Forward rate agreement (FRA) is a financial contract that allows parties to hedge against interest-rate risk. This agreement sets a fixed interest rate at a future date, protecting both parties from market fluctuations. In accounting, FRA is treated as a derivative, and there are specific accounting entries that need to be made when entering into an FRA.

To understand the accounting entries for FRA, it is essential to first establish the FRA`s financial terms. The FRA`s terms typically include the notional amount, the settlement date, the reference rate, and the fixed interest rate. The notional amount is the amount of money that is being “agreed upon” for the FRA. The settlement date is the date on which the FRA`s cash settlement will occur. The reference rate is the benchmark rate that the FRA is being based on, such as LIBOR or EURIBOR. The fixed interest rate is the rate that the parties agreed to in the FRA contract.

When an FRA is initially entered into, no accounting entries are required. However, as time progresses, the market conditions may change, and the FRA`s value may fluctuate. Therefore, it is necessary to periodically adjust and record the FRA`s value in the books. The steps for FRA accounting entries are as follows:

1. Record the FRA contract – Initially, the FRA contract should be recorded in the books and disclosed in the notes to the financial statements.

2. Calculate the FRA value – At each reporting period, the FRA`s value should be calculated to reflect the current market interest rates. The FRA`s value can be calculated using an FRA valuation model, and it is typically recorded as a liability or asset depending on its value.

3. Record the FRA`s value – The FRA`s value should be recorded in the books as a liability or asset. If the FRA has a positive value, it should be recorded as an asset, and if it has a negative value, it should be recorded as a liability.

4. Accrue interest – The FRA`s interest should be recognized using the effective-interest method over the FRA`s life. The interest income or expense should be recorded in the books.

5. Reconcile the FRA – At the FRA`s settlement date, the FRA`s value should be reconciled, and any differences should be recorded in the books.

In conclusion, FRA accounting entries require a comprehensive understanding of the FRA`s financial terms and periodic valuation. Accurately recording the FRA in the books and reconciling its value at settlement is essential for effective financial management. With these accounting entries, businesses can mitigate interest-rate risk and protect their financial assets.