Certain Debt Extinguishment Issues Using Existing ResourcesProject Description: This project addresses certain issues identified during the pre-agenda research that evaluated the effectiveness of Statements No. 7, Advance Refundings Resulting in Defeasance of Debt, and No. 23, Accounting and Financial Reporting for Refundings of Debt Reported by Proprietary Activities, and relevant sections of Statement No. 62, Codification of Accounting and Financial Reporting Guidance Contained in Pre-November 30, 1989 FASB and AICPA Pronouncements. The project is considering certain improvements to the existing guidance related to debt extinguishments using existing resources. Debt extinguishments connected with troubled debt restructurings and bankruptcy, which are addressed in other pronouncements, are not included.
Final Statement, Certain Debt Extinguishment Issues, approved: May 2017
Added to Research Agenda: May 2014
Added to Current Agenda: September 2015
Exposure Draft approved: August 2016
- Accounting and Financial Reporting Issues
- Project History
- Recent Minutes
- Tentative Board Decisions
- Project staff:
CERTAIN DEBT EXTINGUISHMENT ISSUES—PROJECT PLANBackground: Statement 62 provides guidance for each of the following circumstances:
- Debt is extinguished using exclusively a government’s existing resources (resources that did not arise from debt proceeds)
- The debtor is legally released from being the primary obligor under the debt.
Statements 7 and 23 provide guidance for debt refundings. In a debt refunding, new debt is issued and the proceeds are used to repay old debt. Debt refundings are divided into two broad categories:
- Current refundings—proceeds of new debt immediately repay old debt
- Advance refundings—proceeds of new debt are placed into an irrevocable trust with an escrow agent and invested until they are used to repay the government’s old debt at a future time; the amount of new debt proceeds invested in escrow must be sufficient to meet the interest and principal payments on the old debt.
Advance refundings generally result in the in-substance defeasance of debt, in which debt is considered defeased for accounting and financial reporting purposes even though a legal defeasance has not occurred. Defeased debt—both legal and in-substance—is no longer reported as a liability on the face of the financial statements.
The GASB staff’s review of state and local government financial reports prepared following generally accepted accounting principles (GAAP) found that a large majority of the governments examined had participated in a refunding transaction in either the reporting year or in prior years. Almost half of the governments examined had a refunding in the reporting year. Advance refundings were about twice as prevalent as current refundings in the periods studied.
Issues identified by preparers, auditors, and users in interviews were explored in subsequent surveys. Many respondents to those surveys did not identify significant issues with the existing guidance for debt extinguishments and debt refundings. Most respondents answered that the guidance generally enabled information to be reported reliably and achieves the objective of reporting the economic substance of the transaction.
A variety of users benefit from information related to debt extinguishments, including debt refundings. Information about debt generally is used by a variety of financial statement users to assess the economic condition and accountability of a government. Respondents to the user survey indicated that they rely on information about debt extinguishments, including debt refundings, presented in the financial statements under existing guidance.
Nearly all users surveyed indicated that they had at least some familiarity with information about debt extinguishments. User survey respondents of all types found the information reported in the financial statements useful. They did not raise major concerns about the information they currently receive. Many respondents believe that the information presented in the financial statements is understandable and results in reporting the economic substance of refundings.
When presented with a list of potential additional disclosures, most respondents indicated that those disclosures would be useful for analysis or decision making. The potential disclosures presented in the survey included:
- Amount of debt that was legally defeased during the year
- Debt covenants that remain in effect after debt has been defeased in-substance
- Types of resources held in trust by the escrow agent.
User respondents of all types were divided about whether debt that had been advance refunded using only existing resources should be derecognized or continue to be reported in the financial statements.
At the January 2016 Board meeting, the treatment of prepaid bond insurance related to debt that has been defeased in substance was added to the scope of the project.
Additionally, at the May 2016 Board meeting, the Board added to the scope of the project by proposing a new note disclosure requirement applicable to all debt defeased in substance when a risk of substitution exists.
Accounting and Financial Reporting Issues: The project is considering the following issues:
- Current guidance does not allow for defeasance when a government places only existing resources with an escrow agent for the purpose of an early extinguishment of debt. Should the old debt be derecognized as in a refunding? Should the difference between the net carrying value of the old debt and the reacquisition price be deferred?
- Current guidance allows governments to defer in entirely the difference between the net carrying value of the old debt and its reacquisition price, irrespective of what portion of the refunding was completed with the government’s existing resources. Should the government continue to be allowed to use this form of accounting for the proportion refunded with existing resources?
- Should additional information be disclosed when debt is extinguished?
- How should prepaid insurance be treated when the related debt is defeased in-substance?
- Pre-agenda research approved: April 2014
- Research results reported to the Board: July 2015
- Added to current technical agenda: September 2015
- Deliberations began: January 2016
- Exposure Draft issued: August 2016
- Redeliberations began: December 2016
- Final Statement issued: May 2017
CERTAIN DEBT EXTINGUISHMENT ISSUES—RECENT MINUTES
Minutes of Teleconference, May 1, 2017
The Board reviewed and provided clarifying edits on the ballot draft of the final Statement, Certain Debt Extinguishment Issues. The Board then voted unanimously to approve the issuance of Statement No. 86, Certain Debt Extinguishment Issues.
Minutes of Meetings, April 12–14, 2017
The Board reviewed a preballot draft of the proposed Statement, Certain Debt Extinguishment Issues, and provided clarifying edits on the draft document. The Board then agreed to move forward to a ballot draft of a final Statement.
Minutes of Meetings, March 7–9, 2017
The Board concluded redeliberations of the proposals in the Exposure Draft, Certain Debt Extinguishment Issues, by considering comments related to the disclosure of the risk of substitution of trust assets, the effective date and transition provisions, illustrations, and other respondent comments. The Board also discussed cost–benefit considerations and the GASB scope of authority.
The Board first discussed paragraphs 10 and 11 of the Exposure Draft, which addressed disclosure of the risk of substitution of essentially risk-free monetary assets in a trust with monetary assets that are not essentially risk-free. The Board tentatively decided to carry the disclosure requirements forward to the final Statement.
The Board next discussed comments received regarding paragraphs 12 and 13 of the Exposure Draft, which addressed the effective date and transition provisions. The Board tentatively decided to carry forward the effective date and transition provisions to the final Statement.
The Board also discussed and tentatively decided that the final Statement would not include illustrations or example note disclosures.
In response to respondent comments, the Board also discussed (1) whether the final Statement should address classification of payments to the escrow agent made from the proceeds of new debt in a current refunding transaction using the current financial resources measurement focus, (2) whether the requirements to calculate and disclose the economic gain or loss on refunding transactions should be reconsidered, and (3) whether the final Statement should provide guidance specific to cross-over refunding transactions. The Board tentatively decided that the final Statement should not address, reconsider, or provide specific guidance for those issues.
Lastly, the Board discussed cost–benefit considerations and issues regarding the GASB scope of authority. The Board tentatively decided that the intended benefits of the proposed Statement justify the anticipated costs of implementation and ongoing compliance. The Board also continues to believe that the accounting and financial reporting requirements to be included in the final Statement are within the scope of the GASB’s authority.
Minutes of Meetings, January 17–19, 2017
The Board began redeliberations of proposals presented in the Exposure Draft, Certain Debt Extinguishment Issues, by considering matters related to scope and applicability, in-substance defeasance using only existing resources, in-substance defeasance using existing resources in conjunction with refunding debt proceeds, and prepaid insurance related to extinguished debt.
First, the Board discussed paragraphs 2 and 3 of the Exposure Draft regarding scope and applicability provisions. The Board tentatively decided to carry forward those paragraphs to the final Statement with additional modifications to clarify that the scope of the Statement addresses three separate issues. The Board also tentatively decided not to expand the scope of this project to comprehensively address all types of debt extinguishment transactions.
The Board next discussed and tentatively decided to carry forward the following: guidance for essentially risk-free monetary assets and existing resources in paragraph 4 of the Exposure Draft, guidance regarding recognition of in-substance defeasances using only existing resources in paragraphs 5 and 6 of the Exposure Draft, and the disclosure guidance in paragraphs 7 and 8 of the Exposure Draft.
The Board tentatively decided that no further explanation was needed regarding the difference between a legal defeasance and an in-substance defeasance. The Board also tentatively decided that no additional guidance was needed for accounting for accrued interest or debt that is defeased in substance.
The Board also tentatively decided to address the reporting of any remaining deferred amounts on a prior refunding, when the refunding debt is itself defeased in substance using only existing resources, by adding the following sentence to the end of paragraph 5 of the final Statement: “Any deferred outflows of resources or deferred inflows of resources from prior refundings should be recognized as part of the separately identified gain or loss.”
The Board then reaffirmed that this project would not amend the current guidance for reporting in-substance defeasances of debt using both refunding bond proceeds and existing resources.
Lastly, the Board discussed prepaid insurance related to extinguished debt (paragraph 9 of the Exposure Draft) and tentatively decided to carry that guidance forward to the final Statement. The Board also considered comments about the provision for retroactive application of the prepaid insurance provisions and tentatively decided to carry that provision forward.
Minutes of Meetings, December 5–8, 2016
The Board reviewed a summary of due process comments received on the Exposure Draft, Certain Debt Extinguishment Issues. No tentative decisions were reached by the Board.
Minutes of Teleconference, August 22, 2016
The Board reviewed a ballot draft of an Exposure Draft of a proposed Statement, Certain Debt Extinguishment Issues, and provided clarifying edits on the draft document. The Board then voted unanimously to approve the issuance of the Exposure Draft.
Minutes of Meetings, August 10–12, 2016
The Board reviewed a preballot draft of the proposed Exposure Draft and provided clarifying edits on the draft document. The Board then agreed to move forward with a ballot draft of a proposed Statement, Certain Debt Extinguishment Issues.
Minutes of Meetings, June 22–23, 2016
The Board discussed the characteristics of the financial information that would be provided as a result of the proposed standard. The Board tentatively agreed that the accounting and financial reporting requirements to be proposed in the Exposure Draft would produce financial information that meets the needs of users, results from economic or financial events affecting the assessment of the governmental reporting entity, is relevant to reporting objectives, and falls within an appropriate information category in general purpose external financial reports.
The Board then discussed whether the expected benefits of information to users and other stakeholders from the Exposure Draft exceed the anticipated costs to preparers and other stakeholders. The Board tentatively agreed that the expected benefits associated with the requirements to be proposed in the Exposure Draft outweigh the perceived implementation and ongoing costs.
The Board reviewed a draft Standards section of a proposed Exposure Draft. The Board discussed clarifying edits on the proposed guidance.
Minutes of Meetings, May 10–11, 2016
The Board began deliberations of the Certain Debt Extinguishments project by discussing notes to financial statements. The Board tentatively decided to propose that when debt is defeased in substance using existing resources in conjunction with refunding bond proceeds, the current disclosures for refunding transactions as described in paragraphs 11–14 of Statement No. 7, Advance Refundings Resulting in Defeasance of Debt, be required.
The Board tentatively decided to propose that when debt is defeased in substance using only existing resources, a general description of the transaction be disclosed in the period the debt is defeased in substance and the amount of defeased debt that remains outstanding be disclosed in subsequent periods. The Board also tentatively agreed that the proposed guidance should provide the following examples of what may be included in the general disclosure requirement for debt that is defeased in substance using only existing resources: (a) amount of old debt, (b) amount of existing resources placed with the escrow agent, (c) management’s explanation of the reasons for the defeasance, and (d) cash requirements to service the old debt. The Board tentatively decided to propose that when debt is defeased in substance using only existing resources, the disclosure of the amount of debt defeased in substance using only existing resources that remains outstanding could be combined with the amount of debt that is defeased in substance using refunding bond proceeds.
When debt is defeased in substance, either through a refunding transaction or through the use of only existing resources, the Board tentatively decided to propose that governments disclose in the year of the defeasance whether the investments held by the trust can be substituted for non-risk-free assets. And, if applicable, the aggregate amount of the related defeased debt covered by investments that can be substituted for non-risk-free assets should be disclosed in periods in which debt defeased in substance remains outstanding.
The Board then discussed the transition and the effective date of the proposed guidance and the comment period for the Exposure Draft. The Board tentatively decided that the proposed transition provisions should allow early application. The Board tentatively agreed that the Exposure Draft should propose retroactive application of all provisions. The Board tentatively agreed to propose that the effective date be for periods beginning after June 15, 2017. The Board tentatively agreed to provide a 90-day comment period for the Exposure Draft.
CERTAIN DEBT EXTINGUISHMENTS—TENTATIVE BOARD DECISIONS TO DATE
Statement No. 86, Certain Debt Extinguishment Issues, was approved in May 2017.