IFRS/IAS Summary

IAS-21 - The effects of changes in foreign exchange rates (Revised Dec 2003)

Objective of IAS 21

The objective of IAS 21 is to prescribe the accounting treatment for foreign currency transactions and the translation of the financial statements of foreign operations.

Key Definitions [IAS 21.7-8]

Foreign currency transaction: A transaction denominated or settlable in a foreign currency.

Foreign operation: A subsidiary, associate, joint venture, or branch whose activities are based in a country other than that of the reporting enterprise.

Foreign entity: A foreign operation whose activities are not integral to those of the reporting enterprise.

Foreign Currency Transactions

A foreign currency transaction should be recorded initially at the rate of exchange at the date of the transaction (use of averages is permitted if they are a reasonable approximation of actual). [IAS 21.9]

At each subsequent balance sheet date, foreign currency monetary amounts should be reported using the closing rate and non-monetary items should be reported using the exchange rate at the date of the transaction (where the item is carried at historical cost) or at the rate that existed when the values were determined ( for non-monetary items carried at fair value). [IAS 21.11]

Differences arising on the settlement or on the retranslation of monetary items at rates different to those at which they were originally recorded should be dealt with as income/expense in the period in which they arise. [IAS 21.15] An exception is allowed when there has been a severe devaluation of a currency against which there is no practical means of hedging, affecting liabilities which cannot be settled and which arise directly from the recent acquisition of an asset invoiced in a foreign currency. In such circumstances, the difference may be added to the carrying amount of the related asset, provided that the resultant amount does not exceed the recoverable amount of the asset. Capitalisation of exchange losses in these circumstances is an allowed alternative, not a requirement. [IAS 21.21]

The exception arising in the case of a severe devaluation of a currency can only be applied where the relevant liabilities could not have been settled and it was impracticable to hedge them prior to the severe devaluation or depreciation of the reporting currency. These circumstances are expected to occur very rarely. [SIC 11]

Differences arising on a monetary item that, in substance, forms part of an investment in a foreign entity (settlement neither planned nor likely to occur) should be recognised in equity until the disposal of the net investment, at which time they should be recognised as income/expense. [IAS 21.17]

Differences arising on a foreign currency liability accounted for as a hedge of an enterprise's net investment in a foreign entity should be recognised in equity until the disposal of the investment, at which time they should be recognised as income/expense. [IAS 21.19]

Translation of Financial Statements of Foreign Operations

The financial statements of foreign operations that are integral to the operations of the reporting enterprise should be translated using the temporal method (that is, as if all of the transactions had been entered into by the reporting enterprise itself). Translation adjustments are included in net income. [IAS 21.27]

The financial statements of self-sustaining (non-integral) foreign entities are translated as follows: [IAS 21.30]

  • assets and liabilities are translated at the closing rate;
  • income and expenses are translated at the rates ruling at the date of the transaction (use of averages acceptable), except when the entity reports in the currency of a hyperinflationary economy, when the closing rate should be used;
  • translation adjustments are reported as a separate component of shareholders' equity; and
  • the amount of the exchange differences previously deferred should be recognised as income or expense in the period in which any gain or loss on disposal of the entity is recognised.

Any goodwill and fair value adjustments arising on acquisition of a foreign entity and may be translated using either: [IAS 21.33]

  • closing rate; or
  • exchange rate at the date of the acquisition.

Where the foreign entity reports in the currency of a hyperinflationary economy, the financial statements of the foreign entity should be restated as required by IAS 29, Financial Reporting in Hyperinflationary Economies, before translation into the reporting currency. [IAS 21.36]

The requirements of IAS 21 regarding transactions and translation of financial statements should be strictly applied in the changeover of the national currencies of participating Member States of the European Union to the euro - monetary assets and liabilities should continue to be translated the closing rate, cumulative exchange differences should remain in equity and exchange differences resulting from the translation of liabilities denominated in participating currencies should not be included in the carrying amount of related assets. [SIC 7]

Disclosure

  • Amount of exchange differences included in net profit or loss [IAS 21.42]
  • Amount of exchange difference reported as a separate component of equity, with a reconciliation of such amounts at the beginning and the end of the period [IAS 21.42]
  • Amount of exchange differences arising during the period that is included in the carrying amount of an asset due to a severe devaluation situation [IAS 21.42]
  • Explanation when the reporting currency is different from the currency of the reporting enterprise's domicile [IAS 21.43]
  • Change in reporting currency [IAS 21.43]
  • Change in classification of a significant foreign operation [IAS 21.44]
  • Method for translating goodwill and fair value adjustments arising on the acquisition of a foreign entity [IAS 21.45]

Note:  Please note that these summaries are only for reference purposes and are not a substitute for the entire IFRS/IAS. Kindly read the whole text of IFRS/IAS before consulting these summaries.

Summaries are courtesy of Deloitte.


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