CFM92478 - Debt Cap: the available amount: fair value mismatches

This guidance applies to worldwide group periods of account ending before or straddling 1 April 2017.

The Mismatch Regulations: Fair Value Adjustments Example

Regulations 3 and 4 of the Mismatch Regulations deal with differences arising between the available amount and the financing expense amount of relevant group companies as a result of fair value accounting.

There are a number of reasons why the accounting treatment of a particular liability might differ between the consolidated accounts and the company’s single entity accounts. One of the most common cases is where the liability is the hedged item in a fair value hedge of interest rate risk.

For example is a UK company issues £100m worth of bonds on the first day of its accounting period on which they pay interest at 6% (or £6m per year). The full £6m will be shown as a financing expense in the consolidated accounts of the worldwide group so will be included in the available amount.

However, the company issuing the bonds hedges its interest rate exposure by using an interest rate swap to swap fixed rate interest for floating rate interest. If the company has adopted IAS 39/ IFRS 9 (or equivalent standards within UK GAAP) it is likely to designate the swap as a fair value hedge of the bond liability. This means that fair value changes in the bond liability, as far as they are attributable to interest rate risk are brought into account in the income statement. Since the swap will also be measured at fair value the changes in value will also be taken to the income statement. If the swap is completely effective these two amounts will cancel each other out.

The company will bring into account as tax amounts the fair value changes as loan relationship debits and credits in addition to the interest paid on the bonds. The loan relationship debits will be financing expenses and the credits will be financing income amounts. Unless the swap is completely effective the financing expense of the company will not equal the available amount.