Commentary on Sections Overview Chapter 2: Contracts to which this Part applies Section 579: The accounting conditions
1521.This section sets out the conditions mentioned in section 576(1)(b). It is based on paragraph 3 of Schedule 26 to FA 2002.
1522.Most derivative contracts meet the first of the conditions in subsection (1), that the relevant contract is treated for accounting purposes as a derivative. Subsections (3) and (5) explain when a relevant contract is treated for accounting purposes as a derivative. Financial Reporting Standard 25 (“FRS 25”) deals with the presentation of financial instruments in accounts.
1523.The second condition has two legs. The first covers a contract that does not meet a particular requirement of Financial Reporting Standard 26 (measurement in accounts of financial instruments) (“FRS 26”) that must be satisfied if the contract in question is to be treated as a derivative under FRS 25. Paragraph 9(b) of FRS 26 prescribes that the “financial instrument or other contract within the scope of this Standard… requires no initial net investment or an initial net investment that is smaller than would be required for other types of contract that would be expected to have a similar response to changes in market factors”.
1524.The second leg of the second condition is that the contract is nevertheless treated for accounting purposes as a financial asset or financial liability. Subsections (4) and (5) have the same function in relation to the second condition as have subsections (3) and (5) in relation to the first condition.
1525.The third condition brings in contracts that fail the first or second condition but have underlying subject matter within one of the categories prescribed in subsection (2). If the underlying subject matter is commodities, it does not matter what category of relevant contract the contract is. But only a contract for differences can meet the condition by reference to the other prescribed categories of underlying subject matter. So an option or future whose underlying subject matter is one or more of the categories in subsection (2)(b) is only a derivative contract if it meets one of the other accounting conditions.