2018

FASB Proposed Accounting Standards Update, Leases (Topic 842): Codification Improvements for Lessors.

For titles of FASB Accounting Standards Codification (ASC) references, see Deloitte’s “Titles of Topics and Subtopics in the FASB Accounting Standards Codification.”

FASB Accounting Standards Update No. 2016-02, Leases.

FASB Votes to Issue Proposed ASU on Two Codification Improvements to New Leasing Standard

At its December 4, 2018, meeting, the FASB added a project to its technical agenda on Codification improvements to ASC 8421 for the following two issues:

Fair value of the underlying asset by lessors that are not manufacturers or dealers.
Statement of cash flows presentation for sales-type and direct financing leases.

This journal entry includes a summary of the tentative decisions reached and related discussion at the meeting.

Fair Value of the Underlying Asset by Lessors That Are Not Manufacturers or Dealers

ASC 840-10-55-44 provides guidance for determining fair value and its application to lease classification and measurement for lessors who are not manufacturers or dealers (qualifying lessors), stating that:

"If the lessor is not a manufacturer or dealer, the fair value of the property at lease inception ordinarily will be its cost, reflecting any volume or trade discounts that may apply. However, if there has been a significant lapse of time between the acquisition of the property by the lessor and lease inception, the determination of fair value should be made in light of market conditions prevailing at lease inception, which may indicate that the fair value of the property is greater or less than its cost or carrying amount, if different."

ASC 842, as issued, eliminated this fair value exception. Instead, ASC 842 requires that the definition of fair value established in ASC 820 be applied for all aspects of lease accounting in ASC 842.

Recently, stakeholders communicated to the FASB that “not carrying forward the fair value exception to [ASC] 842 will have significant adverse financial reporting consequences for qualifying lessors.”2 Specifically, as written, a lessor that is not a manufacturer or dealer would be required to recognize (i.e., expense) acquisition costs (e.g., sales taxes and delivery charges) at lease commencement, resulting in a day-one loss under ASC 842. Further, to recover these costs, a qualifying lessor would recognize interest income for sales-type and direct financing leases that is significantly greater than that being recognized under ASC 840. Stakeholders also expressed that they believe this accounting outcome “is neither useful to investors nor representative of their business model of financing the total cost of the underlying asset to the lessee.”

In response to this issue, the Board tentatively decided to amend ASC 842 to provide a similar fair value exception as is provided in ASC 840-10-55-44.

Statement of Cash Flows Presentation for Sales-Type and Direct Financing Leases

ASC 842 contains guidance that conflicts with industry-specific GAAP for depository and lending lessors on the presentation of principal payments received from sales-type and direct financing leases. That is, ASC 842 requires all lessors to classify cash receipts from leases within “operating activities” in accordance with ASC 842-30-45-5, while ASC 942 provides an example3 that classifies principal payments received under leases as investing activities for entities within the scope of ASC 942. (This example existed before, and was not consequentially amended by, the issuance of ASC 842.)

The Board tentatively decided to retain the guidance that exists in ASC 942. Accordingly, depository and lending lessors should classify principal payments received from sales-type and direct financing leases within “investing activities.”

Transition and Effective Date

The Board tentatively decided that the amendments would be effective for all entities for fiscal years beginning after December 15, 2019, and interim periods within those fiscal years. Early adoption would be permitted for all entities. Further, the Board tentatively decided the proposed Codification improvements should be applied on the date the entity first applied ASU 2016-024 in accordance with ASC 842-10-65-1(c).

Connecting the Dots

The FASB intentionally “deferred” the effective date of this proposed ASU by one year relative to the effective date of ASU 2016-02 to provide entities with more time to adopt the proposed amendments. The Board was concerned that there could be lessors that may not be aware of the proposed amendments in a timely manner to require adoption at the effective date of ASU 2016-02. However, the Board is permitting early adoption and we expect that most qualifying lessors will early adopt the proposed ASU.

Next Steps

The FASB directed its staff to draft a proposed ASU on the two Codification improvements, which it expects to issue in December or January. Comments will be due 15 days from issuance or January 15, 2019, whichever is longer.

Footnotes

For titles of FASB Accounting Standards Codification (ASC) references, see Deloitte’s “Titles of Topics and Subtopics in the FASB Accounting Standards Codification.”

Quoted from the meeting handout.

See ASC 942-230-55-2.

FASB Accounting Standards Update (ASU) No. 2016-02, Leases.

CAQ SEC Regulations Committee Releases Highlights of September 12, 2018, Joint Meeting With the SEC Staff

On November 30, 2018, the Center for Audit Quality (CAQ) posted to its Web site the highlights of the September 12, 2018, CAQ SEC Regulations Committee joint meeting with the SEC staff. Topics discussed at the meeting include:

Disclosures required by ASC 6061 — The SEC staff discussed further observations on the disclosures of first-time adopters of ASC 606; these observations are consistent with those discussed at the July 12, 2018, CAQ SEC Regulations Committee Meeting.
Impact of retrospective adoption of new accounting standards on the fourth and fifth years of selected financial data table2 — The SEC staff indicated that all five years in the selected financial data table should generally be revised when a new accounting standard is adopted on a retrospective basis, in accordance with paragraph 1610.1 of the SEC Division of Corporation Finance’s Financial Reporting Manual (FRM). The SEC staff encouraged registrants to “discuss their individual facts and circumstances with the Assistant Director group responsible for reviewing their filings,” if necessary.
Transition from emerging growth company (EGC) status — The SEC staff followed up on a previous discussion regarding the impact of a registrant’s loss of EGC status3 in the year of adoption of a new accounting standard when the registrant has elected to adopt accounting standards using private-company adoption dates, including the impact on the adoption of ASC 606. A calendar-year-end EGC that has elected to adopt ASC 606 using private-company adoption dates will generally apply the standard for annual periods beginning on January 1, 2019, and in interim periods within annual periods beginning on January 1, 2020. The SEC staff noted that it may address this topic in future communications.
The SEC staff also indicated that it is considering issues related to the requirement to recast the 2019 comparable quarters in the 2020 Form 10-Q for EGC registrants that elected to adopt ASC 606 using private-company adoption dates, according to the guidance in paragraph 11110.2 of the FRM.
Audit requirements for transactions involving special-purpose acquisition companies (SPACs) — The Committee and SEC staff discussed the audit requirements for transactions in which a SPAC (a public shell company) consummates a merger with a private operating company. Such transactions are often conducted using a Form S-4 or merger proxy. When the transaction closes, the former private operating company generally becomes the predecessor to the SPAC registrant and, within four days of the closing, is required to file a Form 8-K that includes all the information that would be required if the former private operating company was registering securities on a Form 10 (referred to as a “Super Form 8-K”). Because the former private operating company is considered the predecessor to the registrant, the financial statements included in the Super Form 8-K and Form S-4 or merger proxy must be audited by a PCAOB-registered accounting firm in accordance with PCAOB standards. Registrants that believe they cannot obtain a PCAOB opinion for the operating company for inclusion in a Form S-4 or merger proxy should discuss their facts and circumstances with the SEC staff.
The SEC staff also indicated that “the financial statements of the operating company should be presented as if it were the private operating company’s initial registration statement” and accordingly, “the financial statements . . . would need to comply with public company GAAP disclosures,” including segments and earnings per share, and also include any required financial statements for significant probable and consumed acquisitions under SEC Regulation S-X, Rule 3-05.4
Leases (ASC 8425) — Impact of Article 116 conclusions for master limited partnership (MLP) drop-down transactions previously accounted for as common-control business combinations under ASC 8057 and now accounted for as failed sale-leaseback transactions under ASC 842 — MLP drop-down transactions may be accounted for as failed sale-leaseback transactions after the adoption of the new leasing guidance under ASC 842. Accordingly, the MLP would not account for the transaction as a common-control business combination, in which the assets would be recorded on the balance sheet and the related revenue and costs would be recognized in the income statement; instead, the MLP would record a financing receivable on the balance sheet and interest income in the income statement. The SEC is considering whether such transactions represent the acquisition of an asset or a business for purposes of applying the requirements in Item 2.01 of Form 8-K. This distinction determines whether financial statements of the acquiree and related SEC Regulation S-X, Article 11, pro forma information are required.

Footnotes

FASB Accounting Standards Codification (ASC) Topic 606, Revenue From Contracts With Customers.

See SEC Regulation S-K, Item 301, “Selected Financial Data.”

See paragraph 10110.4 of the FRM.

SEC Regulation S-X, Rule 3-05, “Financial Statements of Businesses Acquired or to Be Acquired.”

FASB Accounting Standards Codification Topic 842, Leases.

SEC Regulation S-X, Article 11, “Pro Forma Financial Information.”

FASB Accounting Standards Codification Topic 805, Business Combinations.

FASB Discusses Feedback on Proposed Disclosure Requirements Related to Income Taxes

On July 26, 2016, the FASB issued a proposed Accounting Standards Update (ASU)1 that would modify or eliminate certain disclosure requirements related to income taxes as well as establish new requirements. Comments on the proposed ASU were due by September 30, 2016, and feedback was received and discussed at the FASB’s meeting on January 25, 2017. The proposed ASU had not been publicly readdressed, however, since the enactment of the Tax Cuts and Jobs Act (the “Act”) on December 22, 2017.

At its meeting on November 14, 2018, the FASB discussed comments received on the proposed ASU and reached several tentative decisions related to many of the proposed ASU’s disclosure requirements. The Board also discussed whether additional disclosures should be considered as a result of the Act. The Board’s tentative decisions, organized by topic, are summarized below.

Tax Cuts and Jobs Act

The Board tentatively concluded that the existing guidance in ASC 7402 adequately addressed the Act’s provisions; however, the Board requested that the FASB staff perform further research related to the Act’s deemed repatriation transition tax (the “transition tax”) to determine whether additional disclosure may be warranted. (See the Indefinitely Reinvested Foreign Earnings section below for more information on the transition tax.)

Change in Tax Law

The proposed ASU initially required all entities to disclose an enacted tax law change if it is probable that such a change would affect an entity in the future. Stakeholders expressed concerns that this language was potentially too broad, and the Board discussed the possibility of modifying the disclosure requirement to provide such disclosure if that change would have a “significant effect [on the entity] in a future period.” However, the Board ultimately determined that the disclosure requirement was unnecessary and voted to remove the proposed paragraph (ASC 740-10-50-22) from the proposed ASU.

Disaggregation

The proposed ASU would require all entities to disclose the following disaggregated amounts:

The amount of pretax income (or loss) “from continuing operations . . . disaggregated between domestic and foreign.”3
The amount of “income tax expense (or benefit) from continuing operations disaggregated between domestic and foreign.”4
The amount of income taxes paid disaggregated by foreign and domestic amounts. A further disaggregation would be required for “any country that is significant to total income taxes paid.”

The Board ultimately voted to retain the disaggregated presentation of income (or loss) from continuing operations and the amount of income tax expense (or benefit), but it voted to remove the disaggregation requirement related to income taxes paid. On the basis of stakeholders’ feedback regarding concerns about current divergence in practice in reporting income or loss from continuing operations disaggregated between foreign and domestic amounts, the Board also voted to clarify that the amount of pretax income (or loss) from continuing operations presented in the disaggregation should be on a “preconsolidated” basis. Some Board members expressed concerns that “preconsolidated” is not defined in U.S. GAAP and could cause diversity in practice. We expect that a question will be added to the revised proposed ASU to ascertain whether stakeholders believe the term is operable or requires further clarification.

Connecting the Dots

In practice, some entities disaggregate and push elimination entries made in arriving at consolidated pretax income (loss) back to the respective components, while others disregard such elimination entries and report the components before elimination entries. For more information, see Section 6.27A of Deloitte’s A Roadmap to Accounting for Income Taxes.

Indefinitely Reinvested Foreign Earnings

The Act introduced the concept of the “transition tax,” which required U.S. shareholders to pay a tax on certain undistributed and previously untaxed foreign earnings and profits after 1986. The transition tax has significantly reduced the amount of untaxed foreign earnings held by entities with foreign operations as taxes have been (or will be) paid on all post-1986 earnings. As a result, the Board voted to remove the proposed disclosure requirement in ASC 740-30-50-3 from the proposed ASU which would have required an explanation of any change to an indefinite reinvestment assertion made during the year, including the circumstances that caused such a change and the amount of earnings to which the change in assertion related.

While not included in the proposed ASU, but for reasons similar to those noted above, the Board voted to remove the existing disclosure requirement in ASC 740-30-50-2(b) to disclose the “cumulative amount of each type of temporary difference” when a “deferred tax liability is not recognized because of the exceptions to comprehensive recognition of deferred taxes related to subsidiaries and corporate joint ventures.”

The proposed ASU also would have required entities’ disclosure of the aggregate of cash, cash equivalents, and marketable securities held by their foreign subsidiaries to provide users with additional information to help them predict the likelihood of future repatriations and the associated tax consequences related to foreign indefinitely reinvested earnings. The Board similarly voted to remove this requirement from the proposed ASU.

Unrecognized Tax Benefits

The Board voted to remove the proposed disclosure requirement for entities to disclose, in the tabular reconciliation of the total amount of unrecognized tax benefits required by proposed ASC 740-10-50-15A(a), settlements disaggregated by those that have been (or will be) settled in cash and those that have been (or will be) settled by using existing deferred tax assets (e.g., settlement by using existing net operating loss or tax credit carryforwards).

The Board voted to retain the proposed disclosure requirement for public business entities to provide a breakdown (i.e., a mapping) of the amount of total unrecognized tax benefits shown in the tabular reconciliation by the respective balance-sheet lines on which such unrecognized tax benefits are recorded. However, the Board voted to remove the requirement to disclose an unrecognized tax benefit that is not included in a balance-sheet line separately since it was unclear to which unrecognized tax benefit the requirement would now be relevant.

Connecting the Dots

Before the issuance of ASU 2016-09,5 excess tax benefits associated with share-based compensation were not recognized until such time as they reduced income taxes payable resulting in, essentially, off-balance-sheet deferred tax assets. When there were uncertain tax positions with respect to the amount of such unrecognized excess tax benefits, there would be an income tax uncertainty related to the off-balance-sheet item. Upon the issuance of ASU 2016-09, such off-balance-sheet excess tax benefits and related uncertain tax positions no longer exist.

The Board further affirmed the decision to remove the current requirement in ASC 740-10-50-15(d) to disclose the details of tax positions for which it is reasonably possible that the total amount of unrecognized tax benefits will significantly increase or decrease in the next 12 months. As a result, the proposed ASU will eliminate this existing disclosure requirement.

Valuation Allowances

The Board voted to affirm the proposed disclosure requirement to require public business entities to explain any valuation allowance recognized or released during the year along with the corresponding amount.

Rate Reconciliation

The Board voted to affirm the proposed amendment to ASC 740-10-50-12, which would amend the requirement for a public business entity to disclose the income tax rate reconciliation in a manner consistent with SEC Regulation S-X, Rule 4-08(h).6 As amended, ASC 740-10-50-12 would continue to require a public business entity to disclose a reconciliation of the reported amount of income tax expense (or benefit) from continuing operations to the amount of income tax expense (or benefit) that would result from multiplying the pretax income (or loss) from continuing operations by the domestic federal statutory rate. However, the amendment would modify the requirement to disaggregate and separately present components in the rate reconciliation that are greater than or equal to 5 percent of the tax at the statutory rate in a manner consistent with the requirement in Rule 4-08(h).

Some Board members questioned whether 5 percent is still an appropriate threshold given the decrease to the U.S. statutory rate as a result of the Act; thus, the Board may raise this question to stakeholders in the revised proposed ASU.

Operating Loss and Tax Credit Carryforwards

Currently, entities are required to disclose the amount and expiration dates of operating losses and tax credit carryforwards for tax purposes. Historically, there has been diversity in practice related to this disclosure requirement. The proposed ASU would reduce this diversity by requiring a public business entity to disclose the total amount of:

“Federal, state, and foreign [gross net operating loss and tax credit] carryforwards (not tax effected) by time period of expiration for each of the first five years after the reporting date and a total for any remaining years.”
“[D]eferred tax assets for federal, state, and foreign [net operating loss and tax credit] carryforwards (tax effected) before the valuation allowance.”

The Board ultimately determined that disclosing the not-tax-effected amounts of federal, state, and foreign gross net operating loss and tax credit carryforwards did not provide decision-useful information and voted to remove this disclosure requirement. The Board concluded that disclosure of the tax-effected amounts of federal, state, and foreign deferred tax assets related to net operating loss and tax credit carryforwards was useful and voted to retain that proposed disclosure requirement with a modification to also disclose the valuation allowance associated with such amounts.

While the Board voted to require public business entities to provide the tax-effected amounts of federal, state, and foreign deferred tax assets related to net operating loss and tax credit carryforwards rather than the not-tax-effected amounts, on the basis of feedback received from nonpublic entities, the Board voted to retain the proposed disclosure requirement for nonpublic entities in ASC 740-10-50-8A to provide such disclosure on a not-tax-effected basis.

Interim Disclosure Requirements

The proposed ASU did not contain changes to interim disclosure requirements. However, the Board voted to add an interim disclosure requirement to disclose income taxes paid for all interim periods presented.

Next Steps

The Board requested that the staff update the proposed ASU to reflect the changes described above. It is expected that the Board will issue a revised proposed ASU for public comment, although there was no discussion of the anticipated timing of such issuance.

Connecting the Dots

The Board further discussed the possibility of bifurcating the proposed disclosures between those that should be re-exposed in the revised proposed ASU and those that could be included in a final ASU.

Summary of Decisions Reached

Each question presented in the FASB meeting handout and the Board’s summary of tentative decisions with respect to those questions are reproduced below (emphasis added):

Question	Tentative Decision
1. Does the Board want to require any additional disclosures for any provisions of the Tax Cuts and Jobs Act, including global intangible low-taxed income (GILTI), base erosion anti-abuse tax (BEAT), or foreign-derived intangible income (FDII)?	No7
2. Does the Board want to affirm the proposed amendment in paragraph 740-10-50-22 to require all entities to provide a description of an enacted change in tax law that is probable to have an effect in a future period, including the clarification that the disclosure is required when an enacted change in tax law is probable to have a significant effect in a future period?	Removed
3. Does the Board want to affirm the proposed amendment in paragraph 740-10-50-10A to require all entities to disclose income (or loss) from continuing operations before income tax expense (or benefit) disaggregated between domestic and foreign?	Affirmed8
4. Does the Board want to clarify that income (or loss) from continuing operations should be presented on a preconsolidated basis?	Yes
5. Does the Board want to affirm or amend the proposed disclosure in paragraph 740-10-50-10B to require all entities to disclose income tax expense (or benefit) from continuing operations disaggregated between domestic and foreign?	Affirmed9
6. Does the Board want to affirm, amend, or remove the proposed disclosure in paragraph 740-10-50-25 that requires (a) income taxes paid to be disaggregated between domestic and foreign and (b) the amount of income taxes paid to any country that is significant to total income taxes paid?	Removed
7. Does the Board want to affirm, amend, or remove the proposed disclosure in paragraph 740-30-50-3 that requires an entity to disclose an explanation of circumstances that caused a change in assertion about the indefinite reinvestment of undistributed foreign earnings and the corresponding amount of those earnings?	Removed
8. Does the Board want to affirm, amend, or remove the existing disclosure in paragraph 740-30-50-2(b) that requires disclosure of the cumulative amount of each type of temporary difference when a deferred tax liability is not recognized because of the exceptions to comprehensive recognition of deferred taxes related to subsidiaries and corporate joint ventures?	Removed
9. Does the Board want to affirm, amend, or remove the proposed disclosure in paragraph 740-10-50-24 that requires all entities to disclose the aggregate of cash, cash equivalents, and marketable securities held by foreign subsidiaries?	Removed
10. Does the Board want to affirm the proposed amendment in paragraph 740-10-50-15A that requires public business entities to disclose, within the reconciliation of the total amounts of unrecognized tax benefits at the beginning and end of the period, settlements using existing deferred tax assets separate from those that have been or will be settled in cash?	Removed
11. Does the Board want to affirm the proposed disclosure in paragraph 740-10-50-15A that requires a public business entity to disclose the line items in the statement of financial position in which the unrecognized tax benefits are presented and the related amounts of such unrecognized tax benefits and to remove the [proposed] requirement to disclose the amount of unrecognized tax benefits that are not presented in the statement of financial position?	Affirmed10
12. Does the Board want to affirm its decision to remove the existing requirement in paragraph 740-10-50-15(d) that requires all entities to disclose the nature and estimate of the range of the reasonably possible change in the unrecognized tax benefit balance in the next 12 months or make a statement that an estimate of the range cannot be made?	Affirmed
13. Does the Board want to affirm the proposed disclosure in paragraph 740-10-50-6B that requires public business entities to disclose the amount and explanation of the valuation allowance recognized or released during the reporting period?	Affirmed
14. Does the Board want to affirm the proposed disclosure in paragraph 740-10-50-12 that requires reconciling items exceeding 5 percent to be presented separately on the rate reconciliation and an explanation of the year-to-year changes in those reconciling items (public business entities only)?	Affirmed11
15. Does the Board want to remove the proposed disclosure in paragraph 740-10-50-6A(a) that requires public business entities to disclose the non-tax-effected amount of carryforwards?	Removed
16. Does the Board want to add a requirement to disclose the valuation allowance associated with the tax-effected amounts of federal, state, and foreign carryforwards?	Affirmed
17. Does the Board want to amend the proposed disclosure in paragraph 740-10-50-8A to require entities other than public business entities to show credit carryforwards separate from loss carryforwards?	Affirmed
18. Does the Board want to add a disclosure that requires entities to disclose income taxes paid for all interim periods (this disclosure is currently required for annual financial statements)?	Affirmed
19. Does the Board think that the expected benefits of the changes justify the expected costs of the changes? If not, is there additional information that the Board needs to make that determination?	Did not hold an official vote
20. Would the Board like to issue a revised proposed Update for public comment?	Yes
21. If the answer to question 20 is “yes,” does the Board give the staff permission to draft a proposed Update for vote by written ballot?	Yes
22. What comment letter period does the Board select for the guidance in the revised proposed Update?	Did not hold an official vote

Footnotes

FASB Proposed Accounting Standards Update, Income Taxes (Topic 740): Disclosure Framework — Changes to the Disclosure Requirements for Income Taxes.

For titles of FASB Accounting Standards Codification (ASC) references, see Deloitte’s “Titles of Topics and Subtopics in the FASB Accounting Standards Codification.”

Represents an existing disclosure requirement for public business entities under SEC Regulation S-X, Rule 4-08(h).

See footnote 3.

FASB Accounting Standards Update No. 2016-09, Compensation — Stock Compensation (Topic 718): Improvements to Employee Share-Based Payment Accounting.

SEC Regulation S-X, 4-08(h), "Income Tax Expense."

See the Tax Cuts and Jobs Act section above for discussion of additional research to be performed related to the transition tax.

Represents an existing disclosure requirement for public business entities under SEC Regulation S-X, Rule 4-08(h).

See footnote 8.

10

The proposed amendment to ASC 740-10-50-15A was affirmed, but the proposed requirement to disclose separately an unrecognized tax benefit that is not included in a balance-sheet line was removed, as it was unclear what such an unrecognized tax benefit would be.

11

Represents an existing disclosure requirement for public business entities under SEC Regulation S-X, Rule 4-08(h).

FASB Decides to Address Accounting for Share-Based Payments Issued as Sales Incentives to Customers

At its meeting on November 14, 2018, the FASB discussed the measurement and classification of share-based payments issued as sales incentives to customers under ASC 606.1

Background

In June 2018, the FASB issued ASU 2018-07,2 which supersedes ASC 505-50 and expands the scope of ASC 718 to include share-based payment arrangements related to the acquisition of goods and services from nonemployees. The ASU also amends the guidance in ASC 606-10-32-25 on consideration payable to a customer to expand the scope of the form of consideration to include equity instruments granted in conjunction with the sale of goods or services. Accordingly, the ASU excludes share-based payments issued to a customer that are not in exchange for a distinct good or service (i.e., share-based payments issued as a sales incentive to a customer) from the scope of ASC 718 and requires that they be accounted for under ASC 606. While ASC 606 addresses how to recognize equity instruments granted as consideration payable to a customer (i.e., as a reduction of revenue), it does not provide guidance on their measurement (or measurement date). Therefore, upon adoption of the ASU, there is no guidance that addresses the measurement of share-based payments issued as sales incentives to customers.

Measurement and Classification of Share-Based Payments Issued as Sales Incentives to Customers

The Board decided to add a project to its technical agenda to address the measurement and classification of share-based payments issued as sales incentives to customers through a proposed ASU. The Board considered the following two alternative methods of addressing this issue, which were presented by the FASB staff:

Alternative 1 — Entities would measure share-based payments issued as sales incentives to customers by applying the guidance in ASC 606 related to noncash consideration received from a customer (ASC 606-10-32-21 through 32-23). Under this alternative, entities would measure share-based payments issued as sales incentives to customers at their fair value on the contract inception date (i.e., the date at which the criteria in ASC 606-10-25-1 are met). Because ASU 2018-07 excludes these types of share-based payments from the scope of ASC 718, the balance sheet classification and subsequent measurement of the share-based payments would be subject to other applicable GAAP (e.g., ASC 480 and ASC 815).
Alternative 2 — Entities would measure and classify share-based payments issued as sales incentives to customers by applying the guidance in ASC 718. Under this alternative, entities would measure equity-classified share-based payments issued as sales incentives to customers using a fair-value-based measure on the grant date, which would be the date at which the grantor (the entity) and the grantee (the customer) reach a mutual understanding of the key terms and conditions of the share-based payment award. The classification and measurement of the share-based payment award would be subject to ASC 718 unless the award is subsequently modified when the grantee is no longer a customer.

The Board tentatively decided on Alternative 2.

Connecting the Dots

The issuance or vesting of a share-based payment award issued as a sales incentive to a customer may depend on future optional purchases by the customer. Under Alternative 1, in certain circumstances, the award may not be measured until those future purchases are made (i.e., on the respective contract inception date) and would be subject to the classification guidance in other applicable GAAP. Under Alternative 2, if classified as equity under ASC 718, the award would be measured on the grant date and would continue to be classified as equity unless the award is subsequently modified when the grantee is no longer a customer.

Transition

The Board made the following tentative decisions:

Entities that have not yet adopted ASU 2018-07 should adopt the provisions of the proposed ASU by applying the same transition requirements as ASU 2018-07.
Entities that have already adopted ASU 2018-07 should adopt the provisions of the proposed ASU retrospectively to all relevant prior periods beginning with their initial ASU 2018-07 adoption date, with a cumulative effect adjustment to retained earnings as of the beginning of the fiscal year in which they adopted ASU 2018-07.

In addition, the fair-value-based measure of share-based payment awards issued as sales incentives to customers should be determined on the adoption date if a grant date was established before adoption.

Next Steps

The Board instructed the FASB staff to draft a proposed ASU with a comment period of 30 days or ending on March 29, 2019, whichever is longer.

For more information about the November 14, 2018, meeting, see the meeting handout or the summary of tentative Board decisions.

Footnotes

For titles of FASB Accounting Standards Codification (ASC) references, see Deloitte’s “Titles of Topics and Subtopics in the FASB Accounting Standards Codification.”

FASB Accounting Standards Update (ASU) No. 2018-07, Improvements to Nonemployee Share-Based Payment Accounting. See Deloitte’s June 21, 2018, Heads Up for key provisions of the ASU. Also see Deloitte’s August 1, 2018, Financial Reporting Alert for additional information about adoption of the ASU in an interim period.

FASB Directs Staff to Draft Proposed ASU on One-Time Election of Fair Value Option on Certain Instruments Within the Scope of ASC 326-20

At its meeting on November 14, 2018, the FASB voted to amend ASU 2016-13 1 to allow companies to irrevocably elect, upon adoption of ASU 2016-13, the fair value option on financial instruments that were previously recorded at amortized cost that are within the scope of ASC 326-202 if the instruments are eligible for the fair value option under ASC 825-10.3 The entity would make this election on an instrument-by-instrument basis. The FASB directed its staff to draft the proposed ASU.

Since ASU 2016-13 was issued, the FASB has received agenda requests to provide transition relief by allowing entities to elect the fair value option on certain financial instruments. Stakeholders noted that among other things, an entity may elect the fair value option under ASC 825-10 to newly originated or purchased assets after adopting ASU 2016-13. As a result, an entity would measure some assets at fair value while continuing to measure others at amortized cost. Stakeholders believe that this inconsistency would be eliminated if an entity were provided with a one-time election to measure existing assets at fair value upon adopting ASU 2016-13.

The Board also voted to prohibit an entity from discontinuing the use of the fair value option when adopting ASU 2016-13, but will request feedback from entities about why such an option could be favorable.

For first-time adopters of ASU 2016-13, the fair value option election would take place on adoption, and entities would apply a modified retrospective approach, in which the cumulative effect of the election would be recorded in beginning retained earnings in the period of adoption. For entities that have already adopted ASU 2016-13, the proposed ASU will include questions for respondents on the length of time those entities would require to determine whether to take the election and make the election contemplated in the proposed ASU.

The proposed ASU will have a 30-day comment period. For further information, see the tentative Board decisions on this topic, when available, on the FASB’s Web site.

Footnotes

FASB Accounting Standards Update (ASU) No. 2016-13, Measurement of Credit Losses on Financial Instruments.

FASB Accounting Standards Codification (ASC) Subtopic 326-20, Financial Instruments — Credit Losses: Measured at Amortized Cost.

FASB Accounting Standards Codification Subtopic 825-10, Financial Instruments: Overall.

FASB Issues Accounting Standards Update to Add a New Benchmark Interest Rate in the United States

The FASB recently issued ASU 2018-16,1 which amends certain provisions of ASC 815.2

The ASU permits entities to use the Secured Overnight Financing Rate (SOFR) Overnight Index Swap (OIS) rate as a U.S. benchmark interest rate for hedge accounting purposes under ASC 815. Other acceptable benchmark interest rates would continue to be “the interest rates on direct Treasury obligations of the U.S. government, the [LIBOR] swap rate, the Fed Funds Effective Rate [OIS] Rate, and the [SIFMA] Municipal Swap Rate.” The ASU defines the SOFR OIS rate as the “fixed rate on a U.S. dollar, constant-notional interest rate swap that has its variable-rate leg referenced to the [SOFR] (an overnight rate) with no additional spread over SOFR on that variable-rate leg. That fixed rate is the derived rate that would result in the swap having a zero fair value at inception because the present value of fixed cash flows, based on that rate, equates to the present value of the variable cash flows.”

Effective Date

Entities that have not yet adopted ASU 2017-123 must adopt ASU 2018-16 when they adopt ASU 2017-12. If an entity has already adopted ASU 2017-12, the effective date of ASU 2018-16 will be as follows:

For public business entities, for fiscal years beginning after December 15, 2018, and interim periods within those fiscal years.
For all other entities, for fiscal years beginning after December 15, 2019, and interim periods within those fiscal years.

Early adoption is permitted in any interim period after issuance of the ASU. Entities will adopt the ASU prospectively “for qualifying new or redesignated hedging relationships entered into on or after the date of adoption.”

Also, as indicated on the FASB’s Web site, the Board decided to add a separate project to its agenda “to broadly consider changes to GAAP necessitated by the market-wide transition away from LIBOR, which includes but is not limited to the transition of existing hedging relationships referencing LIBOR.”

Footnotes

FASB Accounting Standards Update (ASU) No. 2018-16, Inclusion of the Secured Overnight Financing Rate (SOFR) Overnight Index Swap (OIS) Rate as a Benchmark Interest Rate for Hedge Accounting Purposes.

FASB Accounting Standards Codification (ASC) Topic 815, Derivatives and Hedging.

FASB Accounting Standards Update No. 2017-12, Targeted Improvements to Accounting for Hedging Activities.

FASB Concludes Deliberations on Proposed Accounting Standards Update on Narrow-Scope Improvements for Lessors

At its meeting on October 31, 2018, the FASB concluded deliberations on its proposed Accounting Standards Update (ASU)1 related to the narrow-scope improvements for lessors under ASC 842.2 This journal entry includes a summary of the tentative decisions reached and related discussion at the meeting for the following issues:3

Sales taxes and other similar taxes collected from lessees.
Lessee-paid and lessee-reimbursed costs.
Recognition of variable payments for contracts with lease and nonlease components.
Transition and effective date of the final ASU.

Lessor Accounting Policy Election for Sales Taxes and Other Similar Taxes Collected From Lessees

The Board tentatively affirmed its decision to permit lessors, as an accounting policy election, to “exclude from the consideration in the contract and from variable payments not included in the consideration in the contract all collections from lessees of taxes within the scope of the election.”4

The scope of the proposed election includes “all taxes assessed by a governmental authority that are both imposed on and concurrent with a specific lease revenue-producing transaction and collected by the lessor from a lessee (for example, sales, use, value added, and some excise taxes).” The Board discussed and affirmed that “[t]axes assessed on a lessor’s total gross receipts or on the lessor as owner of the underlying asset shall be excluded from the scope of [the] election.”

Further, the Board specifically discussed that a lessor need not evaluate “whether certain sales taxes and other similar taxes are costs of the lessor . . . or costs of the lessee.” This concept is consistent with the other tentative decisions detailed below.

Connecting the Dots

Many respondents to the proposed ASU requested that the scope of the accounting policy election for sales taxes and other similar taxes be expanded to include property taxes. The Board decided to address stakeholder concerns on accounting for property taxes through the requirements on lessee-paid and lessee-reimbursed costs (detailed below). That is, property taxes continue to be outside of the scope of the accounting policy election for sales taxes and other similar taxes. This is because property taxes are assessed on the asset as opposed to the sale of the asset.

Accounting Requirements by Lessors for Lessee-Paid and Lessee-Reimbursed Costs

The Board tentatively decided to “exclude from variable payments lessor costs paid by a lessee directly to a third party.” That is, a cost which is lessee-paid directly to a third party would not be accounted for as a lessor cost, and thus would not be reported by the lessor as lease revenue with a corresponding expense (i.e., reported on a net basis).

In response to comment letter feedback requesting expansion of the scope of the proposed amendments to lessee-reimbursed costs, the Board tentatively decided that costs reimbursed by a lessee to the lessor should be accounted for as a lessor cost. That is, a lessor would not need to evaluate whether such costs are lessee costs or lessor costs; rather, a cost which is lessee-reimbursed to the lessor would be accounted for as a lessor cost and reported by the lessor as lease revenue with a corresponding expense (i.e., reported on a gross basis).

Connecting the Dots

The tentative decisions reached impose accounting requirements (as opposed to accounting policy elections) on costs which are lessee-paid or lessee-reimbursed. Accordingly, the presentation of all lessors’ income statements for these costs will be determined on the basis of the contractual provisions of whether the lessee or the lessor pays the third party. That is, a lessor’s income statement will include lease revenues and expenses when a lessee reimburses the lessor (thus, the lessor ultimately pays the third party), but will exclude lease revenues and expenses when a lessee pays directly to the third party.

The Board’s initial intent of the proposed amendments was to make the standard more operable for lessors when there is uncertainty in the amount that is ultimately paid for these types of costs. To achieve this result, and on the basis of stakeholder feedback, the Board’s tentative decisions will likely result in more lessee-paid costs meeting this condition without the “readily determinable” hurdle. As a result, under the tentative decisions, more costs will be excluded from lease revenues and expenses as compared to the proposed ASU.

Recognition of Variable Payments for Contracts With Lease and Nonlease Components

The Board tentatively affirmed its decision to amend ASC 842-10-15-40 to clarify that variable payments for contracts with lease and nonlease components should be allocated (rather than recognized) when the changes in facts and circumstances on which the variable payment is based occur. Further, the Board decided to clarify how variable payments are allocated to ensure alignment with the guidance in ASC 606-10-32-40, which provides specific requirements for allocating variable consideration if certain criteria are met.

Transition and Effective Date

The Board tentatively decided to apply the proposed amendments for sales taxes and other similar taxes collected from lessees and for lessee-paid and lessee-reimbursed costs to all existing and new leases.

If an entity has not yet adopted ASU 2016-025 on the date of issuance of the final ASU, the Board tentatively decided to align the effective date of the final ASU with that of ASU 2016-02.

If an entity has already adopted ASU 2016-02 on the date of issuance of the final ASU, the Board tentatively decided to provide an election to apply the ASU as of either (1) the lessor’s first period ending after the issuance of the final ASU or (2) the lessor’s first reporting period following the issuance of the final ASU. For example, if the final ASU is issued on December 17, 2018, and a calendar-year-end entity had adopted ASU 2016-02 as of January 1, 2018, the entity could apply the final ASU in the financial statements presented as of either (1) December 31, 2018, or (2) March 31, 2019. In addition, an early adopter could elect to apply the ASU prospectively or retrospectively.

Next Steps

The Board expects to issue the final ASU in December 2018.

See the meeting handout and summary of tentative Board decisions for additional information.

Footnotes

FASB Proposed Accounting Standards Update, Narrow-Scope Improvements for Lessors.

For titles of FASB Accounting Standards Codification (ASC) references, see Deloitte’s “Titles of Topics and Subtopics in the FASB Accounting Standards Codification.”

Before the issuance of the proposed ASU, at its meetings on March 28, 2018, and July 25, 2018, the FASB discussed the lessor issues identified herein. For a summary of the FASB’s discussions at those meetings, see Deloitte’s March 30, 2018, and July 27, 2018, journal entries. Further, for a summary of the proposed ASU, see Deloitte’s August 16, 2018, journal entry.

Quotes are from the meeting handout.

FASB Accounting Standards Update No. 2016-02, Leases.

CAQ SEC Regulations Committee Releases Highlights of July 12, 2018, Joint Meeting With the SEC Staff

On September 17, 2018, the Center for Audit Quality (CAQ) posted to its Web site the highlights of the July 12, 2018, CAQ SEC Regulations Committee joint meeting with the SEC staff. Topics discussed at the meeting include:

Disclosures required by ASC 6061 — The SEC staff shared observations from its filing reviews of issuers that have adopted ASC 606. The SEC staff indicated that, on the basis of the limited reviews it has conducted thus far, no trends or conclusions can be identified. However, the SEC staff encouraged audit committees to discuss ASC 606 disclosures with management and external auditors to (1) evaluate the quality of a company’s disclosures in accordance with the requirements in ASC 606 and (2) consider feedback from investors and regulators. The SEC staff suggested that audit committees consider discussing topics that may require “the use of significant judgments in the application of the revenue standard, such as the identification of performance obligations,” gross versus net accounting, and disclosures of disaggregated revenue. In addition, the SEC staff reminded registrants that although their existing ASC 606 disclosures may not be “materially deficient, [registrants] may choose to revise or improve [their] disclosures in future filings.” The SEC staff expects to continue issuing comments as it reviews disclosures under the SEC Division of Corporation Finance’s filing review program.
Serious deficiencies letters — In certain situations, the SEC staff may suspend its review of a registration statement or offering document that contains serious deficiencies and notify the registrant, in a formal letter, that no further review will be performed until such deficiencies are resolved. Historically referred to as “bedbug letters,” these notifications were previously confidential. However, on June 12, 2018, the Division of Corporation Finance announced that such letters would be included in a registrant’s public filing history. In this announcement, the SEC staff indicated that bedbug letters would be published no later than 10 days after issuance for publicly filed documents. The SEC staff clarified that bedbug letters for draft registration statements, which are submitted to the SEC on a confidential or nonpublic basis, will not be published until the complete SEC correspondence related to the offering is published, which generally occurs “no sooner than 20 business days after the completion of the review.”
Smaller reporting companies (SRCs) — On June 28, 2018, the SEC amended the definition of SRC to include (1) registrants with a public float of less than $250 million and (2) registrants with both revenue of less than $100 million and public float of less than $700 million. The amendments also increase the net revenue threshold in SEC Regulation S-X, Rule 3-05(b)(2)(iv),2 to $100 million, which is consistent with the revenue threshold established in the SRC definition above. Therefore, a registrant that acquires a business that exceeds 50 percent significance will not be required to provide the financial statements for the earliest of the three most recent fiscal years if the acquired business reported less than $100 million in revenue in its most recently completed fiscal year. The Committee and SEC staff discussed transition issues related to the amendments, which became effective on September 10, 2018. The SEC staff stated that transition guidance would be provided and also noted the following:
- The amendments to the definition of an SRC should not be applied in documents filed before the September 10, 2018, effective date.
- A registrant that gains SRC status under the revenue threshold must “wait until the determination date to evaluate whether [it] qualif[ies] as an SRC based upon [its] public float . . . at that time.” Question 130.04 of the SEC Compliance and Disclosure Interpretations on the Exchange Act Rules states that “the determination date for smaller reporting company status is the last business day of the second fiscal quarter.”
Connecting the Dots
For a discussion of the relief provided to SRCs and a summary of the key changes in the amendment, see Deloitte’s July 2, 2018, Heads Up. In addition, on August 10, 2018, the SEC released Amendments to the Smaller Reporting Company Definition — A Small Entity Compliance Guide for Issuers. The guide provides further transition examples and clarifies that a registrant that newly qualifies as an SRC on the basis of the amended definition “has the option to use the SRC scaled disclosure accommodations” applicable to SRCs “in its next periodic or current report due on or after September 10, 2018, [and] for transactional filings without a due date, in filings or amended filings made on or after September 10, 2018.”
SEC Regulation S-X, Rule 3-103 waivers — This rule permits the substitution of certain narrative or condensed consolidating financial information in lieu of separate financial statements for guarantors of registered debt securities, when specific criteria are met. SEC Regulation S-X, Rule 3-13,4 provides the SEC with the authority to waive financial statement requirements (Rule 3-13 waivers) in situations in which such information may not be material and such waiver would be consistent with investor protection. The Committee and SEC staff discussed the applicability of Rule 3-13 waivers to certain Rule 3-10 requirements. The SEC staff stated that waivers related to Rule 3-10 are granted “in limited circumstances when literal application [of Rule 3-10] results in disclosures beyond those intended by the rule.”

Connecting the Dots
On July 24, 2018, the SEC issued a proposed rule 5 to simplify and streamline the disclosure requirements in Rule 3-10 and Rule 3-16.6 See Deloitte’s July 31, 2018, Heads Up for further information. The SEC is seeking feedback on the proposed rule, and comments are due 60 days after the proposed rule is published in the Federal Register.
Audit requirements for transactions involving special-purpose acquisition companies (SPACs) — The Committee and SEC staff discussed the audit requirements for transactions in which a SPAC (a public shell company) consummates a merger with a private operating company; such transactions are generally conducted using a Form S-4 or merger proxy. When the transaction closes, the former private operating company generally becomes the predecessor entity and, within four days of the closing, the SPAC is required to file a Form 8-K including all the information that would be required if the former private operating company was registering securities on a Form 10 (a “Super Form 8-K”).7 Because the former private operating company is considered the predecessor to the registrant, the financial statements included in the Super Form 8-K must be audited by a PCAOB-registered accounting firm in accordance with PCAOB standards. The discussion addressed the audit requirements for the private operating company financial statements included in the Form S-4 or merger proxy before the consummation of the transaction.
Transition from emerging growth company (EGC) status — EGCs may use adoption dates applicable to nonpublic companies for as long as they remain EGCs. A registrant may lose EGC status for a variety of reasons including gaining large accelerated filer status, exceeding revenue or debt thresholds, or passage of time since its initial public offering.8 The Committee and SEC staff discussed the impact of a registrant’s loss of EGC status in the year it would have been required to adopt a new accounting standard had it not been able to defer such adoption as an EGC. A registrant generally should reflect the adoption of the new standard in its next filing after losing EGC status. The SEC staff noted that a recent request to delay adoption of new accounting standards upon loss of EGC status following qualification as a larger accelerated filer was rejected. However, the SEC staff continued to encourage registrants to discuss specific fact patterns with the SEC staff as appropriate.
Critical audit matters (CAMs) — The Committee and SEC staff discussed the “perspectives, observations, expectations and training” related to the future application of CAM disclosures required by PCAOB Auditing Standard No. 3101, The Auditor’s Report on an Audit of Financial Statements When the Auditor Expresses an Unqualified Opinion.
Non-GAAP measures — The SEC staff noted that it continues to issue comments about the use of individually tailored accounting principles in non-GAAP measures.9

Footnotes

FASB Accounting Standards Codification (ASC) Topic 606, Revenue From Contracts With Customers.

SEC Regulation S-X, Rule 3-05, “Financial Statements of Businesses Acquired or to Be Acquired.”

SEC Regulation S-X, Rule 3-10, “Financial Statements of Guarantors and Issuers of Guaranteed Securities Registered or Being Registered.”

SEC Regulation S-X, Rule 3-13, “Filing of Other Financial Statements in Certain Cases.”

SEC Release No. 33-10526, Financial Disclosures About Guarantors and Issuers of Guaranteed Securities and Affiliates Whose Securities Collateralize a Registrant’s Securities.

SEC Regulation S-X, Rule 3-16, “Financial Statements of Affiliates Whose Securities Collateralize an Issue Registered or Being Registered.”

See paragraph 12220.1 of the SEC Division of Corporation Finance’s Financial Reporting Manual (FRM).

See paragraph 10110.4 of the FRM.

Refer to Section 4.3.3 of Deloitte’s A Roadmap to Non-GAAP Financial Measures for further discussion of individually tailored accounting principles.

FASB Provides Interpretations on ASU 2017-12 Implementation, and Tentatively Decides on Certain Targeted Improvements to Accounting for Hedging Activities

At the FASB’s September 5, 2018, board meeting, the FASB staff shared its responses to certain technical inquiries it received related to the implementation of ASU 2017-12.1 In addition, the Board tentatively agreed to amend certain aspects of ASU 2017-12.

Staff Interpretations of Technical Inquiries Received on ASU 2017-12

At the meeting, the FASB staff noted the following interpretations, and the Board did not raise any questions or concerns related to the interpretations. Additional details about these interpretations are available on the FASB’s Web site.

Issue 1 — Switching Hedge Effectiveness Assessment Methods for Net Foreign Investment Hedges

An entity may change its method of assessing effectiveness for net investment hedges (from the forward method to the spot method (or vice versa)) at transition or in any subsequent period. However, to do so an entity must satisfy the requirements in ASC 815-20-55-55 and 55-562 and “demonstrate that the revised effectiveness assessment method is an improved method in accordance with [ASC] 815-20-35-19.”3

Issue 2 — Timing of Initial Quantitative Hedge Effectiveness Assessment

An entity must complete its “initial prospective quantitative assessment of hedge effectiveness . . . for a cash flow hedge of a group of forecasted transactions . . . before the first forecasted transaction [in the group] occurs.”

Issue 3 — Simultaneous Designation of Hedged Item for Fair Value and Cash Flow Hedges

The staff discussed an entity’s inquiry about whether an entity may “simultaneously designate the same hedged item in a fair value hedge and a cash flow hedge if hedging different risk components.” The inquirer cited an example of Treasury Inflation-Protected Securities, in which semiannual payments are determined on the basis of (1) a fixed-rate coupon and (2) a principal amount that is inflation-adjusted and fluctuates on the basis of changes in an inflation index. The staff believes that because this is a variable-rate financial instrument, an entity may designate only the variability in a contractually specified interest rate or overall cash flows as the hedged risk in a cash flow hedge. Therefore, “[t]he fixed-rate component and the variable-rate inflation index must be considered together as the contractually specified interest rate of the financial instrument.”

Issue 4 — Sale or Transfer of Assets Out of a Closed Portfolio in a Last-of-Layer Hedge

An entity may “voluntarily remove[, by sale or transfer,] assets from the closed portfolio of which an amount is designated as the hedged item in a last-of-layer hedging relationship . . . without requiring dedesignation” of the existing hedging relationship. The FASB staff expects to provide additional clarification about how to interpret the term “closed portfolio” as part of the Board’s separate project on the last-of-layer method. However, the FASB staff added that “entities currently applying or intending to apply the last-of-layer method before the issuance of any amendments to the last-of-layer method are not precluded from selling or transferring assets out of a last-of-layer pool.”

Issue 5 — Documentation of Fallback Long-Haul Hedge Effectiveness Assessment Method

An entity that applies the critical-terms-match method may subsequently “assess the effectiveness of a hedging relationship using a long-haul method when the critical terms change or adverse developments regarding the risk of counterparty default occur.” ASU 2017-12 “did not meaningfully change the guidance concerning the misapplication of a critical-terms-match method”; therefore, entities should retain their current accounting practice in such circumstances.

Issue 6 — Change in Hedged Risk Guidance for a Cash Flow Hedge of Forecasted Issuance of Fixed-Rate Debt

The “change in hedged risk guidance does not encompass allowing an entity to recharacterize its borrowing during the hedging relationship from a variable-rate instrument to a series of fixed-rate debt instruments and then to amend the designation to the variability of a benchmark rate component as the hedged risk.” However, “an entity could treat [a] rolling series of fixed-rate instruments as a variable-rate instrument (as demonstrated in [ASC] 815-30-55-54) and designate the hedged risk as the variability in the contractually specified interest rate or all of the cash flows related to the revised variable rate, not just a benchmark component of those variable cash flows as [the inquirer had] proposed.”

Issue 7 — Reclassification of Prior Period Information

Entities are permitted, but are not required, to conform their preadoption financial statement presentation to postadoption presentation (i.e., an entity may choose to reclassify its comparative information to conform to the postadoption presentation requirements).

Amendments to Guidance in ASU 2017-12

The FASB tentatively decided to amend the guidance in ASU 2017-12 as follows:

Issue 8 — Partial-Term Fair Value Hedges of Both Interest Rate Risk and Foreign Exchange Risk

To allow an entity to designate (1) a partial-term fair value hedge of both interest rate and foreign exchange risk (however, an entity cannot apply the partial-term hedge guidance to a hedge of only foreign exchange risk) and (2) multiple partial-term hedges of portions of a single financial instrument.

Issue 9 — Amortization of Fair Value Hedge Basis Adjustments

To clarify that (1) “the amortization period guidance for partial-term hedges is applicable only if an entity elects to begin amortization of a fair value hedge basis adjustment while the hedging relationship is outstanding” and (2) “the remaining life of a partial-term fair value hedge is the period until the hedged item’s assumed maturity, as documented concurrent with hedge inception.”4

Issue 10 — Disclosure of Fair Value Hedge Basis Adjustments

To clarify that an entity should (1) exclude cumulative fair value hedge basis adjustments arising from hedges of foreign exchange risk from the fair value hedge disclosures required by ASC 815-10-50-4EE and (2) disclose the amortized cost basis of an available-for-sale debt security as its carrying amount, instead of its fair value.

Issue 11 — Consideration of the Hedged Contractually Specified Interest Rate Under the Hypothetical Derivative Method

To indicate that the hypothetical derivative that an entity uses to assess hedge effectiveness for certain cash flow hedges should consider the contractually specified interest rate being hedged.

Issue 12 — Not-for-Profit Scope

To make several corrections to the scope paragraphs in ASC 815-10 and ASC 815-20, the most significant being to clarify “that entities that do not report earnings separately are not permitted to use the amortization approach for amounts excluded from the assessment of effectiveness in fair value hedges because it would require those entities to recognize amounts in other comprehensive income, which is a caption that these entities do not report.”

Issue 13 — Hedge Accounting Provisions Applicable to Certain Private Companies and Not-for-Profit Entities

To clarify that (1) an entity must document its assertion that “the last of layer is expected to remain outstanding at the hedged item’s maturity date” as of the inception of that hedging relationship and (2) “the same documentation and effectiveness testing relief would be provided to certain not-for-profit entities as was provided to private companies that are not financial institutions.”

Issue 14 — Application of a “First of” Cash Flow Hedging Technique to Overall Cash Flows on a Group of Variable Interest Payments

To indicate that “designating overall cash flows as the hedged risk under a ‘first of’ hedging technique remains [a] permissible [designation technique].”

Issue 15 — Transition Guidance Clarification

To clarify that, on transition, (1) “an entity may increase or decrease the [notional amounts] of the hedged item or hedging instrument [when it rebalances] a fair value hedge of interest rate risk” but “may not add new hedged items or new hedging instruments to an existing hedging relationship” and (2) an entity may change its method of assessing hedge effectiveness for a hedging relationship from a quantitative long-haul approach to a qualitative critical-terms-match method if the hedging relationship satisfies all of the requirements for application of the critical-terms-match method.

Furthermore, the amendments would clarify that an entity that reclassifies debt securities from the held-to-maturity category to available-for-sale would not (1) call into question “[i]ts assertion as of the most recent reporting date that it had the intent and ability to hold those debt securities to maturity,” (2) be required to “designate reclassified securities in a last-of-layer hedging relationship,” or (3) be “restricted from selling the reclassified securities.”

Next Steps

The FASB directed its staff to draft a proposed ASU reflecting the Board’s tentative decisions. The proposed ASU will also ask whether “partial-term fair value hedging should be expanded to all risks eligible for hedge accounting.”

See the meeting handout and summary of tentative Board decisions for additional information.

Footnotes

FASB Accounting Standards Update (ASU) No. 2017-12, Targeted Improvements to Accounting for Hedging Activities.

For titles of FASB Accounting Standards Codification (ASC) references, see Deloitte’s “Titles of Topics and Subtopics in the FASB Accounting Standards Codification.”

Quotes for Issues 1 through 7 are from “Staff Interpretations of Technical Inquiries Received on Update 2017-12 Discussed at the September 5, 2018 Board Meeting."

Quotes for Issues 8 through 15 are from the meeting handout “Accounting for Financial Instruments: Financial Instruments — Codification Improvements.”

FASB Concludes Deliberations on Proposed Accounting Standards Update on Adding a New Benchmark Interest Rate in the United States

At its August 29, 2018, meeting, the FASB concluded deliberations on its proposed Accounting Standards Update (ASU)1 related to the addition of the Overnight Index Swap (OIS) rate based on the Secured Overnight Financing Rate (SOFR) as a U.S. benchmark interest rate for hedge accounting. The Board reached the following tentative decisions at the meeting:

Designation of the OIS Rate Based on SOFR as a Benchmark Interest Rate in the United States

The Board tentatively (1) confirmed that the OIS rate based on SOFR would be added to the list of acceptable U.S. benchmark interest rates, (2) committed to monitor the development of the SOFR term rate in the future and to consider adding a SOFR term rate as a benchmark interest rate if warranted, (3) confirmed that entities would apply the provisions of the ASU (upon its issuance) prospectively to “qualifying new or redesignated hedging relationships entered on or after the date of adoption,” and (4) decided not to require any additional disclosure.

Project Scope

The Board tentatively decided not to expand the scope of the existing project; however, it will add a new project to its agenda to “facilitate the LIBOR to SOFR transition and mitigate the effects on financial reporting.”

Effective Date

The FASB tentatively agreed to align the effective date of the ASU, upon its issuance, with that of ASU 2017-122 for entities that have not yet adopted ASU 2017-12. If an entity has already adopted ASU 2017-12, the effective date of this ASU will be as follows:

For public business entities, for fiscal years beginning after December 15, 2018, and interim periods within those fiscal years.
For all other entities, for fiscal years beginning after December 15, 2019, and interim periods within those fiscal years.

Early application will be permitted in any annual or interim period.

Next Steps

The FASB expects to issue the final ASU in the fourth quarter of 2018.

See the meeting handout and summary of tentative Board decisions for additional information.

Footnotes

FASB Proposed Accounting Standards Update, Inclusion of the Overnight Index Swap (OIS) Rate Based on the Secured Overnight Financing Rate (SOFR) as a Benchmark Interest Rate for Hedge Accounting Purposes.

Accounting Standards Update No. 2017-12, Targeted Improvements to Accounting for Hedging Activities.

FASB Proposes Certain Targeted Improvements to Credit Losses Standard

At its August 29, 2018, meeting, the FASB discussed whether certain targeted improvements to ASU 2016-13 1 should be made to reflect implementation issues discussed and recommendations that the Board’s credit losses transition resource group (TRG) made at its June 11, 2018, public meeting.2 Specifically, the FASB addressed the following topics at this week’s meeting:

Topic 1 — Consideration of capitalized interest by using a method other than a discounted cash flow method under the current expected credit losses (CECL) model.
Topic 2 — Refinancing and loan repayments.
Topic 3 — Definition of “amortized cost basis” (i.e., including accrued interest in defining amortized cost basis).
Topic 4 — Reversal of accrued interest on nonperforming financial assets.
Topic 5 — Transfer of loans from held for sale to held for investment and transfer of credit-impaired debt securities from available for sale to held to maturity.
Topic 6 — Accounting for recoveries under the CECL model.

The FASB tentatively decided that topics 1 and 2 do not necessitate changes to ASU 2016-13 because the TRG and the FASB staff clarified and summarized the guidance within the two issues in the TRG meeting minutes, which are publicly available on the FASB’s Web site. However, the Board tentatively decided to make Codification improvements to address topics 3 through 6, as follows:

Topic 3 — Definition of “Amortized Cost Basis” (i.e., Including Accrued Interest in Defining Amortized Cost Basis)

The FASB tentatively agreed to make improvements to ASU 2016-13 to allow for the following practical expedients with respect to the definition of amortized cost basis:

Measurement — An entity “should be allowed to determine the expected cash flows for accrued interest separately from the associated financial asset and other components of amortized cost.”
Presentation — An entity “should be able to continue presenting the accrued interest receivable [balance] separately on the balance sheet as long as the entity discloses the accrued interest receivable balance (and the applicable allowance for credit losses) and identifies the line item that includes accrued interest.”
Disclosure — An entity would not need to trace “accrued interest amounts included in amortized cost to each origination year and by class of financing receivable in the vintage year.” Instead, it could disclose “the total amount of accrued interest included in amortized cost as a footnote [(or as a reconciling item)] to that vintage table.”

Topic 4 — Reversal of Accrued Interest on Nonperforming Financial Assets

The FASB tentatively agreed to make improvements to ASU 2016-13 to allow for the following accounting policy elections regarding the reversal of accrued interest on nonperforming assets:

An entity could elect to reverse accrued interest amounts by adjusting (1) interest income or (2) the allowance for credit losses.
An entity could elect to exclude from its expected credit loss calculations accrued interest receivables if the entity reverses or writes off the receivable balance in a timely manner.

Topic 5 — Transfer of Loans From Held for Sale (HFS) to Held for Investment (HFI) and Transfer of Credit-Impaired Debt Securities From Available for Sale (AFS) to Held to Maturity (HTM)

The FASB tentatively agreed to make improvements to ASU 2016-13 to clarify the following actions an entity would be required to perform when transferring a loan from HFS to HFI or a debt security from AFS to HTM:

Reverse any previous valuation allowance or allowance for credit losses (excluding unrealized losses in accumulated other comprehensive income) balances.
Apply the existing write-off guidance to all transfers (i.e., from HFS to HFI and from AFS to HTM).
Present the effect of all transfers on a gross basis in the statement of earnings.

Topic 6 — Accounting for Recoveries Under the CECL Model

The FASB tentatively agreed to make improvements to ASU 2016-13 to clarify the accounting for recoveries as follows:

The estimate of expected credit losses should include expected recoveries to be received from the borrower regardless of whether the estimate is measured on an individual or pool basis.
An entity could present a negative allowance for credit losses as a result of including recoveries in the estimate of expected credit losses.
An entity would not be permitted to include a negative allowance on a collateral-dependent financial asset as a result of including the portion of the fair value of the collateral, which exceeds the asset’s amortized cost basis. That is, the fair value of the collateral included in measuring the allowance for credit losses on a collateral-dependent financial asset would be limited to the asset’s amortized cost basis.

Next Steps

The Board directed the FASB staff to draft a proposed ASU reflecting the Board’s tentative decisions. The FASB expects to issue the proposed ASU in the fourth quarter of 2018.

For additional information, see the meeting handout or the summary of tentative decisions (when available).

Footnotes

FASB Accounting Standards Update (ASU) No. 2016-13, Measurement of Credit Losses on Financial Instruments.

For more information on the June 11, 2018, credit losses TRG meeting, see Deloitte’s June 2018 TRG Snapshot.

FASB Issues and Amends Conceptual Framework for Financial Reporting Chapters

On August 28, 2018, the FASB issued Chapter 8, Notes to Financial Statements (“Chapter 8”), and amendments to Chapter 3, Qualitative Characteristics of Useful Financial Information (“Chapter 3”), of FASB Concepts Statement No. 8, Conceptual Framework for Financial Reporting.

Background and Decisions

Disclosure Framework

At its July 8, 2009, meeting, the FASB added the disclosure framework project to its technical agenda with the intent to improve the effectiveness of financial statement disclosures by more clearly aligning disclosure information required by U.S. GAAP with information most important to financial statement users.

On March 4, 2014, the Board issued an exposure draft, Conceptual Framework for Financial Reporting — Chapter 8, Notes to Financial Statements.1 In its final issued version, Chapter 8 provides the Board with a broad basis of information to consider when establishing disclosure requirements. The framework is intended to promote consistency in the Board’s decision-making process about disclosure requirements across various topics. From the broad set of information, the Board will determine a narrower set of disclosures for a specific topic, which will include consideration of whether the potential benefits of providing the specific information justify the costs.

The Board has leveraged the concepts in Chapter 8 to modify the disclosure requirements and improve the disclosure effectiveness related to the following topics: inventory, income taxes, fair value measurements, and defined benefit plans.

The amendments to Chapter 3 replace the current definition of materiality with the definition that was in FASB Concepts Statement No. 2, Qualitative Characteristics of Accounting Information (superseded), which states:

The omission or misstatement of an item in a financial report is material if, in the light of surrounding circumstances, the magnitude of the item is such that it is probable that the judgment of a reasonable person relying upon the report would have been changed or influenced by the inclusion or correction of the item.

In addition, Chapter 3 adds language similar to that in Concepts Statement No. 2, which discusses (1) how materiality differs from relevance and (2) that materiality assessments can only be made by an individual with an adequate understanding of the entity’s specific facts and circumstances.

Refer to the final issued Chapter 3 and Chapter 8 of Concepts Statement No. 8 for additional information.

Footnotes

For more information, see Deloitte’s March 6, 2014, Heads Up.

FASB Addresses Sweep Issues Related to Simplifying the Balance Sheet Classification of Debt

In March 2018, the FASB staff provided external stakeholders with a preballot draft of a proposed Accounting Standards Update (ASU),1 which reflects the FASB’s tentative decisions reached to date on its project to simplify the balance sheet classification of debt as current or noncurrent.

At its August 22, 2018, meeting, the FASB addressed certain sweep issues raised by stakeholders during the external review process related to (1) unused long-term financing arrangements, (2) grace periods, and (3) effective date.

Unused Long-Term Financing Arrangements

The Board reversed its decision that if a long-term financing arrangement is in place as of the balance sheet date (e.g., an unused line of credit with the same or a different lender), the amount of current maturities for any other debt arrangements would be (1) reduced by the unused amount of the long-term financing arrangement up to the amount of the current maturities and (2) classified as a noncurrent liability.

Accordingly, an entity would disregard any unused long-term financing arrangement in place at the balance sheet date in determining the classification of debt. In addition, the Board directed the FASB staff to conduct additional outreach to stakeholders regarding scenarios in which a debtor has issued a redeemable instrument that is subject to a remarketing agreement and is also secured by a long-term letter of credit.

Grace Periods

The Board discussed the application of the debt classification principle to scenarios in which a creditor provides a grace period to a borrower during which the borrower may cure a debt covenant violation that otherwise would make the debt become due. For example, a borrower may violate a provision of a long-term debt arrangement at the balance sheet date, and the debt arrangement may include a 90-day grace period for the borrower to cure the violation (i.e., the covenant would not be deemed to be formally violated until the 90-day grace period lapses and the borrower has not cured the violation).

The Board agreed that if the grace period results in the debt not being due at the balance sheet date, the borrower should classify the debt as a noncurrent liability. That is, a covenant violation resulting in the debt being due would not be deemed to have occurred until the 90-day grace period lapses and the borrower has not cured the violation.

In addition, the Board decided to require an entity to disclose information when a borrower violates a provision of a long-term debt agreement and the creditor provides a specified grace period. That disclosure would be required when “(1) the violation has not been cured before the financial statements are issued (or are available to be issued) and (2) the violation would make the long-term obligation become [due].”

Effective Date

The Board decided to delay the initially agreed-upon effective date by one year for both public business entities and all other entities as follows:

For public business entities, for fiscal years beginning after December 15, 2020, and interim periods within those fiscal years; and
For all other entities, for fiscal years beginning after December 15, 2021, and interim periods within fiscal years beginning after December 15, 2022.

Next Steps

The Board directed the FASB staff to draft an ASU for vote by written ballot.

For additional information about the August 22, 2018, meeting, see the meeting handout or the summary of tentative Board decisions.

Footnotes

FASB Proposed Accounting Standards Update, Debt (Topic 470): Simplifying the Classification of Debt in a Classified Balance Sheet (Current Versus Noncurrent).

FASB Issues Proposed ASU on Additional Narrow-Scope Improvements to the Lessor Accounting Model in ASC 842

On August 13, 2018, the FASB issued a proposed Accounting Standards Update (ASU),1 which would provide lessors with additional narrow-scope improvements under ASC 8422 related to the following issues:3

Sales taxes and other similar taxes collected from lessees.
Certain lessor costs paid directly by lessees.
Recognition of variable payments for contracts with lease and nonlease components.

Sales Taxes and Other Similar Taxes Collected From Lessees

The proposed amendments would provide an accounting policy election that permits a lessor to “exclude from the consideration in the contract and from variable payments not included in the consideration in the contract all taxes assessed by a governmental authority that are both imposed on and concurrent with a specific lease revenue-producing transaction and collected by the lessor from a lessee.” As a result, when an entity elects this relief it would exclude any taxes collected that meet the scope from lease revenue presented. The proposed accounting policy election is similar to the policy election provided in ASC 606-10-32-2A for entities within the scope of the revenue guidance in ASC 606.

The proposed ASU includes a requirement for a lessor that makes this accounting policy election to disclose that fact.

Connecting the Dots

By allowing a lessor relief similar to that provided for contracts within the scope of ASC 606, entities that engage in contracts that include both lease and nonlease elements should have a reduced burden. If finalized, this relief will allow an entity to make a similar election for all contracts within the scope of both ASC 606 and ASC 842.

Certain Lessor Costs Paid Directly by Lessees

The proposed ASU would require lessors to “exclude from variable payments lessor costs paid by a lessee directly to a third party when the amount of lessor costs paid by the lessee is not readily determinable by the lessor.” However, this requirement would not apply when the lessor pays the third party for the costs and then is subsequently reimbursed by the lessee, because such amounts are readily determinable by the lessor.

Connecting the Dots

The proposed ASU would make this accounting treatment a requirement rather than an optional election, which is more consistent with the Basis for Conclusions of ASU 2016-08,4 on which this proposal is based (see Question 5 of the proposed ASU’s Questions for Respondents (reproduced below)). Also, the Board is proposing the use of the threshold “readily determinable” in the determination of when costs paid by a lessee meet the scope of the requirement to be excluded from a lessor’s revenue. The Board explains in paragraph BC18 of ASU 2016-08 the reasons for the use of this term (i.e., consistency with other assessments under ASC 842). In Question 6, the Board is indirectly asking for feedback on the use of this term with regard to the operability of the proposed amendment. We encourage affected entities to provide feedback to the Board on the proposed amendments as a whole, as well as on both of these matters.

Recognition of Variable Payments for Contracts With Lease and Nonlease Components

ASC 842-10-15-40 requires lessors to recognize variable payments “in profit or loss in the period when changes in the facts and circumstances on which the variable payment is based occur,” regardless of whether the variable payment relates to the lease or nonlease component in the contract. Stakeholders have observed that this guidance may result in the recognition of revenue by the lessor of a variable payment related to a nonlease component before the nonlease component is transferred to the customer. That is, ASC 842-10-15-40 read literally implies that as soon as an uncertainty that created variability in the consideration is resolved, that amount should be recognized as revenue regardless of whether the item to which it relates has been delivered to the customer/lessee. To clarify the paragraph’s intent, the proposed ASU would amend the guidance by requiring a lessor to allocate (as opposed to recognize) certain variable payments to the lease and nonlease components when the changes in facts and circumstances on which the variable payment is based occur. After the allocation, the amount of variable payments allocated to the lease component would be “recognized as income in profit or loss in accordance with [ASC 842], while the amount of variable payments allocated to nonlease components [would] be recognized in accordance with other Topics (for example, Topic 606 . . .).”

Transition and Effective Date

The effective date and transition requirements of the proposed ASU would be consistent with those of ASU 2016-02.5 Upon considering stakeholder feedback on the proposed amendments, the FASB will determine the effective date and transition for entities that have early adopted ASU 2016-02.

Comments on the proposed ASU are due by September 12, 2018.

Questions for Respondents

The proposed ASU’s questions for respondents are reproduced below for reference.

Sales Taxes and Other Similar Taxes Collected From Lessees

Question 1: Should a lessor’s accounting for sales taxes and other similar taxes collected from lessees be aligned with Topic 606? If not, please explain why.

Question 2: Is the proposed accounting policy election, as written in this proposed Update, operable? If not, please explain why.

Question 3: Would the proposed accounting policy election result in a reduction of decision-useful information to users of a lessor’s financial statements? If so, please explain why.

Question 4: Should a lessor’s accounting policy election for sales taxes and other similar taxes collected from lessees be applied to new lease contracts only or to all existing and new lease contracts? Please explain your rationale.

Certain Lessor Costs Paid Directly by Lessees

Question 5: Should a lessor be required to exclude certain lessor costs paid directly by lessees to third parties on behalf of a lessor as variable payments when the uncertainty in the amount is not expected to ultimately be resolved? If not, please explain why.

Question 6: Are the proposed amendments for the accounting for certain lessor costs operable? If not, please explain why.

Question 7: Would the proposed requirement for a lessor to not report certain lessor costs paid directly by a lessee to a third party on behalf of the lessor result in a reduction of decision-useful information to users of a lessor’s financial statements? If so, please explain why.

Question 8: Should the proposed amendment in paragraph 842-10-15-40A to exclude certain lessor costs paid directly by lessees on behalf of a lessor as variable payments be applied to new lease contracts only or to all existing and new lease contracts? Please explain your rationale.

Recognition of Variable Payments for Contracts With Lease and Nonlease Components

Question 9: Would the proposed amendments clarify the application of paragraph 842-10-15-40? If not, please explain why.

Question 10: Are the proposed amendments for the accounting for certain variable payments for contracts with lease and nonlease components operable? If not, please explain why.

Transition and Effective Date for Early Adopters

Question 11: How much time would be needed to implement the amendments in this proposed Update for an entity that early adopts Update 2016-02 before these proposed amendments are finalized? What transition method and transition disclosures should those entities be required to apply (provide)? Please explain your reasoning.

Question 12: Should the effective date for the amendments in this proposed Update be aligned with that of Update 2016-02? If not, please explain why.

Footnotes

FASB Proposed Accounting Standards Update, Leases (Topic 842): Narrow-Scope Improvements for Lessors.

For titles of FASB Accounting Standards Codification (ASC) references, see Deloitte’s “Titles of Topics and Subtopics in the FASB Accounting Standards Codification.”

At its meetings on March 28, 2018, and July 25, 2018, the FASB discussed the lessor issues identified herein, including relevant additional disclosure requirements. For a summary of the FASB’s discussions at those meetings, see Deloitte’s March 30, 2018, and July 27, 2018, journal entries.

FASB Accounting Standards Update No. 2016-08, Revenue From Contracts With Customers (Topic 606): Principal Versus Agent Considerations (Reporting Revenue Gross Versus Net).

FASB Accounting Standards Update No. 2016-02, Leases (ASC 842).

FASB Proposes Amendments to Current Expected Credit Losses Standard

At its July 25, 2018, meeting, the FASB voted to draft an Accounting Standards Update (ASU) to clarify certain aspects of ASU 2016-13,1 specifically (1) the transition and effective date for nonpublic business entities (non-PBEs) and (2) the applicability of ASC 3262 to operating lease receivables. The proposed amendments are a result of discussions held at the FASB’s credit losses transition resource group (TRG) meeting on June 11, 2018.3 The proposed ASU will have a 30-day comment period when released.

In June 2016, the FASB issued ASU 2016-13, which adds to U.S. GAAP an impairment model — known as the current expected credit losses (CECL) model — that is based on expected losses rather than incurred losses. Once effective, the new guidance4 will significantly change the accounting for credit impairment under ASC 326.

Transition and Effective Date for Non-PBEs

ASC 326 provides staggered effective dates for preparers of financial statements; however, the ASU is effective for both (1) PBEs that do not meet the U.S. GAAP definition of an SEC filer and (2) non-PBEs for fiscal years beginning after December 15, 2020. Further, for most debt instruments, entities must record a cumulative-effective adjustment to the statement of financial position as of the beginning of the first reporting period in which the guidance is effective (modified retrospective approach).

Consequently, stakeholders raised concerns, through submissions to the TRG, that the effective date of ASU 2016-13 and transition effectively eliminate the benefit of providing non-PBEs with an additional year before implementing the guidance, which is inconsistent with the FASB’s original intent.

The Board voted to amend the effective date for non-PBEs to fiscal years beginning after December 15, 2021, including interim periods within those fiscal years.

Connecting the Dots

ASU 2016-13 is currently effective for interim periods within fiscal years beginning after December 15, 2021; therefore, the proposed alternative does not change the effective date for interim periods of non-PBEs.

Billed Operating Lease Receivables

As described in further detail in the June 2018 TRG Snapshot, and as a result of a stakeholder’s concerns, the TRG discussed at its meeting “whether billed operating lease receivables are within the scope of Subtopic 326-20.”

In response to this inquiry, the FASB staff stated its belief that “operating lease receivables are not within the scope of Subtopic 326-20” and that “it was never the Board’s intent to include operating leases within the scope.” Therefore, an entity would apply ASC 8425 rather than ASC 326-20 to account for changes in the collectibility assessment for operating leases. When applying ASC 842, an entity would recognize changes in the collectibility assessment for an operating lease as an adjustment to lease income.

At the TRG meeting, its members (1) generally supported the view that operating leases should be excluded from the scope of ASC 326-20 and (2) encouraged the FASB staff to amend ASC 326-20 to clarify whether operating lease receivables are included in or excluded from its scope.

The Board voted to amend ASC 326-20 to clarify that operating lease receivables are not within the scope of ASC 326-20. Accordingly, as noted above, an entity would assess collectibility of operating lease receivables in accordance with ASC 842.

Footnotes

FASB Accounting Standards Update No. 2016-13, Measurement of Credit Losses on Financial Instruments.

FASB Accounting Standards Codification (ASC) Topic 326, Financial Instruments — Credit Losses.

See Deloitte’s June 2018 TRG Snapshot for more information about the June 2018 meeting.

See Deloitte’s June 17, 2016, Heads Up for more information about the new guidance.

FASB Accounting Standards Codification (ASC) Topic 842, Leases.

FASB Concludes Redeliberations on Targeted Improvements to the Long-Duration Insurance Contracts Accounting Model and Authorizes Staff to Proceed to a Final ASU

At its June 6, 2018, meeting, the FASB concluded its redeliberations on its proposed Accounting Standards Update (ASU)1 that would make targeted improvements to the accounting and disclosure model for certain long-duration insurance contracts and voted to proceed with finalizing the new standard. This action reflects the culmination of a project that has spanned almost a decade. The FASB expects to issue a final ASU later this summer (the staff’s estimate of late August is subject to change). Note that the ASU will not change the scope of ASC 944;2 therefore, the amendments will apply to the insurance entities designated in that guidance.

Effective Date and Early Adoption

The Board decided that the ASU would be effective for public business entities for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2020; other entities would have to adopt the ASU in fiscal years beginning after December 15, 2021, and in interim periods within fiscal years beginning after December 15, 2022. Early adoption would be permitted for all entities as of the beginning of any fiscal year after the ASU’s issuance; such entities would also be required to apply that guidance to interim periods within that fiscal year.

Discount Rate for Transition

The Board decided to revise the modified retrospective transition method that an insurer would apply to nonparticipating traditional and limited-payment contracts. The Board agreed that as of the beginning of the earliest period presented (i.e., the transition date), an insurer would retain the discount rate assumption it used before adoption to calculate net premiums and interest accretion. For balance sheet purposes, the insurer would remeasure the liability at the current upper-medium grade fixed-income instrument yield, which would result in an adjustment to opening accumulated other comprehensive income at the transition date.

Market Risk Benefits

The FASB staff’s June 6 Board meeting handout summarizes the targeted improvements that would be included in the new ASU. The summary includes revised language for the ASU’s description of the scope of contracts or contract features that will be accounted for as market risk benefits under the amendments (shown below). The revised language was prepared in response to constituent feedback on the proposed wording that was included in the Board’s November 1, 2017, meeting handout.

30. A contract or contract feature that both provides protection to the contract holder from capital market risk and exposes the insurance entity to other-than-nominal capital market risk should be recognized as a market risk benefit.

31. In evaluating whether a contract or contract feature meets the conditions of a market risk benefit, an insurance entity should consider that:

(a) Protection refers to the transfer of a loss in (or shortfall of) the contract holder’s account balance from the contract holder to the insurance entity, with such transfer exposing the insurance entity to capital market risk that would otherwise have been borne by the contract holder (or beneficiary).

(b) Protection does not include the death benefit component of a life insurance contract (that is, the difference between the death benefit amount and the accrued account value). This condition should not be analogized or otherwise applied to an annuity or investment contract.

(c) A nominal risk is a risk of insignificant amount or a risk that has a remote probability of occurring. A market risk benefit is presumed to expose the insurance entity to other-than-nominal capital market risk if the benefit would vary more than an insignificant amount in response to capital market volatility.

Connecting the Dots

A FASB member asked the staff to clarify certain aspects of the new language. The staff indicated that, although the wording is subject to additional revision, the revision was made to avoid the unintended consequences of sweeping in more features than the Board intended (e.g., variable life insurance). The staff further noted that (1) the reference to “life insurance contract” in condition (b) above referred to the product or the form of contract and (2) the guaranteed minimum living or death benefits included in variable or fixed annuity contracts still would be included in the scope of market risk benefits.

Other Items Discussed

The FASB staff shared with the Board its cost-benefit analysis for the proposed amendments, and all Board members agreed that the ASU’s benefits would outweigh its costs.

Connecting the Dots

At the meeting, the Board did not further deliberate requiring the use of a retrospective “catch-up” model for updating cash flow assumptions versus a prospective method.

For additional information about this meeting and a summary of the targeted improvements, see the meeting handout or the summary of tentative decisions.

Footnotes

FASB Proposed Accounting Standards Update, Targeted Improvements to the Accounting for Long-Duration Contracts.

FASB Accounting Standards Codification (ASC) Topic 944, Financial Services — Insurance.

CAQ SEC Regulations Committee Releases Highlights of March 13, 2018, Joint Meeting With the SEC Staff

On Wednesday, May 16, 2018, the Center for Audit Quality (CAQ) posted to its Web site the highlights of the March 13, 2018, CAQ SEC Regulations Committee joint meeting with the SEC staff. Topics discussed at the meeting include:

SEC personnel and committee update — A number of personnel changes in the Division of Corporation Finance’s Office of the Chief Accountant (CF-OCA) were highlighted, including the appointments of Kyle Moffatt as chief accountant and Patrick Gilmore and Lindsay McCord as co-deputy chief accountants and the reassignment of the points of contact for certain prefiling letter topics.
Financial reporting implications of tax reform legislation — The Committee discussed with the SEC staff certain financial reporting matters related to the impact of the Tax Cuts and Jobs Act1 (the “Act”).
- Non-GAAP measures — The SEC staff indicated that adjustments related to the impact of the Act in a company’s non-GAAP financial measures may be appropriate, depending on the circumstances. However, any such adjustments should be balanced and not just for select provisions of the Act (i.e., no “cherry picking” of non-GAAP adjustments).
  Further, certain registrants may also wish to consider making adjustments that “attempt to depict a ‘normalized’ tax rate” between comparable periods to enhance comparability of periods before and after tax reform (i.e., adjustments in which the new tax rate is applied to periods before enactment). However, the SEC staff commented that such adjustments to non-GAAP measures may not be appropriate because they may not reflect alternative judgments, tax strategies, or other actions that a registrant may have taken if the lower tax rate had applied to all periods presented.
- SEC Regulation S-X, Article 11,2 pro forma financial information — Registrants are encouraged to discuss their specific facts and circumstances regarding pro forma financial information with the CF-OCA if they are contemplating reflecting the impact of the Act on historical periods as a material event in pro forma financial information presented pursuant to SEC Regulation S-X, Rule 11-01(a)(8).3
Waivers of financial statements required by SEC Regulation S-X, Rule 3-094 — The SEC staff discussed written requests for waivers under SEC Regulation S-X, Rule 3-13,5 related to annual financial statements required for equity method investments pursuant to Rule 3-09, when the required significance tests yield anomalous results. The staff indicated that a registrant may request that the SEC extend any relief granted to both current and future filings for which the same type of Rule 3-09 financial statements would be required, provided that the facts have not changed and the investment continues to be insignificant in future periods.

Connecting the Dots
See Deloitte’s recently issued A Roadmap to SEC Reporting Considerations for Equity Method Investees for additional guidance on the application of Rule 3-09. The Roadmap combines the SEC’s guidance on reporting for equity method investments with Deloitte’s interpretations (Q&As) and examples in a comprehensive, reader-friendly format. Appendix B of Deloitte’s 2017 edition of SEC Comment Letters — Including Industry Insights also provides information about best practices for submitting Rule 3-13 waivers.
New accounting standards
- Interplay between SEC Regulation S-X, Rule 5-03(b),6 and GAAP — The guidance under Rule 5-03(b) has not been amended since the issuance of new accounting standards for revenue recognition and leases,7 and the SEC staff is encouraging registrants to submit live examples of potential inconsistencies in income statement classification that may arise between these new accounting standards and Rule 5-03(b).
- Presenting comparable periods under ASC 6068 within MD&A9 — Registrants who have adopted ASC 606 using the modified retrospective adoption method may present additional MD&A disclosures on a supplemental basis. To facilitate a comparable MD&A discussion, two supplemental presentations were discussed:
  - Registrants may voluntarily present prior periods before the adoption of the new revenue standard assuming the adoption of ASC 606 provided that (1) they can calculate the impact of the line items presented, (2) such disclosure does not represent a full income statement, and (3) the presentation is not more prominent than the discussion of the reported results of operations for the historical periods.
  - Registrants may supplementally present a discussion of the current period results which reflect the adoption of the new revenue standard assuming ASC 605 was still in effect during the current period to provide comparability to prior periods. However, the discussion of the historical results of operations under ASC 606 should be given prominence. Such disclosure should be included only in the period of adoption and should be comparable to the disclosures provided pursuant to ASC 250 in the financial statements.
Use of most recent year-end financial statements in assessing SEC Regulation S-X, Rule 1-02(w),10 significance in an IPO — A company submitting a draft registration statement has the ability to calculate the significance of an acquisition occurring after year-end using its most recent fiscal year-end financial statements, even if such financial statements are not included in the draft registration statement, provided that such audited financial statements will be included at the time of the first public filing. A registrant should alert the office of the assistant director of the Division of Corporation Finance if it plans to calculate significance in this manner. See Deloitte’s July 11, 2017, Heads Up (updated August 24, 2017) for additional information about the nonpublic review of draft registration statements.
Audit requirements in pre-transaction periods following a reverse merger involving two operating companies — A nonpublic operating company may be considered the accounting acquirer in a reverse merger with a public operating company. As a result, the financial statements of the nonpublic accounting acquirer will represent the financial statements of the issuer once the period including the reverse merger is reported in a periodic filing (i.e., Form 10-K or Form 10-Q filing).
Financial statements reissued in either an annual periodic filing or a registration statement once the period in which the consummation of the merger is reported must include a PCAOB opinion for all periods for which financial statements are presented. Other disclosures for the previously nonpublic accounting acquirer such as (1) supplemental financial information of selected quarterly financial data provided pursuant to SEC Regulation S-K, Item 302;11 (2) segment reporting disclosures;12 and (3) earnings per share disclosures13 should also be included at this time.
“For example, a public operating company (“PubCo”) completed a reverse merger with a non-public operating company (“OpCo”) in May 2018. OpCo was the accounting acquirer and both companies have a December 31 year-end. The historical financial statements presented for the issuer for 2017 and 2016 in the December 31, 2018, Form 10-K will be those of OpCo. The historical financial statements for those years, in addition to the current year, must comply with the audit requirements of an issuer. Therefore, all years presented must be audited in accordance with PCAOB standards.”
Other items discussed — Registrants are encouraged to discuss with the SEC complex fact patterns related to:
- The presentation of pro forma adjustments applied to conform the adoption of a new accounting standard for an acquired entity to that of the registrant. See Deloitte’s July 20, 2017, Heads Up for more information.14
- The adoption of new accounting standards upon the loss of emerging growth company status.15

Footnotes

H.R. 1/Public Law 115-97, “An Act to provide for reconciliation pursuant to titles II and V of the concurrent resolution on the budget for fiscal year 2018.”

SEC Regulation S-X, Article 11, “Pro Forma Financial Information.”

SEC Regulation S-X, Rule 11-01(a)(8), “Presentation Requirements.”

SEC Regulation S-X, Rule 3-09, “Separate Financial Statements of Subsidiaries Not Consolidated and 50 Percent or Less Owned Persons.”

SEC Regulation S-X, Rule 3-13, “Filing of Other Financial Statements in Certain Cases.”

SEC Regulation S-X, Rule 5-03, “Income Statements.”

The new accounting standards for revenue recognition and leases are FASB Accounting Standards Codification (ASC) Topic 606, Revenue From Contracts With Customers, and FASB Accounting Standards Update (ASU) No. 2016-02, Leases, respectively. Note that when effective, ASU 2016-02 will supersede ASC 840, Leases, and add ASC 842, Leases.

For titles of FASB Accounting Standards Codification references, see Deloitte’s “Titles of Topics and Subtopics in the FASB Accounting Standards Codification.”

SEC Regulation S-K, Item 303, “Management’s Discussion and Analysis of Financial Condition and Results of Operations.”

10

SEC Regulation S-X, Rule 1-02(w), “Definitions of Terms Used in Regulation S-X: Significant Subsidiary.”

11

SEC Regulation S-K, Item 302, “Supplementary Financial Information.”

12

Pursuant to ASC 280.

13

Pursuant to ASC 260.

14

See paragraph 3250.1(m) of the SEC Division of Corporation Finance’s Financial Reporting Manual (FRM).

15

See paragraph 10230.1 of the FRM.

Hedging — FASB Discusses Feedback on Key Implementation Issues

At its March 28, 2018, meeting, the FASB discussed a number of implementation issues related to ASU 2017-12 1 that arose from technical inquiries received by the FASB staff from various constituents. The staff shared with the Board its responses to those inquiries and questioned whether the Board agreed with the conclusions. The following issues were addressed:

Hedging Contractually Specified Components

Upon adopting ASU 2017-12, entities may designate the variability in cash flows attributable to changes in a contractually specified component (CSC) of a forecasted purchase or sale of a nonfinancial asset as the hedged risk in a cash flow hedge. At the meeting, the staff shared the following interpretations of how to apply the CSC hedging model:

A hedging relationship must meet the criteria in ASC 815-20-25-22A and 25-22B to qualify for the CSC hedging model.
When the CSC is explicitly referenced in supporting documents or sub-agreements (and not in the contract itself), the hedging relationship still must meet the requirement in ASC 815-20-25-22A.2
An entity must analyze a not-yet-existing contract both (1) at hedge inception to determine whether it will meet the criteria in ASC 815-20-25-22A and (2) at the contract execution date to ensure the criteria were met.

The FASB staff acknowledged that an entity will need to exercise judgment to satisfy this requirement, for example, when it assesses whether a supporting document or not-yet-existing contract, or receipts in spot market transactions (1) would qualify for the normal purchases and normal sales scope exception or (2) will contain embedded derivatives that would need to be excluded from the analysis. However, the staff expects that practice will evolve and entities will be able to develop methods for making such assessments. The staff indicated that one acceptable approach might be to use a hypothetical contract to assess whether the criteria would be satisfied.

The staff noted that in CSC hedging relationships, when “an entity does not have a contract at hedge inception, it must develop an expectation . . . that when the transaction is entered into:

The written agreement for a forecasted purchase or sale will contain an explicitly referenced [CSC].
The pricing formula that references the explicitly referenced [CSC] will determine the price of the nonfinancial item.
The requirements for cash flow hedge accounting will be met.
The agreement will be substantive.”

The staff also noted that, at hedge inception, an entity will need to exercise some level of judgment to develop its expectations about the contracts and transactions, and that it will be easier for an entity to develop such expectations if it has previous experience with the type of transaction that is anticipated.

In addition, the staff recommended monitoring implementation issues related to the CSC model through the creation of a project resource group composed of a cross-section of stakeholders.

The Board agreed with the staff’s conclusions and supported the formation of a project resource group to monitor implementation issues related to the CSC model and other topics if needed.

Multiple Partial-Term Fair Value Hedges of Interest Rate Risk in a Single Financial Instrument

The Board agreed with the FASB staff’s interpretation that the partial-term fair value guidance should apply to “simultaneous multiple partial-term hedging relationships for a single debt instrument (for example, consecutive interest cash flows in Years 1−3 and consecutive interest cash flows in Years 5−7 of a 10-year bond).” However, the staff cautioned that “this conclusion should not be analogized to the last-of-layer method until further research is conducted” for a multiple-layer hedging strategy under the last-of-layer method (see discussion below).

Last-of-Layer Method

The FASB staff received multiple inquiries related to the application of the last-of-layer (LoL) method, which allows an entity to designate the portion of a closed pool of prepayable assets not expected to be prepaid as the hedged item in a fair value hedge. The Board agreed with the staff’s recommendations to:

Add a narrow-scope project to the Board’s agenda to address accounting for LoL basis adjustments and hedging multiple layers under the LoL method. In their discussion, Board members noted that ASU 2017-12 did not contemplate LoL hedging strategies that involved multiple layers.
Exclude from the narrow-scope project any consideration of expanding the scope of the LoL to include prepayable liabilities or nonprepayable financial assets.

Changes in Hedged Risk in Cash Flow Hedges

ASU 2017-12 allows an entity to retain hedge accounting when the designated hedged risk in a cash flow hedge of a forecasted transaction changes if the derivative designated as the hedging instrument remains highly effective at achieving offsetting cash flows attributable to the revised hedged risk. To respond to various inquiries that it has received, the FASB staff recommended providing the following clarifications (i.e., potential Codification improvements) in the guidance on changes in the hedged risk:

“The hedged forecasted transaction and hedged risk are distinct.”
An entity may continue to apply hedge accounting when the hedged risk changes if the revised hedging relationship remains highly effective, even if the original hedge documentation did not distinguish between the hedged risk and the hedged forecasted transaction.
“The hedged forecasted transaction may not be documented so broadly such that if a change in hedged risk occurs, it does not share the same risk exposure as the originally designated hedged forecasted transaction.”
When the hedging relationship is no longer highly effective as a result of a change in the hedged risk, an entity must cease hedge accounting. Any amounts associated with the hedge will remain in accumulated other comprehensive income until the hedged forecasted transaction affects earnings, unless it becomes probable that the forecasted transaction will not occur.
“Hindsight may be applied in identifying transactions as hedged transactions. However, an entity must first identify transactions as hedged transactions based on the originally documented hedged risk. Only when there are no transactions or insufficient transactions based on the originally documented hedged risk may the entity consider transactions based on other risks. If a transaction occurred in a prior reporting period, it may be retrospectively identified as a hedged transaction if it has not yet affected reported earnings.”

The Board directed the staff to solicit external review feedback on these proposed improvements.

See the meeting handout and summary of tentative Board decisions for additional information.

Footnotes

FASB Accounting Standards Update (ASU) No. 2017-12, Targeted Improvements to Accounting for Hedging Activities.

Under ASC 815-20-25-22A, to qualify for CSC hedging, a contract to purchase or sell a nonfinancial asset must either be (1) a derivative in its entirety, to which the entity applies the normal purchases and normal sales derivative scope exception, or (2) not a derivative in its entirety, in which case the CSC must be a component remaining in the host contract after any embedded derivatives have been bifurcated from the contract to purchase or sell a nonfinancial asset.

FASB Adds Three Projects to the Technical Agenda

At its meeting on March 28, 2018, the FASB discussed five potential projects and voted to add three of them to the technical agenda, to be addressed by the FASB or the Emerging Issues Task Force (EITF) as discussed below. The Board decided not to add projects that would address (1) determining a highly inflationary economy and (2) accounting for interest rate lock commitments.

Definition of Collections

The FASB Accounting Standards Codification (ASC) master glossary defines collections as “[w]orks of art, historical treasures, or similar assets” that among other things, “are subject to an organizational policy that requires the proceeds of items that are sold to be used to acquire other items for collections.” This definition was established by the issuance of Statement 116,1 which was based on the American Alliance of Museum’s (AAM) Code of Ethics for Museums, adopted in 1991, and the AAM’s Accreditation Self-Study, published in 1989. After the issuance of Statement 116, the AAM updated its Code of Ethics for Museums to state that proceeds from the disposal of collection items should be used for acquisition or direct care of collections. Stakeholders believe that the differences in the definitions have led to diversity in practice and inconsistent policies for those that hold collections.

The FASB voted to (1) add the project to the technical agenda and (2) amend the definition in the ASC master glossary to indicate that proceeds from collection items may also be used for direct care of collection items. The Board directed the staff to draft a proposed Accounting Standards Update, with a 45-day comment period and a prospective transition method. The effective date will be discussed at a future meeting.

Cost Capitalization for Episodic Television Series

Under existing U.S. GAAP, production costs for films are fully capitalized while capitalization of similar costs for episodic television series is subject to a constraint on the basis of certain revenues generated. Because of recent changes in production and distribution models in the industry, stakeholders have questioned whether constraining revenues for episodic television series remains appropriate. The Board voted to add a narrow-scope project to the EITF’s agenda to address the capitalization, amortization, impairment, and disclosure for episodic television series costs.

Recognition of an Assumed Liability in a Revenue Contract Pursuant to ASC 805

In reference to the issuance and adoption of ASC 606,2 stakeholders have raised questions about whether the concept of a performance obligation under ASC 606 should be applied in the accounting for a business combination under ASC 805.3 The Board discussed the following two issues raised by stakeholders, which are summarized in the March 28, 2018, meeting handout:

Issue 1: In a revenue contract with a customer that is acquired in a business combination, should the new definition of performance obligation that is included in Topic 606 be used to determine the identifiable liabilities recognized in the business combination?

Issue 2: When measuring the fair value of a contract liability from a revenue contract acquired in a business combination, should the direct costs to fulfill the performance obligation consider the assets and liabilities in the acquired set?

The Board voted to add a project to the EITF’s agenda addressing these issues.

The EITF is likely to discuss this issue and the cost capitalization for episodic television series issue at its June 7, 2018, meeting.

Footnotes

FASB Statement No. 116, Accounting for Contributions Received and Contributions Made.

FASB Accounting Standards Codification Topic 606, Revenue From Contracts With Customers.

FASB Accounting Standards Codification Topic 805, Business Combinations.

FASB Votes to Finalize ASU on Practical Expedient for Lessor’s Separation of Lease and Nonlease Components

At its meeting on March 28, 2018, the FASB discussed comments received on its proposed Accounting Standards Update (ASU)1 related to a practical expedient for lessors to elect not to separate lease and nonlease components when certain conditions are met. The amendments in the proposed ASU are consistent with the tentative decisions made by the Board at its November 29, 2017, meeting.2 At this week’s meeting, the Board voted to move forward with drafting a final ASU related to the proposed practical expedient for lessors, subject to certain adjustments explained in further detail below.

In addition, the FASB discussed other implementation requests received from stakeholders related to the presentation of sales taxes and property taxes and insurance included in lease contracts under the new leasing standard.3

Connecting the Dots:

The proposed ASU, issued on January 5, 2018, includes an amendment to provide an additional transition method that entities could elect to adopt the new leasing standard. The FASB discussed the amendment at its March 7, 2018, meeting4 and voted to move forward with drafting a final ASU. The Board did not provide an update on that topic during its March 28, 2018, meeting.

Lessor’s Separation of Lease and Nonlease Components

Background

ASU 2016-02, as initially issued, requires lessors to separate lease and nonlease components in all circumstances. Once separate components are identified, lessors are required to use the relative stand-alone selling price allocation methodology in ASC 6065 to allocate the consideration in the contract to the separated components. ASC 842 (including the presentation and disclosure guidance) applies to the lease component, while other guidance, typically ASC 606 (including the presentation and disclosure guidance), applies to the nonlease component.

As a result of feedback received from stakeholders indicating that the costs of complying with the separation and allocation requirements for lessors outweigh the benefits, the FASB proposed to amend ASC 842 to include a practical expedient for lessors to not separate lease and nonlease components, provided that both of the following conditions are met:

Criterion A — “The timing and pattern of revenue recognition for the lease components and nonlease component(s) . . . are the same.”
Criterion B — “The combined single lease component is classified as an operating lease.”

Further, the amendment in the proposed ASU required that a lessor disclose (1) that it has elected the practical expedient and (2) the nature of the items that are being combined.

Feedback Received From Stakeholders on the Main Provisions of the Proposed Lessor Practical Expedient

Although respondents were supportive of the proposed practical expedient, many expressed significant concerns that Criterion A and Criterion B were unnecessarily restrictive and would result in many arrangements that seemingly should be permitted to use the practical expedient not to qualify. Specifically, respondents commented that:

“[B]y requiring the ‘timing and pattern of revenue recognition’. . . contracts with variable consideration may not be eligible for the practical expedient” because of the differences in guidance for variable payments under ASC 606 and ASC 842. Some respondents suggested that the FASB amend the criterion to focus on the timing and pattern of transfer, rather than revenue recognition. (Criterion A)
The requirements that the combined single component be classified as an operating lease under ASC 842 would most likely result in contracts with large nonlease components and small lease components (i.e., big service, little lease) not qualifying for the practical expedient. Respondents highlighted that “including the payments for the nonlease component in the present value lease classification test greatly increases the likelihood that the combined component will be classified as a sales-type lease,” rather than an operating lease. (Criterion B)

In addition to the comments received on the criteria for applying the practical expedients, respondents “disagreed with the requirement that all combined components be accounted for within [ASC] 842, regardless of the magnitude of the nonlease component(s)” when determining whether the combined component should be accounted for under ASC 606 or ASC 842. Specifically, respondents requested that the FASB permit lessors to account for the combined component under ASC 606 when the nonlease component is the predominant component of the contract. Also, some respondents argued that the second criterion was unnecessary since it restricted sales-type and direct financing leases from being eligible for the practical expedient.

Decisions Made at the March 28, 2018, Board Meeting on the Main Provisions of the Proposed Lessor Practical Expedient

At this week’s Board meeting, the FASB reaffirmed its prior decision to provide lessors with a practical expedient to elect not to separate lease and nonlease components in a contract if it meets certain conditions.

On the basis of stakeholder feedback, the FASB voted to amend the two criteria for applying the practical expedient, as follows:

Criterion A — The Board agreed to amend the language in Criterion A from “the timing and pattern of revenue recognition” to “the timing and pattern of transfer.”
Criterion B — The Board agreed to change Criterion B to require that the lease component, if accounted for separately, would be classified as an operating lease under ASC 842. That is, a lessor should consider the classification of only the lease component when determining whether this criterion is met, rather than the classification of the combined lease and nonlease components. The Board suggested that this could be performed on a qualitative basis in many circumstances.

In addition, the FASB agreed to remove the requirement that a lessor always account for the combined component as a lease under ASC 842. The Board concurred that a lessor should consider the magnitude of the nonlease component(s) to determine whether the combined component should be accounted for under ASC 842 or ASC 606. Specifically, the FASB agreed that the lessor should account for the combined component under ASC 606 if the nonlease component(s) is the predominant component in the combined component.

The FASB decided not to include a separate definition or threshold for determining whether the nonlease component is the “predominant” component in the combined component. The FASB acknowledged that “predominant” is used elsewhere in U.S. GAAP, including in ASC 8426 and ASC 606.7 In addition, the Board discussed a fact pattern whereby the components were evenly split (e.g., a 50/50 split of value) and suggested that in this scenario, the default position would be to account for the combined component under ASC 842. Alternatively, a Board member highlighted that in this case an entity could elect not to take the practical expedient.

Connecting the Dots:

One Board member observed that the key difference between accounting for the combined component under ASC 842 and ASC 606 relates to the treatment of variable payments. That is, ASC 842 and ASC 606 have different requirements related to the accounting for variable payments received from a lessee/customer. ASC 606 requires that an entity estimate any variable consideration to which it is entitled from the customer and include that amount in its initial estimate of the transaction price, subject to the constraint, whereas ASC 842 excludes from a lessor’s lease payments any variable lease payments that do not depend on an index or rate (i.e., those that depend on usage or performance). The Board noted that the other key difference between ASC 842 and ASC 606 is the required disclosure package for the combined component.

The flowchart below summarizes the FASB’s decisions related to when a lessor may apply the practical expedient to not separate lease and nonlease components in a contract.

Other Decisions Made Related to the Proposed Lessor Practical Expedient

In addition to making the decisions discussed above, the FASB tentatively agreed with the following decisions related to the application of the lessor separation practical expedient:

The presence of a nonlease component that is ineligible for the practical expedient does not preclude a lessor from electing the practical expedient for the lease component and the nonlease component(s) that meet the criteria. Rather, the lessor would separately account for the nonlease component(s) that do not qualify for the practical expedient from the combined lease and nonlease components that do qualify for the practical expedient. This tentative decision will be formalized through an amendment to ASC 842.
ASC 842 should not be amended to clarify the interaction of the practical expedient with the guidance on consideration in the contract in ASC 842-10-15-39 and the recognition of variable payments in ASC 842-10-15-40. Rather than amending the guidance in ASC 842, the Board supported including language in the Basis for Conclusions of the new leasing standard regarding this interaction. Specifically, the Board’s intent is that when the combined component is accounted for in accordance with ASC 842 as a lease (or in ASC 606 as a service), all variable payments should follow that scoping. That is, when the combined component is accounted for as a lease, there are no longer any nonlease variable payments — only variable payments related to the combined lease component.
Upon transition to ASC 842, a lessor electing the practical expedient would be required to apply the practical expedient to all existing transactions within a class of underlying assets. That is, a lessor would not be permitted to apply the practical expedient only to new or modified transactions within a class of underlying assets.
Early adopters of the new leasing standard would be permitted to elect the practical expedient as of either (1) the lessor’s first reporting period (quarterly or annual) following the issuance of a final ASU related to this topic or (2) the mandatory effective date of ASC 842 (i.e., January 1, 2019, for calendar-year-end public companies).

The FASB tentatively agreed that, other than the tentative decisions discussed at this week’s Board meeting, no other changes to the lessor separation practical expedient are required.

Effective Date and Transition

The FASB reaffirmed its proposals that the effective date and transition related to the practical expedient be consistent with the effective date and transition of the new leasing guidance in ASU 2016-02.

Other Implementation Requests

In addition to discussing the proposed practical expedient at this week’s meeting, the FASB addressed certain other implementation requests received from stakeholders related to ASU 2016-02, specifically the accounting for:

Sales taxes collected from the lessee.
Property taxes and insurance that are either (1) paid directly by the lessee or (2) paid by the lessor and subsequently reimbursed by the lessee.

As summarized below, the key issue related to both topics is whether a lessor should be permitted to analogize to certain guidance in ASC 606.

Sales Taxes

ASC 606, as amended by ASU 2016-12,8 provides entities with an accounting policy election to present sales taxes collected from customers on a net basis. Specifically, ASC 606-10-32-2A states, in part:

An entity may make an accounting policy election to exclude from the measurement of the transaction price all taxes assessed by a governmental authority that are both imposed on and concurrent with a specific revenue-producing transaction and collected by the entity from a customer (for example, sales, use, value added, and some excise taxes).

The new leasing standard does not provide lessors with a similar practical expedient for sales taxes collected from lessees. Feedback from stakeholders cited operational challenges with applying the new leasing guidance without a similar practical expedient. Stakeholders noted that although lessors are not within the scope of ASC 606, they are performing a revenue-generating activity in a manner similar to a service accounted for under ASC 606. As such, these stakeholders requested that the FASB provide a similar practical expedient for lessors to present sales taxes collected from lessees on a net basis.

The Board tentatively decided to allow lessors to analogize to the guidance in ASC 606 to present sales taxes collected from lessees on a net basis.

Property Taxes and Insurance

Under ASC 606, an entity must evaluate whether it is acting as the principal or the agent in the transaction to determine whether revenue should be presented on a gross or net basis. However, following the issuance of the new revenue standard, stakeholders raised questions about whether an entity should be required to estimate gross revenue when it is acting as the principal but there is uncertainty in the transaction price that is not expected to ultimately be resolved. As a result, when the FASB issued amendments to the principal-versus-agent guidance in ASU 2016-08,9 it specifically addressed this question in paragraph BC38(c) of the Background Information and Basis for Conclusions of ASU 2016-08:

The determination of whether revenue may be estimated or not is based on an assessment of the transaction price guidance in Section 606-10-32 on measurement (such as, the amount of consideration which the entity expects to be entitled to for transferring promised goods or services to a customer and the constraint on variable consideration). The guidance on variable consideration is instructive as to whether amounts should be recognized as revenue. A key tenet of variable consideration is that at some point the uncertainty in the transaction price ultimately will be resolved. When the uncertainty is not expected to ultimately be resolved, the guidance indicates that the difference between the amount to which the entity is entitled from the intermediary and the amount charged by the intermediary to the end customer is not variable consideration and, therefore, is not part of the entity’s transaction price.

In accordance with the guidance in the Basis for Conclusions of ASU 2016-08, some lessor stakeholders requested that the FASB provide similar practical expedients for lessors to not recognize lease revenue (and the corresponding expense) for certain property taxes and insurance costs that are considered lessor costs under ASC 842. Specifically, these stakeholders requested a similar practical expedient be provided to lessors in the following two situations:

Situation 1 — Property taxes and insurance that are paid directly by the lessee (but for which the lessor is still the primary obligor).
Situation 2 — Property taxes and insurance that are paid by the lessor but subsequently reimbursed by the lessee.

The Board tentatively decided to permit lessors to apply the same principles in paragraph BC38(c) of ASU 2016-08 about excluding amounts from the transaction price when the uncertainty in the transaction price is not expected to ultimately be resolved. However, the Board observed that the application may not apply to all situations. The Board emphasized that this concept would only apply in situations in which the lessor does not know the amount of the property taxes and insurance paid to the taxing authority (i.e., the uncertainty is not expected to ultimately be resolved). Specifically, in some instances (e.g., Situation 1), the lessor may not reasonably know the amounts the lessee pays related to property taxes and insurance, and therefore could apply the methodology outlined in paragraph BC38(c) of ASU 2016-08 above. However, in other instances (e.g., Situation 2), the application would not be appropriate because the lessor would know the amounts paid by the lessee.

Connecting the Dots:

We observe that the lessor stakeholders that requested a similar practical expedient requested that the FASB allow the practical expedient to be applied when the property taxes and insurance are either paid directly by the lessee or paid by the lessor and subsequently reimbursed by the lessee. However, on the basis of the FASB’s tentative decision explained above, a lessor will need to evaluate whether it can reasonably determine the amount of the property taxes and insurance to determine whether it may apply the concepts in paragraph BC38(c) of ASU 2016-08 by analogy.

Next Steps Related to the Other Amendments

The FASB discussed potential paths for communicating its tentative decisions related to the other implementation requests (i.e., sales taxes and property taxes and insurance). Certain Board members questioned whether formal standard setting was necessary, or if communicating these decisions on the FASB’s Web site would be sufficient for stakeholders to analogize to ASC 606. However, one Board member noted that this approach could result in confusion for stakeholders about what provisions within ASC 606 may be analogized to for lessors. As a result, the Board agreed to add a project to its technical agenda to address these matters and to immediately expose its tentative decisions in a proposed ASU. The FASB did not decide on a comment letter period for the proposed ASU. Rather, the Board requested that the staff draft an external review draft, solicit feedback, and present its findings to the Board at a later date. The FASB also directed its staff to consider any other implementation requests when drafting the proposed ASU and decided to reconvene at a later date to discuss the comment letter period.

Footnotes

FASB Proposed Accounting Standards Update, Leases (Topic 842): Targeted Improvements.

See Deloitte’s December 5, 2017, Heads Up for a detailed discussion of the tentative decisions made by the FASB at its November 29, 2017, meeting.

For purposes of this publication, the new leasing standard refers to FASB Accounting Standards Update No. 2016-02, Leases (Topic 842).

See Deloitte’s March 8, 2018, journal entry for a summary of the FASB’s March 7, 2018, meeting.

For titles of FASB Accounting Standards Codification (ASC) references, see Deloitte’s “Titles of Topics and Subtopics in the FASB Accounting Standards Codification.”

As it relates to the lease classification of a single lease component that contains the right to use more than one underlying asset, ASC 842-10-25-5 states that “an entity shall consider the remaining economic life of the predominant asset in the lease component for purposes of applying the criterion in paragraph 842-10-25-2(c)” (emphasis added).

ASC 606-10-55-65A uses the term “predominant” as a threshold for determining whether the sales-based and usage-based royalty exception for licenses of intellectual property may be applied.

FASB Accounting Standards Update No. 2016-12, Revenue From Contracts With Customers (Topic 606): Narrow-Scope Improvements and Practical Expedients.

FASB Accounting Standards Update No. 2016-08, Revenue From Contracts With Customers (Topic 606): Principal Versus Agent Considerations (Reporting Revenue Gross Versus Net).

FASB Votes to Finalize Proposed Changes to the Disclosure Requirements for Defined Benefit Plans

At its meeting on March 14, 2018, the FASB completed its redeliberations of certain issues in the amendments on its proposed Accounting Standards Update (ASU)1 that was issued in January 2016 as part of the Board’s disclosure framework project.

See Deloitte’s February 22, 2018, journal entry for more information about the tentative decisions reached on the proposed ASU at the FASB’s February 14, 2018, meeting.

Tentative Decisions Made

The Board voted to “remove the disclosure of the effect of a one-percentage-point increase and the effect of a one-percentage-point decrease in the assumed health care cost trend rates for public entities.”
The Board voted to retain the existing philosophy in ASC 715-20-50-32 and clarify that the “disclosure about aggregate information for underfunded (including unfunded) pension plans should be based on both the projected benefit obligation (PBO) and the accumulated benefit obligation (ABO) benchmarks.”
The Board authorized the staff to draft a final ASU for vote by written ballot.

Effective Dates

For public business entities, the final ASU will be effective for fiscal years ending after December 15, 2020. For all other entities, the ASU will be effective for fiscal years ending after December 15, 2021. Early adoption is permitted. The effective date would be expressed as “fiscal years ending after” because no amendments are made to the interim disclosure requirements in ASC 715-20.

Refer to the summary of tentative Board decisions for additional information.

Footnotes

FASB Proposed Accounting Standards Update, Changes to the Disclosure Requirements for Defined Benefit Plans.

FASB Accounting Standards Codification (ASC) Topic 715, Compensation — Retirement Benefits.

FASB Discusses Feedback on Proposed Targeted Improvements to New Leasing Standard

At its March 7, 2018, meeting, the FASB discussed feedback on one of the two amendments in its proposed Accounting Standards Update (ASU)1 on targeted improvements to ASU 2016-02.2 The meeting specifically addressed the proposed additional optional transition method in the new leasing standard. The proposed ASU was issued on January 5, 2018.

Background and Decisions

At its November 29, 2017, meeting, the FASB tentatively decided to amend ASU 2016-02 in an attempt to provide relief from the costs of implementing the standard so that entities may elect not to restate their comparative periods in transition. Effectively, the amendment would allow entities to change their date of initial application to the beginning of the period of adoption (e.g., January 1, 2019, for a calendar-year-end company). See Deloitte’s December 5, 2017, Heads Up for key provisions of the proposed ASU.

At this week’s meeting, the Board reaffirmed the proposed amendments for transition. In addition, the Board discussed feedback regarding the ASC 840 comparative-period disclosure requirements when an entity elects this proposed transition method. Specifically, the discussion focused on the requirement in ASC 840-20-50-2(a),3 commonly referred to as the “five-year table,” and the requirement that the five-year table information only be presented “as of the date of the latest balance sheet presented,” which would not require presentation of the December 31, 2018, information with December 31, 2019, financial statements. The FASB voted to clarify language in the proposed transition method in the ASU, once finalized, to ensure that if the optional transitional method is elected, all required disclosures under ASC 840, including the five-year table, must be included in the comparative period.

Next Steps

The proposed ASU also includes an amendment that would allow a lessor to apply a practical expedient that, when certain conditions are met, would not separate or allocate consideration to a nonlease component. The staff plans to share feedback on that proposal at the March 28, 2018, Board meeting for discussion and then, pending finalization, the staff will ask the FASB for permission to proceed with a final ASU, including both amendments to ASC 842.

Footnotes

FASB Proposed Accounting Standards Update, Leases (Topic 842): Targeted Improvements.

FASB Accounting Standards Update No. 2016-02, Leases.

ASC 840-20-50-2 states, in part: “For operating leases having initial or remaining noncancelable lease terms in excess of one year, the lessee shall disclose . . . [f]uture minimum rental payments required as of the date of the latest balance sheet presented, in the aggregate and for each of the five succeeding fiscal years.”

FASB Issues Technical Corrections and Improvements to ASU 2016-01

On February 28, 2018, the FASB issued Accounting Standards Update (ASU) 2018-03,1 which clarifies certain aspects of ASU 2016-01.2

The amendments in the new ASU are summarized in the appendix below.

Effective Date and Transition Requirements

For public business entities, the amendments in ASU 2018-03 are effective for fiscal years beginning after December 15, 2017, and interim periods within those fiscal years beginning after June 15, 2018. Public business entities with fiscal years beginning between December 15, 2017, and June 15, 2018, are not required to adopt the amendments until the interim period beginning after June 15, 2018. Public business entities with fiscal years beginning between June 15, 2018, and December 15, 2018, are not required to adopt these amendments before adopting the amendments in ASU 2016-01.

For all other entities, the effective date will be the same as the effective date in ASU 2016-01.

Early adoption of ASU 2018-03 is permitted for all entities for fiscal years beginning after December 15, 2017, including interim periods within those fiscal years, if they have adopted ASU 2016-01.

Appendix

Key provisions of the amendments (reproduced from ASU 2018-03) are summarized in the table below.

Area for Correction or Improvement	Summary of Amendments
Issue 1: Equity Securities Without a Readily Determinable Fair Value — Discontinuation
Once an entity elects the measurement alternative in paragraph 321-10-35-2, the entity must continue to apply the alternative until the investment has a readily determinable fair value or becomes eligible for the net asset value practical expedient. Stakeholders raised questions about additional situations that may allow for an entity to discontinue the measurement alternative in paragraph 321-10-35-2.	The amendment clarifies that an entity measuring an equity security using the measurement alternative may change its measurement approach to a fair value method in accordance with Topic 820, Fair Value Measurement, through an irrevocable election that would apply to that security and all identical or similar investments of the same issuer. Once an entity makes this election, the entity should measure all future purchases of identical or similar investments of the same issuer using a fair value method in accordance with Topic 820.
Issue 2: Equity Securities Without a Readily Determinable Fair Value — Adjustments
When an observable transaction occurs for a similar security, paragraph 321-10-55-9 states that adjustments made should reflect the current fair value of the security. Stakeholders raised questions about whether adjustments should be made to reflect the fair value as of the observable transaction date or the current reporting date.	The amendment clarifies that the adjustments made under the measurement alternative are intended to reflect the fair value of the security as of the date that the observable transaction for a similar security took place.
Issue 3: Forward Contracts and Purchased Options
Forward contracts and purchased options on equity securities for which the measurement alternative is expected to be applied are accounted for on a look-through basis in accordance with paragraph 815-10-35-6. Stakeholders raised questions about whether a change in observable price or impairment of the underlying equity investment would result in remeasuring the entire value of the forward contract or purchased option.	The amendment clarifies that remeasuring the entire value of forward contracts and purchased options is required when observable transactions occur on the underlying equity securities.
Issue 4: Presentation Requirements for Certain Fair Value Option Liabilities
Stakeholders raised questions about whether certain hybrid financial liabilities for which the fair value option has been elected would be within the scope of the presentation requirement in paragraph 825-10-45-5.	The amendment clarifies that when the fair value option is elected for a financial liability, the guidance in paragraph 825-10-45-5 should be applied, regardless of whether the fair value option was elected under either Subtopic 815-15, Derivatives and Hedging — Embedded Derivatives, or 825-10, Financial Instruments — Overall.
Issue 5: Fair Value Option Liabilities Denominated in a Foreign Currency
Paragraph 825-10-45-5 requires an entity to present separately the portion of the total change in the fair value of a liability attributable to a change in the instrument-specific credit risk within other comprehensive income. Stakeholders raised questions about how an entity should apply Topic 830, Foreign Currency Matters, when determining the amount of fair value changes that are attributable to instrument-specific credit risk for a foreign-currency-denominated liability for which the fair value option is elected.	The amendments clarify that for financial liabilities for which the fair value option is elected, the amount of change in fair value that relates to the instrument-specific credit risk should first be measured in the currency of denomination when presented separately from the total change in fair value of the financial liability. Then, both components of the change in the fair value of the liability should be remeasured into the functional currency of the reporting entity using end-of-period spot rates.
Issue 6: Transition Guidance for Equity Securities Without a Readily Determinable Fair Value
Stakeholders raised a question about whether a prospective transition approach is required for all equity securities without a readily determinable fair value, including those for which the measurement alternative is not applied upon transition.	The amendment clarifies that the prospective transition approach for equity securities without a readily determinable fair value in the amendments in Update 2016-01 is meant only for instances in which the measurement alternative is applied. An insurance entity subject to the guidance in Topic 944, Financial Services — Insurance, should apply a prospective transition method when applying the amendments related to equity securities without readily determinable fair values. An insurance entity should apply the selected prospective transition method consistently to the entity’s entire population of equity securities for which the measurement alternative is elected.

Footnotes

FASB Accounting Standards Update No. 2018-03, Technical Corrections and Improvements to Financial Instruments — Overall (Subtopic 825-10): Recognition and Measurement of Financial Assets and Financial Liabilities.

FASB Accounting Standards Update No. 2016-01, Financial Instruments — Overall (Subtopic 825-10): Recognition and Measurement of Financial Assets and Financial Liabilities. For public business entities, the guidance in ASU 2016-01 is effective for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2017. For all other entities, the guidance is effective for fiscal years beginning after December 15, 2018, and interim reporting periods within fiscal years beginning after December 15, 2019. Early adoption is permitted for all entities with respect to only the following changes made to ASC 825: (1) for financial liabilities measured under the fair value option, fair value changes resulting from change in instrument-specific credit risk would be presented in other comprehensive income and (2) the fair value disclosure requirements in ASC 825 for financial instruments not recognized at fair value would be eliminated for nonpublic entities.

FASB Continues Redeliberating Proposed Changes to the Disclosure Requirements for Defined Benefit Plans

At its meeting on February 14, 2018, the FASB discussed and made tentative decisions on its proposed Accounting Standards Update (ASU)1 that was issued in January 2016 as part of the disclosure framework project. Refer to the summary of tentative Board decisions for additional information.

Tentative Decisions Made

The Board reaffirmed amendments in its proposal that would remove the following disclosure requirements:

The amount and timing of plan assets expected to be returned to the employer
The disclosures related to the June 2001 amendments to the Japanese Welfare Pension Insurance Law
The related party disclosures about the amount of future annual benefits covered by insurance and annuity contracts and significant transactions between the employers or related parties and the plan
The amounts in accumulated other comprehensive income expected to be recognized as components of net periodic benefit cost over the next fiscal year
For nonpublic entities, the reconciliation of the opening balances to the closing balances of plan assets measured on a recurring basis in Level 3 of the fair value hierarchy.

The Board decided to add or revise the following proposed disclosure requirements:

“Add a disclosure of the weighted-average interest crediting rate for cash balance plans and other plans with a promised interest crediting rate.”
Revise the proposed disclosures to only require a “narrative description of the reasons for significant gains and losses affecting the benefit obligation.”

In addition, the Board reconsidered its proposed removal of the current disclosure requirements and decided to retain the following:

The amount of the accumulated benefit obligation (ABO) for pension plans.
The aggregate ABO and the aggregate fair value of plan assets with ABOs in excess of plan assets. The Board requested [the staff to undertake] further research on [alternative approaches to] aggregate information for underfunded (including unfunded) pension plans based on both the projected benefit obligation (PBO) and ABO benchmarks.
The organization of disclosures under the current guidance in Subtopic 715-20.[2]

Further, the Board decided not to add the following disclosure requirements, which are no longer part of its proposal:

“[Q]uantitative and qualitative disclosures from [ASC] 820 on fair value measurement about [plan] assets measured at net asset value (NAV) using a practical expedient.”
“A description of the nature of the benefits provided, the employee groups covered, and the type of benefit plan formula.”

The Board also decided not to require mandatory disaggregated disclosure of domestic and foreign pension and other postretirement benefit plans. The Board “decided to retain the current disclosure requirement in paragraphs 715-20-50-2 and 715-20-50-4. That guidance allows aggregated disclosure unless (1) disaggregating in groups provides useful information or (2) the benefit obligations of the plans outside the United States for a U.S reporting entity or of foreign plans for a foreign reporting entity are significant relative to the total benefit obligation and those plans use significantly different assumptions.”

Health Care Cost Trend Rate

The Board also decided “to remove the disclosure of the effect of a one-percentage-point increase and the effect of a one-percentage-point decrease in the assumed health care cost trend rate for public entities.”

The Board requested that the staff conduct further user outreach on the removal of that disclosure.

Other Disclosure Requirements

The Board also decided not to consider removing, adding, or amending other disclosure requirements.

Transition and Transition Disclosures

The Board affirmed the proposed transition guidance, which would require an entity to apply a retrospective transition method for these disclosure amendments.

Next Steps

The Board will complete redeliberations at a future meeting.

Footnotes

FASB Proposed Accounting Standards Update, Changes to the Disclosure Requirements for Defined Benefit Plans.

For titles of FASB Accounting Standards Codification (ASC) references, see Deloitte’s “Titles of Topics and Subtopics in the FASB Accounting Standards Codification.”

Hedging — FASB Discusses Feedback on Key Implementation Issues

At its February 14, 2018, meeting, the FASB discussed a number of implementation issues related to ASU 2017-12,1 which arose from technical inquiries received by the FASB staff from various constituents. The staff shared with the Board its technical inquiry responses and asked whether the Board agreed with the conclusions. Additional details are included in the meeting handout. The following issues were addressed:

Issue 1 — General Technical Inquiries on ASU 2017-12

Since the ASU’s issuance, the staff has answered approximately 90 technical inquiries from different stakeholders. At the February 14 meeting, the FASB staff discussed its responses to the following general technical inquiries about the ASU that had broad applicability to stakeholders:

Under the transition provisions in the ASU, an entity may elect to change its way of measuring the hedged item in an existing fair value hedge of interest rate risk to use the benchmark rate component of the contractual cash flows instead of using the total contractual cash flows. An entity that makes this election may rebalance its hedging relationship by dedesignating a portion of the hedged item and reclassifying the related basis adjustment to opening retained earnings as of the initial application date. In its responses to technical inquiries, the FASB staff clarified that entities may also rebalance such hedging relationships in a manner other than that specified in the ASU (e.g., by increasing or decreasing the designated notional amount of the hedging instrument or increasing the notional amount of the hedged item). The staff has cautioned, however, that entities are prohibited from rebalancing a hedging relationship by entering into either a new hedging instrument or a new hedged item.
The staff clarified that the ASU provided no transition guidance for entities switching from a full-term fair value hedging strategy to a partial-term hedging strategy because implementation of a partial-term hedging strategy would require an entity to enter into a new hedging instrument. Under the ASU, this can only be accomplished by dedesignating and redesignating the hedging relationship.
The staff indicated that the purpose of the ASU’s fair value hedge basis adjustment disclosures is to provide users with the information they need to evaluate the amount, timing, and uncertainty of future cash flows associated with hedged assets or liabilities. Specifically, the ASU’s disclosures provide users with additional information about fair value basis adjustments that will not affect future cash flows; therefore, basis adjustments that will affect future cash flows, such as foreign exchange risk basis adjustments, are excluded from the ASU’s disclosure requirements. In addition, for a hedged available-for-sale debt security, the carrying amount that an entity should disclose should be its amortized cost basis and not its fair value.

The staff will post additional information on these issues on the Hedge Accounting Implementation page on the FASB’s Web site.

Issue 2 — Prepayable Financial Instruments

The FASB staff presented its interpretation of which financial instruments meet the definition of “prepayable,” as that term is defined in the ASC master glossary. Under the ASU, the characterization of whether an instrument is prepayable may affect (1) the measurement of the hedged item, (2) whether the instrument is eligible for application of the last-of-layer method, and (3) whether the entity can reclassify the instrument from held to maturity to available for sale without penalty as part of the transition upon adoption of the ASU. As indicated in the summary of the Board’s tentative decisions for the meeting, the Board tentatively agreed with the following FASB staff interpretation:

Financial instruments that meet the definition of prepayable include the following:

Instruments that are currently exercisable and prepayable at any time
Instruments with certain contingent prepayment features (that is, based on the passage of time, the occurrence of a specified event other than the passage of time, and the movement in a specified interest rate)
Instruments with conversion features.

However, instruments for which contractual maturity can be accelerated due to credit would not meet the definition of prepayable.

The Board indicated that the FASB staff should research the need for a potential technical correction to reflect these tentative decisions about the term “prepayable.” The staff also clarified, and the Board tentatively agreed, that (1) an entity’s transfer, in transition, of prepayable financial assets from held to maturity to available for sale upon adoption and (2) the subsequent sale of such instruments before their contractual maturity would not call into question the entity’s intent to hold other financial assets to maturity (i.e., it would not cause a “taint”).

Issue 3 — Net Investment Hedges Under the Spot Method

The Board discussed a number of questions related to how an entity would account for excluded components when using the spot method to account for a net investment hedge. The Board tentatively agreed with the following staff views communicated at the meeting:

An entity cannot account for the cross-currency basis spread as a separate component of the hedging derivative that can be excluded from the assessment of effectiveness; however, under the mechanics of the spot method, the cross-currency basis spread would still be an element of the overall excluded amount.
Entities should follow the general principle that changes in the fair value of the hedging derivative attributable to changes in the spot rate should be recorded in the currency translation adjustment (CTA) in other comprehensive income and, at the end of the hedging relationship, the only amounts remaining in CTA related to the swap should be the “spot changes on the notional amount of the net investment.”
An entity would apply the preceding principle in circumstances in which the hedging instrument is an off-market cross-currency interest-rate swap (i.e., the swap has a fair value of other than zero at hedge inception). Therefore, “any systematic and rational [amortization] approach [for the excluded component] that results in the off-market nature of the swap equaling zero at the end of the hedging relationship” will be acceptable. The staff and the Board acknowledged stakeholder concerns that the amortization approach for the excluded component under the ASU could lead to certain structuring opportunities. However, the staff indicated, and the Board tentatively agreed, that “structuring [the terms] of cross-currency interest-rate swaps . . . to achieve a specific accounting result is not considered rational in the context of a systematic and rational approach.”

Next Steps

The Board expects to discuss additional implementation issues in future meetings.

Footnotes

FASB Accounting Standards Update (ASU) No. 2017-12, Targeted Improvements to Accounting for Hedging Activities.

FASB Redeliberates Comments Received on Proposed Technical Corrections and Improvements to ASU 2016-01

At its January 18, 2018, meeting, the FASB discussed comments received from stakeholders on its proposed Accounting Standards Update (ASU)1 that clarifies certain aspects of ASU 2016-01.2 The proposed ASU was issued on September 27, 2017, and comments were due by November 13, 2017.

A summary of the ASU’s proposed amendments and the tentative decisions reached at the January 18 meeting are included in the appendix below.

Effective Date and Transition Requirements

For public business entities, the guidance in the proposed ASU would be effective for fiscal years beginning after December 15, 2017, and interim periods within those fiscal years beginning after June 15, 2018. Public business entities with fiscal years beginning between December 15, 2017, and June 15, 2018, would not be required to adopt the proposed amendments until June 15, 2018. Upon adoption, the amendments should be applied retrospectively with a cumulative-effect adjustment to the effective date of ASU 2016-01. For entities that have adopted ASU 2016-01, early adoption of the new standard would be permitted upon its issuance.

For all other entities, since ASU 2016-01 is not yet effective (i.e., until fiscal years beginning after December 15, 2018), the effective date and transition requirements will be the same as the transition requirements in ASU 2016-01.

For entities that have early adopted the guidance in ASU 2016-01 related to the presentation of changes in instrument-specific credit risk for financial liabilities for which a fair value option has been elected, the amendments in the proposed ASU that are relevant to fair value option liabilities would be effective upon issuance of the final ASU.

Appendix

Key provisions of the proposed amendments (reproduced from the proposed ASU) and the tentative decisions reached at the January 18, 2018, meeting are summarized in the table below.

Area for Correction or Improvement	Summary of Proposed Amendments	Tentative Decisions Reached at the Meeting
Issue 1: Equity Securities Without a Readily Determinable Fair Value — Discontinuation Once the measurement alternative in paragraph 321-10-35-23 is elected, an entity must continue to apply the alternative until the investment has a readily determinable fair value or becomes eligible for the net asset value practical expedient. Stakeholders raised questions about additional situations that may allow for the measurement alternative in paragraph 321-10-35-2 to be discontinued by an entity.	The proposed amendment would clarify that an entity measuring an equity security using the measurement alternative may change its measurement approach to a fair value method in accordance with Topic 820, Fair Value Measurement, through an election that would apply to that security and all other securities of the same type.	The comments received on the proposed ASU indicated that the use of the phrase “same type” could lead to inconsistent interpretation and diversity in practice. On the basis of the feedback received, the FASB tentatively concluded that the guidance should be updated to replace the phrase “same type” with “all identical or similar equity securities of the same issuer.” In addition, the guidance would be clarified to state that (1) voluntarily discontinuing the alternative measurement guidance is irrevocable, and (2) if an entity discontinues the use of the measurement alternative, all future purchases of “identical and similar equity securities of the same issuer” would be measured at fair value.
Issue 2: Equity Securities Without a Readily Determinable Fair Value — Adjustments When an observable transaction occurs for a similar security, paragraph 321-10-55-9 states that adjustments made should reflect the current fair value of the security. Stakeholders raised questions about whether adjustments should be made to reflect the fair value as of the observable transaction date or the current reporting date.	The proposed amendment would clarify that the adjustments made under the measurement alternative are intended to reflect the fair value of the security as of the date that the observable transaction for a similar security took place.	The FASB tentatively decided to retain the guidance in the proposed ASU.
Issue 3: Forward Contracts and Purchased Options Forward contracts and purchased options on equity securities for which the measurement alternative is expected to be applied are accounted for on a look-through basis in accordance with paragraph 815-10-35-6. Stakeholders raised questions about whether a change in observable price or impairment of the underlying equity investment would result in remeasuring the entire value of the forward contract or purchased option.	The proposed amendment would clarify that remeasuring the entire value of forward contracts and purchased options is required when observable transactions occur on the underlying equity securities.	This issue was not redeliberated.
Issue 4: Presentation Requirements for Certain Fair Value Option Liabilities Stakeholders raised questions about whether certain hybrid financial liabilities for which the fair value option has been elected would be within the scope of the presentation requirement in paragraph 825-10-45-5.	The proposed amendment would clarify that when the fair value option is elected for a financial liability, the guidance in paragraph 825-10-45-5 should be applied, regardless of whether the fair value option was elected under either Subtopic 815-15, Derivatives and Hedging — Embedded Derivatives, or 825-10.	The FASB received a comment that highlighted an inconsistency between the guidance proposed in ASC 825-10-45-5 and the guidance in ASC 815-15-25-4. On the basis of the feedback received, the FASB tentatively decided to retain the guidance in the proposed ASU and amend ASC 815-15-25-4 to clarify the separate presentation of instrument-specific credit risk in other comprehensive income.
Issue 5: Fair Value Option Liabilities Denominated in Foreign Currency Paragraph 825-10-45-5 requires an entity to present separately the portion of the total change in the fair value of a liability attributable to a change in the instrument-specific credit risk within other comprehensive income. Stakeholders raised questions about how an entity should apply Topic 830, Foreign Currency Matters, when determining the amount of fair value changes that are attributable to instrument-specific credit risk for a foreign-currency-denominated liability for which the fair value option is elected.	The proposed amendments would clarify that for financial liabilities for which the fair value option is elected, the amount of change in fair value that relates to the instrument-specific credit risk should first be measured in the currency of denomination when presented separately from the total change in fair value of the financial liability. Then, both components of the change in the fair value of the liability should be remeasured into the functional currency of the reporting entity using end-of-period spot rates.	This issue was not redeliberated.
Issue 6: Transition Guidance for Equity Securities Without Readily Determinable Fair Value Stakeholders raised questions about whether a prospective transition approach is required for all equity securities without a readily determinable fair value, including those for which the measurement alternative is not applied upon transition.	The proposed amendment would clarify that the prospective transition approach for equity securities without a readily determinable fair value in Update 2016-01 is meant only for instances in which the measurement alternative is applied [(i.e., going from cost method to the measurement alternative)].	The FASB tentatively decided to retain the guidance proposed. In addition, the FASB deliberated comments received from respondents related to application of the transition guidance to insurance companies that apply the guidance in ASC 944-325-35-1.4 The FASB concluded that, in a manner consistent with the transition guidance related to transition from cost method to the measurement alternative (i.e., Issue 6), insurance companies should apply a “prospective” transition approach. Although the FASB did not specify a transition method to prospectively recognize amounts currently in accumulated other comprehensive income, the guidance would clarify that the method chosen should be applied to the entire population of equity securities that were previously accounted for under ASC 944-325-35-1.

Footnotes

FASB Proposed Accounting Standards Update, Technical Corrections and Improvements to Recently Issued Standards: I. Accounting Standards Update No. 2016-01, Financial Instruments — Overall (Subtopic 825-10): Recognition and Measurement of Financial Assets and Financial Liabilities.

FASB Accounting Standards Update No. 2016-01, Financial Instruments — Overall (Subtopic 825-10): Recognition and Measurement of Financial Assets and Financial Liabilities. For public business entities, the guidance in ASU 2016-01 is effective for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2017. For all other entities, the guidance is effective for fiscal years beginning after December 15, 2018, and interim reporting periods within fiscal years beginning after December 15, 2019. Early adoption is permitted for all entities with respect to only the following changes made to ASC 825: (1) for financial liabilities measured under the fair value option, fair value changes resulting from change in instrument-specific credit risk would be presented in other comprehensive income and (2) the fair value disclosure requirements in ASC 825 for financial instruments not recognized at fair value would be eliminated for nonpublic entities.

For titles of FASB Accounting Standards Codification (ASC) references, see Deloitte’s “Titles of Topics and Subtopics in the FASB Accounting Standards Codification.”