OFF-BALANCE SHEET ACCOUNTING UPDATE:

Transcription

1 2003 Tax Executives Roundtable OFF-BALANCE SHEET ACCOUNTING UPDATE: A DISCUSSION OF FASB INTERPRETATION NO. 45 AND NO. 46 W. Lynn Loden Deloitte & Touche LLP

2 FASB INTERPRETATION NO. 46: CONSOLIDATION OF VARIABLE INTEREST ENTITIES AN INTERPRETATION OF ARB NO. 51 1

3 Overview Issued to address perceived weaknesses in accounting for entities commonly known as special-purpose or off-balancesheet entities Guidance applies to a larger population of entities Provides guidance for identifying the party with a controlling financial interest resulting from arrangements or financial interests rather than from voting interests Defines "variable interest entity" (VIE) based on the premise that if a business enterprise has a controlling financial interest in a VIE, the assets, liabilities, and results of the activities of the VIE should be included in the consolidated financial statements of the business enterprise. 2

4 Is the Entity a Variable Interest Entity? Is the total equity investment at risk sufficient? No Characteristics of a Controlling Financial Interest Do equity investors have the ability to make decisions about entity s activities through voting or similar rights? No Do equity investors have the obligation to absorb the expected losses if they occur? No Do the equity investors have the right to receive the expected residual returns if they occur? No Apply consolidation guidance in ARB 51/ FAS 94 Entity is a VIE 3

5 Is the Entity a Variable Interest Entity? How much Equity needs to be At Risk? The 10 Percent Presumption Not a Bright Line An investment of less than 10% of total assets can be demonstrated Some entities may require an investment of more than 10% What do Expected Losses Include? Expected variability in the entity s net income or loss Expected variability in the fair value of the entity s assets if not included in net income or loss Fees to the decision maker Fees to providers of guarantees of value of all or substantially all of the entity s assets and payment of substantially all of entity s liabilities (Includes writers of puts and similar instruments) Note: Expected losses related to specified assets are not considered part of the expected losses of the entity for purposes of determining the adequacy of equity at risk in the entity unless the specified assets constitute a majority of assets of the entity. 4

6 Variable Interests Might be a Variable Interest Risk equity & subordinated debt positions Some derivatives Forward purchase & sale contracts (but they may be too small to matter much) Guarantees Fixed Price Purchase Option 5

7 Consolidation Model for VIEs Step 1: Is the entity or enterprise scoped out of the Interpretation? No Step 2: Is the entity a variable interest entity ( VIE )? Step 3: Does the enterprise hold a variable interest ( VI )? Step 4: Is the VI in specific assets of the entity? If so, consider paragraphs 12 and 13. Step 5: Is the enterprise the primary beneficiary ( PB ) of the VIE? No No No Apply consolidation guidance in ARB 51/ FAS 94 Consolidate the VIE Do not consolidate entity 6

8 Segregated Assets & Silos A variable interest in less than a majority of the assets is not a variable interest in the overall entity. A holder of variable interests in any identifiable sub-group of assets will treat it as a separate VIE (silo) if: The overall entity is a VIE, and Those assets (plus any credit support) are essentially the only source of payment of other liabilities or interests If one participant consolidates a silo, everyone else ignores it 7

9 Is the Enterprise the Primary Beneficiary (PB)? The ability to make decisions that significantly affect the entity is a strong indication that the decision maker has one or both characteristics. (para. 14) If one enterprise s VI absorbs a majority of the expected losses and another enterprise s VI receives a majority of the residual returns, the VI absorbing the expected losses is given more weight. (para. 18) Does the enterprise absorb a majority of the VIEs expected losses if they occur? No Does the enterprise's VI receive a majority of the residual returns and no other enterprise absorbs a majority of the expected losses? No The enterprise is not the PB do not consolidate the VIE The enterprise is the PB consolidate the VIE 8

10 Effective Date and Transition Provisions Current year end disclosure requirements (12/31/02) if reasonably possible that an enterprise will consolidate or disclose information about a VIE once FIN 46 is effective. Provisions effective immediately for interests in VIEs created after 1/31/03. For interests in entities created before 2/1/03: Public companies by the beginning of the first interim or annual reporting period beginning after June 15, ( e.g. July 1) Private companies by the end of the first fiscal annual reporting period beginning after June 15, [para. 27] (e.g. 12/31/04) 9

11 Effective Date and Transition Provisions (Continued) Measure assets, liabilities, and non-controlling equity in VIE at carrying amounts at the date enterprise first met the requirements to be the PB. FIN 46 may be applied prospectively with the cumulative effect adjustment as of the beginning of the period in which it is first applied or by restating previously issued financial statements with a cumulative effect adjustment as of the beginning of the first year restated. [para. 29] 10

12 FASB INTERPRETATION NO. 45: GUARANTOR S ACCOUNTING AND DISCLOSURE REQUIREMENTS FOR GUARANTEES, INCLUDING INDIRECT GUARANTEES OF INDEBTEDNESS OF OTHERS AN INTERPRETATION OF FASB STATEMENTS NO. 5, 57, AND 107 AND RECISSION OF FASB INTERPRETATION NO

13 OVERVIEW Outlines the disclosures required by a guarantor in its financial statements about its obligations under certain guarantees that it has issued Clarifies that a guarantor is to recognize, at inception of a guarantee, a liability for the fair value of the obligation Does not prescribe a specific approach for subsequently measuring the guarantor s recognized liability over the term of the related guarantee 12

14 Scope (Paragraph 3) A contract that has any of the following characteristics: Guarantor required to make payments based on changes in underlying related to asset, liability or equity security of the guaranteed party Guarantor required to make payments based on another entity s failure to perform Indemnification under which indemnifying party (guarantor) required to make payments based on changes in underlying related to asset, liability or equity security of indemnified party Indirect guarantees of indebtedness of others (FIN 34) Except does not include an entity s guarantee/ indemnification of own future performance Not in ED 13

15 Scope Exceptions Not in ED Application of all provisions (para. 6): Lessee s residual value guarantee of assets subject to capital lease (FAS 13) Guarantee/indemnification issued by insurance companies (FAS 60, 97, 113, 120) Contingent rent (FAS 13) Vendor rebates based on volume or revenue Guarantee excluded from FAS 5 under para 7 of FAS 5 (employment-related costs) Guarantee that prevents sale accounting Not in ED 14

16 Not in ED Not in ED Not in ED Scope Exceptions (Continued) Accounting provisions, disclosures required (para. 7): FAS 133 derivatives Product warranties (FASB TB 90-1) Contingent consideration in a business combination (FAS 141) Guarantees classified as equity under EITF 00-19, 01-6 Lessee guarantee if secondarily liable under new lease (FAS 13) Guarantee issued either between parents and subsidiaries or between corporations under common control Parent guarantee of sub s debt to third party Subsidiary s guarantee of debt owed to third party by parent or another subsidiary of parent 15

17 Accounting for Guarantee Initial Accounting guidance (para ): Recognize obligation to stand ready, even though triggering event has not occurred yet (i.e., not probable and estimable), whether a cash premium was received or not. Amount recognized is greater of (a) fair value or (b) amount required by FAS 5 Offsetting entry (what s the debit?): Depends on specific facts and circumstances (some examples provided in para. 11) Not in ED Subsequent accounting guidance provided (para. 12) If FAS 133 derivative, MTM If not FAS 133 derivative, possible models: amortization vs. extinguishment Recognize contingent obligation in accordance with FAS 5 16

18 Disclosure of Guarantee Required disclosures (para ): 14): Nature of guarantee o How did guarantee arise? o What is trigger? Change from ED Maximum potential loss (maximum future cash payments, gross of liability already recorded and gross of recovery tools), except for product warranties (see below) Liability already recorded Nature of potential recovery tools: o Recourse provisions with third parties o Collateral Product warranties: o Accounting policy o Tabular reconciliation of liability Change from ED Change from ED 17

19 Effective Date Effective Date: Disclosures: Fiscal periods ending after December 15, 2002 o In year of adoption only disclosures for current period (no comparative) Accounting recognition: Guarantees entered into or modified after December 31, 2002 Change from ED 18

20 Questions 19