FASB Transition Provisions Transfer of Financial Assets Accounted for Like Available-for-Sale Securities into Trading

FASB: Transition Provisions: Transfer of Financial Assets Accounted for Like Available-for-Sale Securities into Trading

Derivatives Implementation Group

Statement 133 Implementation Issue No. J7

Title: Transition Provisions: Transfer of Financial Assets Accounted for Like Available-for-Sale Securities into Trading
Paragraph reference: 55
Date cleared by Board: November 23, 1999
Date latest revision posted to website: June 16, 2006
Affected by: FASB Statement No. 156, Accounting for Servicing of Financial Assets
(Revised March 17, 2006)

QUESTION

Can the transition provisions in paragraph 55 of Statement 133 be applied to financial assets within the scope of paragraph 14 of FASB Statement No. 140, Accounting for Transfers and Servicing of Financial Assets and Extinguishments of Liabilities, thereby enabling those financial assets to be transferred into trading upon the initial adoption of Statement 133?

BACKGROUND

Creditor X enters into a loan agreement with Borrower Y that provides Borrower Y with a prepayment feature such that the loan can be contractually prepaid or otherwise settled in such a manner that Creditor X may not recover substantially all of its recorded investment in the loan to Borrower Y. Paragraph 14 of Statement 125, as amended by Statement 133, states the following:

     Interest-only strips, other interests that continue to be held by a transferor in securitizations, loans, other receivables, or other financial assets that can contractually be prepaid or otherwise settled in such a way that the holder would not recover substantially all of its recorded investment, except for instruments that are within the scope of Statement 133, shall be subsequently measured like investments in debt securities classified as available-for-sale or trading under Statement 115, as amended…. [Emphasis added.]

In accordance with Statement 140, paragraph 14, Creditor X subsequently measures the loan like an available-for-sale security under FASB Statement No. 115, Accounting for Certain Investments in Debt and Equity Securities, regarding transfers. The loan is still outstanding on the date of the initial adoption of Statement 133 by Creditor X.

The transition provisions in paragraph 55 of Statement 133 allow an entity, upon the initial adoption of that Statement, to transfer any available-for-sale security into the trading category and reclassify the related unrealized gains and losses into earnings consistent with the provisions of Statement 115. Paragraph 55 of Statement 133 does not mention the financial assets accounted for like available-for-sale securities pursuant to paragraph 14 of Statement 140.

RESPONSE

Yes. The transition provisions in paragraph 55 of Statement 133 can be applied to financial assets that are within the scope of paragraph 14 of Statement 140, thereby enabling those financial assets to be transferred into trading upon the initial adoption of Statement 133. Such a transfer would allow an entity to avoid separate accounting for the embedded derivative and the host contract embodied in the financial asset. Paragraph 12(b) does not permit an embedded derivative to be separated from the host contract and accounted for separately if the hybrid contract that embodies the embedded derivative and the host contract is remeasured at fair value under otherwise applicable generally accepted accounting principles with changes in fair value reported in earnings as they occur.

The loan described within the example falls in the scope of paragraph 14 of Statement 140 and will be measured like available-for-sale securities under Statement 115. That is, even though the loan is not in the form of a security, it is accounted for like a security. Accordingly, all the measurement provisions of Statement 115 would apply to that loan, including those addressing recognition and measurement of impairment (refer to FASB Staff Implementation Guide-Statement 140, Questions 109 and 110). Consequently, the transition provisions in paragraph 55 of Statement 133 apply to loans measured like available-for-sale securities pursuant to paragraph 14 of Statement 140, despite the legal form of the asset.

The above response has been authored by the FASB staff and represents the staff's views, although the Board has discussed the above response at a public meeting and chosen not to object to dissemination of that response. Official positions of the FASB are determined only after extensive due process and deliberation.