Through continued discussions aimed at narrowing differences in accounting standards, U.S. and international rulemakers took a big step this week toward common rules for accounting for financial instruments.
The Financial Accounting Standards Board and the International Accounting Standards Board have agreed to follow a three-category approach for classifying and measuring debt investments—amortized cost, fair value with changes recognized in comprehensive income, and fair value with changes recognized in net income. The IASB had already finalized its standard allowing only two categories—with no provision for any changes in fair value to flow to comprehensive income—but agreed in late 2011 to consider amendments.
A converged approach to classification and measurement for financial instruments would represent a major milestone in the quest for common accounting standards under U.S. and international rules. FASB Chairman Leslie Seidman said last fall she was hopeful the boards could still reconcile major differences in their approaches to achieve a converged solution, despite the very different paths the boards had been following.
Under the boards' tentative plan, investments in instruments such as loans or debt securities would be accounted for based on the characteristics of the instruments and the business strategy of the entity holding the investment. Investments held at amortized cost would include those where the primary objective is to hold the instrument and collect the contractual cash flows that it produces. The second bucket, those measured at fair value with changes recorded in comprehensive income, would include debt investments that are managed in a portfolio to collect the cash flow they produce but also to sell the asset. The third category, those measured at fair value with changes flowing to net income, would include anything else.
The boards determined they will develop and provide more detailed application guidance on what qualifies for recording through OCI, then define the fair-value-to-net-income category as the residual category that will capture anything not specifically defined under the first two categories. The boards also ironed out some ideas for how the standards would address reclassification of assets. They determined reclassification would be allowed or required based only on significant changes in the business model, which would be expected to be infrequent. They plan to discuss further how to develop guidance that would address reclassifications.