International Financial Reporting Standard (IFRS) 9 was issued by the International Accounting Standards Board (IASB) and forms part of the body’s response to the global financial crisis. Amongst its provisions, it will require firms to account for expected credit losses at the point that they first recognize financial instruments, and to recognize full lifetime expected losses at an earlier stage.

“The reforms introduced by IFRS 9 are much-needed improvements to the reporting of financial instruments and are consistent with requests from the G20, the Financial Stability Board and others for a forward-looking approach to loan-loss provisioning,” said IASB chair Hans Hoogervorst. “The new standard will enhance investor confidence in banks’ balance sheets and the financial system as a whole.”

The IFRS rules are designed as a common global standard to be used by listed companies when compiling their accounts, in order to make them understandable and easy to compare across international boundaries. More than 100 countries currently require or allow the use of IFRS, although the U.S. is a notable exception. The U.S. Generally Accepted Accounting Principles (U.S. GAAP) are overseen by the Financial Accounting Standards Board (FASB).

The new standard is designed to address concerns which emerged following the global financial crisis that banks were unable to account for losses until they were incurred, even when it was apparent to them that they were going to experience those losses. Under IFRS 9, the ‘impairment model’ used by banks will change from ‘incurred loss’ to ‘expected loss’, requiring them to set aside sufficient capital to cover expected losses over the next 12 months. In addition, they will be required to record lifetime expected losses if credit risks increase significantly.

The new impairment model features a three-stage approach to loan loss provisioning, based on ongoing assessment of the level of credit risk, which will apply regardless of the type of asset. Loans will be categorized as performing, underperforming and non-performing, and will be able to move between these categories depending on changes to credit loss expectations.