2.3 Application of the Term "Transfer"

2.3 Application of the Term “Transfer”

2.3.1 General

ASC 860-10

Application of the Term Transfer

55-4 A payment of cash or a conveyance of noncash financial assets to the holder of a loan or other receivable in full or partial settlement of an obligation is not a transfer under this Subtopic. In addition, a loan syndication is not a transfer of financial assets. See paragraph 310-10-25-4 for further guidance on a loan syndication.

ASC 860-10-55-4 indicates that a payment of cash or conveyance of a noncash financial asset to settle an obligation is not a transfer under ASC 860-10. ASC 860-10-55-4 also clarifies that a loan syndication is not a transfer of financial assets. Unlike a loan participation, which is a transfer subject to ASC 860-10, a loan syndication involves a lead bank that coordinates the overall debt issuance but only loans a specific amount to the borrower. The lead bank should not consider amounts legally loaned to the borrower by other lenders as representing a loan of the full amount of debt by the lead bank accompanied by a transfer of loans to participant banks in the loan syndication.

Connecting the Dots

In a loan syndication, the lead bank legally has no rights or obligations with respect to the loans originated by participating banks. In a loan participation, a bank transfers or assigns a portion of an overall larger loan receivable to a third party and retains certain rights and obligations related to the overall larger loan receivable. All transactions that legally represent loan syndications, including “in-substance loan participations,” are outside the scope of ASC 860-10. (Loan syndications are accounted for in accordance with ASC 310-20-25-19 and 25-20 and ASC 310-20-30-4.) All transactions that legally represent loan participations, including “in-substance loan syndications,” are considered transfers of financial assets that are within the scope of ASC 860-10.

Although ASC 860-10-55-4 states that a conveyance of noncash financial assets to a lender in satisfaction of an entity’s debt is not a transfer under ASC 860-10, an entity should apply the guidance in ASC 860-10-40-5 when transferring noncash financial assets to a creditor in full or partial settlement of a creditor’s receivable (e.g., conveyance of noncash financial assets to a trust in a legal defeasance of debt). If the transfer does not qualify for sale accounting, the entity would be unable to derecognize the transferred financial assets. While the entity may meet the conditions in ASC 405-20 for derecognizing its liability, it would still need to account for the transferred financial assets that do not meet the conditions for sale accounting as a secured borrowing. Thus, a debtor that is legally released from being the primary obligor of a liability by transferring noncash financial assets would be required to recognize another, similar liability if it continues to recognize those transferred financial assets. This view is consistent with Question 35 of the FASB Staff Implementation Guide — Q&A 140.9

Section 2.3.2 addresses legal defeasances of debt that meet the conditions in ASC 405-20 for derecognizing the entity’s obligation. In an in-substance defeasance transaction, the transferor does not meet the derecognition criteria for either the liability or the transferred financial asset (see ASC 405-20-55-4).

2.3.2 Defeasance Transactions

2.3.2.1 Legal Defeasance of Debt Through a Transfer of U.S. Treasury Securities

An entity may settle debt by transferring noncash financial assets to a trust that is instructed to pay and retire the outstanding debt (a “defeasance trust”). For example, some debt indentures permit the debtor to legally defease (i.e., extinguish) debt by transferring to a trust either (1) enough cash to purchase U.S. Treasury securities that will mature on or before each remaining payment date (interest and principal) in an amount necessary to service those remaining payments or (2) such securities directly. The trust irrevocably pledges the cash flows from the securities to retire the debt. For the remaining discussion, it is assumed that the debtor is not required to consolidate the defeasance trust.

If a debtor transfers financial assets to a defeasance trust, it is not required to meet the conditions for sale accounting in ASC 860-10-40-5 for the debt defeasance to meet the liability extinguishment criteria in ASC 405-20-40-1(b). This is the case regardless of whether the debtor transfers cash or noncash financial assets to the defeasance trust.

ASC 405-20-40-1(b) specifies that in a transfer of noncash financial assets, the debtor would derecognize the liability if it “is legally released from being the primary obligor under the liability.” Because of the requirement for a legal conclusion under ASC 405-20-40-1(b), the debtor needs to obtain a legal opinion to demonstrate that it, as well as any of its consolidated affiliates, has been released from being the primary obligor. Accordingly, the debtor would first need to perform a consolidation analysis of the defeasance trust under ASC 810. The debtor must obtain the opinion even if the debt indenture (1) contains provisions that legally release the obligor if the defeasance trust is properly structured or (2) does not require a legal opinion.

Note that the debtor may be required to recognize another, similar liability if it continues to recognize the financial assets that were transferred to the trust. ASC 860-10-40-5 calls for a legal conclusion about whether the transfer isolates the noncash financial assets from the debtor. If the transfer does not meet the criteria for a sale, the debtor would account for the transfer as a secured borrowing with a pledge of collateral. In this case, the debtor would continue to recognize the transferred assets and would record an obligation to pass through the cash flows from the assets to the defeasance trust.

If the debtor transfers cash (rather than noncash financial assets) to the defeasance trust, the cash is typically derecognized because ASC 860-30-25-4 does not require that transfers of cash be analyzed under ASC 860-10-40-5 (note that ASC 405-20-40-1(b) specifically mentions the transfer of noncash financial assets). We believe that the transfer meets the conditions for sale accounting in ASC 860-10-40-5 if (1) the debtor has the option to transfer either (a) enough cash to purchase U.S. Treasury securities that will mature on or before each remaining payment date (interest and principal) in an amount necessary to service those remaining payments or (b) such securities directly and (2) the debtor transfers U.S. Treasury securities to the trust. The rationale for this belief is that U.S. Treasury securities represent highly fungible, highly liquid investments that pose little to no risk in connection with repayments and retirements of debt in legal defeasances.

2.3.2.2 Legal Defeasance of Debt Through a Bond Defeasance

Entities often finance acquisitions, such as fixed-asset additions, with long-term debt issued through municipal or industrial revenue bonds. Typically, a qualified governmental agency (the issuer) issues the bond and lends the proceeds to the entity (the obligor). Although the conduit bonds are in the issuer’s name, the obligor is solely responsible for repaying the bonds. Obligors sometimes benefit from defeasing the debt before its scheduled retirement. In a defeasance, the bond obligor or its agent purchases securities to deposit into a trust that irrevocably pledges the cash flows from the securities to retire the conduit bonds. The obligor has no continuing involvement with the transferred assets and is not required to consolidate the trust.

In such circumstances, the obligor may derecognize (1) its bond obligations and (2) the securities that are deposited in a trust to service the bonds provided that the transaction qualifies for the derecognition criteria in both ASC 405-20 for liabilities and ASC 860-10-40-5 for financial assets.

ASC 405-20-40-1(b) states that in a transfer of noncash financial assets, the obligor can derecognize the bond liability if the obligor “is legally released from being the primary obligor under the liability.” Because of the requirement for a legal conclusion under ASC 405-20-40-1(b), a legal opinion should be obtained even if (1) the municipal bond indentures contain provisions that legally release the obligor if defeasance is properly structured or (2) the bond indenture does not require a legal opinion.

Note that in this situation, the obligor also needs to consider the derecognition criteria in ASC 860-10- 40-5 for the transfer of a financial asset. ASC 860-10-40-5 calls for a legal conclusion regarding whether the transfer isolates the noncash financial assets from the obligor.

2.3.3 Repurchase Agreements and Securities Lending Transactions

ASC 860-10

Dollar-Roll Repurchase Transactions

55-17 A transfer of financial assets under a dollar-roll repurchase agreement is within the scope of this Subtopic if that agreement arises in connection with a transfer of existing securities. In contrast, dollar-roll repurchase agreements for which the underlying securities being sold do not yet exist or are to be announced (for example, to-be-announced Government National Mortgage Association [GNMA] rolls) are outside the scope of this Subtopic because those transactions do not arise in connection with a transfer of recognized financial assets. . . .

Transfers of financial assets under repurchase agreements and securities lending transactions generally represent transfers of recognized financial assets and are within the scope of ASC 860-10. However, an entity needs to take additional considerations into account for dollar-roll repurchase transactions. Dollar-roll repurchase agreements are agreements to sell and repurchase similar but not identical securities. They differ from other repurchase agreements in that the securities sold and repurchased, which are usually of the same issuer, are represented by different certificates, are collateralized by different but similar mortgage pools (e.g., conforming single-family residential mortgages), and generally have different principal amounts. A transfer of financial assets under a dollar-roll repurchase agreement is within the scope of ASC 860-10 only if the agreement pertains to existing securities. Dollar-roll repurchase agreements for which the underlying securities being sold do not yet exist or are to be announced are outside the scope of ASC 860-10 because those transactions do not arise in connection with recognized financial assets.

Whether to account for a dollar-roll repurchase agreement that is within the scope of ASC 860-10 as a sale or as a secured borrowing depends on the facts and circumstances. Dollar-roll repurchase agreements that involve substantially the same securities are generally accounted for as secured borrowings. Dollar-roll repurchase agreements that involve securities that are not substantially the same are generally accounted for as sales of financial assets with a forward repurchase contract that generally meets the definition of a derivative instrument in ASC 815-10. Dollar-roll repurchase agreements that are not within the scope of ASC 860-10 are accounted for as derivative instruments under ASC 815-10 or recognized at fair value in accordance with ASC 815-10-30-4 and ASC 815-10-35-4. See Section 3.6.5.1.1.2 for further discussion of dollar-roll repurchase agreements.

2.3.4 Banker’s Acceptances

Banker’s acceptances represent negotiable financial instruments that function like checks except that a bank, rather than the account holder, guarantees the payment. A banker’s acceptance involves three parties — a vendor, a customer, and a bank. Banker’s acceptances are used in some countries for large purchase transactions.10 Banker’s acceptances represent recognized financial assets.

The original issuance, by any of the three parties involved, of a banker’s acceptance is not within the scope of ASC 860-10 because the origination does not meet the definition of a transfer in ASC 860-10. In addition, a settlement of a banker’s acceptance with the issuing bank is also not a transfer subject to ASC 860-10. However, the following transactions involving banker’s acceptances represent transfers that are within the scope of ASC 860-10:

The vendor transfers its draft receivable from the bank to a third party.
The bank transfers its receivable from the customer to a third party.

See Section 3.6.7 for further discussion of banker’s acceptances.

2.3.5 Wash Sales

In a wash sale, an entity (1) transfers a security and (2) repurchases the same security shortly thereafter (15–30 days) at its current fair value. The initial transfer of the security in a wash sale is within the scope of ASC 860-10. See Section 3.6.5.3 for further discussion of wash sales.

2.3.6 Desecuritizations

In a desecuritization, an entity transfers a security or a beneficial interest in securitized financial assets in exchange for the financial assets underlying that security or beneficial interest. ASC 860-10-55-3(d) states that “[w]ith respect to the guidance in paragraph 860-10-40-5 only, transfers of financial assets in desecuritization transactions [are within the scope of ASC 860-10].” See ASC 320-10-25-18 for discussion of the impact a desecuritization may have on an entity’s classification of debt securities as held to maturity.

Footnotes

Although Question 35 was superseded upon the issuance of FASB Statement 166, we believe that it contains guidance that is still relevant when an entity transfers noncash financial assets to a trust in a legal defeasance of an outstanding liability.

See Section 1.2.6 for further discussion of banker’s acceptances.

Confidential and Proprietary — for Use Solely by Authorized Personnel

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.