After at least five years of serious debate about proposing to mark all financial assets and liabilities to market, the Financial Accounting Standards Board on Wednesday gave final approval to an accounting standard that is limited in its requirement for mark to market accounting. The final standard, “classification and measurement,” becomes effective in 2018 and does not require MTM for loans or debt securities. It does, however, require all equity investments to be treated as trading securities, with changes in fair value recorded through earnings — an important concern for banks that hold significant levels of equity securities.
For banks that are not considered under FASB’s definition to be “public business entities,” there is good news regarding footnote disclosures of the fair value of all assets and liabilities: these disclosures will no longer be required. However, banks that are public business entities will be required to disclose the value of their loans at the so-called “exit price” – a major change for most banks.
For banks that have elected to use the “fair value option” to account for their debt, any changes in fair value due to their own credit quality will now be recorded through equity rather than through income. This eliminates the notorious circumstance under which Lehman Brothers reported large income statement gains — in accordance with GAAP — when its own credit rating was lowered.
Outreach conducted by bankers and the ABA convinced FASB members that both the original MTM proposal and FASB’s subsequent proposal did not improve bank accounting. Compared to the initial proposal, the standard will cause much less confusion for bank investors and less damage to the credibility of bank financial statements. It also avoids costly disclosures related to the value and management of core deposits. For more information, contact Mike Gullette.