United States: EITF Update: June 11, 2013 Meeting Highlights

SUMMARY

At its meeting on June 11, the Emerging Issues Task Force (EITF or Task Force) discussed six issues and reached two final consensuses and three consensuses-for-exposure.

The Task Force reached a final consensus on Issue 13-A, Inclusion of the Fed Funds Effective Swap Rate (or Overnight Index Swap Rate) as a Benchmark Interest Rate for Hedge Accounting Purposes, which would add the Fed Funds Effective Swap Rate to the benchmark interest rates permitted for hedge accounting purposes under FASB Accounting Standards Codification® (ASC) 815, Derivatives and Hedging.

Also, the EITF reached a final consensus on Issue 13-C, Presentation of an Unrecognized Tax Benefit When a Net Operating Loss Carryforward, a Similar Tax Loss, or a Tax Credit Carryforward Exists, deciding that an entity would be required to present an unrecognized tax benefit and an NOL carryforward, a similar tax loss, or a tax credit carryforward on a net basis as part of a deferred tax asset, unless the unrecognized tax benefit is not available to reduce the deferred tax asset component or would not be utilized for that purpose.

The FASB ratified the consensuses and consensuses-for-exposure at its June 26 meeting. Board-ratified consensuses will be issued as Accounting Standards Updates (ASUs) and will be incorporated into the ASC. Board-ratified consensuses-for-exposure will be posted as proposed ASUs to the FASB website for comments.

A. FINAL CONSENSUSES

Issue 13-A, Inclusion of the Fed Funds Effective Swap Rate (or Overnight Index Swap Rate) as a Benchmark Interest Rate for Hedge Accounting Purposes

Background

Under FASB Accounting Standards Codification® (ASC) 815, Derivatives and Hedging, an entity is permitted to specify the designated risk being hedged as the risk of changes in fair value or cash flows attributable to a benchmark interest rate. This provision is intended to allow an entity to account for a hedge of interest rate risk. The FASB has deemed U.S. Treasury rates and LIBOR to be acceptable benchmarks for hedging interest rate risk because they approximate a risk-free rate, are widely used as a basis for determining interest rates in financial instruments, and are commonly referenced in interest-rate–related transactions.

Since the benchmark interest rate guidance in ASC 815 was written, derivative instruments referencing an Overnight Indexed Swap (OIS) rate have become more prevalent, as has the use of an OIS rate for estimating the fair value of derivative contracts. The OIS rate, also referred to in the United States as the Fed Funds Effective Swap Rate, is a measure of the rate paid between financial institutions for short-term (overnight) financing.

At its January 17 meeting, the Task Force reached a consensus-for-exposure on Issue 13-A to add the Fed Funds Effective Swap Rate as a benchmark interest rate for hedge accounting purposes to the guidance in ASC 815.

Under the guidance, an entity would be permitted to apply hedge accounting referencing the Fed Funds Effective Swap Rate to new or redesignated hedges regardless of whether it has existing hedges designated using LIBOR or U.S. Treasury rates at the date of adoption.

Current developments

The EITF reached a final consensus on Issue 13-A to include the Fed Funds Effective Swap Rate as a U.S. benchmark interest rate for hedge accounting purposes to be applied to new or redesignated hedges.

To provide risk managers with the flexibility to utilize this additional benchmark rate, the Task Force agreed to remove the guidance in ASC 815-20-25-6, Hedging – General, that requires the use of different benchmark interest rates for similar hedges to be both "rare" and "justified." The Task Force reached this decision in response to comment letter feedback indicating that risk managers could often justifiably designate different benchmark interest rates as the risk being hedged for hedges of similar assets or liabilities, because similar hedged items might be managed differently within an organization and because risk managers might have different objectives in hedging interest rate risk for similar assets or liabilities.

The Task Force also affirmed its previous decisions that the guidance would require no additional disclosures and would be applied prospectively to new or redesignated hedging relationships.

The guidance will be effective upon issuance of a final ASU.

Issue 13-C, Presentation of an Unrecognized Tax Benefit When a Net Operating Loss Carryforward, a Similar Tax Loss, or a Tax Credit Carryforward Exists

Background

Based on the FASB staff's nonauthoritative response to a technical inquiry on implementing guidance on accounting for uncertain tax positions, many entities currently present an unrecognized tax benefit (that does not result in a taxable temporary difference) as a liability, unless it is directly associated with a tax position taken in a tax year that results in, or has resulted in, recognition of a net operating loss (NOL) carryforward or tax credit carryforward, in which case, it is presented as a reduction to the related deferred tax asset. In Issue 13-C, the Task Force reconsidered this position.

At its January 17 meeting, the Task Force reached a consensus-for-exposure to require entities to present an unrecognized tax benefit as a reduction to a deferred tax asset for an NOL or tax credit carryforward when the uncertain tax position would, or is available to, reduce the NOL or carryforward under the provisions of the tax law. The EITF noted that its proposed presentation requirement would be consistent with the intent of the guidance in ASC 210-20, Balance Sheet: Offsetting, and that in many jurisdictions unrecognized tax benefits and NOL carryforwards satisfy the criteria for offsetting assets and liabilities in ASC 210-20-45-1. Further, ASC 740-10-50-15A, Income Taxes, will continue to require public entities to disclose a rollforward of unrecognized tax benefits to provide information to users on a gross basis in addition to the net presentation on the face of the financial statements.

Current developments

The EITF reached a final consensus requiring entities to present an unrecognized tax benefit as a reduction to a deferred tax asset for an NOL or similar tax loss or tax credit carryforward, unless the uncertain tax position is not available to reduce the NOL or carryforward under the provisions of the tax law within the same jurisdiction or would not be utilized for that purpose. Otherwise, the unrecognized tax benefit would be presented gross, as a liability.

The EITF changed its position on transition guidance, deciding that entities would adopt the final consensus on a prospective rather than retrospective basis, but with an option to apply the guidance retrospectively. Based on the feedback in comment letters, the Task Force determined that the cost of requiring retrospective application would outweigh its benefit.

The guidance would be effective for public entities for annual periods, and for interim periods within those annual periods, beginning after December 15, 2013. Nonpublic entities would adopt the guidance for annual periods, and for interim periods within those annual periods, beginning after December 15, 2014. Early adoption would be permitted.

B. CONSENSUSES-FOR-EXPOSURE

Issue 12-G, Accounting for the Difference between the Fair Value of the Assets and the Fair Value of the Liabilities of a Consolidated Collateralized Financing Entity

Background

Issue 12-G addresses the diversity in practice associated with a reporting entity's measurement of assets and beneficial interests in a consolidated collateralized financing entity (CFE). A CFE holds a portfolio of collateralized financial assets, such as debt or loan obligations, and issues to investors beneficial interests that have recourse only to the CFE's assets.

Reporting entities are sometimes required to consolidate a CFE under the guidance on consolidating variable interest entities (VIEs) in ASC 810-10, Consolidation. For example, although a reporting entity holds neither beneficial interests nor equity in a CFE, it might qualify as the primary beneficiary because it manages the CFE under a subordinated fee structure.

Upon adopting the guidance in ASU 2009-17, Improvements to Financial Reporting by Enterprises Involved with Variable Interest Entities (formerly FASB Statement 167, Amendments to FASB Interpretation No. 46(R)), the primary beneficiaries of CFEs often elected the fair value option to measure the CFE's assets and beneficial interests. Due to variances in inputs, such as liquidity discounts, duration, and principal markets, the fair value of the CFE's assets might differ from the fair value of its liabilities (beneficial interests).

As reporting entities implemented the guidance in ASU 2009-17, they either (a) recognized the initial difference between the fair value of a CFE's assets and liabilities in comprehensive income, but allocated the amount to the noncontrolling interest holders and reclassified the amount to appropriated retained earnings in the statement of changes in equity, or (b) recorded the difference as a direct adjustment to appropriated retained earnings.

Under ASC 810-10, subsequent gains and losses resulting from changes in the fair value of a consolidated CFE's assets and liabilities must be recorded in the reporting entity's net income. However, after adopting the guidance in ASU 2009-17, some reporting entities recognized these changes in fair value through earnings, but then attributed them to noncontrolling interest holders, excluding the changes from income available to common shareholders, and then reclassified them to appropriated retained earnings in the statement of changes in equity.

At its March 14 meeting, the Task Force reached a final consensus on Issue 12-G that reporting entities that consolidate a CFE and elect the fair value option under ASC 825, Financial Instruments, must measure the CFE's financial assets and financial liabilities consistently with how a market participant would price the reporting entity's net risk exposure. The EITF also decided that a reporting entity would allocate the net risk exposure to the CFE's individual financial assets and financial liabilities, and would recognize both the financial assets and beneficial interests of the CFE on a gross basis at either the fair value of the assets or liabilities, whichever is more reliably determinable.

The EITF decided that an entity with a nominal amount of nonparticipating equity could qualify as a CFE and that a CFE temporarily holding nonfinancial assets, such as real estate obtained through foreclosure, would be within the scope of the proposed guidance. Further, the Task Force decided that a reporting entity would not include beneficial interests in a CFE that represent compensation for services, such as management fees, in its fair value measurement of the CFE's financial assets or financial liabilities.

Current developments

During the FASB's review process, some Board members expressed concerns about certain guidance to be included in the final ASU and asked that the EITF reconsider the Issue. On June 11, the Task Force decided to propose removing the requirement that an entity should measure the net risk exposure of its investment in a CFE under ASC 825. Instead, a reporting entity that elects the fair value option to measure the financial assets and financial liabilities of a CFE would be required to measure the fair value of the financial liabilities based on the fair value of the financial assets and carrying amount of any nonfinancial assets of the CFE.

A reporting entity would measure the fair value of a CFE's financial liabilities as follows:

• The sum of both of the following:
  
  
  • The fair value of the CFE's financial assets
  • The carrying value of the CFE's nonfinancial assets
• Less the sum of both
  
  
  • The sum of the fair value of the financial assets and the carrying value of the nonfinancial assets related to the reporting entity's beneficial interest in the CFE
  • The carrying value of any beneficial interests in the CFE that represent compensation for services provided by the reporting entity

The Task Force also decided that a reporting entity would be required to provide the fair value disclosures in ASC 820, Fair Value Measurement, for the financial assets only, and would provide a new qualitative disclosure that explains how the financial liabilities were measured.

Finally, the Task Force decided that reporting entities would apply the guidance using a modified retrospective approach, with a cumulative effect adjustment to retained earnings at the beginning of the period of adoption. Reporting entities that did not previously elect the fair value option would be allowed to make a one-time election of this option upon adopting the final consensus. Entities that previously elected the fair value option would be permitted to apply the guidance on a full retrospective basis.

The Issue will be re-exposed for public comment.

Issue 12-H, Accounting for Service Concession Arrangements

Background

U.S. GAAP does not currently include guidance on accounting for service concession arrangements, which are contracts under which a public sector entity grants a private entity the right to operate and/or maintain its infrastructure assets. Common examples of infrastructure assets subject to service concession arrangements include toll roads, hospitals, and prisons.

As a result, there is currently diversity in practice for accounting for service concession arrangements. For purposes of identifying the relevant accounting guidance, entities generally characterize a service concession arrangement as either a lease or as an intangible or financial asset. In Issue 12-H, the Task Force is considering whether to provide guidance that would resolve this diversity in practice.

At its January 17 meeting, the Task Force expressed support for requiring entities to recognize service concession arrangements as intangible or financial assets rather than accounting for them under the leasing guidance. The members agreed that the scope of the Issue would be limited to arrangements where (a) the grantor has some level of control over the services the operating entity must provide with the infrastructure and under what terms, and (b) the grantor controls the residual interest in the infrastructure at the end of the term of the arrangement. Arrangements within the Issue's scope would not be accounted for as leases because the operating entity does not have the right to control the use of the grantor's infrastructure.

The members decided at the January 17 meeting to delay reaching a consensus-for-exposure until the language in the summary, including the scoping criteria which formed the basis for the discussion at the meeting, was recast as proposed guidance for review.

Current developments

At its June 11 meeting, the Task Force reached a consensus-for-exposure on Issue 12-H stipulating that a service concession arrangement within its scope should not be accounted for as a lease.

Entities would be required to adopt the proposed guidance on a limited retrospective basis, with a cumulative effect adjustment for all contracts existing at the beginning of the period of adoption. The Task Force further agreed that transition disclosures would be required in accordance with ASC 250, Accounting Changes and Error Corrections.

Issue 13-E, Reclassification of Collateralized Mortgage Loans upon a Troubled Debt Restructuring

Background

Current guidance in ASC 310-40-40-6, Receivables: Troubled Debt Restructurings by Creditors, on a lender's accounting for foreclosed real estate requires derecognition of a loan receivable and recognition of other real estate owned (OREO) when it undertakes a troubled debt restructuring (TDR) that is in substance a repossession or foreclosure, whereby the lender receives physical possession of the property regardless of whether formal foreclosure proceedings have occurred. In practice, there are varying interpretations of what constitutes "in substance a repossession or foreclosure" and "physical possession" as such terms are not defined.

Current developments

The Task Force reached a consensus-for-exposure on Issue 13-E indicating that a creditor undertaking a TDR that is in substance a repossession or foreclosure would be considered to have taken physical possession of real estate property, and would therefore be required to recognize OREO in satisfaction of the loan, if either (a) the creditor obtains legal title to the real estate collateral or (b) the borrower voluntarily conveys all interest in the real estate property to the creditor to satisfy that loan, even though legal title did not yet pass. The EITF observed that the abilities to receive rental income or to sell or otherwise transfer real estate property are key benefits of ownership that do not accrue to a creditor unless it either holds title to the property or has legally obtained all interests in the property from the borrower.

The Task Force also tentatively decided that additional information should be disclosed about loans currently in the process of foreclosure, similar to the existing requirement in quarterly bank regulatory "call reports." In addition, the Task Force decided that entities should disclose a rollforward of OREO.

Entities would be required to apply the proposed guidance to new and existing loans using a modified retrospective approach, whereby a cumulative effect adjustment would be recorded to reclassify amounts between residential consumer mortgage loans and OREO, with an offsetting adjustment to the opening balance of retained earnings for the current year.

The staff indicated that a second issue related to TDRs on the accounting for the effect of a Federal Housing Administration guarantee, which had originally been combined with Issue 13-E, would be considered as a separate issue at a future meeting. Refer to the May 1, 2013 meeting agenda report for more information.

C. OTHER MATTER DISCUSSED

Issue 13-D, Determination of Whether a Performance Target That Can be Achieved after an Employee Provides the Requisite Service Is a Performance Condition or a Condition That Affects the Grant Date Fair Value of the Awards

Background

Diversity in practice currently exists among preparers in accounting for share-based payment awards that contain a performance target if a holder is not required to be employed by the company at the time the performance target is met and the award vests.

For example, an entity issues restricted stock units that contain a three-year service period but only become transferable if an IPO occurs before the end of the award's ten-year contractual life. After providing three years of service, an employee could terminate employment, retain the restricted stock unit, and eventually transfer the award upon an IPO, as long as the IPO occurs within ten years of the grant.

Some entities treat the performance target as a vesting condition and do not recognize compensation expense until it is probable the condition will be met (in the example, the expense would be recognized when an IPO occurs). Other entities treat the performance target as an "other" condition that impacts the grant-date fair value of the award.

Entities that treat the performance target as a vesting condition could recognize compensation expense despite no longer employing the award holder, provided that the holder terminated employment after the requisite service period.

Current developments

Mixed views were expressed by Task Force members, although there appeared to be stronger preliminary support for considering the performance target as a vesting condition. The EITF acknowledged that treating the performance target as a non-vesting condition would align with guidance under IFRS, but that such a position would complicate the measurement of affected awards. The Task Force directed the FASB staff to perform additional research on this subject and agreed to discuss the results at a future meeting.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.