New PASU Makes Debt Classification a Cinch

classification of debtKicking off 2017, the Financial Accounting Standards Board (FASB) has issued the exposure draft “Simplifying the Classification of Debt in a Classified Balance Sheet (Current versus Noncurrent).” This proposed accounting standards update (PASU) was issued because preparers and auditors requested additional guidance and clarification from the FASB regarding the classification of such debt as current or noncurrent in a classified balance sheet.

The PASU specifies that any debt arrangement or other instrument within the scope of the proposed update must be classified as a noncurrent liability if it meets either of the following criteria as of the balance sheet date:

  1. The liability is contractually due to be settled more than one year (or operating cycle, if longer) after the balance sheet date; or
  2. The entity has a contractual right to defer settlement of the liability for at least one year (or operating cycle, if longer) after the balance sheet date.

The PASU also adds further guidance for violating a debt covenant between the entity and the lender.  In the event of debt covenant noncompliance, an entity would be required to classify the debt arrangement as a noncurrent liability, provided the entity receives from the lender a violation waiver meeting the conditions below.  Any debt classified as a noncurrent liability because of a waiver obtained after the balance sheet date must be presented separately in a classified balance sheet.

  • The waiver is for a period greater than one year from the balance sheet date.
  • The waiver is obtained before the financial statements are issued or available for issue.
  • The waiver is not classified as a troubled debt restructuring or accounted for as a debt extinguishment.
  • It is not probable that any other covenants in the debt arrangements will be violated within a year from the balance sheet date.

Additionally, the PASU would prohibit an entity from considering subsequent refinancing when determining the classification of the liability as of the balance sheet date.  Under current guidance, short-term debt that is refinanced on a long-term basis subsequent to the balance sheet date is classified as a noncurrent liability.  Under the PASU, such debt would be classified as a current liability.

Another significant change relates to classification of debt agreements that contain subjective acceleration clauses or material adverse change clauses. Current guidance requires entities to consider the likelihood and probability of acceleration of the due date to determine noncurrent or current classification.  The PASU would remove the probability assessment and impact classification only if the subjective acceleration clause was triggered.

This PASU is part of the FASB’s Simplification Initiative, implemented in 2014 to reduce the cost and complexity of financial reporting, while preserving or improving the value of the financial statements to users.  The amendments in the proposed update would affect all entities with debt instruments presenting classified balance sheets.  The Board is accepting comments and feedback on the proposed amendments through May 5, 2017.  The effective date will be determined after the Board considers stakeholder feedback.

If you have any questions about this PASU and debt classification, or would like to request a speaker on this topic for your organization or event, contact one of our executives below at (800) 270-9629.


Kathryn Good

Kathryn Good

Manager

Mike Shamblin

Mike Shamblin

Managing Principal of Audit & Assurance Services

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