Board Meeting Handout. Technical Corrections and Improvements July 30, 2014

Transcription

1 Board Meeting Handout Technical Corrections and Improvements July 30, 2014 PURPOSE 1. The purpose of this meeting is to provide the Board with suggested changes to the FASB Accounting Standards Codification for various technical corrections and minor improvements as part of the Technical Corrections and Improvements 2014 Project. The staff has drafted a proposed Accounting Standard Update that includes proposed changes relating to various topics in the Codification. 2. The staff intends to discuss (a) the more substantive changes presented in the staff draft of the proposed Update, (b) changes that may require transition guidance, and (c) changes to the SEC content in the Codification. The staff will then ask if there are other suggested changes in the staff draft of the proposed Update that the Board would like to discuss. BACKGROUND INFORMATION 3. On November 10, 2010, the acting FASB chairman added a standing project to the FASB s agenda to address feedback received from stakeholders on the Codification. In this project, the FASB staff will periodically review feedback received from stakeholders, aggregate items that meet the scope of the project with other submissions, and discuss recommended Codification amendments with the Board at one or more public meetings. The Board will periodically issue a proposed Accounting Standards Update to seek public comment on any proposed amendments. 4. The goal of this perpetual project is to facilitate Codification updates for technical corrections, clarifications, and minor improvements to eliminate the need for periodic agenda requests. Suggestions received from the Codification Feedback System are initially reviewed by a member of the Technical Corrections Project team to assess the nature of the suggested amendment and to identify technical staff to evaluate the overall merit of the suggested amendment. Suggested amendments that are deemed to potentially have merit The staff prepares Board meeting handouts to facilitate the audience's understanding of the issues to be addressed at the Board meeting. This material is presented for discussion purposes only; it is not intended to reflect the views of the FASB or its staff. Official positions of the FASB are determined only after extensive due process and deliberations.

2 are subject to further research and evaluation by the team and other knowledgeable staff as necessary. Any suggested amendments that are rejected either upon initial consideration or after further research are annotated in the Codification Feedback System with a brief explanation of why the suggested amendment was not further considered. EMPLOYEE STOCK OWNERSHIP PLANS 5. The proposed Technical Corrections, Master Glossary ASU, provided to the Board on November 6, 2013, included a conforming amendment that linked the term fair value in Subtopic , Compensation Stock Compensation, to the definition of fair value established by FASB Statement No. 157, Fair Value Measurement (Topic 820). The staff was advised of a potential issue with that conforming amendment; specifically, some stakeholders have said that employee stock ownership plan (ESOP) values are not based on Topic 820 fair value. Based on information obtained from a stakeholder with ESOP expertise, the staff delayed the discussion of all fair value related topics at the November 13, 2013 Board meeting to complete additional research. 6. ESOPs are valued by two different entities the ESOP trustee (trustee) and the entity sponsoring the ESOP plan (plan sponsor). The trustee is required to value the ESOP based largely on regulations and guidance established by the Department of Labor (DOL) and the Internal Revenue Service (IRS). Plan sponsors are required to determine the fair value of the ESOP assets using Subtopic , which currently reflects the definition of fair value that was in AICPA SOP No. 93-6, Employers Accounting for Employee Stock Ownership Plans. 7. The DOL/IRS measurement guidance and the SOP 93-6 fair value measurement guidance are each different from guidance provided in Topic 820. The SOP 93-6 definition of fair value does not conflict with the valuation requirements established by the DOL and IRS but the Topic 820 definition may in some instances. 8. The staff spoke to a firm with ESOP expertise who indicated that: (a) Plan sponsors are using the definition of fair value that was in SOP 93-6, not the definition in Topic 820. Page 2 of 11

3 (b) (c) Topic 820 requires different valuation assumptions than SOP 93-6, and those differences could result in significantly different valuations for the ESOP. Plan sponsors may be using the trustee s valuation based on DOL/IRS requirements because it is more consistent with the requirements of SOP 93-6 and avoids the cost of two separate valuations and the risk of ending up with two different valuations that would need to be reconciled. 9. As a result, the firm is concerned that the proposed conforming amendment to link the term fair value in Topic to Topic 820 may lead to a change in practice that would increase costs for entities sponsoring ESOPs because two different valuations would be required, one based on the requirements of the DOL/IRS and one based on the requirements of Topic 820. Staff Analysis 10. The staff researched the project files from the original codification efforts for Subtopic and two prior projects that included the staff s recommendations for a conforming amendment to link the term fair value in Subtopic to Topic 820. Discrepancies regarding which definition of fair value applied to Subtopic began at the time of initial codification. Initial Codification instructions linked fair value used in Topic to Topic 820. Those instructions were changed by the FASB s Codification staff because it conflicted with the definition of fair value that was in the glossary section for Subtopic The fair value definition codified in the glossary for Subtopic was, and still is, the definition of fair value from FASB Statement No. 123(R), Share-Based Payments. 11. ESOP transactions are specifically removed from the scope of Statement123(R) in paragraph and the definition of fair value from that standard should not have been codified in the glossary for Subtopic It appears from the Codification review notes that the Codification staff accepted that the Statement 123(R) definition was appropriate for Subtopic and, therefore, rejected the instructions to link fair value in Subtopic to Topic In addition, SOP 93-6 included a definition of fair value embedded in the text of the guidance that was different from the definitions of fair value in Statement 123(R) and Topic 820. The text from SOP 93-6 with the embedded definition of fair value was codified in Page 3 of 11

4 paragraph As a result, Subtopic was initially codified with two different definitions of fair value. The Subtopic-related glossary contained the Statement 123(R) definition while the text of the guidance contained the definition from SOP Both Accounting Standards Update No , Amendments to Achieve Common Fair Value Measurements and Disclosure Requirements, and Accounting Standards Update No , Technical Corrections, proposed conforming amendments to link the term fair value in Subtopic to Topic 820. In both instances, the conforming amendments were removed from the final Update because of the concerns explained above. However, in Update , a related conforming amendment to paragraph that stated that Subtopic is within the scope of Topic 820 was not removed. As a result, Topic 820 states that ESOPs are subject to the measurement requirements of Topic 820, but Subtopic does not. Staff Recommendation 14. The staff s research indicates that audit firms are using Topic 820 to audit ESOP plans. The staff did not find evidence that other valuation methodologies were being used and did not identify any material differences between the ESOP values reported on Form 5500, which is governed by DOL/IRS guidance, and values being reported in the GAAP audit report of the plan. This leads the staff to believe that a conforming amendment linking fair value in Subtopic to Topic 820 would not change current practice or result in higher costs to plan sponsors. Therefore, the staff recommends an amendment to Subtopic to: (a) Remove the Statement 123(R) definition from the Subtopic glossary. (b) Link the term fair value to Topic 820. (c) Remove the embedded definition of fair value from the text of paragraph Transition Guidance 15. To address the possibility that some plan sponsors either do not apply the Topic 820 framework or rely on valuations performed by ESOP plan fiduciaries that may not apply the Topic 820 framework, the staff recommends that transition guidance be provided. The staff Page 4 of 11

5 recommends a prospective transition methodology because estimating a fair value for historical events does not appear to provide useful information and requiring a retrospective correction could involve many years of ESOP valuations, which could be costly. The staff also recommends that plan sponsors who were not applying Topic 820 when valuing ESOP plans provide the following disclosures in the first annual financial reports that are issued following the effective date of the amendment: (a) (b) The fact that they were not using the framework in Topic 820 in prior valuation of the ESOP plan(s) Describe how the valuation methodology that was used differed from that of Topic 820 and the possible effect on prior valuations. Questions for the Board 1) Should a conforming amendment be made to Subtopic to clearly indicate that Subtopic is within the scope of Topic 820? 2) If the answer to question 1 is yes, does the Board believe that a prospective transition methodology should be provided for the proposed amendments? 3) Does the Board want to include the additional disclosures for transition in paragraph 19 (a) and (b)? FAIR VALUE 16. The proposed Technical Corrections, Master Glossary ASU, included a proposed Master Glossary change related to the definition of fair value in the Master Glossary. The objective of the project was to eliminate duplicate Master Glossary terms where possible. The Master Glossary contains two definitions of fair value. Definition 1 originates from FASB Statement No. 157, Fair Value Measurement (Topic 820), and Definition 2 originates from FASB Statement No. 123(R), Share-Based Payment (Topic 718, Stock Compensation, and Subtopic , Equity-Based Payments to Non-Employees). In the Exposure Draft preceding the Master Glossary ASU, the Board proposed to change the second definition of fair value to share-based payment value and retain the existing definition. Some respondents disagreed with that proposed amendment, and new alternatives were prepared Page 5 of 11

6 for the Board s redeliberations on November 13, Due to an issue that arose with another fair-value-related amendment being proposed (see the section above on ESOPs), all issues related to fair value were deferred to a later Technical Corrections project. 17. The following are the two definitions of fair value that are being considered: (a) Statement 157 (used in Topic 820): (i) The price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. (b) Statement 123(R) (used in Topic 718 and Subtopic ): (i) The amount at which an asset (or liability) could be bought (or incurred) or sold (or settled) in a current transaction between willing parties, that is, other than in a forced or liquidation sale. 18. Question 5 of the Questions for Respondents in the Exposure Draft of an Accounting Standards Update, Technical Corrections and Improvements Related to Glossary Terms, dated May 6, 2013, asked whether respondents agreed with renaming the fair value glossary term that originates from Statement 123(R) to share-based payment value. Respondents were split in their support of the proposed revision. Staff Analysis 19. The proposed amendment to change the term fair value that originates from Statement 123(R) sought to clarify the distinction between fair value in Topic 718 and Subtopic and its use in other areas of the Codification. Because respondents were split on whether the proposed amendments would in fact achieve the Board s objective, the staff has identified two additional alternatives for the Board s consideration. (a) Alternative 1 Consolidate the two definitions for fair value in the Master Glossary, providing one uniform concept of fair value and add language that refers the stakeholder to the additional measurement assumptions used in Topic 718 and Subtopic Page 6 of 11

7 (b) Alternative 2 Make no changes to the current Master Glossary, leaving both definitions of fair value unchanged. Alternative Alternative 1 aligns with the feedback received from the respondents who disagreed with the proposed term share-based payment value because of the confusion it could bring to a well-understood practice. This alternative would not use the term share-based payment value from the proposed amendment but would use the baseline definition of fair value from Statement 157 (Topic 820) and would direct readers to specific Topics or Subtopics for additional guidance in applying that definition. Therefore, readers would be directed to Topic 820 for guidance on applying the definition of fair value generally and to Topic 718 and Subtopic in applying the definition in the context of stock compensation and equity-based payments to nonemployees, respectively. This alternative would affirm a singular concept of fair value. 21. Although Statement 123(R) achieves a fair-value-based measurement, as opposed to fair value as defined by Statement 157, this alternative appears viable because the fair value objective of this measurement is clearly stated in paragraph : This Topic establishes fair value as the measurement objective in accounting for share-based payment arrangements and requires all entities to apply a fair-value-based measurement method in accounting for share-based payment transactions with employees except for equity instruments held by employee stock ownership plans. 22. As explained later in the Subtopic, the measurement differences in fair value arise because an award s value is adjusted for factors not contemplated in the Statement 157 (Topic 820) definition of fair value, such as performance conditions, market conditions, forfeitability, and reload features. These measurement requirements, however, help an entity develop an estimate that approaches fair value and does not necessarily contradict the overarching concept of fair value in the Codification. 23. This alternative would avoid the potential confusion arising from the proposed change to the commonly understood term fair value in Topic 718 and Subtopic This also would make the Codification more cohesive between Topics. Furthermore, there would be no Page 7 of 11

8 additional costs to update financial statement footnotes and process documents or to take other steps to incorporate a new term. Alternative Alternative 2 would do nothing. Both definitions of fair value would remain as-is in the Master Glossary. Because many who responded to the prior proposal indicated that there is little confusion about the two definitions of fair value in current practice, the perceived benefit of this proposed amendment may be minimal. The staff acknowledges that this does not align with the original objective of reducing duplicate terms in the Master Glossary, but this alternative would be receptive to feedback that there is little confusion surrounding the current definitions of fair value and would not result in additional costs for stakeholders. Staff Recommendation 25. To streamline the Master Glossary and have a single definition of fair value, the staff recommends Alternative 1, which would maintain the definition of fair value from Statement 157, but include clarifying language about the measurement differences applicable to stock compensation and equity-based payments to nonemployees. The staff proposes the following amendment to the definition of fair value in the Master Glossary: The price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. (Topic 820 includes additional guidance for applying this definition. See Topic 718 for an explanation of fair value based measurement in the context of stock compensation. See also Subtopic for assumptions specific to equity-based payments to non-employees.) 26. In addition, the staff recommends a reference to Subtopics and be added to the scope section of Topic 820. Transition Guidance 27. The proposed amendments to the Master Glossary do not change the application of the fair value guidance within Topic 718 or Subtopic Therefore, the staff believes that transition guidance is unnecessary. Page 8 of 11

9 Questions for the Board 4) Does the Board want to delete Definition 1 of fair value that originates from Statement 123(R) and reference Topic 718 and Subtopic with one overall definition of fair value that originates from Statement 157 (Topic 820)? If yes, does the Board want to also add a reference to the scope of Topic 820 for Subtopics and ? 5) Does the Board think that transition guidance would be required? TRANSITION GUIDANCE FOR OTHER AMENDMENTS 28. The staff identified certain issues in the staff draft of the proposed Update for transition guidance because the guidance in the Codification is either incorrect, leads to a change in practice, or is unclear in such a way that it may have led to misinterpretation or misapplication. The purpose of the transition guidance is to provide clarity to stakeholders on how to reflect any changes that may be necessary as a result of the proposed correction or clarification. 29. No transition guidance was necessary for Accounting Standards Update No , Master Glossary. Accounting Standards Update No , Technical Corrections, did have transition guidance that treated all potential changes as changes in accounting principle, with the cumulative effect of the change reflected as an adjustment to the opening balance of retained earnings. Entities were required to follow the disclosure requirements of Section and could elect to apply the changes retroactively. The staff recommends using the same transition guidance for any proposed amendments that the Board thinks might need transition guidance in the staff draft of the proposed Update. Page 9 of 11

10 Questions for the Board 6) Does the Board believe that transition guidance should be provided for the proposed amendments that the staff identified as needing transition guidance? If so, does the Board want to provide the transition guidance to treat the changes as changes in accounting principle, with the cumulative effect of the change reflected as an adjustment to the opening balance of retained earnings? 7) Does the Board want to require entities to follow the disclosure requirements of Section ? 8) Does the Board want to allow an entity to elect to apply the changes retroactively? 9) Does the Board wish to discuss possible transition guidance for any other suggested changes in the staff draft of the proposed Update? AMENDMENTS TO SEC MATERIALS 30. There are three proposed amendments that relate to the SEC content in the Codification. The purpose of these amendments is to provide correct specific references to various Codification sections that are referred to in the SEC content. The references being corrected also are incorrect in the original SEC rule. The staff discussed these incorrect references with the SEC staff who agreed with the suggested changes within the SEC content of the Codification. The SEC staff was unable to address when and if these incorrect references also will be corrected in the underlying SEC content. Therefore, addressing these incorrect references will result in a difference between the nonauthoritative guidance (the SEC content as presented in the Codification) and the authoritative guidance (the underlying SEC content) for an unknown period of time. Question for the Board 10) Does the Board wish to address the incorrect references to the FASB guidance in the SEC content in the Codification? NEXT STEPS 31. The staff will amend the staff draft of the proposed Update for any changes decided from this meeting and present the updated draft as a preballot draft. Page 10 of 11

11 Question for the Board 11) Are there any other suggested changes in the staff draft of the proposed Update that the Board would like to discuss? Page 11 of 11

12 PURPOSE OF THIS MEETING Board Meeting Handout Investment Companies: Disclosures about Investments in Another Investment Company July 30, The purpose of this meeting is to discuss whether the remaining Board decisions on the Investment Companies project should be included as part of the guidance in the forthcoming proposed FASB Accounting Standards Update, Technical Corrections and Improvements. The remaining decisions on the project relate to the following two topics: a. Issue 1: Master-Feeder Structures b. Issue 2: Investments Held by Investee Funds. ISSUE 1: MASTER-FEEDER STRUCTURES 2. The Board previously decided that a feeder fund should attach the master fund s financial statements along with its own financial statements. 3. The staff has identified the following two alternatives for the Board to consider: a. Alternative A: Include the tentative decision as part of the guidance in the proposed Update on technical corrections and improvements. b. Alternative B: Do not proceed with the tentative decision. Question for the Board 1. How does the Board wish to proceed regarding its tentative decision to require a feeder fund to attach the master fund s financial statements along with its own financial statements? ISSUE 2: INVESTMENTS HELD BY INVESTEE FUNDS 4. The Board previously decided that all investment companies (regulated and nonregulated) should disclose each investment owned by an investee fund that The staff prepares Board meeting handouts to facilitate the audience's understanding of the issues to be addressed at the Board meeting. This material is presented for discussion purposes only; it is not intended to reflect the views of the FASB or its staff. Official positions of the FASB are determined only after extensive due process and deliberations.

13 exceeds 5 percent of the reporting investment company s net assets at the reporting date. 5. The staff has identified the following three alternatives for the Board to consider: a. Alternative A: Include the tentative decision as part of the guidance in the proposed Update on technical corrections and improvements. b. Alternative B: Do not proceed with the tentative decision. c. Alternative C: Propose a technical correction to clarify that the guidance applies only to investment companies that are within the scope of the condensed schedule of investments requirements. Questions for the Board 2. How does the Board wish to proceed regarding its tentative decision to require all investments companies to disclose each investment owned by an investee fund that exceeds 5 percent of the reporting investment company s net assets at the reporting date? If the Board decides to propose a technical correction (Alternative C): 3. Does the Board agree that transition guidance is not necessary? 2

14 Board Meeting Handout Accounting for Financial Instruments: Classification and Measurement July 30, 2014 ACCOUNTING FOR INVESTMENTS IN EQUITY SECURITIES 1. At the July 30, 2014 decision-making Board meeting, the staff will ask the Board whether there should be a subset of investments in equity securities that should be measured at fair value through other comprehensive income (FV-OCI), and, if yes, how that subset should be defined. To address the feedback received on allowing fair value changes for certain investments in equity securities to be presented in other comprehensive income (OCI), the Board may consider the following alternatives. Alternative A: Define the Subset of Equity Securities Whose Fair Value Changes Are Permitted to Be Presented in OCI; That Is, Define Strategic Investments 2. This alternative would define the subset of equity instruments whose fair value changes are allowed to be presented in OCI. Those investments could be termed strategic investments and can be defined as follows: The objective of investing in such equity securities is for reasons other than to realize the financial benefits inherent in holding or selling the equity security, such as from receipt of dividends or from changes in fair value. A strategic investment should meet the following criteria: a. The investment is held based on the reporting entity s strategy to enhance or maintain its relationship with the investee. b. The investment is not managed and evaluated on a fair value basis and the decision to hold or sell the investment is not based on the changes in the fair value of the equity security. The staff prepares Board meeting handouts to facilitate the audience's understanding of the issues to be addressed at the Board meeting. This material is presented for discussion purposes only; it is not intended to reflect the views of the FASB or its staff. Official positions of the FASB are determined only after extensive due process and deliberations.

15 3. In addition to defining strategic investments, the Board may consider providing implementation guidance for what type of investments in equity securities would be considered strategic investments. For developing such implementation guidance the Board may consider the guidance in Topic 946, Financial Services Investment Companies, on determining the relationships and activities that would be inconsistent with the characteristics of an investment company, which is to obtain returns or benefits from an investee or its affiliates that are not normally attributable to ownership interests or that are other than capital appreciation or investment income, as a starting point. Alternative B: Affirm the Guidance in the Proposed Update That Equity Securities Would Be Measured at FV-NI, but Allow an Entity at Initial Recognition to Irrevocably Elect to Present in OCI Those Changes in the Fair Value of an Equity Security Not Held for Trading 4. Alternative B is the same as the guidance in IFRS 9, Financial Instruments, which allows an entity at initial recognition to irrevocably elect to present in OCI those changes in the fair value of an equity instrument not held for trading. Alternative C: Retain Current Generally Accepted Accounting Principles (GAAP) 5. Alternative C would retain current GAAP and affirm the basis for conclusions in Topic 320, Investments Debt and Equity Securities. Alternative D: Affirm the Guidance in the Proposed Update 6. Alternative D would not allow changes in fair value of an equity security to be presented in OCI, which would affirm the Board s decision reached to date that all equity securities should be measured at FV-NI. Question 1 for the Board Does the Board believe that a subset of equity securities should be measured at FV-OCI? If yes, how should that subset be defined? Page 2 of 5

16 CORE DEPOSIT LIABILITIES DISCLOSURE 7. At this meeting, the Board will discuss the disclosures related to core deposit liabilities in the FASB s February 2013 proposed Accounting Standards Update, Financial Instruments Overall (Subtopic ): Recognition and Measurement of Financial Assets and Financial Liabilities. 8. The proposed Update would require a public entity that has core deposit liabilities to disclose for each annual reporting period all of the following information about those liabilities. If the core deposits of an entity include different types of liability accounts, for example, demand deposits and savings accounts, the entity must disclose the following information on an appropriately disaggregated basis by significant types of core deposit accounts: a. The core deposit liability balance b. The implied weighted-average maturity period c. The estimated all-in-cost-to-service rate. 9. The proposed Update defined core deposit liabilities as deposits without a contractual maturity that management considers to be a stable source of funds, which excludes surge balances due to seasonal factors or economic uncertainty and other balances that management believes are transient (such as highly interest-rate-sensitive accounts). 10. The proposed Update also defined the implied weighted-average maturity period and the all-in-cost-to-service rate as follows: a. Implied weighted-average maturity period For a core deposit liability, management s assessment of the weighted-average expected life by account type. b. All-in-Cost-to-Service Rate A rate that includes the net direct costs to service core deposit liabilities, including interest paid on those deposits and the expense of maintaining a branch network minus fee income earned on those deposit accounts. Disclosure of Core Deposit Liability Balance 11. The following alternatives have been developed for further consideration by the Board: Page 3 of 5

17 a. Alternative A Retain the requirement to disclose the core deposit liability balance; however, amend the definition of core deposit liabilities in the proposed Update as follows: Deposits without a contractual maturity that management considers to be a stable source of funds, which excludes surge balances due to seasonal factors or economic uncertainty and other balances that management believes are transient (such as highly interest-rate-sensitive accounts). b. Alternative B Retain the requirement to disclose the core deposit liability balance; however, do not define core deposit liabilities. Rather, require an entity to qualitatively disclose what management considers to be core deposits (that is, the components that make up the core deposit liability balance). In addition, this alternative would provide qualitative characteristics of core deposit liabilities. c. Alternative C Remove the requirement to disclose the core deposit liability balance from the final guidance. Retain current GAAP that requires disclosure of the fair value of deposit liabilities by public business entities; however, such disclosure would be disaggregated by major categories of deposits. Question 2 for the Board Does the Board believe that a public business entity should provide disclosures about its core deposit liability balance? If yes: a. Does the Board believe that the final guidance should define core deposits as discussed in Alternative A? OR b. Does the Board believe that the final guidance should not define core deposits and an entity should provide a qualitative description of what management considers to be core deposits (that is, the components that make up the core deposit liability balance), as discussed in Alternative B? Page 4 of 5

18 If no: a. Does the Board believe current GAAP be retained that would require disclosure of the fair value of deposit liabilities by public business entities disaggregated by major categories, as discussed in Alternative C. If the Board chooses Alternative C, then Questions 3 5 are not relevant. Disclosure of Implied Weighted-Average Maturity Period Question 3 for the Board Does the Board believe that public business entities should disclose the implied weighted-average maturity period of the core deposit liability balance on an appropriately disaggregated basis by significant types of core deposit accounts? Disclosure of Estimated All-In Service Cost Question 4 for the Board Does the Board believe that public business entities should disclose the estimated all-in-cost-toservice rate of the core deposit liability balance on an appropriately disaggregated basis by significant types of core deposit accounts? Exempt Nonpublic Entities from the Disclosure Requirements for Core Deposit Liabilities Question 5 for the Board Does the Board believe that entities other than public business entities should be exempt from disclosing information about the core deposit liability balance? Page 5 of 5

19 Board Meeting Handout Liabilities and Equity Short-Term Improvements July 30, 2014 BACKGROUND 1. The project on short-term improvements for liabilities and equity was added to the Board s research agenda on January 29, The staff has performed research to identify some possible paths forward on how to improve the liabilities and equity accounting guidance through targeted improvements. The staff focused much of its research efforts on understanding the primary drivers of restatements in this area as well as the sources of complexity. PURPOSE OF THIS MEETING 2. The purpose of this meeting is for the Board to provide the staff with direction on this project. Specifically, the staff would like the Board to provide feedback on the project s objective. Questions for the Board 1. What does the Board think the objective of the project should be? 2. Within the selected objective, what would the Board like the project s scope to be? 3. What additional research would the Board like the staff to complete? Project Objectives 3. The staff has identified the following objectives for the Board to consider in determining the path forward on this project. a. Simplification b. Reduce Complexity and Restatements c. Disclosures. The staff prepares Board meeting handouts to facilitate the audience's understanding of the issues to be addressed at the Board meeting. This material is presented for discussion purposes only; it is not intended to reflect the views of the FASB or its staff. Official positions of the FASB are determined only after extensive due process and deliberations.

20 Objective A Simplification 4. Under this objective, the staff would take an approach similar to that of the FASB s Simplification Initiative by focusing on addressing issues that could be completed in a short period of time and that also would reduce cost and complexity while maintaining or improving the usefulness of the information. Possible options under this objective are as follows: a. Alternative A1 Improve navigation of the Codification and address the indefinite deferral in Topic 480, Distinguishing Liabilities from Equity, related to mandatorily redeemable financial instruments of certain nonpublic entities and certain mandatorily redeemable noncontrolling interests (originally issued as FASB Staff Position FAS No , Effective Date, Disclosures, and Transition for Mandatorily Redeemable Financial Instruments of Certain Nonpublic Entities and Certain Mandatorily Redeemable Noncontrolling Interests under FASB Statement No. 150). b. Alternative A2 Address alternative A1 in addition to accounting for derivatives, indexed to, and potentially settled in, an entity s own stock in Subtopic , Derivatives and Hedging Contracts in Equity s Own Equity (originally issued as EITF Issue No , Accounting for Derivative Financial Instruments Indexed to, and Potentially Settled in, a Company s Own Stock ). Objective B Address Problematic Areas of Guidance to Reduce Complexity for Preparers and Auditors with the Goal of Restatements 5. Under this objective, problematic areas of guidance would be addressed to reduce complexity for preparers and auditors with the goal of reducing restatements. The staff has identified accounting for derivatives indexed to, and potentially settled in, an entity s own stock; determining whether an instrument, or embedded feature, is indexed to an entity s own stock; and convertible debt as the leading causes of restatements related to distinguishing liabilities from equity. Objective C Disclosures 6. Objective C would focus on improving information delivered to investors through disclosures. Page 2 of 2

21 Board Meeting Handout Measuring Cash Balance Pension Plan Obligations July 30, 2014 PURPOSE 1. The purpose of this non-decision-making Board meeting is to discuss whether there are pervasive issues with measuring cash balance plan obligations and, if so, whether there are technically feasible, cost-effective alternatives to address those issues. The Board will be asked to decide on whether to add a project that addresses measuring an employer s obligation for cash balance plans to its technical at the next agenda prioritization meeting, which is planned for August 13, BACKGROUND 2. At the agenda decision meeting on January 29, 2014, the Board added a project to research ISSUES potential issues with measuring an employer s obligation for cash balance pension plans. This decision was based on recent concerns from some auditors and actuaries that there is diversity in practice in measuring cash balance plan obligations. 3. During outreach performed both before and after adding the cash balance project to the research agenda, some auditors and actuaries indicated that there are pervasive issues with the accounting for cash balance plan obligations. Those issues include: a. Issue A: The relevance of the measurement of cash balance plan obligations b. Issue B: Diversity in practice in measuring cash balance plan obligations, which reduces comparability c. Issue C: The relevance of the measurement of cash balance plans with assetbased return credits. The staff prepares Board meeting handouts to facilitate the audience's understanding of the issues to be addressed at the Board meeting. This material is presented for discussion purposes only; it is not intended to reflect the views of the FASB or its staff. Official positions of the FASB are determined only after extensive due process and deliberations.

22 4. Issues A and B relate to all cash balance plans in general while Issue C relates to a narrow subset of cash balance plans. Those issues are discussed in the following subsections. Issue A: Relevance of the Measurement of Cash Balance Plan Obligations 5. Some auditors questioned the relevance of measuring cash balance plan obligations using the actuarial present value method in Subtopic , Compensation Retirement Benefits Defined Benefit Plans Pension. They noted that the actuarial present value can be less than the walk away amount, which is the employee s notional account balance and the amount that an employer would be obligated to pay an employee who is eligible and who elects to receive a lump sum payout upon termination. This can occur when the interest crediting rate selected by an employer is less than the discount rate. 6. Those stakeholders stated that the walk away amount is a more relevant measure of an employer s cash balance plan obligation because it represents the amount that an employee is entitled to receive if he terminates and elects to withdraw from the plan. To address this issue, those stakeholders noted that a technically feasible, cost-effective alternative is to amend Topic 715 to require a walk away amount measurement for cash balance plan obligations. Issue B: Diversity in Practice 7. Another issue raised by some auditors and actuaries is the diversity of methods used to measure an employer s obligation for cash balance plans. Those methods include several variations of the projected unit credit method (most common), the traditional unit credit method (less common), and the walk away amount (rare). Those stakeholders do not challenge the relevance of the measurement of an employer s cash balance plan obligation. Rather, they noted that the diverse methods used in practice reduce comparability among entities because similar economic phenomena are accounted for differently. Potential Alternatives 8. Some auditors and actuaries recommended adding an example or examples to the attribution guidance in Subtopic that would address the unique features of cash balance plans. Those stakeholders noted that the guidance in Topic 715 provides examples of how to attribute benefits for traditional plans that significantly backload benefits, which Page 2 of 4

23 are not very helpful in applying the guidance to cash balance plans (see paragraphs through and through for attribution guidance). They asserted that this would help reduce inconsistencies in applying the projected unit credit method to cash balance plan obligations. Issue C: Relevance of the Measurement of Cash Balance Plans with Asset-Based Return Credits 9. According to auditors and actuaries, a newer type of cash balance plan that is uncommon but growing in the United States is one in which interest credits are based on the actual return on assets held by the plan. This type of plan, referred to as a contribution-based promise by the IASB, is more common outside of the United States according to the IASB staff. 10. Under this type of plan, the employer transfers some or most of the risk of the pension obligation to the employee by tying the interest crediting rate to the actual rate of return on the assets that the employer uses to fund the plan. According to auditors and actuaries, employers bear some risk for this type of plan because they generally guarantee a minimum return of at least the amount of the principle credit. 11. In measuring the present value of this type of obligation, an employer would include a projection of future interest crediting rates based on what the equity index fund is expected to return and discount the future value based on the guidance in Subtopic for selecting discount rates. 12. Some auditors and actuaries question the relevance of measuring cash balance plan obligations using the measurement guidance in paragraph on selecting a discount rate. Some of those stakeholders noted that the guidance requires an employer to use a high-quality corporate bond rate even though they asserted that an employer effectively settles an asset-based return plan with equity investments (for example, an asset-based return plan could be funded with an equity index fund, in which case interest credits would be based on the returns on the underlying equity index fund). Page 3 of 4

24 Potential Alternatives 13. If a plan s interest crediting rate is based on the actual rate of return on the plan s investments, one potential alternative is to add guidance to Topic 715 that would state that the discount rate should match the asset-return rate for asset-based return plans. 14. Some auditors and actuaries support this alternative because it would improve the relevance of the measurement of the present value of an employer s obligation for cash balance plans with asset-based returns. This is because the discount rate would match the expected asset return rate (an equity-based rate), which would result in a lower present value of the obligation than if the discount rate was based on a high-quality corporate bond rate. They view the lower present value to be appropriate because an employer has lowered its risk of having to fund the plan in the future by tying interest crediting rates to the actual return on plan assets. Page 4 of 4