Chapter 7 — Presentation and Disclosures

7.2 Balance Sheet

ASC 815-10

25-1 An entity shall recognize all of its derivative instruments in its statement of financial position as either assets or liabilities depending on the rights or obligations under the contracts.

30-1 All derivative instruments shall be measured initially at fair value.

35-1 All derivative instruments shall be measured subsequently at fair value.

Derivatives within the scope of ASC 815 must be (1) recognized on the balance sheet as assets or liabilities and (2) measured at fair value in each reporting period.

7.2.1 Balance Sheet Offsetting

7.2.1.1 Conditions for Offsetting Derivatives

ASC 815-10

45-1 Subtopic 210-20 establishes the criteria for offsetting amounts in the balance sheet.

As noted in ASC 815-10-45-1, “the criteria for offsetting amounts in the balance sheet” are established by ASC 210-20. Specifically, ASC 210-20-45-1 identifies four conditions that must all be met to offset asset and liability amounts:

Each of two parties owes the other determinable amounts.
The reporting party has the right to set off the amount owed with the amount owed by the other party.
The reporting party intends to set off.
The right of setoff is enforceable at law.

Each of these conditions is discussed further in the sections below.

7.2.1.1.1 Each of Two Parties Owes the Other Determinable Amounts

The first condition in ASC 210-20-45-1 is that each of two parties must owe the other a determinable amount. Under this condition, the assets and the liabilities need to involve the same two counterparties.

Example 7-1

Swaps With Several Counterparties — Which Counterparties Qualify for Offsetting?

Cactus Co. has four interest rate swaps with the following counterparties and respective fair values:

Swap 1 with Banker A — fair value of $1 million.
Swap 2 with Banker B — fair value of ($400,000).
Swap 3 with Banker C — fair value of $500,000.
Swap 4 with Banker A — fair value of ($700,000).

The net fair value of the four swaps is $400,000.

Cactus Co. evaluates which of the four swaps could qualify for offsetting on the balance sheet. In accordance with the condition in ASC 210-20-45-1(a), Cactus Co. cannot offset amounts that arise from different counterparties. Therefore, the only swaps that could potentially qualify for offsetting would be those involving Banker A (i.e., swaps 1 and 4). As long as the other criteria in ASC 210-20-45-1 and ASC 815-10-45-5 are met for swaps 1 and 4, Cactus Co. could record a derivative asset for $300,000, representing its net relationship with Banker A.

7.2.1.1.2 Right to Set Off

The second condition in ASC 210-20-45-1 is that the reporting entity must have “the right to set off the amount owed with the amount owed by the other party.” ASC 210-20-20 defines the right of setoff as “a debtor’s legal right, by contract or otherwise, to discharge all or a portion of the debt owed to another party by applying against the debt an amount that the other party owes to the debtor.” In many cases, derivative instruments may be subject to a master netting arrangement, which is described as follows in ASC 815-10-45-5:

A master netting arrangement exists if the reporting entity has multiple contracts, whether for the same type of derivative instrument or for different types of derivative instruments, with a single counterparty that are subject to a contractual agreement that provides for the net settlement of all contracts through a single payment in a single currency in the event of default on or termination of any one contract.

7.2.1.1.3 Intent to Set Off

The third condition in ASC 210-20-45-1 is that the reporting entity must have the intent to exercise its “right to set off the amount owed with the amount owed by the other party.” However, ASC 815-10-45-3 through 45-7 provide an exception for derivatives (and associated amounts) related to the intent to set off.

ASC 815-10

45-3 The following guidance addresses offsetting certain amounts related to derivative instruments. For purposes of this guidance, derivative instruments include those that meet the definition of a derivative instrument but are not included in the scope of this Subtopic.

45-4 Paragraph superseded by Accounting Standards Update No. 2018-09.

45-5 In accordance with paragraph 210-20-45-1, but without regard to the condition in paragraph 210-20-45-1(c), a reporting entity may offset fair value amounts recognized for derivative instruments and fair value amounts recognized for the right to reclaim cash collateral (a receivable) or the obligation to return cash collateral (a payable) arising from derivative instrument(s) recognized at fair value executed with the same counterparty under a master netting arrangement. Solely as it relates to the right to reclaim cash collateral or the obligation to return cash collateral, fair value amounts include amounts that approximate fair value. The preceding sentence shall not be analogized to for any other asset or liability. The fair value recognized for some contracts may include an accrual component for the periodic unconditional receivables and payables that result from the contract; the accrual component included therein may also be offset for contracts executed with the same counterparty under a master netting arrangement. A master netting arrangement exists if the reporting entity has multiple contracts, whether for the same type of derivative instrument or for different types of derivative instruments, with a single counterparty that are subject to a contractual agreement that provides for the net settlement of all contracts through a single payment in a single currency in the event of default on or termination of any one contract.

45-6 A reporting entity shall make an accounting policy decision to offset fair value amounts pursuant to the preceding paragraph. The reporting entity’s choice to offset or not must be applied consistently. A reporting entity shall not offset fair value amounts recognized for derivative instruments without offsetting fair value amounts recognized for the right to reclaim cash collateral or the obligation to return cash collateral. A reporting entity that makes an accounting policy decision to offset fair value amounts recognized for derivative instruments pursuant to the preceding paragraph but determines that the amount recognized for the right to reclaim cash collateral or the obligation to return cash collateral is not a fair value amount shall continue to offset the derivative instruments.

45-7 A reporting entity that has made an accounting policy decision to offset fair value amounts is not permitted to offset amounts recognized for the right to reclaim cash collateral or the obligation to return cash collateral against net derivative instrument positions if those amounts either:

Were not fair value amounts
Arose from instruments in a master netting arrangement that are not eligible to be offset.

Under the exception in ASC 815-10-45-5, an entity does not need to consider whether it intends to set off amounts owed under a master netting arrangement executed with the counterparty when evaluating the conditions for offsetting those amounts on the balance sheet. As long as the other three conditions in ASC 210-20-45-1 are met, an entity may elect to net the following amounts, subject to the master netting arrangement, regardless of whether it intends to set off its rights and obligations:

Fair value amounts recognized for derivatives.
Fair value amounts recognized for the right to reclaim cash collateral that arises from derivatives (receivables).
Fair value amounts recognized for the obligation to return cash collateral arising from derivatives (payables).
Any accrual component of the periodic unconditional receivable and payable under the derivatives that is included in the contracts’ fair value.

As noted above, an entity may enter into multiple derivative contracts with the same counterparty under a master netting arrangement that provides for a single net settlement of all financial instruments covered by the agreement in the event of default on, or termination of, any one contract. In some cases, such arrangements may require either entity to post collateral with the other entity, depending on which entity is in a net asset position.

For example, under some master netting arrangements, the entity that is not in the net asset position is required to provide cash collateral to the entity that is in the net asset position. After the cash collateral is posted, the entity that is not in the net asset position has a right to reclaim the cash collateral (a receivable) and the counterparty has an obligation to return the cash collateral (a payable). If the other three conditions in ASC 210-20-45-1 are met, all of the amounts could be offset on the balance sheet.

However, it is not appropriate for an entity to offset separately recorded accrued receivables or payables against the fair value amounts of derivative assets or liabilities and associated fair value amounts for cash collateral receivables or payables entered into with the same counterparty. Physically settled derivatives (e.g., forward contracts to purchase or sell commodities or bonds) require delivery of an asset. Upon delivery of the asset underlying the physically settled derivative, but before the cash payment, an entity removes the derivative from its balance sheet and records separate inventory and accrued payable balances. Therefore, for contracts involving multiple deliveries, an entity often has a current payable for the latest delivery and a derivative asset or liability for any remaining deliveries. Once a receivable or payable (other than for cash collateral) is reported separately from its related derivative, however, that receivable or payable can no longer be offset against derivative assets or liabilities and associated cash collateral receivables or payables that are carried at fair value.

For net-cash-settled derivatives (e.g., fixed-for-floating interest rate swaps), there may be no separately recorded inventory, accrued receivable, or payable line item. Instead, the fair value of the derivative may include an accrual component, as described in ASC 815-10-45-5:

[A] reporting entity may offset fair value amounts recognized for derivative instruments and fair value amounts recognized for the right to reclaim cash collateral (a receivable) or the obligation to return cash collateral (a payable) arising from derivative instrument(s) recognized at fair value executed with the same counterparty under a master netting arrangement. . . . The fair value recognized for some contracts may include an accrual component for the periodic unconditional receivables and payables that result from the contract; the accrual component included therein may also be offset for contracts executed with the same counterparty under a master netting arrangement. [Emphasis added]

Such an accrual component may exist in the fair value of a net-cash-settled derivative because it is common for a time lag to exist between (1) the date on which the floating price of the contract is set and (2) the date on which cash settlement occurs (e.g., if the contract settlement amount is based on the price of an index established on March 31 even though the contract does not cash-settle until April 30). The fact that the recorded fair value of a net-cash-settled derivative contains an accrual component does not affect an entity’s ability to offset contracts that are carried at fair value. The accrual component is not separately reported from its related derivative.

If all the conditions in ASC 210-20-45-1 are satisfied, it still may be possible to offset separately recorded accrued receivables and payables against similar separately recorded payables or receivables held by the same counterparty.

Example 7-2

Accrued Payables in Multiple-Delivery Contract

Maize Company enters into a derivative contract on January 1, 20X8, to buy 100 bushels of corn at $10 per bushel on both January 31, 20X8, and February 28, 20X8, for delivery to a specified location. The contract is accounted for at fair value. Assume that the right of setoff exists and that Maize’s policy under ASC 210-20 and ASC 815-10-45-4 through 45-7 is to offset fair value amounts. The market price of corn on January 1, 20X8, is $10 per bushel. From January 1, 20X8, through January 31, 20X8, the price of corn rises to $12 per bushel.

The table below shows the accounting for the derivative during the first period. (For simplicity, only the first-period effects are shown in the table. The derivative contract has another settlement in February 20X8, which is not shown. The price of corn is assumed to be the same in January 20X8 and February 20X8, and present value is not considered in the measurement of the derivative’s fair value.)

The table illustrates that as of January 31, 20X8, the physically settled derivative results in a separately recorded accrued payable balance of $1,000 for the first-period settlement, and the remaining derivative amount represents the derivative asset related to the delivery that will occur in period 2. The accrued payable represents a discrete obligation that cannot be offset against the related derivative balance despite Maize’s election to set off under ASC 210-20 and ASC 815-10-45-4 through 45-7.

ASC 815-10-45-6 notes that an entity “shall make an accounting policy decision to offset fair value amounts . . . [and the] choice to offset or not must be applied consistently.” In addition, ASC 815-10-45-6 clarifies that an entity “shall not offset fair value amounts recognized for derivative instruments without offsetting fair value amounts recognized for the right to reclaim cash collateral or the obligation to return cash collateral.” However, if an entity determines that the amount recognized for such a cash collateral receivable or payable is not at, or does not approximate, the fair value amount, those amounts should not be offset against the derivatives.

7.2.1.1.4 Setoff Enforceable at Law

The last condition in ASC 210-20-45-1 that must be met to offset assets and liabilities on the balance sheet is that the right to set off must be legally enforceable.

7.2.1.1.5 Allocation of Fair Value for Items Subject to Master Netting Arrangement

An entity that elects to offset fair value amounts in accordance with ASC 210-20 and ASC 815-10-45-4 through 45-7 is required to offset (1) fair value amounts recognized for derivative instruments and (2) fair value amounts recognized for the right to reclaim cash collateral (a receivable) or the obligation to return cash collateral (a payable) arising from a derivative instrument (or instruments) recognized at fair value and “executed with the same counterparty under a master netting arrangement.” FASB Staff Position (FSP) FIN 39-1 amended the guidance in FASB Interpretation 39, which is now codified in ASC 815-10-45-4 through 45-7, to include the receivables and payables related to cash collateral. In paragraph A8 of the Background Information and Basis for Conclusions of FSP FIN 39-1, the Board made the following observation:

Master netting arrangements may include instruments that either (a) do not meet the definition of a derivative instrument or (b) meet the definition of a derivative instrument but are not recognized at fair value due to the scope exceptions in Statement 133 and other applicable GAAP. The Board agreed that including these instruments in a master netting arrangement would not preclude a reporting entity from offsetting fair value amounts recognized for derivative instruments under the same master netting arrangement as those instruments. Because this Interpretation permits offsetting of fair value amounts recognized for the right to reclaim cash collateral or the obligation to return cash collateral arising from derivative instruments recognized at fair value only, the Board agreed that the reporting entity should determine the amount of the cash collateral receivable or payable that can be offset against the net derivative position using a reasonably supportable methodology.

In paragraph A8 of FASB FSP FIN 39-1, the Board noted that a master netting arrangement also may include instruments that either (1) “do not meet the definition of a derivative instrument” (e.g., an accrued receivable or payable) or (2) “meet the definition of a derivative instrument but are not included in the scope of Statement 133 [codified in ASC 815-10]” (e.g., NPNS). The Board indicated that such instruments did “not preclude a reporting entity from offsetting fair value amounts recognized for derivative instruments under the same master netting arrangement.” However, an entity cannot offset a receivable or payable for the right to reclaim or obligation to return cash collateral that is not associated with a derivative instrument recognized at fair value. Therefore, an entity must “determine the amount of the cash collateral receivable or payable that can be offset against the net derivative position using a reasonably supportable methodology.”

No one method is appropriate or preferable in all circumstances; selecting an appropriate allocation method depends on the specific facts and circumstances associated with the arrangement. Any method that results in an arbitrary allocation of all cash collateral receivables or payables — either entirely to contracts that qualify for the right of setoff under ASC 210-20-45-1 and ASC 815-10-45-5 or entirely to contracts that do not qualify for the right of setoff — is not reasonable and would be inappropriate. An entity should document its allocation method and apply that method consistently.

In addition, ASC 815-10-50-8 requires an entity that elects to offset fair value amounts to separately disclose (1) cash collateral receivable or payable amounts that are offset against net derivative positions and (2) amounts for cash collateral receivables or payables under master netting arrangements that were not offset against net derivative positions because they were not eligible for the right of setoff.

Without specific guidance on allocation, entities should develop a method that is appropriate for the circumstances. To assess whether a proposed method is reasonable, they should consider the following:

Is there an allocation formula specified in the master netting arrangement? If the master netting arrangement dictates the level of collateral that must be provided for each contract covered by the agreement on the basis of a specified formula, that formula should be used to determine the level of collateral associated with derivatives carried at fair value. If the arrangement does not explicitly describe how to calculate and allocate collateral, it may be appropriate for the entity to consult with its legal counsel to understand how the collateral arrangement works.
Does the master netting arrangement provide any means of determining how the collateral would be allocated if a default occurred under the arrangement?
If the level of collateral is negotiated between the parties to the master netting arrangement, does the negotiation history provide a basis for a reasonable allocation?
Would it be appropriate to allocate the collateral according to the fair value of each contract subject to the master netting arrangement? It may be reasonable to do so in certain situations (e.g., if the level of collateral is based on the total fair value of the contracts covered by the master netting arrangement), such as the following:
- Example 1 — Assume that the fair values of the contracts covered by the master netting arrangement are as follows:
  
  In this case, the terms of the master netting arrangement require the counterparty to post collateral because the entity is in a net asset position (on the basis of the contracts’ fair value). Thus, the entity records a cash collateral payable, which is recognized at an amount that approximates fair value. Under this method, three-fifths of the cash collateral payable would be allocable to the derivative contracts and must be offset against those derivative contracts in the entity’s statement of financial position.
- Example 2 — Assume that the fair values of the contracts covered by the master netting arrangement are as follows:
  
  In this case, the terms of the master netting arrangement require the entity to post collateral to the counterparty because the entity is in a net liability position (on the basis of the contracts’ net fair value). Thus, the entity records a cash collateral receivable, which is recognized at an amount that approximates fair value. In this example, the requirement to post cash collateral is driven entirely by the entity’s net liability position in NPNS contracts that do not qualify for the right of setoff under ASC 210-20-45-1 and ASC 815-10-45-5. Therefore, it would not be appropriate for the entity to allocate any of its cash collateral receivable to the derivative contracts that qualify for the right of setoff.

7.2.2 Classification as Current or Noncurrent

ASC Master Glossary

Current Assets

Current assets is used to designate cash and other assets or resources commonly identified as those that are reasonably expected to be realized in cash or sold or consumed during the normal operating cycle of the business. See paragraphs 210-10-45-1 through 45-4.

Current Liabilities

Current liabilities is used principally to designate obligations whose liquidation is reasonably expected to require the use of existing resources properly classifiable as current assets, or the creation of other current liabilities. See paragraphs 210-10-45-5 through 45-12.

ASC 815 does not include any specific guidance on classifying derivative assets or liabilities on a classified balance sheet; however, ASC 210-10-45 provides general guidance on the classification of assets and liabilities. The ASC master glossary specifies that current assets are “those that are reasonably expected to be realized in cash or sold or consumed during the normal operating cycle of the business,” and current liabilities are those that are “reasonably expected to require the use of existing resources properly classifiable as current assets, or the creation of other current liabilities.”

ASC 210-10

45-3 A one-year time period shall be used as a basis for the segregation of current assets in cases where there are several operating cycles occurring within a year. However, if the period of the operating cycle is more than 12 months, as in, for instance, the tobacco, distillery, and lumber businesses, the longer period shall be used. If a particular entity has no clearly defined operating cycle, the one-year rule shall govern.

As noted in ASC 210-10-45-3, a typical operating cycle is one year, although in some circumstances the operating cycle could be longer. The remainder of this discussion assumes that an entity’s operating cycle is one year.

A derivative asset or liability should be classified on the basis of its settlement terms. If a derivative matures within a year of the balance sheet date, it should be classified as a current asset or liability. If (1) the counterparty to a derivative has an unconditional right to terminate or settle the arrangement within a year of the balance sheet date and (2) the derivative is a liability (i.e., it has a negative fair value), it should be classified as a current liability.

In addition, if a derivative involves multiple settlements (e.g., an interest rate swap), an entity will need to use judgment in allocating the derivative into its current and noncurrent portions. We believe that the fair value related to the cash flows that are required to occur within one year of the balance sheet date would represent the current asset or current liability portion, whereas the fair value related to the cash flows that are required to occur after one year of the balance sheet date would represent the noncurrent asset or liability portion. It is possible for the current portion of a derivative to be an asset and the noncurrent portion to be a liability, and vice versa.

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This publication provides comprehensive guidance; however, it does not address all possible fact patterns, and the guidance is subject to change. Consult a Deloitte & Touche LLP professional regarding your specific issues and questions.