Chapter 5 — Secured Borrowing Accounting

5.2 Recognition of a Transfer as a Secured Borrowing

5.2.1 General

ASC 860-30

25-2 The transferor and transferee shall account for a transfer as a secured borrowing with pledge of collateral in either of the following circumstances:

If a transfer of an entire financial asset, a group of entire financial assets, or a participating interest in an entire financial asset does not meet the conditions for a sale in paragraph 860-10-40-5
If a transfer of a portion of an entire financial asset does not meet the definition of a participating interest.

The transferor shall continue to report the transferred financial asset in its statement of financial position with no change in the asset’s measurement (that is, basis of accounting).

ASC 860-10 addresses whether a transfer of financial assets is accounted for as a sale. If any of the following conditions exist, a transfer of financial assets does not meet the conditions for sale accounting:

The transferor is required to consolidate the transferee (ASC 860-10-55-17D).
The transfer does not meet the conditions for a sale (ASC 860-10-40-5).
The transferred financial asset represents a portion of an entire financial asset (or assets) that does not meet the definition of a participating interest (ASC 860-10-40-4E).

As discussed in Section 5.1, the accounting guidance in ASC 860 is symmetrical. If a transfer qualifies as a sale, the transferor derecognizes the transferred financial assets and the transferee recognizes those assets. If a transfer is not a sale, the transferor continues to recognize the transferred financial assets and the transferee does not recognize those assets but recognizes a receivable from the transferor. The guidance in ASC 860-30 on accounting for secured borrowings applies to all transfers of financial assets within the scope of ASC 860-10 that do not meet the conditions for sale accounting. Whether the transferor conveys to the transferee an ownership interest in a financial asset or only a security interest, the transferor and transferee account for the transfer as a secured borrowing if the conditions for sale accounting in ASC 860-10-40-5 are not met.

Some transactions, such as repurchase agreements and securities lending transactions, are considered sales under U.S. bankruptcy and tax laws but are generally accounted for as secured borrowings because all of the conditions in ASC 860-10-40-5 are not met. Transactions that are generally accounted for as secured borrowings include the following:2

Repurchase agreements — Repurchase agreements are generally entered into for short-term financing and investing purposes.3 In a repurchase agreement, an entity (the transferor-borrower) sells a debt security to a third party (the transferee-lender) and simultaneously agrees to repurchase the same (or substantially the same) security at a future date. Most repurchase agreements are structured to give the transferee legal title to the securities for the term of the transaction. However, the transferor is obligated to repurchase the security or a security that is substantially the same at a future date at a repurchase price that is generally equal to the sales price plus interest. The collateral (i.e., debt security) that secures a repurchase agreement is generally subject to adjustment based on collateral posting thresholds.

The terms of repurchase agreements vary significantly. Many repurchase agreements are short-term arrangements (e.g., overnight, days, weeks, or months), but some are longer-term (e.g., one year or more). Long-term repurchase agreements are often referred to as “term repos.” Some repurchase agreements allow the transferee to sell or repledge the securities during the term of the agreement, while others do not give the transferee such a right. Repurchase agreements may be specified-delivery, tri-party, or held-in-custody arrangements. In a specified-delivery transaction, the security must be delivered to the transferee as of the transaction date and then transferred back to the transferor at maturity. In a tri-party arrangement, a third party acts as an agent or intermediary between the two parties during the term of the repurchase agreement to facilitate services such as collateral selection, payment and settlement, and custody and management. Tri-party arrangements include parties that centrally clear repurchase agreements between broker-dealers in securities. In these arrangements, a central counterparty clearing house provides clearing and settlement services and takes on counterparty credit risk between the parties to the arrangement. A held-in-custody repurchase agreement is one in which the transferor-borrower does not deliver the security to the transferee-lender but keeps the security in a separate account on behalf of the transferee. In these arrangements, while the transferor retains control of the security and services the security throughout the term of the repurchase agreement, it holds the security as a custodial agent on behalf of the transferee.
Dollar-roll repurchase agreements — An entity (the transferor-borrower) sells an MBS (typically one guaranteed by the FHLMC, FNMA, or GNMA) to a third party (the transferee-lender) and simultaneously agrees to repurchase an MBS at a future date that is similar to, but not necessarily the same as, the MBS sold. The repurchase price is generally the sales price plus interest. A dollar-roll repurchase agreement that is within the scope of ASC 860-10 is generally accounted for as a secured borrowing if the securities that must be returned are substantially the same.4
Securities lending transactions — Securities lending transactions are generally initiated by (1) broker-dealers in securities or other financial services entities that need specific securities to cover a short sale or a customer’s failure to deliver securities sold or (2) entities that own securities as a means of financing (i.e., to obtain access to cash that is posted as collateral by the borrower). In a typical securities lending transaction, an entity (the transferor) lends a security to a third-party borrower (the transferee). Securities lending often involves equity securities but may involve debt securities. Most securities lending transactions provide the borrower with legal title to the securities lent; however, at the end of the agreement, the borrower must return the security to the lender. As legal owner of the security, the borrower receives any dividends or interest paid on the borrowed security but may be required to pay those amounts or fees to the lender depending on the negotiated terms of the arrangement.

The borrower must post collateral, which is generally in the form of cash but could be a letter of credit or other securities. If the collateral is cash, the lender generally earns a return by investing the cash at a rate that is higher than the rate rebated to the borrower. If the collateral is not cash, the lender generally charges the borrower a fee. To provide protection to the lender, the fair value of the collateral posted by the borrower generally exceeds the fair value of the lent security. The collateral posted is subject to adjustment as the fair value of the lent securities changes. Legally, the lender obtains a security interest in any securities posted as collateral. However, any securities received by the lender as so-called collateral may be considered the proceeds of a secured borrowing (see Section 5.3.3.3.1).

Unlike repurchase agreements, many securities lending agreements are open ended with no stated maturity date. Either party may unwind or settle the transaction upon notice to the other party. Securities custodians or other agents commonly carry out securities lending transactions on behalf of clients. Because of the protection provided by the collateral posted (i.e., the collateral is typically valued daily and adjusted frequently for changes in the market price of the securities lent), most securities lending transactions do not impose significant credit risks on either party. However, other risks may arise from what the parties do with the assets they receive. For example, investments made with cash received as collateral may subject the lender to market risks or credit risks.

In a securities lending transaction, the identification of the lender and borrower can seem nonintuitive. The transferor-lender of the security in a securities lending transaction is actually treated as the obligor for accounting purposes and the transferee-borrower is treated as the creditor. However, if securities are posted as collateral, the transferor could be viewed as being both a lender and a borrower (i.e., the lender of the security lent and the borrower of the security received as collateral). In these situations, the same may be true for the transferee (i.e., the transferee may be considered the borrower of the security lent and the lender of the security posted as collateral). The table below provides more information on each party’s involvement in a securities lending transaction.

Table 5-1

Borrower — The borrower of a security in a securities lending transaction is the transferee. The borrower pledges collateral to the lender.

The borrower in a securities lending transaction must provide collateral to the lender. The amount of collateral initially provided generally exceeds the fair value of the securities borrowed. The collateral is subject to adjustment as the fair value of the securities borrowed changes.

Cash is commonly provided as collateral; however, the borrower could provide the lender with a standby letter of credit or post other securities as collateral.

If cash collateral is provided, the borrower may receive a portion of returns on such cash that are earned by the lender. If noncash collateral is provided, the borrower pays a fee to the lender.

Lender — The lender in a securities lending transaction is the transferor. The lender receives collateral from the borrower.

The lender in a securities lending transaction receives collateral from the borrower. The amount of collateral initially received generally exceeds the fair value of the securities lent. The collateral is subject to adjustment as the fair value of the securities lent changes.

Cash is commonly received as collateral; however, the lender could receive a standby letter of credit or other securities posted as collateral by the borrower.

Any investments made by the lender with the cash received are recognized as assets, even if those investments are made by agents of the lender (e.g., an agent may make investments for a number of lenders on a pooled basis). The lender earns a return by investing any cash received as collateral and paying (or “rebating”) a lower amount to the borrower. Any rebate paid to the borrower is recognized as interest expense on the amount of cash borrowed. If noncash collateral is received, the lender receives a fee from the borrower.

5.2.2 Transferor’s Accounting

In a transfer of financial assets accounted for as a secured borrowing, the transferor should:

Continue to recognize the transferred financial assets as a unit of account separate from the liabilities recognized for the secured borrowing. The transferor may not change the basis of accounting for those transferred financial assets (i.e., they must continue to be subsequently measured in accordance with the respective Codification section that applied before the transfer).5 It is not appropriate to (1) recharacterize a loan receivable as a security, (2) recognize a servicing asset, or (3) change any fair value measurement related to a loan receivable in a transfer that is not a sale. See Examples 5-2 and 5-3 for illustrations.
Initially recognize:
- Any cash consideration received as an asset.
- Any noncash financial assets received that may be sold or repledged, excluding any beneficial interests in the transferred financial assets.6
- A liability for the obligation to return the cash and other recognized assets to the transferee.7
- Any freestanding derivative assets or liabilities that are issued or received in the transfer.
Recognize, in subsequent periods, (1) income or changes in fair value for any noncash financial assets or derivative assets received as proceeds in accordance with other applicable U.S. GAAP and (2) expense or changes in fair value for liabilities related to the obligation to return cash or other recognized assets to the transferee and derivative liabilities incurred in accordance with other applicable U.S. GAAP.

Connecting the Dots

The transferor does not separately account for contractual rights or obligations related to transferred financial assets as derivative instruments if doing so would result in recognizing the same rights or obligations twice. In these situations, the exception from derivative accounting discussed in ASC 815-10-15-63 applies. However, as discussed in ASC 815-10-15-64, this scope exception applies only if the separate recognition of a derivative instrument would result in counting the same asset twice (regardless of whether that potential derivative instrument itself impeded sale accounting). See Examples 5-6 and 5-7 for illustrations.

5.2.3 Transferee’s Accounting

In a secured borrowing, the transferee does not recognize the transferred financial assets.8 Instead, the transferee derecognizes any cash paid to the transferor and recognizes a receivable from the transferor. See Section 5.3.2.4 for further discussion of the transferee’s accounting.

5.2.4 Trade-Date Versus Settlement-Date Accounting

A transfer that is accounted for as a secured borrowing is generally recognized on the settlement date (i.e., when the transfer has been completed). If, however, accounting on the trade date is required by other U.S. GAAP, the transferor and transferee would recognize the secured borrowing on the trade date. Note that broker-dealers in securities generally account for repurchase agreements on a settlement-date basis.

5.2.5 Transaction Costs

Direct and incremental costs incurred with third parties should be accounted for in accordance with other applicable U.S. GAAP. For the transferor, such costs may be considered debt issue costs. For the transferee, such costs may be considered costs of originating a receivable from a third party.

Footnotes

See Section 3.6.5 for further discussion of accounting for these transactions as sales or secured borrowings.

The transferor enters into a repurchase agreement to obtain short-term financing, and the transferee enters into a repurchase agreement to invest in short-term funds. As noted below, repurchase agreements sometimes are used for financing and investing on a long-term basis.

As discussed in Sections 2.3.3 and 3.6.5.1.1.2, some dollar-roll repurchase agreements are outside the scope of ASC 860-10.

ASC 320-10-25-18(e) indicates that transfers of held-to-maturity securities that are accounted for as secured borrowings do not call into question the entity’s intent to hold other debt securities to maturity. It provides examples, which include held-to-maturity debt securities that are (1) pledged as collateral, (2) transferred in a repurchase agreement, and (3) transferred in a securities lending transaction. It also discusses desecuritizations of beneficial interests.

The transferor may not recognize an asset for any beneficial interest received in the transferred financial assets. Beneficial interests in transferred financial assets may only be recognized when a transfer qualifies as a sale. See Example 5-2.

See Section 5.3.2.2 for discussion of the transferor’s accounting for liabilities recognized in a transfer of financial assets for cash that is accounted for as a secured borrowing. See Section 5.3.3.3.1 for discussion of the transferor’s accounting for liabilities recognized in transfers involving the receipt of noncash financial assets rather than cash.

The transferred financial assets represent collateral pledged to the transferee. The transfer may or may not include recourse to other assets of the transferor. The transferee does not recognize the transferred financial assets or other recourse unless the transferor defaults.

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.