15 May Entry Into Force Of IFRS 9 In Mexico, Are You Ready?
By: Georgina Navarrete, Subject Matter Expert Mexico
In the 2008 financial crisis, some countries identified insufficient and late recognition of credit losses as one of the weaknesses in existing accounting standards, which is why in 2014 the International Financial Reporting Standard (IFRS 9) was issued. This was the basis for the publication in Mexico of 10 financial reporting standards and update of the accounting criteria applicable to credit institutions, which will come into effect on January 1, 2021.
But what challenges does the application and implementation of this standard imply for financial institutions? What financial impact will it represent for the institutions? And mainly, do the entities have sufficient resources and knowledge to adopt the standard?
Although it is estimated that the application of this standard will have a greater impact on financial institutions due to its complexity and type of instruments, it implies a challenge for the rest of the companies as it involves changes in the valuation and deterioration of financial assets, application of new accounting criteria, implementation and/or improvement of robust information management platforms and redefinition of the risk management strategy carried out in the entity. The modifications made by the regulator to the regulations impact various items in the financial statements of the banks, where we highlight the following:
Updates of the accounting criteria applicable to credit institutions in Mexico:
Estimate of expected loss considering the new risk stages:
In order to identify the level of impairment of the credit portfolio before the default by the borrower, the concepts of current and past due portfolio were modified to incorporate the risk levels by stages.
Recognition of credit losses no longer depends on a loss event occurring. In this new methodology, the identification of the level of impairment must be before the default, for which the following are considered:
- Credit risk indicators
- Risk in other instruments of the same borrower
- Late payment
- Collateral values
- Deterioration in market indicators
- Changes in the value of guarantees
- Operating results of the borrower and the economic environment, etc.
So, when modifying the deterioration variables, portfolio levels and other concepts, how is the calculation of preventive reserves modified? Well, this point is well worth further analysis, but roughly in the standard approach the calculations hold the main variables (probability of default, severity of loss and exposure to default) and will compute depending on the risk level of the purse.
Another aspect to consider is the updating of the qualification and provisioning method applicable to credits for investment projects, which now divides projects into subgroups:
- Investment projects
- Commodities or commodities
- Income-generating real estate
Additionally, it identifies the stages in which the project or asset is located and once this has been done, a series of indicators are analyzed to determine the qualitative and quantitative score of each loan, which in the new regulation do not leave room for criteria subjective by the bank and / or regulator.
Incorporation of internal methodologies for measuring credit risk:
Internal methodologies for the measurement of credit risk are incorporated and institutions that are able to adopt internal models under the approach of NIF C-16 should consider the following:
- Its internal models must be integrated with risk management models
- Incorporate estimates of macroeconomic factors into estimates of reserves
- Request approval from the regulator for the implementation of the methodology
- An annual technical evaluation of compliance with the methodology must be carried out
It is important to note that banks may use an Internal Reserve Methodology according to the basic or advanced approach for the Commercial Credit Portfolio, the advanced approach for consumer and mortgage portfolios, and for portfolios that are not included in the relevant modellable portfolios. they will be qualified according to the General Standard Methodology.
Updates to the disclosure of financial information:
Due to the application of IFRS 9 in Mexico, the modifications will be reflected in the disclosure of periodic financial information that is sent to regulators, therefore the following is highlighted regarding the modifications to the regulatory reports:
- The number of reports related to the credit portfolio is considerably reduced as the information on the commercial portfolio is consolidated.
- Reports are incorporated to report on loans granted to investment projects by subgroups and each of the variables that make up the reserve calculation methodology.
- The financial information reports are updated because some items are incorporated and / or removed.
So, what is next in Mexico?
The Financial Institutions in Mexico face different challenges in order to achieve a successful implementation of IFRS 9 standards, since a greater demand is now required in the modeling of portfolios and their variables, a measurement of the financial impact of the possible increase in reserves (depending on the type and status of the portfolio), better information analysis, increased traceability, quality, punctuality and integrity in the delivery of information, definition of a robust internal control system that improves operational efficiency and ensures of compliance with internal and regulatory policies.
It also requires a data memory of the adjustments made, as well as measurement of their impact and reconciliation of the data with their sources, and finally, greater involvement of the Entity’s corporate governance so that decision-making is aligned to the risk management framework, regulatory compliance and objectives, as well as operating rules by business.
However, it is likely that in times of uncertainty and probable crisis it will be difficult to incorporate or quantify the specific effects of this rule and to know if there will be government support measures, but according to the document called “IFRS 9 and Covid 19” published By IFRS, economic conditions should be reflected in macroeconomic scenarios applied by entities in their models and make the appropriate adjustments. Likewise, the environment should be monitored to update facts and circumstances as new information becomes available.
If you want to know how AxiomSL can help you comply with IFRS 9 requirements, please contact us here.