Cash Flow Characteristics (SPPI) Test
IFRS 9 requires all financial instruments to be tested for their cash flow characteristics before being classified into any of the three accounting classifications. This test is conducted at the instrument level. To pass the cash flow characteristics or the Solely Payments of Principal and Interest (SPPI) test, an entity needs to prove that the contractual cash flows received from an instrument are Solely Payments of Principal and Interest on the principal amount outstanding.
To conduct the Cash Flow Characteristics Test, various dimensions are considered. However, more importantly, the contract level characteristics are taken into consideration with the help of certain flags, parameters, values, and so on. This defines the instrument in detail.
The application picks the dimension-based Rules to assign the SPPI flag as YES. Primarily, the SPPI flag is assigned based on the broad knowledge of the Portfolio, Product, or Product type. After the SPPI flags are assigned based on a given set of dimensions, further evaluation is conducted for those accounts with the SPPI flag as YES.
The Rules related to the SPPI test enable the bank to evaluate every instrument or account to check if the contractual cash flows received from an instrument are Solely Payments of Principal and Interest on the principal amount outstanding or SPPI. The initial set of Rules allows you or the bank to define if a product or portfolio may potentially pass the SPPI test, at an aggregated level, that is, the hierarchy at which the Rule is defined. All the subsequent Rules verify the characteristics of an instrument to check if it caters to the SPPI requirements.
The standard product consists of the following Rules.
Table 5-2 The Rules of the Standard Product
| Source Dimensions | Target Dimension |
|---|---|
| Product | SPPI |
| Behavior Type = 'Development and Recovery' | SPPI = N |
| If SPPI='Y', Fixed, Interest Rate<=0% | SPPI = N |
| If SPPI='Y', Floating Rate, Float Spread<=0% | SPPI = N |
| If SPPI='Y', Embedded Options Flag = 'Y' | SPPI = N |
| If SPPI='Y', Securitized Flag='Y' | SPPI = N |
| If SPPI='Y', Employee Account = 'Y' | SPPI = N |
| If SPPI='Y', Sub Prime Flag='Y' | SPPI = N |
| If SPPI='Y', Payment Pattern <any specific pattern> | SPPI = N |
| If SPPI='Y', Benchmark Currency<>Instrument currency | SPPI = N |
Note:
You can configure or reconfigure the given Rules and also add or remove Rules as per the requirement.