Guys, have does the impairment recognition works for AFS bonds? Short example the cost was 10, imapirment 3 and additionally 2 unrealized loss. Therefore the fair value is 5. Do I understand correctly that in this case 2 is reported in OCI and 3 in income statement with corresponding entry in OCI? In the following period the fair value of security is 7 - what happens than? And what happens in fair value is 11? May I value the investment to 11 or the maximum value is 7? Thanks for explanation!
Hello tgrycner, So I think your initial treatment is correct; if initial cost (and fair value too?) is 10, and it is then impaired by 3, your fair value is now 7, but there is still the issue of the unrealized loss now. I’m not sure what you mean by an additional unrealized loss of 2. The only way I can see that happenening is if the credit rating of the issuer has dropped for default/likely bankruptcy/etc, bringing the value down to 7, which is considered a permanent impairment. Then, for whatever reason, there is an additional unrealized loss of 2, which is not considered permanent for some reason. Is that the case? In any case, if 5 is all you can get for it, then that’s the fair value. The impairment of 3 (if considered permanent which I assume it is) is a loss that is required to be recognized on the Income Statement in the current period. On balance sheet, OCI is also hit by 3. The unrealized loss of 2 definitely goes into OCI against that bond, but if it’s not considered a permanent loss, you don’t recognize it on your income statement until it’s realized. OCI is still hit by 2 though, and since AFS securities are reported at fair value, you have to list it at 5 (10-3-2=5). Impairment recoveries are allowed and can be reversed (unless you’re talking US GAAP, and the subject is PP&E rather than a security, but that’s another mess). It would have to be stated that the recovery is a permanent one, and not just some fluke of market volatility in order to add that recovery back to earnings in your current period. Either way though, on your balance sheet, you need to list your AFS security at fair value, so do that and make the necessary OCI account and bond account adjustments. This is how I would treat it based on what I’ve read in the text, but I may have misunderstood something. I’m standing behind this answer with about 80% confidence.
the 2nd recovery was not an impairment recovery. it was a fair market value at the end of the period. it would go in, in my mind as an unrealized g/l of 2$ gain when value was 7$, 6$ gain when 11$. Both these Unrealized G/L would go to the OCI, since it is an AFS security. The carrying value remained 7$ – 10 - Original Impairment Loss of 3$ – and this is what would be used to determine what amount moves from OCI to the Income statement, if and when this security is sold.