Home » Accounting for DeFi Lending under IFRS 

Accounting for DeFi Lending under IFRS 

In this article, we explore the key considerations and accounting implications for DeFi lending under IFRS, highlighting the unique characteristics of blockchain-based financial transactions and the importance of robust valuation methodologies and comprehensive disclosures.

Challenges and Considerations on DeFi Lending 

What’s the issue?

Decentralized Finance (DeFi) has emerged as a transformative force in the financial industry. As the DeFi ecosystem expands, accounting for DeFi lending activities poses unique challenges under the International Financial Reporting Standards (IFRS). 

In this article, we explore the key considerations and accounting implications for DeFi lending under IFRS.

What is DeFi Lending?
DeFi lending involves individuals or entities (lenders) providing digital assets such as cryptocurrencies or stablecoins to borrowers through decentralized lending platforms. Smart contracts on blockchain networks automate lending agreements, collateral management, interest calculations, and repayment terms without the need for intermediaries like banks.

Accounting Challenges

Recognition of Financial Instruments: Under IFRS, the classification and recognition of financial instruments are crucial. DeFi lending involves the creation of tokenized financial instruments such as crypto-backed loans. Determining the appropriate classification (e.g., loans, derivatives) based on the contractual terms and risks requires careful analysis. 

Valuation and Measurement: Valuing digital assets held as collateral and determining fair value presents challenges due to price volatility and limited market liquidity. IFRS principles require assets to be measured at fair value, with changes recognized in profit or loss or other comprehensive income.

Revenue Recognition: For DeFi lending platforms, revenue recognition is based on the interest earned from lending activities. The timing and measurement of interest income depend on the terms of the smart contracts and cash flows generated from the loans.

Impairment of Assets: Assessing the impairment of loans and collateralized assets is essential under IFRS. DeFi platforms must regularly evaluate the recoverability of loans based on credit risk and fluctuations in asset values.

Disclosure Requirements: Comprehensive and transparent disclosures are necessary to provide users of financial statements. Including insights into the risks associated with DeFi lending activities, including exposure to market risks and counterparty credit risks.

Accounting Considerations

Classification of Financial Instruments: Analyze the contractual terms and risks associated with DeFi lending. Then determine if instruments should be classified as financial instruments under IFRS 9 or non-financial asset as per other relevant IFRS (such as Intangible).

Fair Value Measurement: Establish robust valuation methodologies to determine the fair value of digital assets. It must consider market data, liquidity, and volatility.

Revenue Recognition: Determine if the income is recognised as interest income under IFRS 9 or Revenue from contract with customers under IFRS 15 or “other income. 

Impairment Assessment: Regularly assess the recoverability of loans and collateral based on credit quality and market conditions, recognizing impairment losses as necessary.

Disclosure Requirements: Provide detailed disclosures on DeFi lending activities, including risk management strategies, collateral policies, and exposure to market fluctuations.

Conclusion

Accounting for DeFi lending under IFRS requires a nuanced approach due to the unique characteristics of blockchain-based financial transactions. As the regulatory landscape slowly catches up with the development of DeFi, financial reporting standards will continue to adapt to address the complexities of decentralized finance. Entities engaged in DeFi lending should stay abreast of regulatory developments and consult with accounting professionals to ensure compliance with IFRS standards and best practices.


FAQs on “Accounting for DeFi Lending under IFRS” by Chetan Hans

The main accounting challenges for DeFi lending under IFRS include:

Recognition of Financial Instruments: Determining the appropriate classification of tokenized financial instruments, such as crypto-backed loans, based on their contractual terms and risks.

Valuation and Measurement: Valuing digital assets held as collateral and determining their fair value given price volatility and limited market liquidity.

Revenue Recognition: Recognizing revenue based on the interest earned from lending activities, considering the timing and measurement of interest income according to the smart contract terms.

Impairment of Assets: Regularly assessing the impairment of loans and collateralized assets based on credit risk and asset value fluctuations.

Disclosure Requirements: Providing comprehensive disclosures about the risks associated with DeFi lending, including exposure to market and counterparty credit risks.

Entities should establish robust valuation methodologies for determining the fair value of digital assets. These methodologies should consider market data, liquidity, and volatility of the assets. The fair value measurement must align with IFRS principles, ensuring that any changes are recognized in profit or loss or other comprehensive income.

Revenue from DeFi lending activities is recognized based on the interest earned from lending agreements. The timing and measurement of interest income depend on the terms outlined in the smart contracts and the cash flows generated from the loans. It must be determined whether the income is recognized as interest income under IFRS 9, revenue from contracts with customers under IFRS 15, or other income.

Entities must provide detailed disclosures about their DeFi lending activities. These disclosures should include information on risk management strategies, collateral policies, exposure to market fluctuations, and the risks associated with DeFi lending, such as market risks and counterparty credit risks. Comprehensive and transparent disclosures ensure users of financial statements are well-informed about the risks and strategies involved in DeFi lending.

Accounting for DeFi lending under IFRS is complex. These transactions involve innovative financial instruments, significant price volatility, and rapidly evolving regulatory landscapes. As a result, entities must adopt a nuanced approach to ensure compliance with IFRS standards, considering the complexities and risks associated with decentralized finance.

Credits and Acknowledgment

This article was developed from commentary, notes, and expertise of Chetan Hans, Partner at Grant Thornton Singapore

Author

  • Chetan Hans

    Chetan is the Partner – CFO services at Granth Thornton Singapore. He has more than 16 years of experience in servicing large national and multinational clients in the areas of Assurance, Indian GAAP, US GAAP and IFRS technical accounting advisory, specifically in the areas of financial instruments, leases, consolidation, revenue recognition, business combinations, and cryptoassets/ cryptocurrencies.

    View all posts

Chetan Hans

Chetan is the Partner – CFO services at Granth Thornton Singapore. He has more than 16 years of experience in servicing large national and multinational clients in the areas of Assurance, Indian GAAP, US GAAP and IFRS technical accounting advisory, specifically in the areas of financial instruments, leases, consolidation, revenue recognition, business combinations, and cryptoassets/ cryptocurrencies.

Post navigation

Leave a Comment

Leave a Reply

Your email address will not be published. Required fields are marked *