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Disclosure Rules Are Mapped out for Short-term Funding Deals

The FASB October 2, 2013, moved forward with a plan to require more disclosures about a type of short-term funding used by financial companies.  The decision to require new disclosures resulted from board members balancing their ideal of accounting purity versus the need to finish a project that was initially planned as a quick, narrowly focused amendment for a specific type of trading activity.

More than 18 months have passed since the effort was added to the board’s agenda. Nine months have elapsed since the draft version of the amendments were published in Proposed Accounting Standards (ASU) No. 2013-210,Transfers and Servicing (Topic 860): Effective Control for Transfers with Forward Agreements to Repurchase Assets and Accounting for Repurchase Financings.

The project agenda on the FASB website says the final amendments should be published by the end of the year, but board members are frustrated with how long the project has taken and how the outcome may not please everyone.

FASB member Thomas Linsmeier called the project “a Band-Aid,” but one that was necessary to address criticisms about accounting for the type of transactions used by the failed commodities brokerage firm MF Global Inc.

FASB member Marc Siegel expressed similar sentiments, saying the board needed to finally put the project to rest.  “A year-and-a-half ago, we put on a narrow project that was going to be finished last Christmas,” Siegel said. “Now we’re talking about same issue—trying to get a narrow project done.”

The FASB had been under pressure to shed more light on accounting for repurchase agreements for the past several years. In 2011, the board issued ASU No. 2011-03,Reconsideration of Effective Control for Repurchase Agreements, to remove from U.S. GAAP the provision that a bank or broker funding its business with repos hold collateral in order to be considered as still in control of the assets.

The change addressed an accounting gimmick Lehman Brothers Holdings Inc. exploited in the months before its massive bankruptcy triggered the 2008 financial crisis.

After the MF Global’s implosion in October 2011, the SEC pressured the FASB to take a look at the specialized repos the firm used called repurchase-to-maturity transactions. FASB technical director Susan Cosper was summoned to testify before Congress in March 2012 about the accounting for the transactions after it was revealed that MF Global used the deals in its day-to-day business.

Repurchase agreements, or repos, are commonly used for short-term funding by banks and broker-dealers. Typically, one party will sell assets or securities to another and agree to buy them back at later date at a higher price. The agreements essentially are cash loans.

In a repo-to-maturity, the buyback date is the maturity of the underlying asset, such as a two-year Treasury note or an 30-year mortgage bond.

MF Global classified the transactions as sales and didn’t record them on its balance sheet. The maneuver helped the company look less leveraged than it actually was. The commodities broker also tied its repos to risky European sovereign debt, and as concerns grew in 2011 about the financial stability of many European nations, MF Global’s ability to finance its daily trading eroded.

Proposed ASU No. 2013-210 altered the requirements for reporting that a company no longer holds an asset on its balance sheet, or derecognition. It called for repurchase-to-maturity agreements to be accounted for as secured borrowings.

A majority of board members reasoned at the time that the amendments would give investors and creditors more information about the transactions and the risk associated with them.

But the plan was criticized by almost all the auditors, companies, and banks that submitted comments. Many letters challenged the idea that the proposal would carve out an exception for repurchase-to-maturity agreements from FASB ASC 860-10,Transfers and Servicing, formerly SFAS No. 140, but not for similar types of short-term funding.

In May, the FASB acknowledged that many accountants wanted the board to treat repurchase-to-maturity agreements as loans, not sales, but they didn’t agree with the terms of Proposed ASU No. 2013-210. Finding a conceptually pure answer, however, would require a broader revision of FASB ASC 860-10 that would take much longer.

Instead, the board agreed to require companies that trade repurchase-to-maturity contracts or similar instruments to disclose more information about them in the footnotes to their financial statements. (See Amendments to Repo Accounting Are Downgraded to Footnote Disclosures in the May 29, 2013, edition of Accounting & Compliance Alert.)

“I’d rather say let’s not worry about accounting, give disclosures that let you understand what the implications are if the accounting is a sale or the accounting is a refinancing,” Linsmeier said.

For transfers that are accounted for as sales, the FASB agreed to a set of disclosures aimed to give analysts information to understand the business’s continuing exposure to the transferred financial assets. A company would have to state the carrying amounts of assets it moved off its balance sheet as of the date of the initial transfer and significant changes from prior periods.

The company also would have to describe the arrangements and the risks related to them, among other information.  Board members also agreed that the downgrade of the amendments to footnote disclosure rules instead of reporting requirements wouldn’t require the publication of a revised proposal for another round of public comment.

The FASB plans to conduct outreach with securities analysts and businesses before drafting the final update, FASB Chairman Russell Golden said.

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Meet Paul Raymond

Meet Paul Raymond

Mr. Raymond is a sought after speaker in tax controversy law by many attorney, accountant, and business groups and at the request of the Internal Revenue Service, has presented programs at the IRS Nationwide Tax Forum, attended by tax professionals throughout the United States.

Additionally, he continues to be an active member in the Section of Taxation, American Bar Association, where he was the Past Chair of the Employment Taxes Committee.

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