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IAS 32

Financial Instruments: Presentation

IAS 32 establishes principles for presenting financial instruments as financial liabilities or equity, and for offsetting financial assets and financial liabilities, working alongside IFRS 9 (recognition and measurement) and IFRS 7 (disclosure) to form the complete IFRS financial instruments framework. [S1]

Effective 2005-01-01Related: IFRS 9 · IFRS 7 · IFRS 2 · IAS 1

Overview

IAS 32 classifies financial instruments, from the issuer's perspective, into financial assets, financial liabilities and equity instruments. [S1] The critical judgement is the liability-versus-equity classification: an instrument (or a component of it) is a financial liability if the issuer has a contractual obligation to deliver cash or another financial asset (or to exchange financial instruments under potentially unfavourable conditions), and is an equity instrument only if it evidences a residual interest in the entity's assets after deducting all its liabilities, with no such contractual obligation. [S2] Where a single instrument contains both a liability and an equity component (a compound financial instrument, such as a convertible bond), the components are presented and accounted for separately.

Why it matters

The liability-versus-equity classification is not a cosmetic presentation choice: an instrument classified as a liability increases reported gearing, requires ongoing interest expense recognition, and can trip debt covenants, while the same cash raised through a genuinely equity-classified instrument does neither. Preference shares, shareholder loans structured to look like equity, and convertible instruments are the recurring flashpoints where the legal form (what the instrument is called) and the accounting substance (what obligations it actually creates) can diverge, and IAS 32 requires the latter to govern.

Scope

Applies to the classification of financial instruments, from the perspective of the issuer, into financial assets, financial liabilities and equity instruments; to the classification of related interest, dividends, losses and gains; and to the circumstances in which financial assets and financial liabilities should be offset. It does not apply to interests in subsidiaries, associates or joint ventures accounted for under IFRS 10, IAS 27 or IAS 28 (except for certain derivatives on such interests), to employers' rights and obligations under employee benefit plans within IAS 19, or to share-based payment transactions within IFRS 2, except for particular contracts to buy or sell a non-financial item and treasury share transactions specifically referenced back to IAS 32.

Key definitions

term
Financial instrument
definition
Any contract that gives rise to a financial asset of one entity and a financial liability or equity instrument of another entity.
term
Financial liability
definition
A contractual obligation to deliver cash or another financial asset to another entity, or to exchange financial assets or financial liabilities with another entity under conditions that are potentially unfavourable to the issuer.
term
Equity instrument
definition
Any contract that evidences a residual interest in the assets of an entity after deducting all of its liabilities.
term
Compound financial instrument
definition
A non-derivative financial instrument that contains both a liability component and an equity component, such as a bond convertible into a fixed number of the issuer's own ordinary shares.
term
Puttable instrument
definition
A financial instrument that gives the holder the right to put the instrument back to the issuer for cash or another financial asset, which is generally a financial liability of the issuer unless it meets narrow criteria to be classified as equity.
term
Offsetting
definition
Presenting a financial asset and a financial liability net in the statement of financial position, permitted only when the entity has a currently enforceable legal right to set off the recognised amounts and intends either to settle net or to realise the asset and settle the liability simultaneously.

Recognition

IAS 32 does not itself govern when a financial asset or liability is recognised (that is IFRS 9's role); it governs how, once recognised, an issued instrument is classified. The classification is made at initial recognition based on the substance of the contractual arrangement and the definitions of a financial liability and an equity instrument, and, other than in limited circumstances (such as certain changes to the terms of the instrument), is not revisited afterwards purely because circumstances change; a contingent settlement provision that could require a cash transfer only on the occurrence of an uncertain future event outside the control of both parties, and that is not genuine, does not affect the classification, but a substantive contingent obligation to deliver cash generally results in liability classification.

Initial measurement

On issuing a compound financial instrument, the issuer first determines the fair value of the liability component (typically by discounting the contractual cash flows at the market rate for a similar liability without the conversion feature), and the equity component is then measured as the residual: the difference between the fair value of the instrument as a whole (usually the proceeds received) and the fair value of the liability component. No gain or loss arises from initially separating the components of a compound instrument.

Subsequent measurement

The liability component of a compound instrument is subsequently measured at amortised cost under IFRS 9's effective interest method like any other financial liability, with interest expense recognised in profit or loss, while the equity component is not remeasured, since it represents a residual interest, not an obligation. Distributions to holders of an equity instrument are recognised directly in equity (not as an expense), while interest, dividends, losses and gains relating to a financial liability (or a component of it) are recognised in profit or loss consistent with its liability classification.

Presentation

A financial asset and a financial liability are offset, and the net amount presented in the statement of financial position, only when the entity currently has a legally enforceable right to set off the recognised amounts and intends either to settle on a net basis or to realise the asset and settle the liability simultaneously; a mere intention or contractual right that is conditional on a future event does not justify offsetting. Interest, dividends, losses and gains relating to a financial instrument (or component) classified as a liability are presented as expense or income in profit or loss; distributions to holders of an equity instrument are presented directly within equity.

Disclosure checklist

  • The accounting policy for classifying financial instruments (or their components) as financial liabilities or equity, and for offsetting financial assets and liabilities.
  • For each compound financial instrument: a description of the principal terms, the amounts assigned to the liability and equity components at initial recognition, and the method used to determine those amounts.
  • Whether dividends, interest, losses and gains relating to a financial instrument are presented in profit or loss (for liability-classified instruments) or directly in equity (for equity-classified instruments).
  • Information supporting offsetting disclosures where financial assets and financial liabilities have been presented net, including the gross amounts and the net amounts presented (these detailed disclosures are largely set out in IFRS 7, complementing IAS 32's presentation principle).

Practical treatment

The practical discipline is looking through the legal label of an instrument to its substance: 'preference shares' are not automatically equity just because company law or the share certificate calls them shares — redeemable preference shares with a mandatory redemption date, or a mandatory dividend the issuer cannot avoid, generally create a contractual obligation to deliver cash and are classified (in whole or in part) as a financial liability. Shareholder loans structured with flexible or discretionary repayment terms require careful analysis of whether a genuine contractual obligation to repay exists. For compound instruments (most commonly convertible loan notes in Nigerian private equity and venture financing), the split-accounting exercise (valuing the liability component first, treating the equity component as residual) should be performed and documented at issuance, not retrofitted later. See nigeria_notes for the Nigerian company law and regulatory overlay on share and loan instrument classification.

Common mistakes

  • Classifying redeemable preference shares as equity purely because company law refers to them as 'shares', without assessing whether a contractual obligation to redeem for cash exists.
  • Failing to split a convertible instrument into its liability and equity components, instead accounting for the whole instrument as a single liability or a single equity item.
  • Offsetting a financial asset and a financial liability in the statement of financial position without a currently enforceable legal right of set-off and an intention to settle net or simultaneously.
  • Recognising distributions to equity holders as an expense in profit or loss, rather than directly in equity.
  • Treating a shareholder loan with vague or informally 'flexible' repayment terms as automatically equity, without assessing whether a substantive contractual obligation to repay actually exists.
  • Revisiting and reclassifying an instrument's initial liability/equity split whenever the issuer's circumstances change, rather than only in the limited situations that genuinely require reclassification.

CFO checklist

  • Assess the substance (not just the legal label) of every issued share class, loan note, and hybrid instrument for liability-versus-equity classification.
  • Perform and document a split-accounting exercise at issuance for any compound (convertible) instrument.
  • Confirm distributions on equity-classified instruments are recognised directly in equity, not as an expense.
  • Confirm any netting of financial assets and liabilities in the statement of financial position is supported by a currently enforceable legal right of set-off and an intention to settle net or simultaneously.
  • Reassess the classification of shareholder loans and preference shares whenever their terms are renegotiated.
  • Coordinate with company law advisers on how Nigerian share capital and preference share structures interact with the IAS 32 substance-over-form classification test.

FAQs

q
We issued redeemable preference shares that we must redeem for cash in five years — is this equity or a liability?
a
This is generally classified as a financial liability (or, if it also carries a discretionary dividend feature, potentially a compound instrument), because the mandatory redemption creates a contractual obligation to deliver cash to the holder, regardless of the fact that company law refers to the instrument as a 'share'.
q
Can we net our bank overdraft against our bank deposit balance in the same statement of financial position?
a
Only if there is a currently enforceable legal right to set off the amounts (for example, a formal legal right of set-off with the same bank, not merely an intention or a contractual right conditional on a future event) and the entity intends to settle on a net basis or realise the asset and settle the liability simultaneously; absent both conditions, the balances must be presented gross.
q
How do we account for a convertible loan note issued to an investor?
a
The instrument is split into a liability component (the fair value of a similar non-convertible loan, discounted at a market rate) and an equity component (the residual difference between total proceeds and the liability component's fair value), with the liability component subsequently measured at amortised cost and the equity component not remeasured.

Nigeria application notes

Regulatory overlay

IAS 32 applies in full to Nigerian public interest entities under the FRCN Act 2011 mandate. [S3] CAMA 2020 governs the legal characteristics of Nigerian share capital, including preference shares, redemption rights and the minimum issued share capital rules, providing the legal backdrop against which the IAS 32 substance-based liability/equity classification is applied; the legal label attached to an instrument under CAMA 2020 does not itself determine its IAS 32 accounting classification. [S6] Nigerian banks are additionally subject to CBN capital adequacy rules that classify regulatory capital instruments (e.g. Tier 1 and Tier 2 capital) using criteria that overlap with, but are not identical to, IAS 32's liability/equity classification test, so an instrument treated as regulatory capital by the CBN is not automatically IAS 32 equity for financial reporting purposes. [S5]

Tax interaction (Nigeria)

Interest paid on a liability-classified financial instrument (including the liability component of a compound instrument) is generally subject to withholding tax at 10% for corporate recipients, while dividends paid on an equity-classified instrument are subject to withholding tax on dividends, also generally at 10%; the IAS 32 accounting classification of an instrument does not itself determine its Nigerian withholding tax category, which follows the specific tax rules and the legal characterisation of the payment (interest versus dividend) under the Nigeria Tax Act 2025 and the Deduction of Tax at Source (Withholding) Regulations. [S4][S_TAX1] Nigerian rates, thresholds, exemptions, incentives and filing rules referenced in this file (including CIT, VAT, withholding tax categories and rates, personal income tax treatment, and the small-company threshold) should be independently verified against the Nigeria Tax Act 2025, the Nigeria Tax Administration Act 2025, the Personal Income Tax Act, CAMA/SEC requirements, and current NRS/state IRS practice at the reporting or filing date, since thresholds, rates and reliefs are subject to periodic revision and to sector- or entity-specific qualifying conditions. This file does not constitute legal or tax advice. [S_TAX1][S_TAX2]

FX considerations

A financial liability denominated in a foreign currency (for example, a US dollar-denominated convertible loan note issued by a Nigerian company) is a monetary liability retranslated at the closing rate under IAS 21, with exchange differences recognised in profit or loss; the equity component of a foreign-currency compound instrument, once separated at inception, is not subsequently retranslated, since equity is not a monetary item.

SME practical note

Nigerian SME and start-up financing structures frequently use convertible loan notes and preference shares with redemption or conversion features negotiated informally between founders and investors; Outliers recommends reviewing the actual executed instrument terms (not just the term sheet or a generic template) before concluding on IAS 32 classification, since bespoke clauses on redemption triggers, discretionary dividends, or conversion mechanics can change the classification outcome significantly.

Common Nigerian pitfalls

  • Assuming Nigerian 'preference shares' are always equity because of their company-law label, without assessing redemption and dividend obligation terms.
  • Treating a CBN-recognised regulatory capital instrument as automatically IAS 32 equity for financial reporting purposes.
  • Failing to split convertible loan notes common in Nigerian start-up and private equity financing into liability and equity components at issuance.
  • Conflating the withholding tax category of a payment (interest vs. dividend) with the IAS 32 accounting classification of the underlying instrument.

FRC pronouncements

No FRCN pronouncement specific to IAS 32 classification has been identified; the relevant FRCN context is its overarching mandate to promote IFRS compliance, operating alongside CBN's sector-specific prudential capital framework for banks. [S3][S5]

Worked examples

Classifying mandatorily redeemable preference shares as a liability

A Nigerian company issues ₦50,000,000 of preference shares that must be redeemed for cash at par value in exactly five years, with a mandatory annual dividend of 8% that the issuer cannot avoid paying.

Facts

Workings

The mandatory redemption for cash creates a contractual obligation to deliver cash to the holder, meeting the definition of a financial liability, regardless of the instrument being labelled as 'preference shares' under Nigerian company law.

The mandatory (non-discretionary) dividend reinforces the liability classification, since it represents a further contractual obligation to deliver cash, similar in substance to interest on a loan.

The entire instrument is therefore classified as a financial liability, not as equity.

Journal entries

Recognise the mandatorily redeemable preference shares as a financial liability on issuance.

AccountDr (₦)Cr (₦)
Cash50,000,000
Financial liability – redeemable preference shares50,000,000

Split accounting for a convertible loan note

A Nigerian company issues a convertible loan note for ₦100,000,000, convertible into a fixed number of the issuer's own ordinary shares at the holder's option in three years. The fair value of a similar non-convertible loan note (discounted at the market rate for a comparable instrument without the conversion feature) is determined to be ₦85,000,000.

Facts

Workings

Liability component: fair value of a similar non-convertible instrument = 85,000,000

Equity component (residual): 100,000,000 - 85,000,000 = 15,000,000

No gain or loss arises on this initial split; the sum of the components equals total proceeds.

Journal entries

Recognise the convertible loan note split into its liability and equity components on issuance.

AccountDr (₦)Cr (₦)
Cash100,000,000
Financial liability – convertible loan note85,000,000
Equity – conversion option reserve15,000,000

Sources & citations

  1. [S1]IAS 32 Financial Instruments: Presentation — IFRS Foundationaccessed 2026-07-18
  2. [S2]Scope of IAS 32 Financial Instruments: Presentation — IFRS Communityaccessed 2026-07-18
  3. [S3]IFRS - Use of IFRS Standards by jurisdiction: Nigeria — IFRS Foundationaccessed 2026-07-18
  4. [S4]Nigeria - Corporate - Withholding taxes — PwC Worldwide Tax Summariesaccessed 2026-07-18
  5. [S5]Guidelines on Regulatory Capital — Central Bank of Nigeriaaccessed 2026-07-18
  6. [S6]Highlights of the provisions relating to financial statements, audit and annual returns in CAMA 2020 — Dentons ACAS-Lawaccessed 2026-07-18
  7. [S_TAX1]Nigeria Tax Act, 2025 has been signed – highlights — EY Globalaccessed 2026-07-18
  8. [S_TAX2]Nigeria's 2025 Tax Reform Acts Explained: Key Changes — Baker Tilly Nigeriaaccessed 2026-07-18
Last reviewed 2026-07-18 · Reviewer: Rafiu Olawuyi, FCA (Author / Technical Reviewer)