Hedge accounting basics under IFRS 9

Without hedge accounting, a derivative bought to protect against currency or interest rate moves is measured at fair value through profit or loss, while the risk it hedges may not hit profit until later. Profit then swings for no economic reason. This guide explains how cash flow hedges and fair value hedges fix that, what hedge effectiveness means under IFRS 9, and walks through a forward contract example.

By Hamza Fida, Chartered Accountant. Reviewed by Mirza Fahad Baig, Chartered Accountant. Checked against official sources on . 4 minute read.

Short answer

Hedge accounting under IFRS 9 lets a company recognise the gains and losses on a hedging instrument, such as a forward contract, in the same period as the item it hedges, so profit reflects its risk management rather than mismatched timing. There are three types: fair value hedges, cash flow hedges and hedges of a net investment in a foreign operation. To qualify, the hedge must be designated and documented at inception, there must be an economic relationship, credit risk must not dominate, and the hedge ratio must match risk management.

At a glance

Types
Fair value, cash flow, net investment
Cash flow hedge
Effective part to OCI reserve
Fair value hedge
Hedged item remeasured too
Effectiveness
Economic relationship, no 80-125% test
Ineffectiveness
Profit or loss
Optional
Yes, an election
Hedge accounting basics under IFRS 9Types: Fair value, cash flow, net investment; Cash flow hedge: Effective part to OCI reserve; Fair value hedge: Hedged item remeasured too; Effectiveness: Economic relationship, no 80-125% test; Ineffectiveness: Profit or loss; Optional: Yes, an election.KEY FACTS AT A GLANCEHedge accounting basics under IFRS 9TypesFair value, cash flow,net investmentCash flow hedgeEffective part to OCIreserveFair value hedgeHedged item remeasuredtooEffectivenessEconomic relationship, no80-125% testIneffectivenessProfit or lossOptionalYes, an electionChecked against official sourcesTax BakersHedge accounting basics under IFRS 9Types: Fair value, cash flow, net investment; Cash flow hedge: Effective part to OCI reserve; Fair value hedge: Hedged item remeasured too; Effectiveness: Economic relationship, no 80-125% test; Ineffectiveness: Profit or loss; Optional: Yes, an election.KEY FACTS AT A GLANCEHedge accounting basics under IFRS9TypesFair value, cash flow, net investmentCash flow hedgeEffective part to OCI reserveFair value hedgeHedged item remeasured tooEffectivenessEconomic relationship, no 80-125% testIneffectivenessProfit or lossOptionalYes, an electionChecked against official sourcesTax Bakers
Key facts at a glance, as set out in this guide.

What are the three types of hedge?

TypeHedgesAccounting for the hedging instrumentExample
Fair value hedgeChanges in the fair value of a recognised asset, liability or firm commitmentFair value changes in profit or loss; the hedged item is also adjusted for the hedged risk through profit or lossAn interest rate swap turning fixed-rate debt into floating
Cash flow hedgeVariability in future cash flows, including highly probable forecast transactionsEffective part to other comprehensive income, in the cash flow hedge reserve; ineffective part to profit or lossA forward contract for a forecast foreign currency purchase
Net investment hedgeCurrency risk on a net investment in a foreign operationEffective part to the translation reserve in OCIA foreign currency loan hedging a foreign subsidiary

What are the qualifying criteria?

  • Only eligible hedging instruments and hedged items are used.
  • At inception there is formal designation and documentation of the hedging relationship, the risk management objective and how effectiveness will be assessed.
  • Hedge effectiveness: there is an economic relationship between the hedged item and the instrument; credit risk does not dominate the value changes; and the hedge ratio matches the one used for risk management.

IFRS 9 removed IAS 39's bright-line 80 to 125 per cent effectiveness test. Any ineffectiveness is still measured and recognised in profit or loss, and if the hedge ratio drifts the company rebalances rather than stopping hedge accounting.

A cash flow hedge example with a forward contract

A retailer expects to buy USD 1,000,000 of stock from a US supplier in six months. To fix the cost, it enters a forward contract to buy USD 1,000,000 at CU 1.10 per dollar and designates it as a cash flow hedge of the forecast purchase.

A cash flow hedge of a forecast purchaseA cash flow hedge of a forecast purchase1ForecastpurchaseUSD 1 millionin six months2ForwardcontractBuy USD at 1.10designated as hedge3Gain to OCICU 20,000 atyear end4Into stockcostStock at CU 1.10m,the locked rate
The forward locks in the rate; hedge accounting keeps the gain out of profit until the stock is sold.
WhenWhat happensEntry (CU)
Year end, forward rate 1.12The forward is an asset worth CU 20,000Dr Derivative asset, Cr Cash flow hedge reserve (OCI) 20,000
Purchase date, rate 1.13The forward is worth CU 30,000; it is settled and the stock bought at CU 1,130,000Dr Derivative 10,000, Cr Reserve 10,000; then Dr Cash, Cr Derivative 30,000
Basis adjustmentThe reserve is removed and included in the cost of the stockDr Reserve, Cr Inventory 30,000

The stock is carried at CU 1,100,000, exactly the rate locked in by the forward, and the hedge result reaches profit only when the stock is sold, as part of cost of sales. Without hedge accounting, CU 20,000 of gain would have hit profit at year end, before any stock was bought.

How does a fair value hedge work?

A company with fixed-rate debt that swaps it to floating designates the swap as a fair value hedge of interest rate risk. Each period, the swap's fair value change goes to profit or loss, and the debt's carrying amount is adjusted for the change in its fair value caused by interest rates, also through profit or loss. The two largely offset; any difference is ineffectiveness.

What is the cost of hedging?

When an option or forward is the hedging instrument, a company may exclude its time value or forward points from the designation and account for them as a cost of hedging through OCI, spreading them over the hedge period. This reduces volatility from elements that do not hedge the risk itself.

When does hedge accounting stop?

Only when the relationship no longer meets the criteria after any rebalancing, for example when the instrument expires or is sold, or the forecast transaction is no longer expected. A company cannot simply choose to stop. Amounts in the cash flow hedge reserve stay there until the hedged cash flows occur, or move to profit at once if they are no longer expected to occur.

Can companies still use IAS 39?

Yes. IFRS 9 lets companies keep applying IAS 39's hedge accounting requirements, a choice mainly used by banks with portfolio hedges of interest rate risk. See IFRS 9 explained.

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Questions people ask

What is hedge accounting under IFRS 9?

An optional set of rules that matches the timing of gains and losses on hedging instruments with the hedged items, through fair value, cash flow or net investment hedges.

What is the difference between a cash flow hedge and a fair value hedge?

A cash flow hedge protects future cash flows and puts the effective gain or loss in OCI; a fair value hedge protects the value of an asset or liability and adjusts both sides through profit or loss.

Does IFRS 9 still require the 80 to 125 per cent effectiveness test?

No. It requires an economic relationship, that credit risk does not dominate, and an appropriate hedge ratio.

What is a basis adjustment?

For a hedge of a forecast purchase of a non-financial item, the amount in the cash flow hedge reserve is included in the item's initial cost.

Sources

Every fee, date and rule on this page was taken from these official and primary sources.

  1. IFRS Foundation: IFRS 9 Financial Instruments

Rules and fees change. If you are reading this long after October 4, 2026, confirm the figures with the source before you rely on them.

IFRS 9IFRS 9 financial instruments explainedIFRS 18IFRS 18: where foreign exchange differences and derivatives goIFRS 9Classification and measurement under IFRS 9: business model and SPPI

More in IFRS 9

Previous in this topicThe simplified approach: a provision matrix for receivablesNext in this topicDerecognition of financial assets under IFRS 9TopicAll 8 guides in IFRS 9

This guide is general information. It is not tax or legal advice for your situation.