Under Section 9 of FRS 105 a micro entity records loans, debtors, creditors and derivatives at cost, meaning the transaction price, and never remeasures them to fair value. Interest is spread at the contractual rate rather than an effective interest rate, material arrangement fees are spread on a straight line basis, interest free loans stay at face value, and derivatives are carried at the premium paid less amounts released to profit.
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Which items does Section 9 cover?
Section 9 deals with the recognition, derecognition, measurement and disclosure of financial assets and financial liabilities (paragraph 9.1). Paragraph 9.2 gives examples: cash, trade debtors and creditors, commercial paper and bills, bank deposits, bonds and loans, investments, and derivatives such as options, forwards and interest rate swaps. Excluded are the company’s own equity, leases, employee benefit plans, share based payment, financial guarantee contracts dealt with in Section 16, and most rights under customer contracts other than receivables and accrued income (paragraph 9.3). Investments in shares are covered separately in how micro entities account for investments.
How is a loan or debtor first recorded?
A financial asset or liability is recognised only when the micro entity becomes a party to the contract (paragraph 9.4) and is initially measured at cost, being the transaction price (paragraph 9.5). For a loan that is the amount borrowed or lent; for trade debtors and creditors it is normally the invoice price. Two exceptions apply where payment is deferred. If the company buys stock, fixed assets or investment property on deferred terms beyond normal credit, the cost is the cash price at the transaction date (paragraph 9.6). If it sells goods or services and expects payment to be deferred both for more than 12 months and beyond normal credit terms, the transaction price is also the cash price (paragraph 9.6A). The difference is then treated as interest, spread on a straight line basis (paragraph 9.14(a)).
Transaction costs, such as a bank arrangement fee, are deducted from the cost of a liability or added to the cost of an asset, unless they are immaterial, in which case they are expensed at once (paragraph 9.7).
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How are loans measured after that, without effective interest?
Paragraph 9.12 builds the year end carrying amount from simple components: the transaction price, adjusted for transaction costs not yet expensed, plus interest recognised to date, less all repayments and interest paid or received, less any impairment of an asset. Interest is allocated at a constant rate on the carrying amount excluding unamortised transaction costs, and the applicable rate will normally be the contractual rate, fixed or variable (paragraph 9.14(b)). Transaction costs are released to profit or loss on a straight line basis over the term (paragraph 9.15).
This is the main departure from FRS 102. The FRC explains that the effective interest rate method is considered too onerous for micro entities, so FRS 105 simplifies the allocation of interest and transaction costs (Basis for Conclusions paragraph 19(h)). Under FRS 102 the fee would be built into an effective rate; see loan arrangement fees and effective interest.
Worked example
Illustration only. On 1 January a micro entity borrows £50,000 over five years at 6 per cent fixed, interest paid annually, and pays a material arrangement fee of £2,000.
| Item | Year 1 |
|---|---|
| Initial carrying amount (£50,000 less £2,000) | £48,000 |
| Interest expense at the contractual 6% on £50,000 | £3,000 |
| Arrangement fee released on a straight line basis | £400 |
| Interest paid | (£3,000) |
| Carrying amount at year end | £48,400 |
The profit and loss charge is £3,400 in each year. FRS 105 contains a similar example of its own after paragraph 9.15.
What about interest free and director loans?
FRS 105 removes the requirement to impute a market rate of interest where a loan is made at a non market rate, because the cost of doing so would exceed the benefit (Basis for Conclusions paragraph 19(i)). A director’s interest free loan to the company is therefore simply recorded at the amount advanced and carried at that amount until repaid. The same applies to an interest free loan the company makes to someone else: FRS 105 Example 2 under paragraph 9.15 records an interest free loan of 900 at its transaction price and only reduces it when part becomes uncollectable. The tax rules on overdrawn director loans are separate; see section 455 tax and, for the FRS 102 contrast, directors’ loans under FRS 102.
How are derivatives accounted for?
Derivatives are never marked to market. The transaction price, such as an option premium or a fee for a forward contract, plus capitalised transaction costs less any impairment, is allocated to profit or loss over the term of the contract on a straight line basis unless another systematic basis is more appropriate (paragraph 9.10). Payments and receipts under the contract are recognised as they accrue (paragraph 9.11). A forward contract that cost nothing to enter therefore has no balance sheet value at all.
Two safeguards apply. An asset that is a derivative is impaired if its carrying amount exceeds fair value less costs to sell (paragraph 9.18(b)). And at each reporting date a derivative must be assessed to see whether it is onerous, meaning the unavoidable payments exceed the expected benefits; a provision is then made under Section 16 (paragraph 9.20). The FRS 105 example contrasts an interest rate swap that still hedges a loan, which is not onerous even if payments exceed receipts, with a swap left in place after the loan is repaid, which is. Where a trading transaction is covered by a matching forward contract, the transaction is recorded at the rate in that contract rather than the spot rate, and is not retranslated at the year end (paragraphs 25.3(b) and 25.5).
When must a debtor or loan asset be written down?
At every reporting date the micro entity assesses whether there is evidence of impairment (paragraph 9.16). The evidence listed includes significant financial difficulty of the debtor, default or late payment, a concession granted because of the debtor’s difficulty, probable insolvency, declining market values and adverse changes in the debtor’s environment (paragraph 9.17). For loans and debtors, the loss is the excess of carrying amount over the estimated net cash flows, discounted at the current contractual rate where the time value of money is material (paragraph 9.18(c)). A reversal is recognised if the loss later decreases because of a subsequent event (paragraph 9.19).
When does a debt come off the balance sheet?
A financial asset is derecognised when the rights expire or are settled, when substantially all risks and rewards are transferred, or when no future benefits are expected (paragraph 9.21). If proceeds are received but the conditions are not met, the asset stays and a liability is recognised (paragraph 9.23). The standard’s factoring examples show the difference: debts sold without recourse are derecognised, but where the company must buy back debts more than 120 days in arrears, it keeps the debtors and treats the proceeds as a loan. A liability is derecognised only when it is discharged, cancelled or expires (paragraph 9.25).
Does this change the tax figures?
For companies, loan relationship debits and credits generally follow the amounts recognised in profit or loss under generally accepted accounting practice (section 307(2) of the Corporation Tax Act 2009). So the simpler FRS 105 interest and fee pattern normally flows straight into the tax computation, subject to the specific loan relationship rules. See loan relationships basics.
Common mistakes
- Discounting a director’s interest free loan or imputing notional interest, which FRS 105 does not require.
- Recognising a fair value gain or loss on a swap or forward contract.
- Ignoring an interest rate swap that became onerous after the loan it hedged was repaid.
- Derecognising factored debts where the company still bears the bad debt risk.
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Related Accountapedia entries
- IFRS 7 financial instruments disclosures
- FRS 102 Section 12: other financial instruments
- FRS 102 Section 11: basic financial instruments
- Moving from FRS 105 to FRS 102
- Directors’ loans under FRS 102
Sources
Reviewed by Christine Anderson, Broker, Solar Protect. Last reviewed 24 October 2026. Part of Accountapedia, the Solar Protect guide to UK tax and accounting. This page is general information, not personalised advice.