ASC

ASC 815-35

Net Investment Hedges

815 Derivatives and Hedging

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In brief

AdvancedDerivatives and hedgingForeign currencySubsequent measurementFinancial instruments

ASC 815-35 governs the subsequent measurement of hedges of a net investment in a foreign operation (designated under 815-20). The effective portion of the gain or loss on the hedging derivative — or the foreign currency transaction gain or loss on a nonderivative hedging instrument such as foreign-currency debt — is reported the same way as a translation adjustment, i.e., in the cumulative translation adjustment (CTA) section of other comprehensive income (815-35-35-1). An entity elects either the spot method or the forward method to assess effectiveness and must apply that choice consistently to all derivative net investment hedges (815-35-35-4).

Key points (7)
  • Gains and losses on an effective net investment hedge (derivative or nonderivative) are reported like a translation adjustment in the CTA section of OCI, and the hedged net investment itself is accounted for under Topic 830, not under the fair value hedge rules of 815-25 (815-35-35-1 through 35-2).
  • An entity may assess effectiveness using either the spot-rate method (815-35-35-5 through 35-15) or the forward-rate method (815-35-35-17 through 35-26), but must use the same method for all net investment hedges using derivatives (815-35-35-4).
  • Under the spot method, the forward-spot difference is excluded from the effectiveness assessment if the notional matches the hedged portion, the underlying is the exchange rate between the hedged operation's functional currency and the investor's functional currency, and any cross-currency interest rate swap qualifies under 815-20-25-67; the hedge is then perfectly effective with no quantitative inception assessment (815-35-35-5).
  • The initial value of an excluded component is recognized in earnings by a systematic and rational method over the life of the instrument, with the difference from actual fair value change reported in CTA within OCI; alternatively an entity may elect to record all excluded-component fair value changes currently in earnings (815-35-35-5A through 35-5B).
  • Under the forward method, all changes in the derivative's fair value — including option time value and the interest accrual/periodic cash settlement components of qualifying cross-currency interest rate swaps — go to CTA in OCI (815-35-35-17); under the spot method those interest accrual components go directly to earnings (815-35-35-6).
  • When notional amounts, currencies, or swap legs do not match (815-35-35-9, 35-13, 35-18), effectiveness is assessed by comparing the actual instrument's fair value change with that of a hypothetical derivative or nonderivative instrument that eliminates the mismatch and matches the actual instrument's maturity and repricing/payment frequencies (815-35-35-10, 35-11, 35-14, 35-19 through 35-21).
  • On discontinuation, amounts not yet recognized in earnings under 815-35-35-5A remain in CTA within AOCI until the hedged net investment is sold or liquidated under 830-30-40-1 through 40-1A (815-35-40-1).

For students. Net investment hedges are the one hedge type where a nonderivative (e.g., foreign-currency-denominated debt) can be the hedging instrument and where effective gains/losses sit in CTA rather than a separate AOCI bucket. Students commonly assume the CTA amounts recycle at discontinuation — they do not; they stay in AOCI until the foreign operation is sold or liquidated under Topic 830.

net investment hedgecumulative translation adjustmentspot method versus forward methodexcluded componenthypothetical derivativecross-currency interest rate swapnonderivative hedging instrumentafter-tax hedging

Machine-generated study aid for ASC 815-35. Check the source paragraphs below.

815-35-00Status

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815-35-00-1
The following table identifies the changes made to this Subtopic.
ParagraphActionAccounting Standards UpdateDate
Other Comprehensive IncomeAddedMaintenance Update 2014-20 (PDF)09/29/2014
Spot RateAddedAccounting Standards Update No. 2014-0603/14/2014
815-35-05-1AmendedAccounting Standards Update No. 2017-1208/28/2017
815-35-35-1AmendedAccounting Standards Update No. 2017-1208/28/2017
815-35-35-1AmendedMaintenance Update 2014-20 (PDF)09/29/2014
815-35-35-3 through 35-5
AmendedAccounting Standards Update No. 2017-1208/28/2017
815-35-35-4AAddedAccounting Standards Update No. 2017-1208/28/2017
815-35-35-5AmendedAccounting Standards Update No. 2014-0603/14/2014
815-35-35-5AAddedAccounting Standards Update No. 2017-1208/28/2017
815-35-35-5BAddedAccounting Standards Update No. 2017-1208/28/2017
815-35-35-7AmendedAccounting Standards Update No. 2017-1208/28/2017
815-35-35-9 through 35-14
AmendedAccounting Standards Update No. 2017-1208/28/2017
815-35-35-15SupersededAccounting Standards Update No. 2017-1208/28/2017
815-35-35-16SupersededAccounting Standards Update No. 2017-1208/28/2017
815-35-35-17AmendedAccounting Standards Update No. 2017-1208/28/2017
815-35-35-17AAddedAccounting Standards Update No. 2017-1208/28/2017
815-35-35-18 through 35-21
AmendedAccounting Standards Update No. 2017-1208/28/2017
815-35-35-20AmendedAccounting Standards Update No. 2012-0410/01/2012
815-35-35-22 through 35-25
SupersededAccounting Standards Update No. 2017-1208/28/2017
815-35-35-26AmendedAccounting Standards Update No. 2017-1208/28/2017
815-35-40-1AddedAccounting Standards Update No. 2017-1208/28/2017
815-35-50-2SupersededAccounting Standards Update No. 2017-1208/28/2017

815-35-05Overview and Background

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815-35-05-1
This Subtopic provides incremental guidance on accounting for and financial reporting of hedges of a net investment in a foreign operation established under the criteria in Subtopic 815-20, such as subsequent measurement and dedesignation of a hedging relationship.

815-35-15Scope and Scope Exceptions

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Overall Guidance

815-35-15-1
This Subtopic follows the same Scope and Scope Exceptions as outlined in Subtopic 815-20, see Section 815-20-15.

815-35-25Recognition

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815-35-25-1
See Section 815-20-25 for the criteria under which an entity may designate a net investment hedge.

815-35-35Subsequent Measurement

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Overall

815-35-35-1
The gain or loss on a hedging derivative instrument (or the foreign currency transaction gain or loss on the nonderivative hedging instrument) that is designated as, and is effective as, an economic hedge of the net investment in a foreign operation shall be reported in the same manner as a translation adjustment (that is, reported in the cumulative translation adjustment section of other comprehensive income).
815-35-35-2
The hedged net investment shall be accounted for consistent with Topic 830. The provisions of Subtopic 815-25 for recognizing the gain or loss on assets designated as being hedged in a fair value hedge do not apply to the hedge of a net investment in a foreign operation.
815-35-35-3
If an entity has designated and documented that it will assess effectiveness and measure hedge results on an after-tax basis as permitted by paragraph 815-20-25-3(b)(2)(vi), the portion of the gain or loss on the hedging instrument that exceeded the loss or gain on the hedged item shall be included as an offset to the related tax effects in the period in which those tax effects are recognized.

Assessing Hedge Effectiveness and Measuring Hedge Results

815-35-35-4
If a derivative instrument is used as the hedging instrument, an entity may assess the effectiveness of a net investment hedge using either a method based on changes in spot exchange rates (as specified in paragraphs
815-35-35-5 through 35-15
) or a method based on changes in forward exchange rates (as specified in paragraphs
815-35-35-17 through 35-26
). This guidance can also be applied to purchased options used as hedging instruments in a net investment hedge. However, an entity shall consistently use the same method for all its net investment hedges in which the hedging instrument is a derivative instrument; use of the spot method for some net investment hedges and the forward method for other net investment hedges is not permitted. An entity may change the method that it chooses to assess the effectiveness of its net investment hedges in accordance with paragraphs 815-20-55-55 through 55-56A.
815-35-35-4A
Hedge effectiveness shall be assessed on a quantitative basis at hedge inception in accordance with paragraph 815-20-25-3(b)(2)(iv)(01) unless one of the exceptions in that paragraph applies. Subsequent assessments of hedge effectiveness may be performed either on a quantitative basis or on a qualitative basis in accordance with paragraphs 815-20-35-2 through 35-2F.
815-35-35-5
The change in the fair value of the derivative instrument attributable to changes in the difference between the forward rate and spot rate would be excluded from the assessment of hedge effectiveness if all of the following conditions are met:
  1. a
    The notional amount of the derivative instrument designated as a hedge of a net investment in a foreign operation matches (that is, equals) the portion of the net investment designated as being hedged.
  2. b
    The derivative instrument's underlying exchange rate is the exchange rate between the functional currency of the hedged net investment and the investor's functional currency.
  3. c
    When the hedging derivative instrument is a cross-currency interest rate swap, it is eligible for designation in a net investment hedge in accordance with paragraph 815-20-25-67.
In that circumstance, the hedging relationship would be considered perfectly effective, and no quantitative effectiveness assessment is required at hedge inception. (See paragraph 815-20-25-3(b)(2)(iv)(01).)
815-35-35-5A
An entity shall recognize in earnings the initial value of the component excluded from the assessment of effectiveness using a systematic and rational method over the life of the hedging instrument. Any difference between the change in fair value of the excluded component and amounts recognized in earnings under that systematic and rational method shall be recognized in the same manner as a translation adjustment (that is, reported in the cumulative translation adjustment section of other comprehensive income).
815-35-35-5B
An entity alternatively may elect to record changes in the fair value of the excluded component currently in earnings. This election shall be applied consistently to similar hedges in accordance with paragraph 815-20-25-81.
815-35-35-6
The interest accrual (periodic cash settlement) components of qualifying receive-variable-rate, pay-variable-rate and receive-fixed rate, pay-fixed-rate cross-currency interest rate swaps shall also be reported directly in earnings.
815-35-35-7
The change in fair value of the derivative instrument attributable to changes in the spot rate shall be reported in the same manner as a translation adjustment (that is, reported in the cumulative translation adjustment section of other comprehensive income).
815-35-35-8
The spot-to-spot changes in value reported in the cumulative translation adjustment section of other comprehensive income shall not be discounted.
815-35-35-9
The hedging relationship would not be considered perfectly effective, and the guidance in paragraph 815-35-35-10 shall be applied if any of the following conditions exist:
  1. a
    The notional amount of the derivative instrument does not match the portion of the net investment designated as being hedged.
  2. b
    The derivative instrument's underlying exchange rate is not the exchange rate between the functional currency of the hedged net investment and the investor's functional currency.
  3. c
    When the hedging derivative instrument is a cross-currency interest rate swap eligible for designation in a net investment hedge in accordance with paragraph 815-20-25-67, both legs are not based on comparable interest rate curves (for example, pay foreign currency based on the three-month London Interbank Offered Rate [LIBOR], receive functional currency based on three-month commercial paper rates).
815-35-35-10
If any of the conditions in paragraph 815-35-35-9 exist, the change in fair value of the hypothetical derivative instrument that does not incorporate those differences shall be compared with the change in fair value of the actual derivative instrument in assessing hedge effectiveness.
815-35-35-11
The hypothetical derivative instrument used to assess hedge effectiveness also shall have a maturity and repricing and payment frequencies for any interim payments that match the maturity and repricing and payment frequencies for any interim payments of the actual derivative instrument designated as the hedging instrument in the net investment hedge.
815-35-35-12
The translation gain or loss determined under Subtopic 830-30 by reference to the spot exchange rate between the transaction currency of the debt and the functional currency of the investor (after tax effects, if appropriate) shall be reported in the same manner as the translation adjustment associated with the hedged net investment (that is, reported in the cumulative translation adjustment section of other comprehensive income) if both of the following conditions are met:
  1. a
    The notional amount of the nonderivative instrument matches the portion of the net investment designated as being hedged.
  2. b
    The nonderivative instrument is denominated in the functional currency of the hedged net investment.
In that circumstance, the hedging relationship would be considered perfectly effective, and no prospective quantitative effectiveness assessment is required at hedge inception (see paragraph 815-20-25-3(b)(2)(iv)(01)).
815-35-35-13
The hedging relationship would not be perfectly effective if either of the following conditions is met:
  1. a
    The notional amount of the nonderivative instrument does not match the portion of the net investment designated as being hedged.
  2. b
    The nonderivative instrument is denominated in a currency other than the functional currency of the hedged net investment.
815-35-35-14
Effectiveness shall be assessed by comparing the following two values:
  1. a
    The foreign currency transaction gain or loss based on the spot rate change (after tax effects, if appropriate) of that nonderivative instrument
  2. b
    The transaction gain or loss based on the spot rate change (after tax effects, if appropriate) that would result from the appropriate hypothetical nonderivative instrument that does not incorporate those differences. The hypothetical nonderivative instrument shall also have a maturity that matches the maturity of the actual nonderivative instrument designated as the net investment hedge.
815-35-35-17
Under a method based on changes in forward exchange rates, an entity shall report all changes in fair value of the derivative instrument in the same manner as a translation adjustment (that is, reported in the cumulative translation adjustment section of other comprehensive income), including the following amounts:
  1. a
    The time value component of purchased options
  2. b
    The interest accrual/periodic cash settlement components of qualifying receive-variable-rate, pay-variable-rate and receive-fixed-rate, pay-fixed-rate cross-currency interest rate swaps.
815-35-35-17A
If the notional amount of the derivative instrument designated as a hedge of a net investment in a foreign operation matches (that is, equals) the portion of the net investment designated as being hedged and the derivative instrument's underlying relates solely to the foreign exchange rate between the functional currency of the hedged net investment and the investor's functional currency, the hedging relationship would be considered perfectly effective, and no quantitative effectiveness assessment is required at hedge inception (see paragraph 815-20-25-3(b)(2)(iv)(01)).
815-35-35-18
However, the hedging relationship would not be considered perfectly effective if any of the following conditions exist:
  1. a
    The notional amount of the derivative instrument does not match the portion of the net investment designated as being hedged.
  2. b
    The derivative instrument's underlying exchange rate is not the exchange rate between the functional currency of the hedged net investment and the investor's functional currency.
  3. c
    When the hedging derivative instrument is a cross-currency interest rate swap eligible for designation in a net investment hedge in accordance with paragraph 815-20-25-67, both legs are not based on comparable interest rate curves (for example, pay foreign currency based on three-month LIBOR, receive functional currency based on three-month commercial paper rates).
815-35-35-19
The assessment of hedge effectiveness due to such differences between the hedging derivative instrument and the hedged net investment considers the following:
  1. a
    Different notional amounts. If the notional amount of the derivative instrument designated as a hedge of the net investment does not match the portion of the net investment designated as being hedged, hedge effectiveness shall be assessed by comparing the following two values:
    1. 1
      The change in fair value of the actual derivative instrument designated as the hedging instrument
    2. 2
      The change in fair value of a hypothetical derivative instrument that has a notional amount that matches the portion of the net investment being hedged and a maturity that matches the maturity of the actual derivative instrument designated as the net investment hedge. See paragraph 815-35-35-26 for situations in which the hedge of a net investment in a foreign operation is hedging foreign currency risk on an after-tax basis, as permitted by paragraph 815-20-25-3(b)(2)(vi).
  2. b
    Different currencies. If the derivative instrument designated as the hedging instrument has an underlying foreign exchange rate that is not the exchange rate between the functional currency of the hedged net investment and the investor's functional currency (a tandem currency hedge), hedge effectiveness shall be assessed by comparing the following two values:
    1. 1
      The change in fair value of the actual cross-currency hedging instrument
    2. 2
      The change in fair value of a hypothetical derivative instrument that has as its underlying the foreign exchange rate between the functional currency of the hedged net investment and the investor's functional currency and a maturity and repricing and payment frequencies for any interim payments that match the maturity and repricing and payment frequencies for any interim payments of the actual derivative instrument designated as the net investment hedge.
  3. c
    Multiple underlyings. In accordance with paragraph 815-20-25-67(a), the only derivative instruments with multiple underlyings permitted to be designated as a hedge of a net investment are receive-variable-rate, pay-variable-rate cross-currency interest rate swaps that meet certain criteria. Paragraph 815-20-25-67(b) also permits receive-fixed-rate, pay-fixed-rate cross-currency interest rate swaps to be designated as a hedge of a net investment.
815-35-35-20
If a receive-variable-rate, pay-variable-rate cross-currency interest rate swap is designated as the hedging instrument in a net investment hedge, hedge effectiveness shall be assessed by comparing the following two values:
  1. a
    The change in fair value of the actual cross-currency interest rate swap designated as the hedging instrument
  2. b
    The change in fair value of a hypothetical receive-variable-rate, pay-variable-rate cross-currency interest rate swap in which the interest rates are based on the same currencies contained in the hypothetical swap and both legs of the hypothetical swap have the same repricing intervals and dates. The hypothetical derivative instrument also shall have a maturity that matches the maturity of the actual cross-currency interest rate swap designated as the net investment hedge.
815-35-35-21
If a receive-fixed-rate, pay-fixed-rate cross-currency interest rate swap is designated as the hedging instrument in a net investment hedge, hedge effectiveness shall be assessed by comparing the following two values:
  1. a
    The change in fair value of the actual cross-currency interest rate swap designated as the hedging instrument
  2. b
    The change in fair value of a hypothetical receive-fixed-rate, pay-fixed-rate cross-currency interest rate swap in which the interest rates are based on the same currencies contained in the hypothetical swap. The hypothetical derivative instrument shall also have a maturity that matches the maturity of the actual cross-currency interest rate swap designated as the net investment hedge.
815-35-35-26
Paragraph 815-20-25-3(b)(2)(vi) permits hedging foreign currency risk on an after-tax basis, provided that the documentation of the hedge at its inception indicated that the assessment of effectiveness and measurement of hedge results will be on an after-tax basis (rather than on a pretax basis). If an entity has elected to hedge foreign currency risk on an after-tax basis, it shall adjust the notional amount of its derivative instrument appropriately to reflect the effect of tax rates. In that case, the hypothetical derivative instrument used to assess effectiveness shall have a notional amount that has been appropriately adjusted (pursuant to the documentation at inception) to reflect the effect of the after-tax approach.

Redesignation

815-35-35-27
If an entity documents that the effectiveness of its hedge of the net investment in a foreign operation will be assessed based on the beginning balance of its net investment and the entity's net investment changes during the year, the entity shall consider the need to redesignate the hedging relationship (to indicate what the hedging instrument is and what numerical portion of the current net investment is the hedged portion) whenever financial statements or earnings are reported, and at least every three months. An entity is not required to redesignate the hedging relationship more frequently even when a significant transaction (for example, a dividend) occurs during the interim period. Example 1 (see paragraph 815-35-55-1) illustrates the application of this guidance.

815-35-40Derecognition

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Discontinuing Hedge Accounting

815-35-40-1
When applying the guidance in paragraph 815-35-35-5A and a hedge is discontinued, any amounts that have not yet been recognized in earnings shall remain in the cumulative translation adjustment section of accumulated other comprehensive income until the hedged net investment is sold or liquidated in accordance with paragraphs 830-30-40-1 through 40-1A.

815-35-50Disclosure

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815-35-55Implementation Guidance and Illustrations

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Illustrations

815-35-55-1
This Example illustrates the application of paragraph 815-35-35-27. Assume that an entity enters into a foreign currency forward contract that has a notional amount equal to the beginning balance of its investment in a foreign operation (for example, 100,000 foreign currency units [FC]). This foreign currency forward contract is immediately designated as a hedge of the entire beginning balance of the net investment at the inception of the hedge. As the net investment changes, the entity would periodically assess the original hedging relationship and decide whether it needs to remove (that is, dedesignate) that original relationship and designate a new hedging relationship for the following assessment period. The following presents one method of such redesignation in those circumstances in which the entity chooses not to obtain a new derivative instrument:
  1. a
    If the net investment had increased (for example, to FC 120,000), the entire forward contract would be designated prospectively as hedging only a portion of the beginning balance of the net investment in that foreign operation. The hedged portion would be the ratio of the net investment at the inception of the hedge to the net investment at the beginning of the new assessment period (for example, five-sixths of the FC 120,000).
  2. b
    If the net investment had decreased (for example, to FC 90,000), only a proportion of the forward contract would be designated prospectively as hedging the entire beginning balance of the net investment in that foreign operation. The proportion of the forward contract designated prospectively as the hedging instrument would be the ratio of the net investment at the beginning of the new assessment period to the net investment at the inception of the hedge (for example, nine-tenths of the forward contract). The proportion of the forward contract not designated prospectively as the hedging instrument in the net investment hedge could be designated as a hedging instrument in a different hedging relationship or simply reported at fair value with its gain or loss after the dedesignation date recognized currently in earnings pursuant to paragraph 815-20-35-1(a).

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