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MHM Messenger: Revised Disclosures about Offsetting Assets and Liabilities

February 28, 2012
Updated November 13, 2012

Companies will be required to disclose additional information about financial instruments that have been, or may be, eligible for offsetting in the financial statements under guidance released by the Financial Accounting Standards Board (FASB) in Accounting Standards Update (ASU) 2011-11 Disclosures about Offsetting Assets and Liabilities. The ASU is a response to the differences in US and international standards for the net presentation of certain repurchase agreements, derivative arrangements, instruments subject to master netting agreements, and the related cash collateral. Although the new requirements apply to all companies, we expect that financial institutions will be most directly affected.

This MHM Messenger was prepared by MHM's Professional Standards Group to assist companies in applying the new guidance. It provides background on the convergence project, an explanation of how the changes may affect your company, and potential implications for future convergence projects.

Background

Convergence between US generally accepted accounting principles (US GAAP) and International Financial Reporting Standards (IFRS) in the accounting for financial instruments has been a subject of much debate. The Securities and Exchange Commission (SEC) announced in December 2011 their decision on the adoption of IFRS in the US will be delayed, citing the inability to converge the accounting for financial instruments as a significant reason for the delay. At the center of the convergence debate for financial instruments has been the presentation and disclosure of financial instruments in which the right of offset with a counter party exists. The FASB issued an Accounting Standards Update in January 2011, which was intended to converge the accounting for offsetting financial instruments together with the International Accounting Standard Board (IASB) (together Boards) by limiting the situations in which offsetting would be acceptable to only those instances in which an entity has an unconditional and legally enforceable right to offset the financial asset and liability and also intends to settle on a net basis (or realize the financial asset and liability at the same time). This decision would result in most financial instruments subject to master netting agreements being presented gross because most such contracts contain only a conditional right of offset. This would have resulted in a significant change in the presentation of many derivative financial instruments for US financial institutions and other entities with large derivative portfolios.

However, in consideration of comments received, the FASB decided to retain the current standards for offsetting, thus allowing entities to offset financial instruments even if only a conditional right of offset exists. The IFRS largely retained the guidance in the original joint project. The result is a lack of convergence as there will be more circumstances in which offsetting financial instruments is allowed under US GAAP as compared to IFRS. Rather than full convergence, the FASB and IASB added a joint project to address the disclosures for financial instruments that qualify for offset as well as those subject to master netting agreements (or similar arrangements) with a goal of providing sufficient disclosures such that users will be able to compare financial statements prepared under US GAAP to those prepared in accordance with IFRS. The disclosure project was finalized by the Boards in December 2011.

How the Changes May Affect You

The significant disclosure requirements are summarized below.

Which financial instruments are included?
(see Note 1)

The ASU establishes disclosure requirements for all financial instruments that are eligible for offsetting, however it does not change the evaluation criteria for offsetting under US GAAP. Financial instruments and transactions that are included in the scope of the ASU generally consist of derivatives, sale and repurchase agreements, and securities borrowing and securities lending arrangements that are eligible for offset under current US GAAP. The scope of the ASU also includes enforceable master netting agreements or similar arrangements, regardless of whether the entity has elected to recognize the financial instruments on a net basis, along with any related rights to financial collateral. Examples of other arrangements included within the disclosure requirements of the ASU include derivative clearing agreements, global master repurchase agreements, and global master securities lending agreements.

Financial instruments excluded from the scope of the ASU include:

    1. Loans and customer deposits at the same institution (unless they are offset in the statement of financial position), and
    2. Financial instruments that are only subject to a collateral agreement (including those in which the collateral is a non-financial asset).

What disclosures are required?

The ASU requires disclosure of a description of the rights of setoff associated with recognized assets and liabilities subject to an enforceable master netting agreement or similar arrangement. It also requires a tabular presentation (unless another format is more appropriate) of the following information for instruments within its scope, shown separately for assets and liabilities and grouped by type (such as derivatives, repurchase agreements, etc.) or partly by type for items (a) through (c) and partly by counterparty (such as Counterparty A, Counterparty B, etc.) for (c) through (d):

    1. The gross amounts of the recognized assets and liabilities.
    2. The amounts offset in accordance with the guidance in Sections 210-20-45 and 815-10-45 to determine the net amounts presented in the statement of financial position.
    3. The net amounts presented in the statement of financial position.
    4. The amounts subject to an enforceable master netting arrangement or similar agreement not otherwise included in (b). These disclosures should include amounts related to recognized financial instruments and other derivative instruments that management makes an accounting policy election not to offset (or that do not meet some or all the guidance for offsetting) and amounts related to financial collateral.
    5. The net amount after deducting the amounts in (d) from the amounts in (c).

What is the effective date?

The disclosures are required for fiscal years beginning on or after January 1, 2013 and interim periods within those annual periods. Upon adoption, the disclosures should be applied retrospectively for any period presented that begins before the date of initial application of the guidance.

Any implementation advice?

Companies should become familiar with the disclosure requirements in order to provide sufficient time for any systems or process changes that may be needed to compile the required information in time for adoption. Some of the disclosure requirements may overlap with information required by existing standards. For example, Accounting Standards Codification Topic 815, Derivatives and Hedging, requires similar disclosures for derivative instruments, including gross positions held and related collateral and exposures to credit risk. However, the disclosures required by ASU 2011-11 are more broad and may require aggregation of additional information.

Significance for Future Accounting Standards

The decision to achieve comparability of US GAAP and IFRS through the use of common disclosures rather than full convergence sets important precedent because it represents a significant departure from the Boards' initial objective of facilitating comparisons of companies that use US GAAP with those that use IFRS by eliminating differences between US GAAP and IFRS. The acceptance of common disclosure requirements signals that the Boards are willing to compromise on a middle-ground, "building-block" approach that will facilitate comparisons by providing users with the information needed to reconcile the differences instead of eliminating the differences altogether. It remains to be seen how often the building-block approach will be used in future convergence projects, but this new approach may well open the door for other joint projects as well.

For More Information

If you would like additional information about the new requirements for disclosures on offsetting, or if you have any specific questions, comments or concerns about adopting the ASU, please contact Mike Loritz of MHM's Professional Standards Group or your MHM service professional. You can reach Mike directly by email at mloritz@cbiz.com or by phone at 816.945.5611.

November 2012 Update
Note 1: Questions have arisen about the applicability of ASU 2011-11 to: (1) trade payables and trade receivables and (2) unsettled regular way trades. In October 2012, the FASB tentatively decided to issue a separate ASU to clarify whether these items are excluded from the scope of ASU 2011-11. An exposure draft of the proposed scope clarification is expected in November 2012. MHM is monitoring the deliberations and will issue a separate Messenger when the proposed clarification is available.

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