Chapter 3 — Accounting for Transfers of Financial Assets

3.1 Conditions for Sale of Financial Assets

3.1.1 Objective

3.1.1.1 General

ASC 860-10

Conditions for a Sale of Financial Assets

40-4 The objective of paragraph 860-10-40-5 and related implementation guidance is to determine whether a transferor and its consolidated affiliates included in the financial statements being presented have surrendered control over transferred financial assets or third-party beneficial interests. This determination:

Shall first consider whether the transferee would be consolidated by the transferor (for implementation guidance, see paragraph 860-10-55-17D)
Shall consider the transferor’s continuing involvement in the transferred financial assets
Requires the use of judgment that shall consider all arrangements or agreements made contemporaneously with, or in contemplation of, the transfer, even if they were not entered into at the time of the transfer.

With respect to item (b), all continuing involvement by the transferor, its consolidated affiliates included in the financial statements being presented, or its agents shall be considered continuing involvement by the transferor. In a transfer between two subsidiaries of a common parent, the transferor-subsidiary shall not consider parent involvements with the transferred financial assets in applying paragraph 860-10-40-5.

40-4C Items (b) through (c) in paragraph 860-10-40-4 do not apply to a transfer of financial assets and a related repurchase financing. In transactions involving a contemporaneous transfer of a financial asset and a repurchase financing of that transferred financial asset with the same counterparty, a transferor and transferee shall separately account for the initial transfer of the financial asset and the related repurchase agreement. Paragraphs 860-10-55-17A through 55-17C provide implementation guidance related to repurchase financings.

A transfer of a financial asset that is within the scope of ASC 860-10 will be accounted for in its entirety as either a sale or a secured borrowing. ASC 860-10-40-4 states that the objective of the sale accounting guidance in ASC 860-10 “is to determine whether a transferor and its consolidated affiliates included in the financial statements being presented have surrendered control over transferred financial assets.” With two exceptions (see Section 3.1.3.1), this objective results in symmetry between the transferor’s and transferee’s accounting. Because only one party can control a financial asset, that asset should be on one, and only one, party’s balance sheet at any given moment.

ASC 860-10 prescribes a control model. Each party to a transaction should recognize only assets it controls and liabilities for which it is the primary obligor. Financial assets should only be derecognized when control has been surrendered, and liabilities should only be derecognized when they have been extinguished. The objective of sale accounting does not focus solely on when risks and rewards of ownership have been transferred or whether a transfer is legally characterized as a sale or a secured borrowing. However, the extent to which risks and rewards have been transferred will be relevant to an attorney’s determination of whether the transfer provides sufficient legal isolation and the condition in ASC 860-10-40-5(a) is met.

Sale accounting may be achieved for a transfer of financial assets only if one of the following two conditions is met:

An entity transfers an entire financial asset (or a group of entire financial assets) to a transferee that is not consolidated by the transferor.
An entity transfers an interest in an entire financial asset (or a group of entire financial assets) that meets the definition of a participating interest to a transferee that is not consolidated by the transferor.

A transfer of financial assets may never be accounted for as a sale if (1) the assets are transferred to an entity that is consolidated by the transferor or its consolidated affiliates included in the financial statements being presented or (2) the transfer involves an interest in financial assets that does not meet the definition of a participating interest.1 Therefore, the transferor should first consider these two matters before applying the sale accounting guidance in ASC 860-10-40-5. See Deloitte’s Roadmap Consolidation — Identifying a Controlling Financial Interest for discussion of when consolidation of another entity is required. See Sections 3.1.2 and 3.2 for discussion of the definition of a participating interest.

Connecting the Dots

For transfers of entire financial assets, an entity should first determine whether it is required to consolidate the transferee. If the transferor consolidates the transferee under ASC 810-10, there is no need to evaluate the conditions in ASC 860-10-40-5 because the transfer must be accounted for as a secured borrowing. If a transfer involves a portion of an entire financial asset, the transferor should consider whether the transferred interest is a participating interest and whether the transferee must be consolidated before evaluating the conditions in ASC 860-10-40-5. The order in which these two considerations are addressed is not relevant because the transfer must be accounted for as a secured borrowing if either (1) the transferred interest is not a participating interest or (2) the transferor consolidates the transferee to which a participating interest is transferred. In transfers of portions of financial assets to third parties, the transferor will generally not be required to consolidate the transferee because it will not have a variable interest in the transferee.

There are two situations in which sale accounting is not precluded even though the transferor consolidates a transferee involved in the transfer of financial assets:

In two-step transfers of entire financial assets (see Section 3.3.1.4.3), for accounting purposes, the transferor consolidates the BRSPE whose sole purpose is to ensure that the transfer meets the isolation condition. In such cases, the transferor is not required to account for the transfer as a secured borrowing. Rather, in two-step transfers of entire financial assets, the focus is on whether the transferor is required to consolidate the second entity involved in the transfer (i.e., the ultimate securitization entity).
An entity may transfer an entire financial asset to a transferee that is consolidated under ASC 810-10. If that entity transfers a participating interest in the entire financial asset received to a third party, the transfer of that participating interest could meet the conditions for sale accounting.

In both situations described above, although a consolidated entity is involved in the transfer, sale accounting may be achieved only because the ultimate transferee is not consolidated by the transferor.

If a transaction involves a transfer of an entire financial asset (or a group of entire financial assets) or a participating interest to an unconsolidated entity, the conditions for sale accounting in ASC 860-10-40-5 must be evaluated. In performing this analysis, an entity must consider all forms of continuing involvement that the transferor, its consolidated affiliates included in the financial statements being presented, or its agents have with the transferred financial assets (see Section 3.1.1.2). Under ASC 860-10-40-4(c), “all arrangements or agreements made contemporaneously with, or in contemplation of, the transfer” must be considered in the evaluation (see Section 3.1.1.3).

3.1.1.2 Meaning of Continuing Involvement

ASC 860-10 — Glossary

Continuing Involvement

Any involvement with the transferred financial assets that permits the transferor to receive cash flows or other benefits that arise from the transferred financial assets or that obligates the transferor to provide additional cash flows or other assets to any party related to the transfer. For related implementation guidance, see paragraph 860-10-55-79A.

ASC 860-10

Application of the Term Continuing Involvement

55-79A This implementation guidance addresses the application of the glossary term continuing involvement. All available evidence shall be considered, including, but not limited to, all of the following:

Explicit written arrangements
Communications between the transferor and the transferee or its beneficial interest holders
Unwritten arrangements customary in similar transfers.

55-79B Examples of continuing involvement include, but are not limited to, all of the following:

a. Servicing arrangements

b. Recourse or guarantee arrangements

c. Agreements to purchase or redeem transferred financial assets

cc. Options written or held

d. Derivative instruments that are entered into contemporaneously with, or in contemplation of, the transfer

e. Arrangements to provide financial support

f. Pledges of collateral

g. The transferor’s beneficial interests in the transferred financial assets.

ASC 860-10-40-4 requires that “all continuing involvement by the transferor, its consolidated affiliates included in the financial statements being presented, or its agents . . . be considered continuing involvement by the transferor.” Continuing involvement is defined broadly as including any involvement with transferred financial assets that could cause the transferor to receive benefits from the transferred financial assets or to incur obligations with respect to the transferred financial assets. Continuing involvement would include:

Servicing.
Recourse or other guarantees (e.g., EPD or prepayment provisions).
Agreements to repurchase or redeem transferred financial assets, including options purchased or written.
Derivative instruments that are entered into with the transferee.
Arrangements to provide financial support.
Pledges of collateral.
Beneficial interests in transferred financial assets.

Continuing involvement is not defined by the fair value of interests in transferred financial assets; rather, it is determined on the basis of any contract or arrangement, including an implicit arrangement, with transferred financial assets that could cause the transferor to receive or pay cash flows or other assets related to the transfer. Even standard representations and warranties, which are a type of recourse related to transfers, would constitute a form of continuing involvement with transferred financial assets.

Most transfers of financial assets are accompanied by continuing involvement of the transferor, its consolidated affiliates, or its agents. Although such a scenario is not typical in transfers of financial assets, if an entity transfers an entire financial asset (or a group of entire financial assets) to an unconsolidated transferee and has no continuing involvement with the transferred financial assets other than standard representations and warranties, sale accounting is appropriate even if the transferee is prohibited from pledging or exchanging the financial assets received (i.e., the condition in ASC 860-10-40-5(b) is not met).2 However, when the transferor, its consolidated affiliates included in the financial statements being presented, or its agents have continuing involvement in transferred financial assets other than standard representations and warranties (see ASC 860-10-55-17N), that involvement must be considered in the determination of whether the three conditions in ASC 860-10-40-5 are met.

Note that in a transfer between two subsidiaries of a common parent, the subsidiary-transferor does not consider its parent’s involvement with the transferred financial assets. In addition, specific guidance applies to repurchase financings (see Section 3.6.4).

3.1.1.3 Agreements Made Contemporaneously With or in Contemplation of a Transfer

The recognition of financial assets and financial liabilities should not be affected by the sequence of transactions that result in their acquisition or incurrence unless the effect of those transactions is to maintain effective control over a transferred financial asset. Therefore, ASC 860-10-40-4(c) requires entities to consider all arrangements or agreements made contemporaneously with, or in contemplation of, the transfer that are entered into by the transferor, its consolidated affiliates included in the financial statements being presented, and its agents, even if the agreements were not entered into at the time of the transfer. The substance of the transaction must be viewed without regard to its form or the sequence of steps. Otherwise, the transaction could be structured to obtain a desired accounting treatment that is inconsistent with the transaction’s substance. In applying this requirement, entities should consider whether:

One arrangement depends on another arrangement.
The pricing of an arrangement depends on that of another arrangement.
There is no reason to enter into one transaction without entering into another transaction.

Both explicit and implicit factors are considered in this evaluation. Examples 3-1 and 3-2 illustrate the application of this guidance.

3.1.2 Unit of Account

3.1.2.1 General

ASC 860-10

Conditions for a Sale of Financial Assets

40-4D To be eligible for sale accounting, an entire financial asset cannot be divided into components before a transfer unless all of the components meet the definition of a participating interest. The legal form of the asset and what the asset conveys to its holders shall be considered in determining what constitutes an entire financial asset (for implementation guidance, see paragraph 860-10-55-17E). An entity shall not account for a transfer of an entire financial asset or a participating interest in an entire financial asset partially as a sale and partially as a secured borrowing.

40-4E If a transfer of a portion of an entire financial asset meets the definition of a participating interest, the transferor shall apply the guidance in the following paragraph. If a transfer of a portion of a financial asset does not meet the definition of a participating interest, the transferor and transferee shall account for the transfer in accordance with the guidance in paragraph 860-30-25-2. However, if the transferor transfers an entire financial asset in portions that do not individually meet the participating interest definition, the following paragraph shall be applied to the entire financial asset once all portions have been transferred.

Meaning of the Term Entire Financial Asset

55-17E This implementation guidance addresses the application of what constitutes an entire financial asset.

55-17F A loan to one borrower in accordance with a single contract that is transferred to a securitization entity before securitization shall be considered an entire financial asset. Similarly, a beneficial interest in securitized financial assets after the securitization process has been completed shall be considered an entire financial asset. In contrast, a transferred interest in an individual loan shall not be considered an entire financial asset; however, if the transferred interest meets the definition of a participating interest, the participating interest would be eligible for sale accounting.

55-17G In a transaction in which the transferor creates an interest-only strip from a loan and transfers the interest-only strip, the interest-only strip does not meet the definition of an entire financial asset (and an interest-only strip does not meet the definition of a participating interest; therefore, sale accounting would be precluded). In contrast, if an entire financial asset is transferred to a securitization entity that it does not consolidate and the transfer meets the conditions for sale accounting, the transferor may obtain an interest-only strip as proceeds from the sale. An interest-only strip received as proceeds of a sale is an entire financial asset for purposes of evaluating any future transfers that could then be eligible for sale accounting.

55-17H If multiple advances are made to one borrower in accordance with a single contract (such as a line of credit, credit card loan, or a construction loan), an advance on that contract would be a separate unit of account if the advance retains its identity, does not become part of a larger loan balance, and is transferred in its entirety. However, if the transferor transfers an advance in its entirety and the advance loses its identity and becomes part of a larger loan balance, the transfer would be eligible for sale accounting only if the transfer of the advance does not result in the transferor retaining any interest in the larger balance or if the transfer results in the transferor’s interest in the larger balance meeting the definition of a participating interest. Similarly, if the transferor transfers an interest in an advance that has lost its identity, the interest must be a participating interest in the larger balance to be eligible for sale accounting.

Loan Participations

55-61 Paragraph 860-10-05-23 provides background on loan participations. If a loan participation agreement transfers a participating interest in an entire financial asset (as described in paragraph 860-10-40-6A) and the conditions in paragraph 860-10-40-5 are met, the transfers shall be accounted for by the transferor as a sale of a participating interest. However, if the loan participation agreement constrains the transferee from pledging or exchanging its participating interest and that constraint provides a more-than-trivial benefit to the transferor, the transferor has not relinquished control and shall account for the transfer as a secured borrowing.

The unit of account for a transfer of financial assets consists of either of the following:

An entire financial asset (or a group of entire financial assets).
A portion of an entire financial asset (or a group of entire financial assets), often referred to as an “undivided interest.”

ASC 860-10 permits a transferor to obtain a beneficial interest in transferred financial assets as proceeds from a sale provided that it has surrendered control over the original financial assets in a transfer to an unconsolidated entity and all the conditions in ASC 860-10-40-5 are met. However, to be eligible for sale accounting, an entire financial asset cannot be divided into components before a transfer unless all of the components meet the definition of a participating interest. That is, a transfer of a portion of a financial asset can potentially qualify as a sale only if that portion meets the definition of a participating interest. Thus, the financial components approach in ASC 860 is limited to interests in financial assets that meet the definition of participating interests. Section 3.2 discusses the meaning of the term “participating interest.”

The unit of account is determined on the basis of (1) the legal form of the transferred asset and (2) what the transferred asset conveys to its holder. What the asset conveys to its holder is considered from the transferor’s perspective before the transfer. For the transfer to qualify as a transfer of an entire financial asset, the transferee must receive the entire financial asset and not an ownership interest in a portion of a financial asset.3 Whether the right to cash flows from a financial asset is divided into components before or after a transfer is critical to determining the unit of account. If rights to cash flows are separated by the transferor before a transfer, the transfer involves a portion of a financial asset. However, if the transferee separates rights to cash flows after the transfer, the transfer involves an entire financial asset.

Connecting the Dots

The unit-of-account guidance in ASC 860-10 places significant emphasis on form over economic substance. Economically, the following two transactions are similar:

Transaction 1 — An entity transfers a $1 million commercial loan to an SPE and receives cash and a beneficial interest in the last 10 percent of principal and interest cash flows on the loan.
Transaction 2 — An entity transfers a 90 percent senior interest in a $1 million commercial loan and retains a 10 percent subordinated interest in the loan. The senior interest is entitled to the first 90 percent of principal and interest cash flows on the loan, and the subordinated interest is entitled to the last 10 percent of principal and interest cash flows on the loan.

A transfer of an entire financial asset in return for cash and a beneficial interest in the transferred financial asset would subject the transferor to the VIE consolidation guidance in ASC 810-10 provided that the interest is not an interest in specified assets (however, in that case, the silo guidance in ASC 810-10 may apply). In Transaction 1 above, the transferor has a variable interest in the SPE that is subject to evaluation under ASC 810-10 to determine whether the transferor is the primary beneficiary of the SPE. However, in Transaction 2 above, the transferor has no interest in the transferee; therefore, the VIE consolidation guidance in ASC 810-10 does not apply. Consequently, for this transaction, the transferor must evaluate whether the transferred interest meets the definition of a participating interest (and such a transferred interest would not meet this definition). The definition of participating interest does not apply to Transaction 1 above even though it is economically similar to Transaction 2.

The table below summarizes the evaluation of the unit of account under ASC 860-10.

Table 3-1

Transaction	Unit of Account
An entity transfers a loan receivable that was entered into under a single loan agreement to an unconsolidated entity that was established to transform the loan into securities.	The transfer involves an entire financial asset.
An entity transfers a beneficial interest in securitized financial assets (i.e., an asset that results from the completion of the securitization process) to a third party.	The transfer involves an entire financial asset.
An entity transfers an undivided interest in a loan receivable to a third party.	The transfer involves a portion of an entire financial asset. For this transfer to qualify as a sale, the interest must meet the definition of a participating interest.
An entity creates an IO strip from an existing loan receivable and transfers it to a third party.	The transfer involves a portion of an entire financial asset. Since that portion does not meet the definition of a participating interest (i.e., it does not reflect a pro rata separation of cash flows), the transfer must be accounted for as a secured borrowing. In contrast, if an entity transfers an entire loan receivable to an unconsolidated securitization entity and that transfer qualifies as a sale, it may obtain an IO strip as proceeds from the sale. A subsequent transfer of that IO strip involves a transfer of an entire financial asset.
An entity makes an advance on an overall larger construction loan facility. In accordance with the legal agreement involving the loan facility, each advance retains its identity and does not become part of an overall larger loan balance. That advance is transferred to a third party.	The transfer involves an entire financial asset because the advance is not part of an overall larger loan balance.
An entity makes an advance on a revolving credit card arrangement. The credit card arrangement represents a single legal contract. Each advance becomes a component of an overall single loan balance. An entity transfers a single advance on the credit card receivable to a third party.	The transfer involves an interest in an entire financial asset. Advances on credit cards become part of an overall larger single lending arrangement. For this transfer to qualify as a sale, the interest must meet the definition of a participating interest. Interests in credit card receivables generally will not meet the definition of participating interests.
An entity creates a senior interest in a commercial loan receivable, which represents the first 80 percent of principal and interest cash flows on the loan, and transfers that interest to a third party. The entity retains a subordinated interest in the remaining cash flows on the transferred loan receivable.	The transfer involves a portion of an entire financial asset. Since that portion does not meet the definition of a participating interest (i.e., because of the prioritization of cash flows, it does not represent a pro rata interest), the transfer must be accounted for as a secured borrowing.
An entity transfers to a third party a commercial loan receivable that was entered into under a single loan agreement. In conjunction with the transfer, the entity writes a guarantee to the transferee of the payment of 20 percent of the principal and interest on the transferred loan.	The transfer involves an entire financial asset. The guarantee must be considered in the determination of whether the transfer meets the conditions in ASC 860-10-40-5 for sale accounting. Economically, this transfer is similar to the one in the immediately preceding row of this table; however, it is evaluated differently under the unit-of-account guidance in ASC 860-10.

3.1.2.2 Loan Participation Versus Loan Syndication

As discussed in Section 2.3.1, in applying ASC 860-10, it is important for an entity to distinguish between a loan participation and a loan syndication. A loan participation is a transfer within the scope of ASC 860-10 because it represents a transfer of an interest in an existing loan to a third party. To qualify for sale accounting, the interest transferred must meet the definition of a participating interest. However, a loan syndication is not within the scope of ASC 860-10 because it represents an origination of a loan by the participating banks. The transfer would be within the scope of ASC 860-10 only if a participating bank subsequently transfers all or a portion of its loan receivable to a third party.

3.1.3 Sale Accounting Criteria

3.1.3.1 General Conditions

ASC 860-10

Conditions for a Sale of Financial Assets

40-5 A transfer of an entire financial asset, a group of entire financial assets, or a participating interest in an entire financial asset in which the transferor surrenders control over those financial assets shall be accounted for as a sale if and only if all of the following conditions are met:

Isolation of transferred financial assets. The transferred financial assets have been isolated from the transferor — put presumptively beyond the reach of the transferor and its creditors, even in bankruptcy or other receivership. Transferred financial assets are isolated in bankruptcy or other receivership only if the transferred financial assets would be beyond the reach of the powers of a bankruptcy trustee or other receiver for the transferor or any of its consolidated affiliates included in the financial statements being presented. For multiple step transfers, a bankruptcy-remote entity is not considered a consolidated affiliate for purposes of performing the isolation analysis. Notwithstanding the isolation analysis, each entity involved in the transfer is subject to the applicable guidance on whether it shall be consolidated (see paragraphs 860-10-40-7 through 40-14 and the guidance beginning in paragraph 860-10-55-18). A set-off right is not an impediment to meeting the isolation condition.
Transferee’s rights to pledge or exchange. This condition is met if both of the following conditions are met:
1. Each transferee (or, if the transferee is an entity whose sole purpose is to engage in securitization or asset-backed financing activities and that entity is constrained from pledging or exchanging the assets it receives, each third-party holder of its beneficial interests) has the right to pledge or exchange the assets (or beneficial interests) it received.
2. No condition does both of the following:
  1. Constrains the transferee (or third-party holder of its beneficial interests) from taking advantage of its right to pledge or exchange
  2. Provides more than a trivial benefit to the transferor (see paragraphs 860-10-40-15 through 40-21).
  If the transferor, its consolidated affiliates included in the financial statements being presented, and its agents have no continuing involvement with the transferred financial assets, the condition under paragraph 860-10-40-5(b) is met.
Effective control. The transferor, its consolidated affiliates included in the financial statements being presented, or its agents do not maintain effective control over the transferred financial assets or third-party beneficial interests related to those transferred assets (see paragraph 860-10-40-22A). A transferor’s effective control over the transferred financial assets includes, but is not limited to, any of the following:
1. An agreement that both entitles and obligates the transferor to repurchase or redeem the transferred financial assets before their maturity (see paragraphs 860-10-40-23 through 40-25)
2. An agreement, other than through a cleanup call (see paragraphs 860-10-40-28 through 40-39), that provides the transferor with both of the following:
  1. The unilateral ability to cause the holder to return specific financial assets
  2. A more-than-trivial benefit attributable to that ability.
3. An agreement that permits the transferee to require the transferor to repurchase the transferred financial assets at a price that is so favorable to the transferee that it is probable that the transferee will require the transferor to repurchase them (see paragraph 860-10-55-42D).

40-5A A repurchase-to-maturity transaction shall be accounted for as a secured borrowing as if the transferor maintains effective control (see paragraphs 860-10-40-24 through 40-24A).

40-6 For guidance on accounting for a transfer that satisfies the conditions in paragraph 860-10-40-5, see Subtopic 860-20, including Section 860-20-40’s derecognition guidance and Section 860-20-25’s guidance on recognition of new assets obtained and new liabilities. For guidance on accounting for a transfer that does not satisfy the conditions in paragraph 860-10-40-5, see Subtopic 860-30.

When an entire financial asset (or a group of entire financial assets) or a participating interest is transferred to an unconsolidated entity, the transfer must meet the three conditions in ASC 860-10-40-5 to be accounted for as a sale. Those conditions are relevant to both the transferor’s and the transferee’s accounting. If all three conditions are met, the transferor accounts for the transfer as a sale of a financial asset and the transferee accounts for the transfer as a purchase of a financial asset (see Chapter 4 for further discussion of the transferor’s and transferee’s accounting for a transfer that qualifies for sale accounting). If all three conditions are not met, the transferor accounts for the transfer as a borrowing secured by collateral and the transferee accounts for the transfer as an origination of a receivable from the transferor (see Chapter 5 for further discussion of the transferor’s and transferee’s accounting for a transfer that does not qualify for sale accounting). The accounting as a sale or secured borrowing is symmetrical between the transferor and transferee except in the following two cases:

Securities lending transactions involving noncash collateral (see Section 5.3.3.3.1).
The accounting in the stand-alone financial statements of a transferee (including a BRSPE) when a parent entity transfers financial assets to a subsidiary (see Section 3.1.3.5.3).

Sections 3.3 through 3.5 provide additional guidance on the three conditions in ASC 860-10-40-5. Section 3.6.5.1.2 discusses the accounting for repurchase-to-maturity transactions.

3.1.3.2 Losing Control Over Previously Transferred Financial Assets

ASC 860-10-40-41 indicates that a transferor can regain control over previously sold financial assets. It is also possible for a transferor to lose control over transferred financial assets previously accounted for as a secured borrowing. However, the SEC staff believes that for a transfer previously accounted for as a secured borrowing to achieve sale accounting, a substantive transaction or event needs to occur before an entity can conclude that sale accounting is appropriate.

A mere change in market prices is not sufficient to recognize a sale on a transfer previously accounted for as a secured borrowing. For example, assume that a transferor’s only continuing involvement in transferred financial assets is the ownership of a subordinated interest that precluded sale accounting. The fact that the transferor believes its subordinated interest becomes “worthless” is not sufficient to account for the prior transfer as a sale. Rather, a substantive transaction or event must occur to demonstrate (1) that sale accounting is appropriate and (2) the specific date on which sale accounting is achieved.

A substantive transaction or event that allows for sale accounting for a transfer previously accounted for as a secured borrowing could include:

A change to the contractual terms of a transfer. A modification to the contractual terms of a transfer that requires approval of the transferee or third-party beneficial interest holders in securitized financial assets would be considered a substantive transaction or event provided that the modification affects a substantive contractual term. A modification involving a nonsubstantive contractual term or one that the transferor can undertake unilaterally would not be considered substantive.
Expiration of a call option, put option, or other derivative instrument that precluded sale accounting, provided that the expired instrument was substantive as of the original transfer date. See Example 3-3.
A sale of an interest that was substantive as of the original transfer date and precluded sale accounting. If a transferor believes that the interest to be sold is “worthless,” it should undergo a substantive marketing process to confirm that the interest has no value. Afterwards, a transfer of the interest for no consideration (e.g., a contribution to a not-for-profit entity) may support a conclusion that sale accounting has been achieved.

A nonsubstantive contractual term included in the terms of a transfer may cause one of the conditions in ASC 860-10-40-5 not to be met; in such circumstances, the transfer must be accounted for as a secured borrowing. Removing such a nonsubstantive feature does not achieve sale accounting since this would allow entities to elect the date on which sale accounting is achieved (i.e., choose the date to take a gain on sale). The SEC staff believes that this is unacceptable.

3.1.3.3 Consideration of Involvement of Consolidated Affiliates

In the evaluation of the three conditions in ASC 860-10-40-5, any continuing involvement in the transferred financial assets of a consolidated affiliate is considered continuing involvement of the transferor (i.e., the same as if the involvement was directly with the transferor). For this purpose, a consolidated affiliate includes any entity that is included in the transferor’s consolidated financial statements. Thus, whether a transferor has isolated transferred financial assets may depend on which financial statements are being presented. A financial asset transferred by a subsidiary could meet the conditions in ASC 860-10-40-5 in the subsidiary’s financial statements but not meet the sale accounting conditions in the parent’s consolidated financial statements. This could be the case if, for example, the parent provided recourse or had an obligation to purchase the transferred financial assets.

3.1.3.4 Consideration of Agents

ASC 860-10 — Glossary

Agent

A party that acts for and on behalf of another party. For example, a third-party intermediary is an agent of the transferor if it acts on behalf of the transferor.

In the evaluation of the conditions in ASC 860-10-40-5(b) and (c), any continuing involvement of an agent of the transferor must be considered continuing involvement of the transferor (i.e., the same as if the involvement was with the transferor). If the transferor and transferee use the same agent, the transferor only considers the involvement of the agent in its capacity as acting for and on behalf of the transferor. The agent’s actions on behalf of the transferee should not be attributed to the transferor. For example, an investment manager may act as a fiduciary for both the transferor and the transferee. The transferor would only consider the involvement of the investment manager when it is acting on its behalf.

Entities should focus on the legal terms of arrangements with third-party intermediaries, as well as on the fiduciary obligations of those entities, to determine whether a third party is acting on behalf of the transferor when that party acts as an agent for both the transferor and the transferee. This is especially important when a third-party agent has the right to purchase transferred financial assets, liquidate a transferee entity, or redeem beneficial interests. If, as a result of the activities of an agent, the transferor is required to consolidate the transferee under the VIE guidance in ASC 810-10, the transferor could not achieve sale accounting for the transferred financial assets.

ASC 860-10-40-5(a) does not specifically require that financial assets be put beyond the reach of an agent. Nevertheless, to meet the objective in ASC 860-10-40-4, transferors should consider the involvement of agents in determining whether transferred financial assets are legally isolated.

Examples 3-4 and 3-8 illustrate how the activities of agents are considered in the determination of whether a transfer of financial assets meets the conditions for sale accounting.

3.1.3.5 Transfers Involving Subsidiary Entities

3.1.3.5.1 General

ASC 860-10

Recognition of a Sale in Separate-Entity Financial Statements

55-78 A transfer from one subsidiary (the transferor) to another subsidiary (the transferee) of a common parent would be accounted for as a sale in each subsidiary’s separate-entity financial statements if both of the following requirements are met:

All of the conditions in paragraph 860-10-40-5 (including the condition on isolation of the transferred financial assets) are met.
The transferee’s assets and liabilities are not consolidated into the separate-entity financial statements of the transferor.

Paragraph 860-10-40-4 states that, in a transfer between two subsidiaries of a common parent, the transfer-or-subsidiary shall not consider parent involvements with the transferred financial assets in applying paragraph 860-10-40-5.

Transfers of financial assets between entities within a consolidated group never meet the conditions for sale accounting in the parent’s consolidated financial statements (see ASC 860-10-40-4). However, ASC 860-10 permits a transfer of financial assets between commonly controlled entities to be treated as a sale in the stand-alone financial statements of a subsidiary if certain conditions are met. That is, a transfer that fails to meet the conditions for sale accounting in a parent’s consolidated financial statements because of the involvement of the parent or another consolidated affiliate may be reflected as a sale within the stand-alone financial statements of a subsidiary-transferor or a purchase within the stand-alone financial statements of a subsidiary-transferee.

3.1.3.5.2 Transfers of Financial Assets Among Sister Subsidiaries

ASC 860-10 addresses whether a transfer of financial assets between subsidiaries of a common parent may be treated as a sale in the stand-alone financial statements of the subsidiaries (i.e., a sale of financial assets by the subsidiary-transferor and a purchase of those assets by the subsidiary-transferee). For a transfer of financial assets between subsidiaries of a common parent to be accounted for as a sale in the stand-alone financial statements of the subsidiaries, the following two conditions must be met:

All the conditions in ASC 860-10-40-5 are met — The conditions in ASC 860-10-40-5 are evaluated on the basis of the contractual agreements and arrangements associated with the transfer from the perspective of the stand-alone financial statements of the subsidiary. That is, in evaluating the sale accounting conditions, each subsidiary assumes that the involvement of the parent or the parent’s consolidated affiliates not included in the financial statements being presented (including the sister subsidiary involved in the transfer) represents involvement of an unrelated third party.4 The fact that a transfer is between commonly controlled entities does not preclude a subsidiary from reflecting the transfer as a sale in its stand-alone financial statements. Similarly, the fact that the parent could subsequently require a consolidated affiliate to take a certain action does not result in the need to infer rights and obligations that are not contractual. See below for discussion of the application of the conditions in ASC 860-10-40-5.
The substance of the transaction is not a secured borrowing — Although ASC 860-10-55-17D (reproduced below) does not specifically apply, we believe that an entity must consider whether the substance of the transaction is a secured borrowing. Depending on the facts and circumstances, the entity may conclude that recognizing the transfer as a sale in the stand-alone financial statements of a subsidiary does not reflect the substance of the transaction. The entity will need to use judgment in such situations, especially when the parent or another consolidated affiliate acts as an agent of each subsidiary involved in a transfer.

An entity should consider the following in applying the conditions in ASC 860-10-40-5 to transfers of financial assets between subsidiaries of a common parent:

Isolation of transferred financial assets (ASC 860-10-40-5(a)) — The subsidiary-transferor should evaluate whether the transferred financial assets have been legally isolated from the subsidiary and any consolidated affiliates included in the subsidiary’s stand-alone financial statements. Any involvement of the parent should not be considered. For example, a guarantee provided by the parent should not affect whether the isolation condition is met.
Transferee’s ability to pledge or exchange (ASC 860-10-40-5(b)) — One of the following must be met:
- Each transferee of the financial assets (including subsidiaries or other entities controlled by the common parent) has the right to pledge or exchange the transferred financial assets.
- If the transferee is an entity whose sole purpose is to engage in securitization or asset-backed financing activities, each holder of beneficial interests in the transferred financial assets has the right to pledge or exchange those beneficial interests except for:
  - The subsidiary-transferor.
  - An entity included in the consolidated financial statements of the subsidiary-transferor.
  - An entity that is acting as an agent of the subsidiary-transferor.
  Connecting the Dots
  
  When a transferee is an entity whose sole purpose is to engage in securitization or asset-backed financing activities, the evaluation of ASC 860-10-40-5(b) focuses on the ability of third-party holders of beneficial interests in the transferred financial assets to pledge or exchange those interests. Thus, this condition may be met even if the transferor receives, as proceeds, a beneficial interest in the transferred financial assets that it cannot freely pledge or exchange.
  
  In transfers of financial assets among sister subsidiaries that involve securitization or asset-backed financing activities, an entity must consider which beneficial interest holders should be evaluated as third parties. With respect to the stand-alone financial statements of the transferor, we believe that “third party” should be interpreted as any party other than (1) the subsidiary-transferor or (2) its consolidated subsidiaries or agents. Thus, in addition to beneficial interest holders that are unrelated to the subsidiary-transferor, other entities within the consolidated group that acquire the beneficial interests need to have the ability to pledge or exchange those interests for the condition in ASC 860-10-40-5(b) to be met.
  
  A securitization or asset-backed financing entity that is consolidated, directly or indirectly, by the parent may acquire financial assets from, and issue beneficial interests to, various subsidiaries that are included in the parent’s consolidated financial statements. In an individual subsidiary-transferor’s evaluation of the condition in ASC 860-10-40-5(b), only holders of beneficial interests in the transferred financial assets need to have the right to pledge or exchange those interests. That is, the condition in ASC 860-10-40-5(b) is in line with an “asset” view rather than an “entity” view. As a result, there is no need for a subsidiary-transferor to evaluate the rights of holders of beneficial interests in a securitization or asset-backed financing entity to pledge or exchange those interests if they are not entitled to any of the cash flows of the transferred financial assets. We have confirmed this view through discussions with the FASB staff. Example 3-8 illustrates this concept.
Effective control (ASC 860-10-40-5(c)) — Any continuing involvement of the parent or other commonly controlled entities that are not included in the subsidiary-transferor’s consolidated financial statements, and that are not agents of the subsidiary-transferor, does not have to be taken into account by the subsidiary-transferor in its evaluation of whether it maintains effective control over the transferred financial assets. The subsidiary-transferor should, however, consider any involvement in the transferred financial assets of the subsidiary-transferor’s consolidated affiliates included in the financial statements being presented and any involvement of the subsidiary-transferor’s agents.

3.1.3.5.3 Transfers of Financial Assets From a Parent to a Subsidiary

ASC 860-10

Consolidation of Transferee by Transferor

55-17D Paragraph 860-10-40-4 states that the determination of whether a transferor and its consolidated affiliates included in the financial statements being presented have surrendered control over transferred financial assets shall first consider whether the transferee would be consolidated by the transferor. If all other provisions of this Topic are met with respect to a particular transfer, and the transferee would be consolidated by the transferor, then the transferred financial assets would not be treated as having been sold in the financial statements being presented. However, if the transferee is a consolidated subsidiary of the transferor (its parent), the transferee shall recognize the transferred financial assets in its separate entity financial statements, unless the nature of the transfer is a secured borrowing with a pledge of collateral (for example, a repurchase agreement that would not be accounted for as a sale under the provisions of paragraph 860-10-40-24).

A transfer of financial assets from a parent to a consolidated subsidiary is not reflected as a sale in the parent’s consolidated financial statements. Rather, such a transfer has no impact on the consolidated financial statements. However, ASC 860-10-55-17D indicates that the subsidiary-transferee may reflect the purchase of those transferred financial assets in its stand-alone financial statements unless the transfer is a secured borrowing. An entity must use judgment in making this determination.

3.1.3.6 Transfers to Equity Method Investees

ASC 860-10

Recognition of a Sale in Separate-Entity Financial Statements

55-79 If the transferee was an equity method investee of the transferor, only the investment and not the investee’s assets and liabilities would be reported in the transferor subsidiary’s separate-entity financial statements. Therefore, the transferee would not be a consolidated affiliate of the transferor, and such a transfer could isolate the transferred financial assets and be accounted for as a sale if all other conditions of paragraph 860-10-40-5 are met.

ASC 860-10-55-79 explains that a transferee that is an equity method investee of a transferor is not a consolidated affiliate of the transferor. Therefore, a transfer of financial assets to an equity method investee could meet the conditions in ASC 860-10-40-5 for sale accounting.

Footnotes

Under ASC 860-10, a transfer is accounted for entirely as either a sale or a secured borrowing. An entity cannot account for any transfer of financial assets as partially a sale and partially a secured borrowing. A transfer to a consolidated subsidiary can achieve sale accounting only if the consolidated subsidiary transfers the financial assets received or a participating interest in those financial assets to another transferee that is not consolidated by the transferor or its consolidated affiliates.

Without any continuing involvement in transferred financial assets other than standard representations and warranties, the conditions in ASC 860-10-40-5(a) and (c) would generally be met (although analysis of these conditions is still required). The lack of continuing involvement takes precedence in the evaluation of whether a transferee is constrained from pledging or exchanging the transferred financial assets. See further discussion in Section 3.4.1.1.

An asset that represents an ownership interest in an entity (e.g., common shares or limited partnership interests) is considered an entire financial asset and would be the unit of account to which the sale accounting conditions in ASC 860-10-40-5 are applied.

Any involvement by an entity that is acting as an agent of the subsidiary should be considered continuing involvement of the subsidiary.

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.