5.3 Collateral in a Secured Borrowing
5.3.1 General
ASC 860-30 — Glossary
Collateral
Personal or real property in which a security interest
has been given.
ASC 860-30
Cash Collateral
25-3 Transfers of financial
assets in exchange for cash collateral cannot be
distinguished from borrowing cash. Further, because cash
is fungible, it is impossible to determine whether it
has been used by the secured party. Accordingly, all
cash collateral shall be recorded as an asset by the
party receiving it (the secured party), together with a
liability for the obligation to return it to the payer
(obligor), whose asset is a receivable.
25-4 Cash
collateral used, for example, in securities lending
transactions (see paragraphs 860-10-05-16 through 05-18)
shall be derecognized by the obligor and recognized by
the secured party, not as collateral but rather as
proceeds of either a sale or a borrowing. See paragraphs
860-30-25-6 through 25-9 for further discussion of
recognition of cash and noncash collateral as proceeds
of a transfer.
Noncash Collateral
25-5 The
accounting for noncash collateral by the obligor (or
debtor) and the secured party depends on whether the
secured party has the right to sell or repledge the
collateral and on whether the obligor has defaulted.
Noncash collateral shall be accounted for as follows:
-
If the secured party (transferee) has the right by contract or custom to sell or repledge the collateral, then paragraph 860-30-45-1 requires that the obligor (transferor) reclassify that asset and report that asset in its statement of financial position separately (for example, as security pledged to creditors) from other assets not so encumbered.
-
If the secured party (transferee) sells collateral pledged to it, it shall recognize the proceeds from the sale and its obligation to return the collateral. The sale of the collateral is a transfer subject to the provisions of this Topic.
-
If the obligor (transferor) defaults under the terms of the secured contract and is no longer entitled to redeem the pledged asset, it shall derecognize the pledged asset as required by paragraph 860-30-40-1 and the secured party (transferee) shall recognize the collateral as its asset. (See paragraph 860-30-30-1 for guidance on the secured party’s initial measurement of collateral recognized. See paragraph 860-30-40-1 for further guidance if the debtor has sold the collateral.)
-
Except as provided in paragraph 860-30-40-1 the obligor (transferor) shall continue to carry the collateral as its asset, and the secured party (transferee) shall not recognize the pledged asset.
Cash or Securities Received as Proceeds
25-6
Paragraph 860-10-55-55A discusses securities lending
transactions in which the criteria in paragraph
860-10-40-5 for a sale are met. The following guidance
relates to securities lending or similar transactions in
which a transferor (lender) transfers securities and
receives either cash or securities as collateral and the
transfer does not meet the sale criteria in that
paragraph.
25-7 Many securities lending
transactions are accompanied by an agreement that both
entitles and obligates the transferor to repurchase or
redeem the transferred financial assets before their
maturity. Paragraph 860-10-40-24 states that an
agreement that both entitles and obligates the
transferor to repurchase or redeem transferred financial
assets from the transferee maintains the transferor’s
effective control over those assets as described in
paragraph 860-10-40-5(c)(1), if all of the conditions in
paragraph 860-10-40-24 are met. Those transactions shall
be accounted for as secured borrowings, in which either
cash or securities that the holder is permitted by
contract or custom to sell or repledge received as
collateral are considered the amount borrowed, the
securities loaned are considered pledged as collateral
against the cash borrowed and reclassified as set forth
in paragraph 860-30-25-5(a), and any rebate paid to the
transferee of securities is interest on the cash the
transferor is considered to have borrowed.
25-8 In a
securities lending transaction, the transferor of
securities being loaned accounts for cash received in
the same way whether the transfer is accounted for as a
sale or a secured borrowing. Cash collateral or
securities received as collateral that a securities
lender is permitted to sell or repledge are the proceeds
of a borrowing secured by them. The cash received shall
be recognized as the transferor’s asset, as shall
investments made with that cash, even if made by agents
or in pools with other securities lenders, along with
the obligation to return the cash. If securities that
may be sold or repledged are received, the transferor of
the securities being loaned accounts for those
securities in the same way as it would account for cash
received. See Example 1 (paragraph 860-30-55-1) for an
illustration of a securities lending transaction that is
accounted for as a secured borrowing in which cash
collateral is transferred.
25-9 As noted
in paragraphs 860-30-25-4 and 860-30-25-8, the
collateral accounting provisions do not apply to cash,
or securities that can be sold or pledged for cash,
received as so-called collateral for noncash financial
assets, for example, in certain securities lending
transactions. Such cash or securities that can be sold
or pledged for cash are accounted for as proceeds of
either a sale or a borrowing.
Sales of Collateral Held
25-10 Obligations to return to
the transferor assets borrowed and then sold have
sometimes been effectively recognized as part of a
liability for securities sold but not yet purchased, and
this Section does not require any change in that
practice.
Noncash Collateral
30-1 Noncash collateral
recognized by the secured party as its asset under
paragraph 860-30-25-5(c) that the secured party has not
already sold shall be initially measured at fair
value.
Pledged Assets Required to Be Reclassified
35-2 A
transferor that has transferred collateral that must be
reclassified in accordance with paragraph 860-30-25-5(a)
(for example, as securities pledged to creditors) shall
not change its measurement of that collateral. The
transferor shall follow the same measurement principles
as before the transfer. For example, securities
reclassified from the available-for-sale category to
securities pledged to creditors should continue to be
measured at fair value, with changes in fair value
reported in comprehensive income, while debt securities
reclassified from the held-to-maturity category to
securities pledged to creditors should continue to be
measured at amortized cost. See Topic 320 for guidance
related to measurement of investments in securities
classified as available for sale and held to
maturity.
Obligation to Return Transferred
Collateral
35-3 This Section does not
provide specific guidance on the subsequent measurement
of the obligation to return transferred collateral. The
liability to return the collateral shall be measured in
accordance with other relevant accounting guidance.
Paragraph 942-405-35-1 requires that a bank or savings
institution that, as transferee, sells transferred
collateral subsequently measure that liability like a
short sale at fair value.
40-1 In circumstances where an
obligor (transferor) transfers noncash collateral in a
secured borrowing and the obligor (transferor) defaults
under the terms of the secured contract and is no longer
entitled to redeem the pledged asset, the obligor shall
derecognize the pledged asset. If the secured party has
already sold the collateral, the secured party shall
derecognize its obligation to return the collateral.
40-2
Otherwise paragraph 860-30-25-5(c) addresses the secured
party’s accounting for the collateral.
As discussed in Section 5.2.1, a transfer
of financial assets subject to ASC 860-10 that does not meet the conditions for
sale accounting must be accounted for by the transferor and transferee as a
borrowing secured by a pledge of collateral. Each transfer that is accounted for
as a secured borrowing has two components: (1) proceeds and (2) collateral.
The recognition and measurement guidance on cash and noncash collateral in ASC
860-30-25-3 through 25-10, ASC 860-30-30-1, ASC 860-30-35-2 and 35-3, and ASC
860-30-40-1 and 40-2 applies to all transfers accounted for as secured
borrowings under ASC 860-10. However, the guidance in ASC 860-30-25 on
recognition of collateral does not apply when the so-called collateral
represents the proceeds in a secured borrowing. Proceeds in a secured borrowing
include:
-
Cash.
-
Noncash financial assets (e.g., securities) that can be sold or repledged by the secured party.
The transferor and transferee account for cash payments and
receipts in the same manner regardless of whether the transfer agreement defines
cash as proceeds in a secured borrowing or collateral (see Section 5.3.2.1). The
accounting for noncash financial assets depends on whether those assets are
considered the proceeds in a secured borrowing or collateral (see Section 5.3.3.3.1).
5.3.2 Accounting for Cash in a Secured Borrowing
5.3.2.1 General
Depending on the terms of the legal agreement for the
transfer, cash may be characterized as the proceeds from a sale of financial
assets or as the collateral for a borrowing.10 However, this legal distinction is irrelevant since cash is fungible.
Under ASC 860-30-25-3, in all circumstances in which one party transfers
cash to another party, it must be recognized as an asset by the receiving
party and derecognized by the paying party. This requirement applies
regardless of whether the cash transferred is considered the proceeds from a
borrowing or the collateral posted on a borrowing.
The table below summarizes the accounting for cash
transferred in a secured borrowing. See Examples 5-1, 5-2, and 5-11 for
illustrations.
Table
5-2
Scope
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All secured borrowings within the
scope of ASC 860-30 and all cash posted as
collateral on a derivative transaction (see
Section 5.3.2.3) or securities lending
transaction.
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Accounting by the payor of
cash — The payor is the transferee of
financial assets in a secured borrowing (i.e., the
creditor or secured party) or the party with a
derivative liability.
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The payor of cash should account for the payment as follows:
ASC 815-10-45-1 through 45-7 apply to the balance
sheet presentation of fair value amounts recognized
for a receivable that represents the right to
reclaim cash posted as collateral for outstanding
derivative liabilities.(a)
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Accounting by the recipient of
cash — The recipient is the transferor in a
secured borrowing (i.e., the debtor or pledging
party) or the party with a derivative asset.
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The recipient of cash should account for the receipt
as follows:
ASC 815-10-45-1 through 45-7 apply
to the balance sheet presentation of fair value
amounts recognized for a liability that represents
the obligation to return cash received as collateral
for outstanding derivative assets. The recipient
should also consider whether cash received should be
presented and disclosed as restricted cash.
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Notes to Table:
(a) The payment (receipt)
of cash on centrally cleared derivative transactions
may legally represent a settlement (or partial
settlement) of a derivative. In these situations,
there is no receivable (liability) to account for
under ASC 860-30; rather, the cash paid (received)
is considered a settlement (or partial settlement)
of an outstanding derivative liability (asset).
(b) Cash held by a third
party in custody represents cash that should be
recognized by the recipient.
(c) If the cash is used
to purchase securities, the cash received is
derecognized and those securities are accounted for
in accordance with other applicable U.S. GAAP (e.g.,
ASC 320 for debt securities).
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See Section 5.4.3 for an example
illustrating the accounting for cash payments in a securities lending
transaction.
5.3.2.2 Transferor’s Accounting for Liabilities Recognized in a Secured Borrowing
5.3.2.2.1 General
A liability recognized by a debtor in a secured
borrowing represents a unit of account that is separate from the assets
pledged as collateral for that obligation. ASC 860-30 also does not
specifically address the classification or terminology used to describe
liabilities recognized in a secured borrowing.
5.3.2.2.2 Initial Measurement
The general principle in ASC 860 is to initially
recognize liabilities incurred in transfers at fair value. However, if
the FVO is not elected, any fees or costs incurred with third parties
that are direct and incremental costs (i.e., debt issue costs) may be
capitalized into the initial measurement of the liability.11 Thus, when a liability is incurred in exchange for cash and the
FVO is not elected, the initial measurement of the liability equals the
sum of:
-
The amount of cash received.12
-
The debt issue costs incurred.
5.3.2.2.3 Subsequent Measurement
The liability should be subsequently measured in accordance with
applicable U.S. GAAP, which may include:
-
ASC 470-10 — Addresses increasing-rate debt and indexed debt.
-
ASC 470-30 — Covers participating mortgage liabilities.
-
ASC 815-15 — Discusses embedded derivatives.
-
ASC 825-10 — Addresses application of the FVO.
-
ASC 835-30 — Covers the interest method.
For further discussion of such subsequent measurement,
see Deloitte’s Roadmap Issuer's Accounting for Debt.
Connecting the Dots
Liabilities for secured borrowings are often
recourse only to the transferred financial assets. As a result,
questions often arise about whether there is an embedded credit
derivative that must be separated from the host liability under
ASC 815-15. The embedded credit feature in a liability for a
secured borrowing may be described as an indexation to the
credit risk of the transferred financial assets (as opposed to
the liability being subject only to the debtor’s credit risk).
ASC 815-15-25-47 addresses when credit risk exposures are not
clearly and closely related to a liability host, stating that
the requirement to separate an embedded credit derivative does
not apply to “a nonrecourse debt arrangement (that is, a debt
arrangement in which, in the event that the debtor does not make
the payments due under the loan, the creditor has recourse
solely to the specified property pledged as collateral).” This
exception generally applies to the evaluation of the credit risk
of a nonrecourse liability in a secured borrowing. However, it
should not be applied in certain situations, including the
accounting for credit-linked notes, liabilities that introduce a
credit risk unrelated to the transferred financial assets, and
liabilities in which payment depends on derivative
instruments.
Derecognition of a liability in a secured borrowing is subject to the
guidance in ASC 405-20-40-1, which states:
Unless addressed by other guidance (for example, paragraphs
405-20-40-3 through 40-4 or paragraphs 606-10-55-46 through
55-49), a debtor shall derecognize a liability if and only if it
has been extinguished. A liability has been extinguished if
either of the following conditions is met:
-
The debtor pays the creditor and is relieved of its obligation for the liability. Paying the creditor includes the following:
-
Delivery of cash
-
Delivery of other financial assets
-
Delivery of goods or services
-
Reacquisition by the debtor of its outstanding debt securities whether the securities are cancelled or held as so-called treasury bonds.
-
-
The debtor is legally released from being the primary obligor under the liability, either judicially or by the creditor. For purposes of applying this Subtopic, a sale and related assumption effectively accomplish a legal release if nonrecourse debt (such as certain mortgage loans) is assumed by a third party in conjunction with the sale of an asset that serves as sole collateral for that debt.
Connecting the Dots
An entity may transfer a financial asset in a
transaction that represents a nonrecourse borrowing (i.e., the
transferee only has recourse to the financial asset pledged as
collateral). While the transferor is only “at risk” to the
extent of the fair value of the financial asset transferred
(i.e., the pledged collateral), if it does not apply the FVO,
the transferor cannot write down its liability for declines in
the fair value of the financial asset. Rather, if the FVO is not
applied, the amount recognized for the liability for the secured
borrowing would not be reduced until one of the conditions in
ASC 405-20-40-1 is met.
5.3.2.3 Transferor’s Accounting for Pledges of Cash Collateral in Derivative Transactions
A CSA is a contract attached to another transaction that
defines certain credit terms between counterparties, such as credit
thresholds, collateralization process, and credit termination events. CSAs
are often executed in conjunction with derivative transactions. They require
the transfer of cash or other noncash collateral from the party in a loss
position to the party in a gain position when the fair value of a derivative
(or portfolio of derivatives) exceeds a certain posting threshold. Although
cash is often posted as collateral, liquid securities with high credit
quality (e.g., U.S. Treasury securities) may be eligible to be posted as
collateral. When securities are pledged as collateral, the party that
receives the pledged securities may be able to sell or repledge those
securities. In these situations, the securities to be returned to the party
that has posted the collateral must be of the same issuer, series, class,
maturity, mortgage pool, CUSIP number, coupon, and principal amount.
The posting of cash as collateral on a derivative contract
is not a transfer under ASC 860-10. Nevertheless, ASC 860-30 applies when
cash is posted as collateral on derivative transactions. Therefore, the
party that posts cash must derecognize the cash and recognize a receivable
for the right to reclaim the cash. The party that receives the cash
recognizes it as an asset and recognizes a liability for the obligation to
return the cash. The posting of noncash financial assets as collateral on a
derivative contract is a transfer within the scope of ASC 860-10. See
Section
5.3.3.2 for discussion of the accounting for noncash
collateral posted on derivative transactions.
Connecting the Dots
The posting of cash margin or collateral on
centrally cleared derivative transactions may legally represent a
settlement (or partial settlement) of an outstanding derivative. In
these situations, there is no recognized borrowing to account for
under ASC 860-30; rather, the payor of cash is considered to have
extinguished its derivative liability and the receiver of cash is
considered to have been repaid its derivative asset.
5.3.2.4 Transferee’s Accounting for Assets Recognized in a Secured Borrowing
In a transfer of financial assets for cash accounted for as
a secured borrowing, the transferee recognizes a receivable from the
transferor. The receivable should be subsequently accounted for under other
applicable U.S. GAAP (e.g., ASC 310-10 or the FVO in ASC 825-10). See
Examples
5-4 and 5-5 for illustrations of the transferee’s subsequent
accounting for a receivable from a transferor.
Connecting the Dots
Assets recognized for secured borrowings are often
recourse only to the transferred financial assets. As a result,
questions often arise about whether there is an embedded credit
derivative that must be separated from the host receivable under ASC
815-15. The embedded credit feature in a receivable for a secured
borrowing may be described as an indexation to the credit risk of
the transferred financial assets (as opposed to the receivable being
subject only to the debtor’s credit risk). ASC 815-15-25-47
addresses when credit risk exposures are not clearly and closely
related to a receivable host, stating that the requirement to
separate an embedded credit derivative does not apply to “a
nonrecourse debt arrangement (that is, a debt arrangement in which,
in the event that the debtor does not make the payments due under
the loan, the creditor has recourse solely to the specified property
pledged as collateral).” This exception generally applies to the
evaluation of the credit risk of a nonrecourse receivable in a
secured borrowing. However, it should not be appropriate in certain
situations, including the accounting for credit-linked notes,
receivables that contain a credit risk unrelated to the transferred
financial assets, and receivables in which payment depends on
derivative instruments.
5.3.3 Accounting for Noncash Financial Assets in a Secured Borrowing
5.3.3.1 General
The accounting for noncash collateral is more complex than
the accounting for cash payments in a secured borrowing. As discussed in ASC
860-30-25-6 through 25-9, the accounting depends on whether noncash
financial assets in a secured borrowing represent collateral or proceeds.
That is, noncash financial assets that are pledged in a transfer that does
not meet the conditions for sale accounting (including noncash financial
assets pledged as collateral on outstanding derivatives) are accounted for
differently from noncash financial assets that represent the proceeds in a
reciprocal transaction between two parties that does not meet the conditions
for sale accounting. Section 5.3.3.2 discusses noncash financial assets that
represent collateral, and Section 5.3.3.3 addresses noncash financial assets that
represent the proceeds in a secured borrowing.
5.3.3.2 Noncash Financial Assets That Represent Collateral
This section addresses the accounting for the following:
-
Noncash financial assets that represent the collateral in a secured borrowing.13
-
Noncash financial assets pledged as collateral on outstanding derivative instruments.
The table below summarizes the accounting in ASC 860-30-25-5
that applies to the transferor and transferee when noncash financial assets
represent pledged collateral.
Table
5-3
Scope
|
All secured borrowings within the scope of ASC 860-30
and noncash collateral posted on a derivative
transaction. Does not include noncash financial
assets that are considered proceeds in a secured
borrowing (see Section
5.3.3.3.1).
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Accounting by the party that transfers noncash
financial assets as collateral — The party
that transfers noncash collateral is the transferor
of financial assets in a secured borrowing (i.e.,
the debtor or pledging party) or the party with a
derivative liability.
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There is no accounting recognition by the transferor
of noncash financial assets unless it defaults on
the terms of the secured contract.
The transferor should not derecognize noncash
financial assets pledged as collateral unless it
defaults under the terms of the secured contract and
is no longer entitled to redeem the pledged assets
(see ASC 860-30-25-5(c) and (d)).(a) The
transferor continues to measure noncash financial
assets pledged as collateral in the same manner as
it would if those assets had not been pledged (see
ASC 860-30-35-2). For example, if a debt security is
pledged as collateral, the transferor continues to
classify that security as trading, available for
sale, or held to maturity according to its
classification before being pledged.
If the secured party has a right by custom or
contract to sell or repledge noncash collateral, the
transferor should reclassify those financial assets
on its balance sheet to distinguish them from other
assets not so encumbered (see ASC
860-30-25-5(a)).(b) ASC 860-30 does not
specify the classification or terminology for the
transferor to use in describing reclassified noncash
financial assets that have been pledged as
collateral.
If the transferor defaults under the terms of the
secured contract and is no longer entitled to redeem
the pledged asset (i.e., the transferor does not
cure the default within any prescribed period it has
to cure such default), it should derecognize the
pledged noncash financial asset and recognize either
a receivable from the transferee or an
extinguishment of the liability previously
recognized for the secured borrowing (see ASC
860-30-25-5(c) and ASC 860-30-40-1). Derecognition
of the liability previously recognized for the
secured borrowing is appropriate only to the extent
of the amount of derecognition that meets one of the
conditions in ASC 405-20-40-1. In other words, after
derecognizing the financial assets pledged as
collateral, the transferor may still owe amounts to
the transferee.
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Accounting by the party that receives noncash
financial assets pledged as collateral — The
recipient is the transferee of financial assets in a
secured borrowing (i.e., the creditor or secured
party) or the party with a derivative asset.
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The secured party is not required to
perform any accounting recognition unless one of the
following conditions is met:
The secured party might sell the noncash financial
assets received as collateral to raise cash as part
of another secured borrowing transaction. If the
secured party sells the collateral, it recognizes
the proceeds from the sale and a corresponding
obligation to return the collateral to the
transferor.(c) Generally, no gain or
loss is recognized on the sale. ASC 860-30 does not
address the classification or terminology to be used
to describe a liability incurred by a secured party
that sells pledged collateral or how to subsequently
measure this liability. We believe that this
liability should be subsequently measured at fair
value, with changes in fair value recognized in
earnings.(d)
If the transferor defaults on the secured contract
and does not cure the default within the prescribed
period for doing so (i.e., the transferor is no
longer entitled to redeem the pledged asset), the
secured party should (1) recognize the noncash
collateral as an asset, initially measured at fair
value in accordance with ASC 860-30-30-1, or (2)
derecognize the liability to return the noncash
collateral if it has been previously sold.
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Notes to Table:
(a) In the absence of a
default under the terms of the secured contract, the
transferor still controls the pledged noncash
financial assets and therefore should not
derecognize them. The transferor does not
derecognize pledged noncash financial assets even if
the secured party sells them to a third party.
(b) This reclassification
is required only if the secured party has the right
by custom or contract to sell or repledge the
collateral before a default by the transferor. If
the secured party only has the right to sell or
repledge the collateral upon a default by the
transferor under the terms of the secured contract,
this reclassification is not required.
(c) In this context,
“sale” means that the transaction meets the
conditions for sale accounting in ASC
860-10-40-5.
(d) The sale of a pledged
asset represents a sale of a security that is not
owned (i.e., a short sale). ASC 942-405-35-1 states
that the “obligations incurred in short sales shall
be subsequently measured at fair value through the
income statement at each reporting date. Interest on
the short positions shall be accrued periodically
and reported as interest expense.”
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5.3.3.3 Noncash Collateral That Represents Proceeds
5.3.3.3.1 General
Special consideration is necessary in securities lending transactions
that are collateralized by noncash financial assets that may be sold or
repledged by the recipient rather than by cash. In these transactions,
there are two types of noncash financial assets: (1) the loaned
securities and (2) the securities that are posted as collateral by the
borrower of the loaned securities. The noncash financial assets received
by the lender of securities as so-called collateral actually represent
the proceeds in a secured borrowing when those noncash financial assets
can be sold or repledged. That is, ASC 860-30-25-8 requires the lender
of securities to account for any noncash financial assets received that
may be sold or repledged in the same way that a transferor of financial
assets accounts for cash received in a secured borrowing. What is unique
is that the lender of securities is considered the borrower for
accounting purposes and the borrower of securities is considered the
lender for accounting purposes.
The table below describes the accounting in situations
in which noncash financial assets are pledged as collateral in a
securities lending transaction that is accounted for as a secured
borrowing. 14
Table 5-4
Loaned Securities(a)
|
Collateral Pledged(a),(b)
| |
---|---|---|
Borrower — The borrower in a securities
lending transaction is the transferee of the
loaned securities. The borrower pledges collateral
to the lender of the loaned securities.
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The borrower does not recognize
the securities borrowed as an asset. However, if
the borrower sells the borrowed securities, it
recognizes an obligation to return them to the
lender (see ASC 860-30-25-5(b) and ASC
860-30-25-10). That liability should be initially
and subsequently measured at fair value, with
changes in fair value recognized in
earnings.(c)
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Posting securities as collateral is a transfer
under ASC 860-10. The borrower does not
derecognize the securities posted as collateral
because it has not surrendered control over them.
However, the borrower should reclassify the
securities on its balance sheet to distinguish
them from other assets not so encumbered or should
disclose that the securities have been pledged
(see ASC 860-30-25-5(a) and ASC
860-30-50-1A(b)).(d)
If the borrower defaults on the terms of the
secured contract and any period available to cure
the default lapses, the borrower should
derecognize the securities pledged as collateral
(see ASC 860-30-25-5(c)).
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Lender — The lender in a securities
lending transaction is the transferor of the
loaned securities. The lender receives the
collateral pledged by the borrower of the loaned
securities.
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Because the lender maintains control over the
loaned securities, it does not derecognize them
even if they have been sold by the borrower.
However, if the borrower defaults on the terms of
the secured contract and any period available to
cure that default lapses, the lender derecognizes
the loaned securities. The lender discloses that
the securities have been pledged (see ASC
860-30-50-1A(b)).
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If the lender can sell or repledge the
collateral, it should recognize (1) an asset for
the pledged securities initially measured at fair
value and (2) an obligation to return the pledged
securities.(e) If the lender cannot
sell or repledge the collateral, it does not
recognize the pledged
securities.(f)
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Notes to Table:
(a) The loaned
securities are not considered collateral.
Collateral represents the securities pledged by
the securities borrower to the securities lender
to secure the securities lending transaction.
(b) The collateral
pledged to the securities lender often represents
liquid, high-credit-quality securities, such as
U.S. Treasury securities, and the securities
borrower often has the right to substitute the
collateral. As noted in the table, the securities
lender treats the so-called collateral as proceeds
in a secured borrowing if it can sell or repledge
those securities. In this table, it is assumed
that the lender of securities must return the same
or substantially the same securities upon
settlement of the secured contract.
(c) The sale of a
pledged asset represents a sale of a security that
is not owned (i.e., a short sale). ASC
942-405-35-1 states:
The obligations incurred in short sales
shall be subsequently measured at fair value
through the income statement at each reporting
date. Interest on the short positions shall be
accrued periodically and reported as interest
expense.
(d) The securities
borrower does not derecognize the pledged
securities even if they are sold by the securities
lender because the securities borrower maintains
effective control over the securities. In
addition, the securities borrower must apply the
same measurement method to the pledged securities
as it did before the transfer (see ASC
860-30-35-2). As noted below, the securities
lender recognizes the pledged securities because
they represent the proceeds in a secured
borrowing. This is one of the unique situations in
which the transferor’s accounting under ASC 860 is
not symmetrical to that of the transferee (i.e.,
the same securities are recognized on the balance
sheet of two entities). Such accounting conforms
with ASC 860-30-25-8.
If, however, the lender was not
required to return the same or substantially the
same securities, the borrower would derecognize
the pledged securities and recognize a receivable
from the lender.
(e) If the securities
lender can sell or repledge noncash financial
assets received as collateral, such pledged
securities that are received as so-called
collateral are accounted for as the proceeds of a
secured borrowing. In these circumstances, the
lender accounts for the pledged securities in the
same manner as if cash had been received as
collateral (see ASC 860-30-25-8). Therefore, the
lender recognizes an asset for the pledged
securities and an obligation to return the pledged
securities. The lender should initially measure
the securities at fair value (see ASC 860-30-30-1)
and should subsequently account for them in
accordance with other applicable U.S. GAAP (e.g.,
ASC 320 for debt securities). The lender should
initially measure the liability for the obligation
to return the pledged securities at fair value.
The lender should subsequently measure the
liability for the obligation to return the pledged
securities at fair value, with changes in fair
value reported in earnings (see note (c) to this
table). Thus, if the lender accounts for pledged
securities as available-for-sale debt securities,
there will be an earnings “mismatch” during the
term of the securities lending transaction because
any changes in unrealized gains or losses on the
pledged securities will be recognized in OCI while
any changes in unrealized gains or losses on the
obligation to return the pledged securities will
be recognized in earnings immediately.
If the securities lender
transfers the pledged securities to a third party,
it should apply ASC 860-10 to determine whether
that transfer is a sale or secured borrowing.
However, the obligation to return the pledged
securities would not be derecognized until the
lender returns the pledged securities or the
borrower defaults on the terms of the secured
contract and any period available to cure that
default lapses.
(f) ASC 860-30 does
not address the securities lender’s accounting in
situations in which pledged securities cannot be
sold or repledged. (In practice, it would be
unusual for the lender to be unable to sell or
repledge securities received as collateral.)
However, because the lender cannot sell or
repledge the securities, they would be considered
collateral rather than proceeds. As a result, the
securities lender would not recognize the pledged
securities unless the securities borrower defaults
on the terms of the secured contract and any
period available to cure that default lapses.
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See Example 5-8 for an illustration of a securities lending
transaction involving noncash collateral.
5.3.3.3.2 Special Considerations
5.3.3.3.2.1 Use of a Customer’s Securities in a Securities Lending Transaction
Securities owned by customers are not recognized on
the balance sheets of broker-dealers that maintain custody of those
securities. However, broker-dealers may be able to lend customer
securities when they collateralize a margin loan. If a broker-dealer
lends a customer’s security, it does not derecognize the margin loan
receivable from the customer. If the broker-dealer’s lending of a
customer’s security represents a sale under ASC 860-10, the
broker-dealer should recognize an obligation to return the
securities to the customer. If, however, the lending of a customer’s
security does not represent a sale under ASC 860-10, the
broker-dealer should not recognize the customer’s security or a
liability to return it. See Example 5-9 for an
illustration. A broker-dealer may also use customer securities as
collateral to borrow securities in a securities lending transaction.
As discussed in Table 5-4, when an entity pledges a security as
collateral, it does not derecognize the pledged security from its
balance sheet. Similarly, when the security pledged as collateral is
not recognized on the broker-dealer’s balance sheet, as is the case
with customer securities, the broker-dealer does not recognize an
asset or an obligation to return the customer’s security when the
security is transferred in a transaction that does not represent a
sale under ASC 860-10. See Example 5-10 for an
illustration.
Note that the same accounting would apply if an entity pledges a
borrowed security as collateral on a derivative transaction. That
is, the broker-dealer (or another entity) would not recognize a
liability for the return of the pledged security or a corresponding
asset from the derivative counterparty.
5.3.3.3.2.2 Securities Lending Without Collateral
In some countries, collateral is not pledged by the
borrower in a securities lending transaction, although this practice
is not common in the United States. We understand from informal
discussions with the FASB staff that there is no accounting
recognition by the lender or borrower unless the borrower sells the
security or defaults on the term of the secured contract. If the
borrower sells the security or defaults on the terms of the lending
arrangement (i.e., does not return the security), it must recognize
a liability for the obligation to return the borrowed security. If
the borrower defaults by not returning the security, the securities
lender must consider the need to derecognize the loaned
security.
5.3.3.3.2.3 Simultaneous Borrowing and Lending of Different Securities
In some securities lending transactions, each party
is simultaneously lending one security and borrowing another
security (also referred to as “lending swaps”). For example, assume
that Dealer A needs to borrow Security A to cover a short sale and
Dealer B needs to borrow Security B to cover a short sale. Dealer A
owns Security B and Dealer B owns Security A. Dealer A and Dealer B
enter into a securities lending transaction (accounted for as a
secured borrowing) in which Dealer A loans Security B to Dealer B
and Dealer B loans Security A to Dealer A. The securities loaned by
each party serve as the collateral on the securities borrowed by
each party. Each party can sell or repledge the borrowed security.
In these transactions, it is difficult to identify which party is
the transferor and which party is the transferee. In fact, each
party could be viewed as both a transferor and a transferee. Neither
party would derecognize the security pledged as collateral (i.e.,
the securities loaned by each party) unless the other party
defaulted on the terms of the secured contract and any period
available to cure that default lapses (see ASC 860-30-25-5). ASC
860-30 does not specifically address, however, whether each party
should consider the borrowed security as representing the proceeds
for the security loaned. If the security is considered proceeds,
each party would recognize an asset for the security and a liability
for the obligation to return it to the other party. Although this is
an acceptable interpretation of ASC 860-30, we do not believe that
it constitutes a requirement. Rather, it would also be acceptable
for each party to consider the security borrowed to be collateral.
According to this view, neither party would recognize the borrowed
security at inception of the transaction (i.e., there would be no
accounting recognition for either party at inception). Each party
should, however, apply the guidance in ASC 860-30 if it sells the
borrowed security or the other party defaults on the terms of the
secured contract.
Footnotes
10
When derivative or securities lending transactions
are secured through the posting of cash, entities often view the
cash payments as collateral. In repurchase agreements, entities
often view the cash payment as the proceeds from a borrowing.
11
If the FVO is elected, these costs are expensed
as incurred.
12
Unless one of the conditions in ASC
820-10-30-3A is met, the transaction price is
considered fair value at recognition of the
liability.
13
When a transfer of financial assets does
not achieve sale accounting, the cash received by the
transferor represents the proceeds of the secured
borrowing and the transferred financial assets represent
the noncash collateral pledged by the transferor to the
transferee. In this section, the agreement associated
with the transfer of financial assets with a pledge of
collateral is referred to as the “secured contract.”
14
Although this table would apply to any
transaction in which one party transfers a noncash financial
asset and receives another noncash financial asset in return, in
practice, these transactions are referred to as securities
lending transactions.