Return of Capital on Fixed-Income Investment (Bonds)

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Keibri
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Return of Capital on Fixed-Income Investment (Bonds)

Post by Keibri »

Dear all,

I am writing to ask whether someone could assist me with a question I have on Fixed Income Investment from an IFRS stand-point and general accounting principles.

For ease of reference below a simplified example:

An investment company reporting under IFRS which keeps its investments at FVTPL (therefore all fair value and foreign exchanges goes are recorded in the P/L) acquired a fixed-income bond (Bond A) of 100,000 units at a par value of EUR 1. The bond pays annual 5% interest and matures in 5 years time. At the time of acquisition the entry which was recorded was:

DR: Investment in Bond A
CR: Bank

After 2 years, there was a repayment of principal/return of capital for EUR 50,000. From an IFRS stand-point - should the return of principal amount be credited to the P/L or against the Investment in the B/S, i.e.:

Option 1:

DR: Bank
CR: Return on Capital in Bond A (P/L)


Option 2:

DR: Bank
CR: Investment in Bond A

Would really appreciate your kind help


Much appreciated

Keibri
JRSB
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Re: Return of Capital on Fixed-Income Investment (Bonds)

Post by JRSB »

If it's capital coming back then I can't see how that would be a gain in the P&L. there may be a small P&L adjustment to FV because the cash flows are now lower but presumably some risk was assigned in the 50k valuation. Unless you knew about the capital repayment all along and it was just a cash flow factored into the value of the bond anyway
Keibri
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Joined: 21 Dec 2021, 18:02

Re: Return of Capital on Fixed-Income Investment (Bonds)

Post by Keibri »

Thanks for your kind reply and help JRSB, much appreciated :)!

Wishing you a good day
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Marek Muc
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Re: Return of Capital on Fixed-Income Investment (Bonds)

Post by Marek Muc »

There's no way this repayment would not decrease FV of the bond, so both options would effectively mean no impact on P&L. Even under option 1, you would need to recognise a corresponding decrease in FV through P&L
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Marek Muc
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Re: Return of Capital on Fixed-Income Investment (Bonds)

Post by Marek Muc »

PS. and note this section on interest income for such instruments:
https://ifrscommunity.com/knowledge-bas ... est-income
JRSB
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Re: Return of Capital on Fixed-Income Investment (Bonds)

Post by JRSB »

Marek Muc wrote: 22 Dec 2021, 14:42 There's no way this repayment would not decrease FV of the bond, so both options would effectively mean no impact on P&L. Even under option 1, you would need to recognise a corresponding decrease in FV through P&L
That's interesting, so to clarify; I would have had the redemption as Dr Bank Cr Investments 50k. Ie no decrease in P&L because it is the opposite of buying more of the capital. I referred to a small FV adjustment for the difference between cash received and let's say what the expectation was, present valued, in the instrument value. so your journals are:

Dr Bank 50k
Cr Investments 50k
Dr P&L FVTPL loss 50k
Cr ?
Keibri
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Re: Return of Capital on Fixed-Income Investment (Bonds)

Post by Keibri »

Thanks for your reply Marek! this is truly appreciated.

Just to confirm my understanding is correct so if I can add on to this example. The entry to pass when the return of capital occurs would be:

DR Bank EUR 50,000
CR Investment in Bond A EUR 50,000
Being original return of capital after 2 years

If following the 'return of capital' of EUR 50,000 ; the bond's market value would fall to EUR 0.46. Since the investment company still holds the financial asset, the journal entries to pass would be:

DR Fair Value Movements- P/L EUR 4,000
CR Investment in Bond A EUR 4,000 (100,000units * [0.5-0.46])
Being fair value loss following return of capital

Not sure if my understanding is correct?
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Marek Muc
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Re: Return of Capital on Fixed-Income Investment (Bonds)

Post by Marek Muc »

@JRSB
No, my journals are Dr Bank / Cr Investment.

@Keibri
If you see that the FV changes more/less than the EUR 50k then yes, you'll recognise that in P&L as FV gain/loss
Keibri
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Re: Return of Capital on Fixed-Income Investment (Bonds)

Post by Keibri »

Much appreciated Marek for your comprehensive replies!

Thanks a lot
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