Major Accounting standards on
Financial Instruments

The development of accounting standards for financial instruments has essentially been shaped by the need to report the off-balance-sheet exposures that entities might have to derivative contracts, which under traditional reporting norms are not reported, as derivatives do not have an investment to begin with, and therefore, no cost to report.

The banking world was rudely shaken by large scale failures such as Barings Bank collapse in February 1995. This was preceded by large derivatives-related losses in several corporations such as Proctor and Gamble and Gibson Greetings. Accounting standard setters realised that the existing historical cost convention was wholly unfit for financial instruments where the historical cost may give no indication of the inherent risks.

A global concern developed for rewriting accounting standards for financial instruments. In 1993, the Global Derivatives Study Group made certain recommendations which included setting of accounting standards for derivatives. As the market continues to develop new techniques and gets increasingly globalised, the standard setters are obviously at a never-before loss as over last 5 years, the amount of literature that has been written on financial instrument accounting, both from the standard setting bodies themselves as also from others, is truly mind boggling.

Development of US accounting standards on financial instruments:

Here is a brief run down of the significant standards in the USA relating to financial instruments:

FASB 80 (1984) "Accounting for Futures Contracts" - This ruling established standards of accounting for exchange-traded futures contracts (other than foreign currency futures). It required that a change in the market value of an open futures contract be recognized as a gain or loss in the period of the change unless the contract qualifies as a hedge of certain exposures to price or interest rate risk.

FASB 105 (1990) "Disclosure of Information about Financial Instruments with Off-Balance Sheet Risk and Financial Instruments with Concentrations of Credit Risk" - This standard, which applies primarily to swap contracts, required disclosure of the face or contract amount; the nature and terms of the instrument; the cash requirements of the instruments; the related accounting policy; the accounting loss the entity would incur if any party to the financial instruments failed to perform according to the terms of the contract; the collateral or other security if the amount proved to be of no value to the entity; the entity's policy for requiring collateral or other security on financial instruments it accepts; and a description of collateral on instruments presently held. No fair value disclosure was required by FASB 105.

FASB 107 (1991) "Disclosure about Fair Value of Financial Instruments" - This standard requires all entities to disclose the fair value of financial instruments in the notes to their financial reports. If it was "not practicable" to determine fair value, information on how the market value was estimated was to be disclosed. However, FASB 107 does not require fair values in the primary financial statements. Historical costs are shown on the balance sheet itself.

FASB 119 (1994) "Disclosure about Derivative Financial Instruments and Fair Value of Financial Instruments" - This standard requires disclosure of amounts, nature, and terms of derivative financial instruments that are not subject to FASB 105 because they do not result in off-balance-sheet risk of accounting loss. It is applicable to derivative financial instruments such as futures, forwards, swaps, option contracts and other financial instruments with similar characteristics.

Deliberations for FASB 133 began as early as in 1992 but the standard finally became effective for accounting statements beginning after 15th June, 2000.

History of IAS 39: