IFRS 9 Financial Assets: Classification, Business Model and Measurement

A company holds cash, trade receivables, loans it has made, bonds it has bought and shares in other companies. They are all financial assets, but they are not all measured the same way. A loan the company will hold until it is repaid is shown at its amortised cost, while a share bought to sell next month is shown at fair value with changes in profit.

International Financial Reporting Standard (IFRS) 9 Financial Instruments decides which measurement applies to each financial asset by looking at why the entity holds it and what cash flows it produces. This topic covers the definitions, recognition and initial measurement, the two classification tests, the three measurement categories, equity investments and reclassification. The next topic covers financial liabilities.

The topic is examined directly. In May Diet, 2023, Question 5 asked for the meaning of financial asset and financial liability (3 marks) and for a description with examples of the three categories of financial assets (7 marks). Financial assets at fair value also appear as adjustments in the main accounts questions in May Diet, 2023 and May Diet, 2026. Read fair value measurement first.

Definitions and recognition

A financial instrument is any contract that gives rise to a financial asset of one entity and a financial liability or equity instrument of another.

A financial asset is any asset that is: cash; an equity instrument of another entity; a contractual right to receive cash or another financial asset from another entity, or to exchange financial assets or liabilities with another entity under conditions potentially favourable to the entity; or a contract that will or may be settled in the entity’s own equity instruments in certain circumstances.

A financial liability is a contractual obligation to deliver cash or another financial asset, or to exchange financial instruments on potentially unfavourable terms. An equity instrument is a contract that evidences a residual interest in the assets of an entity after deducting all its liabilities. Trade receivables, loans, bonds held, investments in shares and derivatives are financial assets.

Prepayments, inventory and tax assets are not, because they lead to goods, services or tax, not cash.

An entity recognises a financial asset when it becomes a party to the contractual provisions of the instrument. At initial measurement a financial asset is at fair value, plus transaction costs directly attributable to its acquisition unless it is classified at fair value through profit or loss, when the costs are expensed. Trade receivables without a significant financing component are measured at their transaction price.

Classification: the two tests

The business model test

The business model is how the entity manages its financial assets to generate cash flows: by collecting contractual cash flows, by selling the assets, or both. It is a matter of fact observed from how the business is run, not an intention for a single asset. A bank that makes loans to hold until repayment collects cash flows.

A treasury that holds liquid bonds and sells them as needs arise does both. A trading desk that buys to sell for short-term gains is a different model.

The contractual cash flow (SPPI) test

The terms of a debt instrument must give rise on specified dates to cash flows that are solely payments of principal and interest on the principal amount outstanding. Principal is the fair value at initial recognition (and may change with repayments). Interest is consideration for the time value of money and credit risk, and may include other basic lending costs and a profit margin.

A loan whose interest rises with the borrower’s share price, or a convertible bond, fails the test, because its returns are not only principal and interest.

The three measurement categories

• Amortised cost. Both conditions: held to collect contractual cash flows, and SPPI. Examples: loans, trade receivables, bonds held to maturity. Interest is recognised in profit or loss using the effective interest method, with the carrying amount increased by interest and reduced by cash received. Impairment is covered in a later topic.
• Fair value through other comprehensive income (FVOCI). Both conditions: held both to collect and to sell, and SPPI. Interest (by the effective interest method) and impairment go to profit or loss, other fair value changes go to other comprehensive income, and the accumulated amount is recycled to profit or loss on derecognition.
• Fair value through profit or loss (FVTPL). Everything that does not meet the other two, including derivatives, assets held for trading, and debt instruments that fail the SPPI test. Fair value changes are in profit or loss. An entity may designate an asset at FVTPL on initial recognition if that eliminates or significantly reduces an accounting mismatch.

For example, an entity buys a five-year bond with a face value of ₦1,000,000 and a coupon of 6% for ₦950,000 including costs, holds it to collect, and the effective interest rate is 7.2269%. In year 1, interest income is ₦950,000 × 7.2269% = ₦68,656, the cash received is ₦60,000, and the carrying amount rises to ₦950,000 + ₦68,656 − ₦60,000 = ₦958,656. In year 2, interest income is ₦958,656 × 7.2269% = ₦69,281 and the carrying amount is ₦967,937. By maturity it reaches ₦1,000,000.

If the same bond were held to collect and to sell and its fair value were ₦970,000 at the end of year 1, the ₦11,344 difference from amortised cost (₦970,000 − ₦958,656) would go to other comprehensive income.

Equity investments

Investments in equity instruments cannot pass the SPPI test, so they are at FVTPL by default. If the equity investment is not held for trading, the entity may make an irrevocable election at initial recognition to present subsequent fair value changes in other comprehensive income.

If it does, the transaction costs are included in the initial carrying amount, gains and losses in other comprehensive income are never recycled to profit or loss (though they may be transferred within equity), and only dividends are recognised in profit or loss.

An entity buys shares for ₦2,000,000 plus transaction costs of ₦30,000. At the year end the fair value is ₦2,300,000. As FVTPL, the costs are expensed and the gain is ₦2,300,000 − ₦2,000,000 = ₦300,000 in profit or loss. If the FVOCI election was made, the shares start at ₦2,030,000 and the gain is ₦2,300,000 − ₦2,030,000 = ₦270,000 in other comprehensive income.

Reclassification

Financial assets are reclassified only when the entity changes its business model for managing them, which is expected to be very infrequent. The change is applied prospectively from the reclassification date, without restating gains, losses or interest recognised before. Equity investments and designations at FVTPL are not reclassified. Derecognition of financial assets is covered with liabilities in the next topic.

The ideas in more depth

Why two tests

A plain loan held to collect gives a stable income stream, and amortised cost reports it that way. Where the entity actively trades or the cash flows depend on something other than interest, fair value is more informative. The two tests together separate the first kind from the rest.

Why the equity election has no recycling

Equity returns come from dividends and price changes. The election lets an entity keep long-term strategic holdings out of profit volatility, and the ban on recycling stops it from moving gains into profit by choosing when to sell.

Sources and references

• IFRS 9 Financial Instruments: scope and definitions, recognition, classification of financial assets, initial and subsequent measurement, the equity election, and reclassification.
• International Accounting Standard (IAS) 32 Financial Instruments: Presentation, for the definitions.

These points are stated as at 5 November 2026.

Worked examples

1. Year 1 interest.
   ₦950,000 × 7.2269% = ₦68,656.
2. Year 1 carrying amount.
   ₦950,000 + ₦68,656 − ₦60,000 = ₦958,656.
3. Year 2 interest.
   ₦958,656 × 7.2269% = ₦69,281.
4. Year 2 carrying amount.
   ₦958,656 + ₦69,281 − ₦60,000 = ₦967,937.

1. FVTPL. Initial ₦2,000,000; costs ₦30,000 expensed; gain ₦300,000 in profit or loss; dividend ₦50,000 in profit or loss.
2. FVOCI election. Initial ₦2,030,000; gain ₦270,000 in other comprehensive income; dividend ₦50,000 in profit or loss.

1. (a) Hold to collect, SPPI: amortised cost.
2. (b) Collect and sell, SPPI: FVOCI.
3. (c) FVTPL.
4. (d) The cash flows are not solely principal and interest: FVTPL.

How to answer in the exam

• Define first. Financial asset, financial liability, equity instrument in one line each.
• Name both tests. Business model, then SPPI. State the category with a reason and an example.
• Show the schedule. Opening, interest at the effective rate, cash, closing. Do it for each year asked.
• Equity. State the default and the election, then compute the gain and say where it goes.

Common mistakes in the exam

• Classifying equity shares at amortised cost.
• Adding transaction costs to a financial asset at FVTPL.
• Recycling FVOCI equity gains to profit or loss.
• Using the coupon rate instead of the effective rate to calculate interest income.
• Forgetting that the cash received reduces the carrying amount.
• Reclassifying because the entity changed its mind about one asset.

Quick revision

• Tests: business model and SPPI.
• Hold to collect and SPPI: amortised cost. Collect and sell and SPPI: FVOCI. Other: FVTPL.
• Equity: FVTPL by default; irrevocable FVOCI election if not held for trading; no recycling; dividends in profit or loss.
• Initial: fair value plus costs (not for FVTPL). Reclassify only on a business model change.

Practice questions

These are original questions written in the style of the Institute’s exams. Try each one before you open the answer. Section A is a recall check, because the paper itself is written.

Recall check: multiple choice

Section B style: written questions

A further written question

Model answers

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