

In this regard, a review was given to the nature and functions of a central bank, and why the accounting and applicable general criteria need to be appropriate to such characteristics. For example, there are financial assets that banks keep in their balance sheet and that do not generate future economic benefits or assets that are not used as instruments traditionally intended for negotiation or hedging, such as gold. Another issue that makes central banks and their accounting particularly unique is the issuance of bills and coins, and that has opened the debate about what constitutes cash in accounting terms.

In this context, it may be convenient to determine whether the central bank's accounting should be based exclusively on a set of standards such as IFRS, or its own accounting standards should be developed, or if it is necessary to combine elements to have reliable accounting adjusted to the characteristics of the central bank.

In that sense, in the Course it was noted that IFRS presents important advantages for central bank accounting, such as the power of comparability and transparency that is achieved when implementing these standards, as well as the understanding and access that is promoted to that users outside the central bank can consult and interpret the information. However, because the IFRS comprise a set of international standards designed for entities that issue securities for trading on the stock exchange, certain disadvantages may occur, such as their adequacy in terms of the state of cash flows in a bank central, as well as the complex application in particular items of a central bank and the capitalization and dividend policies themselves in the monetary institute.

The Course concluded with a presentation by the Central Bank of Chile presenting its case in the application of an accounting framework based entirely on IFRS, highlighting certain lessons that are important to consider in adopting this type of approach. On the one hand, have the autonomy of functions and decision making that is key to assume the adoption of changes that may transcend the functions and structure of the central bank. And, on the other hand, to have credibility levels that favor it in situations in which the applied accounting can generate results whose interpretation is especially unique for a central bank, as is the case of having a negative accounting capital.

 

Welcome remarks
- Alejandro Zurbuchen S., General Manager of the Central Bank of Chile
- Raúl Morales Reséndiz, Manager of Financial Markets and Infrastructures, CEMLA

Objectives, limitations and accounting conventions
José Luis Carreño Gómez, Accounting Expert of CEMLA Technical Assistance Program - Banco de España

Similarities and differences of the FASB and IASB standards; the conceptual framework of accounting; elements of the financial statements; results and their realization; historical value and present value; accounting valuation criteria: cost, amortized cost, fair value and the equity method.

Financial assets and liabilities
José Luis Carreño Gómez, Accounting Expert of CEMLA Technical Assistance Program - Banco de España

a) Classification and measurement of financial assets: derecognition of financial assets, b) classification and measurement of financial liabilities: derecognition of financial liabilities; c) financial derivatives: financial hedges, accounting hedges and implicit derivatives; d) information to be disclosed in the notes to the financial statements; e) case studies.

Credit losses
José Luis Carreño Gómez, Accounting Expert of CEMLA Technical Assistance Program - Banco de España

a) From the "loss incurred" to the "expected loss"; b) the expected accounting loss and the expected regulatory loss and c) the accounting approaches of the expected loss: IASB versus FASB.

Leasing Contracts: FASB versus IASB
María José Macchio, José Luis Carreño Gómez, Accounting Expert of CEMLA Technical Assistance Program - Banco de España

Historical evolution of the accounting of Leases; criticism and reform of accounting regulations; key aspects and differences (FASB-IASB): lease definitions, accounting for the lessee; landlord accounting; sales with subsequent lease (sale-leaseback). Effects for Commercial Banks: as lessors; as tenants Effects for central banks and case studies.

Central Banks and international accounting regulation (I)
Mauricio Guevara Guzmán, Accounting Expert of CEMLA Technical Assistance Program - Banco de España

The role of central banks in the economy - business model: a) monetary policy objectives: inflation and employment and b) business objectives.

Is it necessary to apply international accounting regulation to central banks? Why YES and NO?

The financing of central banks: banknotes and bank deposits (required by monetary policy) and b) international reserves in central banks: financial results and their allocation and credit impairments and their estimation.

The capital and results of the Central Banks
Mauricio Guevara Guzmán, Expert of CEMLA Technical Assistance Program - Banco de España

Convenience of applying Basel standards to central banks; the capital needs of a central bank, profit sharing and loss coverage.

Context, implications and future challenges of the application of IFRS in the case of the Banco Central de Chile
Juan Carlos Salazar, Banco Central de Chile

Adoption of IFRS in the Central Bank of Chile; Implementation of IFRS 9 and Future Challenges in the application of IFRS.

Closing remarks
- Raúl Morales Reséndiz, Manager of Financial Markets and Infrastructures, CEMLA
- Mariela Iturriaga V., Manager of the Administration and Technology Division of the Banco Central de Chile

 

For over several years, CEMLA and Banco de España, with support from the Association of Banking Supervisors of the Americas (ASBA), organize annually training activities and discussions for developing and strengthening the accounting regulatory framework in the region's financial systems.

In response to changes in the accounting best practices and international standards, the Banco de España and CEMLA launched a Program of Technical Assistance (PAT) on activities for Strengthening the Accounting Regulatory Framework towards complementing their annual activities with technical assistance for central banks and other financial authorities in the region responsible for accounting regulation. The Program seeks to provide tailored technical assistance on aspects related to the development, improvement or reform of the accounting regulatory framework applied to central banks and to financial systems.

The Course was organized under the umbrella of the PAT and it was supported by three members of the Group of Accounting Experts of the Program, who conducted the various sessions of the agenda.

María José Macchio Sosa, Accounting Expert of CEMLA Technical Assistance Program - Banco de España
Public Accountant from the University of the Republica de Uruguay. Diploma of Specialization in Accounting. Postgraduate in Banking Finance. Master in Audit and Business Management. Member of the IFRS Adoption Project for entities supervised by the Central Bank of Uruguay, and for the design of the information and taxonomy regime under XBRL. Professor of the General Accounting Academic Unit of the Faculty of Economic Sciences and Administration - UDELAR.

José Luis Carreño Gómez, Accounting Expert of CEMLA Technical Assistance Program - Banco de España
Academic of the Faculty of Economics and Business (FEN), of the University of Chile. Head of the Department of Financial Entities and Conglomerates of the Commission for the Financial Market (CMF). MBA, mention Finance, University of Chile. Information and Management Control Engineer, Universidad de Chile. Accountant Auditor, University of Chile.

Mauricio Guevara Guzmán, Accounting Expert of CEMLA Technical Assistance Program - Banco de España
Public accountant. Specialization in Finance of INCAE. Director of the Finance and Accounting Division of Banco Central de Costa Rica, Member of the Accounting Committee of CEMLA and the Audit Committee of Consejo Monetario Centroamericano. IFRS Trainer of the Public Accountants College of Costa Rica. Professor of the University of Costa Rica. He was Regional Coordinator of Finance at IUCN-Mesoamerica. He has several publications on IFRS issues with the Instituto Mexicano of Public Accountants.

Juan Carlos Salazar, Banco Central de Chile, Head of Accounting Management Department - General Accountant of Banco Central de Chile
Diploma in International Accounting Standards IFRS-IFRS University of Santiago, Chile. Diploma in Management and Financial Strategies, University of Chile. Member of the Accounting Committee of CEMLA. Professor of the Accountant Career Auditor of the Faculty of Economics and Business of the Diego Portales University.

 

• CEMLA Technical Assistance Program – Banco de España for the Strengthening of the Accounting Regulatory Framework
• IFRS standards