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FASB Issues New Rules on Recognition and Measurement of Financial Instruments

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Jan 5th 2016
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An Accounting Standards Update issued on Jan. 5 by the Financial Accounting Standards Board (FASB) requires that users of financial statements receive more and better information about financial instruments.

The new guidance allows for more “decision-useful” information on the recognition, measurement, presentation, and disclosure of financial instruments. It affects public and private companies, not-for-profit organizations, and employee benefit plans that hold financial assets or owe financial liabilities.

The standard “improves the accounting model to better meet the requirements of today's complex economic environment,” FASB Chairman Russell Golden said in a prepared statement.

In a separate project, the FASB is working on a standard on the impairment of financial instruments.

Anne-Lise Vivier, CPA, accounting publications managing editor with Thomson Reuters Checkpoint within the Tax & Accounting business of Thomson Reuters, said the new standard culminates the work on classification and measurement of financial instruments that the FASB has conducted for nearly a decade.

“The way financial instruments are classified on the balance sheet determines how the instruments are measured initially and going forward. It became apparent during the financial meltdown in 2008 that the rules on the recognition of gains and, more importantly, losses and impairment charges on certain instruments, such as loans, was not providing the information the market wanted and needed,” she said. â€œOver the course of the project, the FASB has explored various ways to categorize and account for financial instruments going forward. The new standard, while long-awaited, only makes targeted improvements to the current guidance. The most significant improvement may well be the measurement of all equity investments with a readily available fair value, except those accounted for under the equity method or using consolidation, at fair value with changes recognized in the income statement.”

Accounting Standards Update No. 2016-01, Financial Instruments—Overall (Subtopic 825-10): Recognition and Measurement of Financial Assets and Financial Liabilities, makes the following changes to existing US GAAP:

  • Requires equity investments (except those accounted for under the equity method of accounting, or those that result in consolidation of the investee) to be measured at fair value, with changes in fair value recognized in net income. However, an entity may choose to measure equity investments that do not have readily determinable fair values at cost minus impairment, if any, plus or minus changes resulting from observable price changes in orderly transactions for the identical or a similar investment of the same issuer.
  • Simplifies the impairment assessment of equity investments without readily determinable fair values by requiring a qualitative assessment to identify impairment. When a qualitative assessment indicates that impairment exists, an entity is required to measure the investment at fair value.
  • Eliminates the requirement to disclose the fair value of financial instruments measured at amortized cost for organizations that are not public business entities.
  • Eliminates the requirement for public business entities to disclose the methods and significant assumptions used to estimate the fair value that is required to be disclosed for financial instruments measured at amortized cost on the balance sheet.
  • Requires public business entities to use the exit price notion when measuring the fair value of financial instruments for disclosure purposes.
  • Requires an entity to present separately in other comprehensive income the portion of the total change in the fair value of a liability resulting from a change in the instrument-specific credit risk (also referred to as “own credit”) when the organization has elected to measure the liability at fair value in accordance with the fair value option for financial instruments.
  • Requires separate presentation of financial assets and financial liabilities by measurement category and form of financial asset (that is, securities or loans and receivables) on the balance sheet or the accompanying notes to the financial statements.
  • Clarifies that an entity should evaluate the need for a valuation allowance on a deferred tax asset related to available-for-sale securities in combination with the entity's other deferred tax assets.

For public companies, the standard will take effect for fiscal years beginning after Dec. 15, 2017, including interim periods within those fiscal years. For private companies, not-for-profit entities, and employee benefit plans, the standard goes into effect for fiscal years beginning after Dec. 15, 2018, and interim periods within fiscal years beginning after Dec. 15, 2019.

Early adoption of the standard is permitted for the own credit provision, as well as for the provision that exempts private companies and not-for-profit organizations from having to disclose fair value information about financial instruments measured at amortized cost.

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Rowan Webb
By Rowan Webb
Mar 24th 2017 00:30 EDT

The current processes have been utilized for quite some time now, but over time if the results are not as expected, new rules ought to be put in place in order to provide a more stable financial platform. A single step that is newly introduced could hold extravagant results to say the least and this is what the authoritative body is looking to achieve.

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