Project Updates

Fair Value Option

Last Updated: October 29, 2008 (Updated sections are indicated with an asterisk *)

The staff has prepared this summary of Board decisions for information purposes only. Those Board decisions are tentative and do not change current accounting. Official positions of the FASB are determined only after extensive due process and deliberations.

Objective
*Next Steps
*Summary of Decisions Reached to Date
*Board Meetings/Public Meeting Dates
Background Information
Contact Information

Objective

In this project, the Board is considering whether to permit entities a one-time election to report certain financial and nonfinancial instruments at fair value with the changes in fair value included in earnings. The fundamental objectives of this project are as follows:

  1. To mitigate problems in determining reported earnings caused by the mixed-attribute model (that is, problems related to some assets or liabilities being reported at the fair value measurement attribute, but other related liabilities and assets being reported at another measurement attribute, such as amortized cost)

  2. To enable entities to achieve an offset accounting effect for the changes in the fair values of related assets and liabilities without having to apply more complex hedge accounting provisions, thereby providing some potential simplicity in the application of the accounting guidance for this area

  3. To achieve further convergence with the IASB, which has incorporated a fair value option (FVO) for financial instruments in its IAS 39, Financial Instruments: Recognition and Measurement, and for investment properties in its IAS 40, Investment Properties.

  4. To expand the use of the fair value measurement attribute.

This project focuses only on the use of the fair value measurement attribute and, thus, will not address permitting entities to elect to recognize in earnings the change in an asset’s or liability’s fair value attributable to only certain selected risks (rather than the total change in fair value).

The FVO project has been split into two phases as follows:

  • Phase 1 addressed permitting the FVO for many financial instruments and certain other items. It concluded with the issuance of FASB Statement No. 159, The Fair Value Option for Financial Assets and Financial Liabilities, in February 2007.

  • Phase 2 will consider permitting the FVO for certain nonfinancial assets and nonfinancial liabilities and the deposit liabilities of depository institutions, which were excluded from the scope of Statement 159.

*Next Steps

No further work is anticipated on Phase 2 of this project.

*Summary of Decisions Reached to Date

  • The decisions reached during Phase 1 are reflected in Statement 159.

  • Phase 2 of the project has been removed from the Board's agenda.

*Board Meeting and Public Meeting Dates

The Board meeting minutes are provided for the information and convenience of constituents who want to follow the Board’s deliberations. All of the conclusions reported are tentative and may be changed at future Board meetings. Decisions become final only after a formal written ballot to issue a final Statement, Interpretation, or FSP.

The following are links to minutes for each completed meeting on Phase 2:

*October 29, 2008 Board Meeting—Project Removed from Agenda

Background Information

At its meeting on the accounting for mortgage servicing rights on March 31, 2004, the Board decided "to investigate the feasibility of a separate project to permit, but not require, entities to account for financial instruments and similar instruments at fair value (similar to the FVO in IAS 39)."

The following are several factors that the Board considered in deciding to add this project to its agenda.

  1. An FVO would enable entities to avoid reporting volatility in earnings that results from using different measurement attributes in reporting various assets and liabilities.

    • The effect on earnings from using mixed measurement attributes under U.S. GAAP may not be representative of the economics of the reporting entity’s activities.

    • Special hedge accounting under FASB Statement No. 133, Accounting for Derivative Instruments and Hedging Activities, compensates in part for the mismatch of measurement attributes, but only certain hedging relationships can qualify for hedge accounting.

  2. An FVO would enable entities to avoid some of the problems and effort required to apply Statement 133.

    • It would enable entities to avoid the difficulties inherent in both bifurcating an embedded derivative from its host contract and accounting separately for those two pieces of a hybrid instrument. If a hybrid instrument (such as a structured note, which is a contract that is not a derivative in its entirety but contains derivative-like features) is reported at fair value with the changes included in earnings, no bifurcation of an embedded derivative is currently required or permitted.

    • It would enable entities to avoid the expense of the considerable amount of time, effort, and systems needed to document fair value hedging relationships and demonstrate their effectiveness to qualify for continued hedge accounting. In lieu of designating a fair value hedging relationship, entities could elect to apply the FVO to the hedged item at its inception.

  3. The IASB has incorporated a FVO for financial instruments in IAS 39.

    • Under IAS 39, any financial asset (except as noted below) or financial liability within the scope of that standard may be designated at initial recognition as a financial asset or financial liability that is reported at fair value with changes in fair value included in "profit or loss" (earnings). However, IAS 39 does not permit election of the FVO for investments in equity instruments that do not have a quoted market price in an active market, and whose fair value cannot be reliably measured.

    • In April 2004, the IASB released an Exposure Draft of the proposed amendment of IAS 39’s provisions relating to the FVO. The Exposure Draft proposed certain restrictions that would limit the application of the FVO in IAS 39.

  4. An FVO would be consistent with the Board’s concurrent tentative decisions on two other projects to permit each reporting entity the choice to elect the fair value reporting with the changes in fair value included in earnings.

    • In its project on beneficial interests in securitized financial assets, the Board had decided that beneficial interests with embedded derivatives should, at the holder’s election, be accounted for either (1) at fair value with changes recognized in earnings or (2) through the application of existing accounting literature (without the exemption from Statement 133 provided to beneficial interests in Statement 133 Implementation Issue No. D-1, "Application of Statement 133 to Beneficial Interests in Securitized Financial Assets"), with additional guidance to be provided as to how embedded derivatives would be identified. The Board decided to permit the FVO for those beneficial interests primarily to simplify the application of Statement 133, particularly regarding the definition of a derivative and the bifurcation of embedded derivatives.

    • In its project on servicing rights, the Board had decided that entities should be permitted to choose either fair value or the lower of carrying amount or market as the subsequent measurement attribute for all servicing rights that are separately accounted for under GAAP. The Board decided to permit the FVO for servicing rights primarily to simplify the accounting for fair value hedging strategies.

  5. An FVO does not impose new significant difficulties on reporting entities.

    • FASB Statement No. 107, Disclosures about Fair Value of Financial Instruments, already requires all entities (except certain nonpublic entities) to disclose the fair value of most financial instruments unless it is not practicable to estimate fair value. (Paragraph 46 of that Statement indicates that the Board expects that, in most cases, it will be practicable to make a reasonable estimate of fair value even of financial instruments that are not readily marketable.)

    • The Board released an Exposure Draft for its project on fair value measurement on June 23, 2004 (subsequently finalized as FASB Statement No. 157, Fair Value Measurements, in September 2006). That Statement provides guidance for how to measure fair value and applies broadly to financial and nonfinancial assets and liabilities measured at fair value under other pronouncements. Accordingly, Statement 157 defines fair value, provides a hierarchy that prioritizes inputs that should be used in valuation techniques used to estimate fair value, and requires disclosures about the use of fair value to measure assets and liabilities recognized in the statement of financial position.

The Board acknowledges that an FVO would add an element of choice to financial statements, which generally is not desirable. However, given the current mixed-attribute model, the Board found compelling the argument that the resulting volatility in earnings sometimes is not representative of the underlying business activity. The Board notes that GAAP currently permits many kinds of choices that affect the measurement of assets and liabilities—for example, different permissible methods of amortization, classifications of investment securities, hedge accounting, and methods of assessing effectiveness of hedging relationships. The FVO is intended to be an interim step until the Board addresses fair value accounting for financial instruments comprehensively.

Contact Information

Robert C. Wilkins
Senior Project Manager
rcwilkins@fasb.org

Holly Barker
Project Manager
hhbarker@fasb.org