Effects of changes in the exchange rate on financial statements
Most managers have begun to sum up the losses caused by the November adjustment of the Czech currency. We have already published an article on the possibility of hedging against unexpected interest rate trends in MO(O)RE NEWS CZECH 4/2013 published on our website. We would like to dedicate this space to the financial aspects of the exchange rate differences, in particular, foreign exchange differences on loans denominated in a foreign currency, as the impact of revaluation is fully manifested now during the preparation of financial statements for 2013 period.
Entities use the balance sheet exchange rate date for converting its assets and liabilities, whereas exchange differences are accounted in P&L. This rule is not without exceptions, especially in the case of revaluation of securities and investments where exchange rate differences become a part of the fair value or equity. And, in case of revaluation of the equity method, unrealised exchange rate differences are accounted through equity items. This accounting treatment is relatively widespread and it has been tested well by the entities. A similar procedure (i.e. the method of the accounting of exchange rate differences through equity items) can even be applied to exchange rate differences on loans denominated in a foreign currency. The loan must meet the condition that it is a hedge against a currency risk.
What are the implications of this? Simply put, income from sales of products or services in EUR used to repay the loan denominated in EUR puts you in a winning position. The privilege of accounting for it through equity is not free and is associated with a fundamental condition of hedge accounting. If you are unsure what parameters the hedge accounting must satisfy, how it should look and when you should start, our experts will be happy to assist you.
In this instance, even the administrative work associated with the management of hedge accounting pays off when presenting the currency conversion in equity, thus, it will not affect the result for the year. The above solution impacts the tax position of the company. Unrealised exchange rate differences recognised through equity items do not affect the tax base of the company. To be completely forthright, we would like to point out that the related deferred tax is also charged against the equity items which is in full compliance with the requirements of a true and fair view of the accounts.
Author: Jiří Liberda