Under FRS 109, impairment allowance on trade receivables would be measured as follows:
Only impairment losses recognised in the profit and loss account (“P&L”) in respect of credit-impaired financial instruments on revenue account (such as trade receivables) are allowable as a deduction. Such impairment losses that are allowed as a deduction and subsequently reversed and recognised in the P&L will be subject to tax.
For impairment losses in respect of non-credit impaired financial instruments / 12 month expected credit loss, no deduction is allowable even if the financial instruments are on revenue account (although special rules apply for banks and qualifying finance companies).
To support a deduction claim for impairment losses made on trade receivables, companies should maintain documentary evidence to support that the impairment losses are credit impaired. Details are as set out in 3. below.
Details regarding expected credit loss are as follows:
1. The portion of lifetime expected credit losses that represent the expected credit losses that result from default events on a financial instrument that are possible within the 12 months after the reporting date.
2. The expected credit losses that result from all possible default events over the expected life of a financial instrument.
3. A financial asset is credit-impaired when one or more events that have a detrimental impact on the estimated future cash flows of that financial asset have occurred. Evidence that a financial asset is credit-impaired include observable data about the following events:
- significant financial difficulty of the issuer or the borrower;
- a breach of contract, such as a default or past due event;
- the lender(s) of the borrower, for economic or contractual reasons relating to the borrower’s financial difficulty, having granted to the borrower a concession(s) that the lender(s) would not otherwise consider;
- it is becoming probable that the borrower will enter bankruptcy or other financial reorganisation;
- the disappearance of an active market for that financial asset because of financial difficulties; or
- the purchase or origination of a financial asset at a deep discount that reflects the incurred credit losses.
It may not be possible to identify a single discrete event—instead, the combined effect of several events may have caused financial assets to become credit-impaired.