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Amendments to IAS 1 - classification of liabilities with covenants

The International Accounting Standards Board (IASB) has published amendments to IAS 1 Classification of Liabilities as Current or Non-current that will be effective for periods beginning on or after 1 January 2024. The application of the amendments is subject to endorsement in the UK by the UK Endorsement Board (UKEB).

The amendments clarify the criteria for determining whether to classify a liability as current or non-current and cover what additional disclosures may also be required for liabilities subject to covenants.

It’s important that entities consider the impact of these amendments. Here, we dive deeper into the changes, explore their potential impact, and provide actionable steps you can take to implement these amendments effectively.

Understanding the key changes to IAS 1 and how they will impact financial statements.

The key changes to IAS 1 from the amendments include:

Understanding how the IAS 1 amendments will affect the classification of liabilities

The IAS 1 amendments clarify that only covenants an entity must comply with on or before the reporting period impact the classification of liabilities, even if covenant compliance is assessed after the reporting period.

Example: a covenant based on the entity’s financial position at the end of their year-end of 31 December 2023, but an assessment for compliance is undertaken in February 2024.

Covenants that exist after the reporting period, do not impact classification.

Example: an entity with a year-end of 31 December 2023 would not need to take into account a covenant that must be complied with on 30 June 2024 when determining the classification of the liability.

For entities with liabilities that include a conversion option, the amendments clarify the classification of the host liability.

Under IAS 32 Financial Instruments: Presentation, a liability that provides the counterparty with the option to settle the liability would recognise the conversion option separately from the host debt, either as equity or a liability.

The amendments to IAS 1 clarify that the classification of the host liability as current or non-current should ignore conversion options that are recognised as equity. However, where the conversion option is recognised as a liability, the terms of the conversion option will impact the classification of the host liability as current or non-current.

Example: if the holder has the option to convert the host liability into the company’s own equity instruments at any time before maturity, the company does not have the right to defer settlement for at least 12 months from the reporting date and would classify the host liability as current.

Next steps

Understanding what additional disclosures will be required

The amendments to IAS 1 introduce additional disclosures for liabilities with covenants within 12 months of the reporting period. These disclosures are to enable financial statement users to understand the risks of the loans becoming repayable within 12 months of the reporting date.

The additional covenant disclosures include:

Next steps

Management will need to ensure that information for disclosures on liabilities with covenants within 12 months of the reporting date is collated for inclusion in their financial statements for periods beginning on or after 1 January 2024.

How RSM can help

We have a dedicated team of accounting and financial reporting experts, experienced in reviewing agreements to help management to determine classification. We can also prepare disclosures required under the amendments.

In addition, if you have difficulties complying with covenants, RSM’s debt advisory experts can help you understand your options.

If you would like to discuss these changes further, please get in touch with Lou Ward or your usual RSM contact.

authors:louise-ward