True to its word, the Financial Accounting Standards Board is preparing to issue a proposal meant to simplify how companies would be required to classify debt in the balance sheet.
FASB has been meeting and making tentative decisions about a new standard since early 2015. Standard setters are looking for a way to cut through layers of GAAP adopted piecemeal over many years to address increasingly complicated debt arrangements.
FASB earlier issued an update to accounting standards on how to reflect debt issuance costs in financial statements, so that is not covered in the rule the board is now developing. With the current project, FASB’s goal is to cut out the cost and complexity that companies often incur when following existing guidance on whether to classify debt as current or non-current in the balance sheet.
The classification is important because it’s regarded as a key indicator of a company’s fiscal health. A heavy load of debt coming due in the short-term would be a big concern to investors, who will want to understand whether the company has the wherewithal to shoulder the load.
In a series of tentative decisions leading up to the proposal, FASB has determined it will lean on a principle about how to classify debt rather than prescriptive guidance. However, the principle as described in accounting standards will rely on legal terms, suggesting that their meaning should be clear to preparers and users of financial statements.
The board has said it plans to require an entity to classify debt as noncurrent if the liability is contractually due to be settled more than 12 months after the balance sheet date or if the entity has a contractual obligation to defer settlement of the liability for at least 12 months. FASB decided early in its deliberations that decisions about the classification of debt should be made based on facts and circumstances that exist as of the reporting date, or the balance sheet date.
The board plans to require separate line-item presentation for debt that is classified as noncurrent as a result of an exception for waivers of debt covenant violations received after the reporting date but before the financial statements are issued. FASB does not plan to change current GAAP with respect to the recognition of fees a company pays to obtain waivers for debt covenant violations.
FASB has instructed its staff to draft the proposed update to accounting standards based on decisions made to date so the board can vote on issuing it for public comment. The proposal is expected to be issued with what might become a lengthy comment period. The board anticipates accepting comments through at least early May.