| Pershing Yoakley & Associates, P.C., is pleased to present the following Audit and Accounting Update. This update is designed to provide direct access to current audit and accounting information that is relevant to you.
FASB Activities
FASB and IASB Tentative Agreement on Lease Accounting Approach
In 2009, the Financial Accounting Standards Board (“FASB”) and International Accounting Standards Board (“IASB”) undertook a joint project to develop a new treatment for leases to address the concern that assets and liabilities were not being properly recognized in the statement of financial position. The FASB and the IASB previously agreed on a lease treatment in a 2010 Exposure Draft but have continued to discuss the treatment of leases. In a meeting on June 13, 2012, the FASB and IASB tentatively agreed that a lessee should account for some leases in accordance with the treatment as described in the 2010 Exposure Draft. Other leases should use a “straight-line” expense approach. The FASB and the IASB also tentatively decided that a lessee should distinguish between those different leases based on whether the lessee acquires and consumes more than an insignificant portion of the underlying asset over the lease term.
The 2010 Exposure Draft approach instructs lessees to record leases with the following four guidelines: 1) Initially record a liability for the obligation to make the lease payment and record an asset, both at the present value of lease payments; 2) Measure the liability of lease payments using the effective interest method; 3) Amortize the asset on a systematic basis at a rate that reflects the incurrence of the expected economic benefit; and 4) Recognize interest expense and amortization expense separately on the income statement. This treatment will generally relate to leases of property other than land and buildings, or parts of buildings, unless the term of the lease is minimal in comparison to the economic life of the underlying asset or the present value of the minimum lease payments is insignificant in comparison to the fair value of the underlying asset.
The “straight-line” approach instructs lessees to record leases with the following four guidelines: 1) Initially record a liability for the obligation to make the lease payment and record an asset, both at the present value of lease payments; 2) Measure the liability of lease payments using the effective interest method; 3) Recognize lease expense on a straight-line basis regardless of the timing of payments; and 4) Recognize lease expense as a single amount on the income statement. The “straight-line” approach generally applies to the lease of buildings, parts of buildings, or land unless the lease term is a major portion of the economic life of the underlying asset or the present value of the minimum lease payments represents substantially all of the fair value of the underlying asset.
The proposed agreement of the FASB and IASB is tentative and a new Exposure Draft is expected to be published for public comment in the fourth quarter of 2012.
Exposure Drafts
The FASB recently released Proposed Accounting Standards Update (PASU), Financial Instruments (Topic 825): Disclosures about Liquidity Risk and Interest Rate Risk.
This PASU was issued by the FASB in order to provide users of financial statements with more decision-useful information about an entity’s exposures to liquidity risk and interest rate risk.
The PASU would require liquidity risk disclosures that the FASB believes provide useful information to financial statement users about the risks and uncertainties that a reporting entity might encounter in meeting its financial obligations. For a financial institution the proposed amendments would require tabular disclosure of the carrying amounts of classes of financial assets and financial liabilities segregated by their expected maturities, including off-balance-sheet financial commitments and obligations. A financial institution is defined by the PASU as an entity or reportable segment for which the primary business activity is to either earn, as a primary source of income, the difference between interest income generated by earning assets and interest paid on borrowed funds or if the entity provides insurance. The PASU would also require a financial institution to disclose in a table its available liquid funds, which include any unencumbered cash and highly liquid assets and any available borrowings such as loan commitments, unpledged securities, and lines of credit.
The PASU would require an entity that is not a financial institution to disclose in separate tables its expected cash flow obligations disaggregated by their expected maturities and its available liquid funds.
Additionally, the PASU would require a depository institution to disclose information about its time deposit liabilities. Specifically, a depository institution would be required to disclose in a table the cost of funding from the issuance of time deposits and acquisition of brokered deposits during the previous four fiscal quarters.
The PASU would also require all reporting entities to provide additional quantitative or narrative disclosure to the extent necessary so that users of financial statements can understand an entity’s exposure to liquidity risk. A reporting entity would also be required to disclose the significant changes related to the timing and amounts of financial assets and financial liabilities in the tabular disclosures about liquidity risk and available liquid funds from the last reporting period to the current reporting period, including the reasons for the changes and actions taken, if any, during the current period to manage the exposure related to those changes.
The expanded interest rate risk disclosures proposed in this PASU would not be required to be reported by entities that are not financial institutions. The proposed interest rate risk disclosures would provide information about the exposure of a financial institution’s financial assets and financial liabilities to fluctuations in market interest rates. The PASU would require a financial institution to disclose the carrying amounts of classes of financial assets and financial liabilities segregated according to time intervals based on the contractual repricing of the financial instruments. The disclosure would also include the weighted-average contractual yield by class of financial instrument and time interval as well as the duration for each class of financial instrument, if applicable.
The PASU would require a financial institution to disclose in an interest rate sensitivity table the effects on net income and shareholders’ equity of specified hypothetical, instantaneous shifts of interest rate curves as of the measurement date. The form and extent of the hypothetical shifts of interest rate curves being proposed would provide consistent information across reporting entities.
Finally, the PASU would require a financial institution to provide additional quantitative or narrative disclosure to the extent necessary so that users of financial statements can understand an entity’s exposure to interest rate risk. A financial institution also would disclose the significant changes related to the timing and amounts of financial assets and financial liabilities in the tabular disclosures about interest rate risk from the last reporting period to the current reporting period, including the reasons for the changes and the actions taken, if any, during the current period to manage the exposure related to those changes.
The FASB will accept comments on this PASU until September 25, 2012. The effective date will be determined after the FASB considers feedback received.
GASB Activities
Exposure Drafts
The Governmental Accounting Standards Board (“GASB”) has released a Proposed Statement titled, Accounting and Financial Reporting for Nonexchange Financial Guarantee Transactions. A summary of this Proposed Statement is provided below.
The Proposed Statement addresses accounting and financial reporting issues related to governments that offer, or have received, a nonexchange financial guarantee. A nonexchange financial guarantee exists when a governmental entity extends or receives a financial guarantee relating to an obligation issued by the nonguarantor entity without directly receiving consideration of equal value in exchange. The Proposed Statement would require a government that extends a nonexchange financial guarantee to recognize a liability when qualitative factors or historical data indicate that it is more likely than not (which is defined in the Proposed Statement as a greater than 50 percent probability) that the government guarantor will make a payment resulting from the guarantee. The following are some examples of qualitative factors relevant to the entity that issued the obligation that should be considered in the more likely than not determination of whether the guarantor will make a payment resulting from the guarantee:
- Initiation of the process of entering into bankruptcy or a financial reorganization.
- Breach of a debt contract in relation to the guaranteed obligation, such as a failure to meet a debt covenant or a payment default has occurred.
- Indicators of significant financial difficulty, such as the failure to transfer deposits from debt service funds to paying agents; significant investment losses; and loss of a major revenue source.
The amount of the liability to be recorded by the guarantor is to be based on the best estimate of the discounted present value of the future outflows expected to be incurred by the guarantor as a result of the guarantee. When there is no best estimate but when a range of the estimated future outflows can be determined, the minimum amount within the range is to be used in the determination of the liability and related amount to be expensed.
The Proposed Statement stipulates that a government entity that is required to repay a guarantor for making a payment on a guaranteed obligation or legally assuming the guaranteed obligation to continue to report a liability until legally released as an obligor. When a government is released as an obligor, the government would recognize revenue as a result of being relieved of the obligation.
The Proposed Statement also clarifies the information that would be required to be disclosed by governments that extend and receive nonexchange financial guarantees.
The GASB will accept comments on this Proposed Statement until September 28, 2012. If passed, the amendments would be effective for periods beginning after June 15, 2013. Early adoption would be encouraged. Disclosures related to cumulative amounts paid or received in relation to a nonexchange financial guarantee may be applied prospectively. All other provisions of the Proposed Statement would be required to be applied retroactively.
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