Understanding IFRS 9: A Practical Guide with Real-World Scenarios

If you’ve ever wondered why banks sometimes announce billions in “expected credit losses” even before customers stop paying their loans, the answer often lies in IFRS 9.

To many accountants, auditors, and finance professionals, IFRS 9 is one of the most complex accounting standards. Yet, when stripped of the technical language, it is built on a simple principle:

Recognize financial risks before they become financial disasters.

Instead of waiting until a loan goes bad before recording a loss, IFRS 9 requires organizations to anticipate potential losses and account for them early.

Let’s break it down.

What is IFRS 9?

IFRS 9 is an accounting standard issued by the International Accounting Standards Board (IASB). It governs how organizations should:

• Classify financial assets
• Measure financial instruments
• Recognize impairment (credit losses)
• Apply hedge accounting

Although it covers several areas, the section that receives the most attention is Expected Credit Losses (ECL).

This changed how banks, microfinance companies, fintechs, savings institutions and even ordinary businesses account for receivables.

Why was IFRS 9 introduced?

Before IFRS 9, companies followed IAS 39.

Under IAS 39, losses were only recognized after evidence existed that a customer would probably not pay.

Think of it like this.

Imagine your friend hasn’t paid rent for six months.

Under IAS 39 you would only admit the money may never come after those six months.

IFRS 9 says:

“You should have seen the warning signs much earlier.”

That simple change made financial statements far more realistic.

The Three Pillars of IFRS 9

The standard revolves around three major areas.

1. Classification and Measurement

This determines how a financial asset should be accounted for.

Not every financial asset is treated the same.

Some are held simply to collect repayments.

Others are bought and sold for profit.

IFRS 9 classifies them into three categories:

• Amortised Cost
• Fair Value Through Other Comprehensive Income (FVOCI)
• Fair Value Through Profit or Loss (FVTPL)

Amortised Cost

This applies when:

• the business intends to collect contractual cash flows; and
• those cash flows consist solely of principal and interest.

Example:

A bank gives a customer a five-year mortgage.

The bank has no intention of selling that loan.

It simply wants to receive monthly repayments.

This loan is measured at Amortised Cost.

FVOCI

Sometimes an organization wants to collect interest but may also sell the asset if market conditions change.

Example:

A pension fund purchases government bonds.

It plans to receive interest but may sell the bonds if interest rates rise significantly.

Those investments may qualify for FVOCI.

FVTPL

This category captures investments held mainly for trading or speculation.

Example:

An investment company buys shares hoping their prices will increase within weeks.

Those shares are measured at Fair Value Through Profit or Loss.

Every market movement affects profit immediately.

The SPPI Test

One technical term you’ll hear frequently is:

SPPI Test

It stands for:

Solely Payments of Principal and Interest.

Although it sounds intimidating, it asks one straightforward question:

Does this financial asset generate only normal lending returns?

If the answer is yes, it may qualify for Amortised Cost or FVOCI.

If the asset contains unusual features—such as returns linked to commodity prices, cryptocurrency values, or equity performance—it usually fails the SPPI test and is measured at FVTPL.

Business Model Test

IFRS 9 also asks:

Why does the company hold this asset?

This is called the Business Model Assessment.

The intention matters.

Two companies may own the exact same bond.

Company A plans to hold it until maturity.

Company B actively trades it every week.

Same investment.

Different accounting treatment.

Expected Credit Loss (ECL)

Now we reach the heart of IFRS 9.

Expected Credit Losses changed banking forever.

Previously:

No default…

No accounting loss.

Today:

Future risks must be estimated even before customers default.

Understanding Expected Credit Loss

Imagine lending GH?100,000 to ten customers.

Historically,

• nine repay fully
• one defaults.

Although nobody has defaulted yet this year, experience tells you one probably will.

IFRS 9 says you should recognize that expected loss today.

Not later.

The Three Stages of IFRS 9

Every financial asset falls into one of three stages.

Stage 1

The customer is paying on time.

Risk hasn’t increased significantly.

Only 12-month Expected Credit Losses are recognized.

This does not mean losses expected over only 12 months. It means the portion of lifetime losses arising from defaults that could occur in the next 12 months.

Example:

Kwame obtained a personal loan.

He has never missed a payment.

His credit score remains excellent.

His loan stays in Stage 1.

Stage 2

Credit risk has increased significantly.

The customer may still be paying.

However, warning signs exist.

Now the bank recognizes Lifetime Expected Credit Losses.

Common indicators include:

• payments more than 30 days overdue
• declining income
• deteriorating industry conditions
• restructuring requests
• worsening credit scores

Example:

Ama owns a transport business.

Fuel prices have doubled.

Her business income has fallen.

She hasn’t defaulted yet, but she’s now paying late.

The bank moves her loan into Stage 2.

Stage 3

Objective evidence of impairment now exists.

Examples include:

• default
• bankruptcy
• legal recovery
• fraud
• inability to repay

Interest revenue is now calculated differently because the loan is considered credit-impaired.

Example:

A manufacturing company closes permanently.

Its loan has not been serviced for six months.

The loan enters Stage 3.

Real Banking Scenario

Suppose ABC Bank has the following loans.

Each loan receives a different Expected Credit Loss calculation.

How Expected Credit Loss is Calculated

The simplified formula is:

ECL = PD × LGD × EAD

Let’s unpack those acronyms.

PD – Probability of Default

What is the likelihood the borrower will default?

Example:

5%

LGD – Loss Given Default

If the borrower defaults, how much money will actually be lost after recoveries?

Example:

40%

EAD – Exposure at Default

How much money will be outstanding if default occurs?

Example:

GHS 500,000

Example Calculation

Exposure = GHS 500,000

Probability of Default = 5%

Loss Given Default = 40%

Expected Credit Loss

= 500,000 × 5% × 40%

= GHS 10,000

That GHS 10,000 becomes the impairment allowance.

Notice that no customer has actually defaulted yet. The provision reflects the expected risk, not a confirmed loss.

Forward-Looking Information

One of IFRS 9’s biggest innovations is that it does not rely solely on historical data.

Organizations must also consider:

• inflation
• unemployment
• interest rates
• exchange rate movements
• GDP growth
• political instability
• industry outlook
• natural disasters
• major economic shocks

A bank lending heavily to the tourism sector, for example, may increase expected credit losses if travel demand collapses, even before widespread defaults occur.

What about Ordinary Businesses?

Many people assume IFRS 9 only applies to banks.

It doesn’t.

Any business that allows customers to buy on credit has financial assets.

Example:

A manufacturing company sells goods worth GHS 2 million on 60-day credit.

Some customers historically fail to pay.

The company should estimate expected losses on those trade receivables rather than waiting until invoices become uncollectible.

For many trade receivables, IFRS 9 permits a simplified approach, under which lifetime expected credit losses are recognized from day one without tracking Stage 1 and Stage 2.

Example: A Telecom Company

Imagine a telecom provider has 100,000 postpaid customers.

Historical experience shows:

• 97% pay
• 2% pay late
• 1% never pay

Rather than writing off bad debts months later, the company estimates expected credit losses based on historical patterns, adjusted for current and expected economic conditions.

Challenges Organizations Face

Implementing IFRS 9 isn’t just an accounting exercise. It requires collaboration across finance, risk, credit, and technology teams.

Common challenges include:

• Poor quality customer data
• Limited historical default information
• Building reliable credit risk models
• Incorporating forward-looking economic forecasts
• Deciding when a significant increase in credit risk has occurred
• Ensuring models are regularly validated and governed

Strong governance and documentation are essential because auditors and regulators will expect management to justify the assumptions used.

Why IFRS 9 Matters

The standard encourages organizations to move from reacting to credit problems to anticipating them.

For investors, it offers a clearer picture of financial health.

For regulators, it promotes a more resilient financial system.

For management, it highlights emerging risks before they become serious financial losses.

While the terminology—SPPI, amortised cost, probability of default, loss given default, exposure at default, significant increase in credit risk—can seem daunting at first, each concept is designed to answer a practical question: What is this asset? Why do we hold it? How much risk does it carry today, and how much might we lose if conditions worsen?

Once you view IFRS 9 through that lens, it becomes less about memorizing technical jargon and more about applying sound judgment supported by data. That’s the real objective of the standard: ensuring that financial statements reflect not just today’s reality, but the risks that are already beginning to emerge.