Project Pages
Derivative Instruments—Application of Hedge Accounting Termination Provisions
Primary Objective: The objective of this project is to clarify the termination provisions in Statement No. 53, Accounting and Financial Reporting for Derivative Instruments, when a counterparty of an interest rate or commodity swap is replaced
Derivatives: Application of Termination Provisions—Project Plan
Background: The Board received a formal request to reexamine the hedge accounting termination provisions of Statement 53 in light of the recent economic environment and bankruptcy of swap counterparties. The Board decided to clarify the termination provisions of Statement 53 where the counterparty for a hedging interest rate or commodity swap is bankrupt.
Accounting and Financial Reporting Issues: The project will clarify application of the termination provisions of Statement 53. The focus of this project is the replacement of a swap counterparty when the counterparty commits an act of default or a termination event, for example an interest rate or commodity swap counterparty enters into bankruptcy. When a new counterparty agrees to enter into a swap with the same terms, the ED addresses whether deferred fair value changes reported prior to a counterparty’s replacement should continue to be reported as deferred inflows and outflows.Project History: At the August 2010 teleconference the Chairman added to the Board’s current agenda a project to clarify the termination provisions in Statement No. 53, Accounting and Financial Reporting for Derivative Instruments, apply in situations where the counterparty for a hedging interest rate or commodity swap is bankrupt (which is a specific default event under the terms of the swap agreement).
At the October 2010 teleconference the Board discussed the application of the termination provisions of Statement No. 53, Accounting and Financial Reporting for Derivative Instruments, to interest rate swaps when there is an assignment or an in substance assignment and the counterparty is bankrupt. The Board tentatively decided that an assignment and in substance assignment within a bankruptcy estate can be analogized to the defeasance accounting literature, there can be legal defeasance or in substance defeasance. The Board tentatively decided that in these situations the termination provisions in Statement 53 should not apply. The Board asked the staff to further develop a definition of assignment and in substance assignment for incorporation into the Technical Bulletin.
The Board then discussed the characteristics of the replacement swap and tentatively decided that the replacement swap and the original swap should have the same critical terms, including, but not limited to, term to maturity, variable payment terms, fixed rate payments, and notional amount. The Board tentatively decided that the net payment received should be attributable only to the calculation of the original swap’s exit price and the replacement swap’s entrance price. The Board tentatively decided that the replacement swap should be entered into and the original swap should be ended on the same date. The Board asked the staff to further examine additional critical terms and to prepare the pre-ballot draft.
At the November 2010 teleconference the Board reviewed the preballot draft of a proposed Technical Bulletin, Derivative Instruments: Application of Hedge Accounting Termination Provisions When a Swap Counterparty Has Entered into Bankruptcy, recommending minor clarifying changes.
At the December 2010 meeting the Board decided to expand the scope to include other events of default committed or experienced by a counterparty. The expansion in scope lead to a proposed Standard instead of a proposed Technical Bulletin.
Derivatives: Application of Termination Provisions —Minutes for Deliberations
Minutes of Meeting, June 27-29, 2011
The Board reviewed the ballot draft and unanimously approved for issuance Statement No. 64, Derivative Instruments: Application of Hedge Accounting Termination Provisions.
Minutes of Teleconference, June 14, 2011
The Board reviewed the preballot draft, Derivative Instruments: Application of Hedge Accounting Termination Provisions, and made clarifying suggestions. The Board tentatively decided to include additional language to clarify that the provisions set forth in the proposed standard apply to the original and succeeding swap counterparties, swap counterparties’ credit support providers, and swap agreements. The Board will review the ballot draft of the proposed Statement at the June meeting.
Minutes of Meeting, May 23-25, 2011
The Board reviewed the due process comments received to the Exposure Draft, Derivative Instruments: Application of Hedge Accounting Termination Provisions, and further examined the criteria for application of the provisions of the proposed standard. The Board tentatively agreed that the accounting treatment proposed in the Exposure Draft should not be limited to swap liabilities. Swap assets may meet the proposed criteria, provided that collection of payments is probable. The Board affirmed that the proposed criteria should be limited to circumstances in which the counterparty or the counterparty’s credit support provider has committed or is the subject of an act of default.
Minutes of Teleconference, February 8, 2011
The Board reviewed and provided comments on a ballot draft of the proposed Exposure Draft, Derivative Instruments: Application of Hedge Accounting Termination Provisions. The Board members suggested changes to further clarify the draft material. After discussion, the Board voted unanimously to issue the Exposure Draft.
Minutes of Meeting, January 18-20, 2011
The Board discussed the acts of default and termination events as described in the International Swaps and Derivatives Association Master Agreement and tentatively decided to propose that these events be included within the scope of the Exposure Draft. The Board tentatively decided that the due process document should be developed as a proposed Statement, amending paragraph 22d of Statement No. 53, Accounting and Financial Reporting for Derivative Instruments. The Board also tentatively agreed that a hedging derivative instrument is terminated when a counterparty is replaced unless all of the following criteria are met:
- The interest rate swap or commodity swap represents a liability of the government
- There is an assignment or in-substance assignment of an interest rate swap or commodity swap
- The assignment or in-substance assignment arises from the swap counterparty or the counterparty’s credit support provider committing or experiencing an act of default or a termination event as described in the swap agreement.
- The terms that affect changes in fair values and cash flows in the original and replacement swaps are identical
- Any net payment to the government results only from the difference between the original swap’s exit price based on an average of multiple quotations and the replacement swap’s price.
- The original swap is ended and the replacement swap is entered into on the same date.
The Board reviewed the ballot draft of a proposed Technical Bulletin, Derivative Instruments: Application of Hedge Accounting Termination Provisions When a Swap Counterparty Has Entered into Bankruptcy. The Board discussed expanding the scope of the proposed Technical Bulletin to other events of default such as credit downgrades and directed the staff to further explore this issue with industry experts. After considering the feedback received from those experts, the Board directed the staff to further research events of default and to propose changes to the ballot draft in the context of those events when a counterparty has defaulted.
Minutes of Teleconference, November 17, 2010
The Board reviewed the preballot draft of a proposed Technical Bulletin, Derivative Instruments: Application of Hedge Accounting Termination Provisions When a Swap Counterparty Has Entered into Bankruptcy, recommending minor clarifying changes. A ballot draft of the proposed Technical Bulletin will be reviewed at the December 2010 Board meeting.
Minutes of Teleconference, October 5, 2010
The Board discussed the application of the termination provisions of Statement No. 53, Accounting and Financial Reporting for Derivative Instruments, to interest rate swaps when there is an assignment or an in-substance assignment. The Board tentatively decided that an assignment and an in-substance assignment within a bankruptcy estate of a swap counterparty can be analogized to the defeasance accounting literature from the standpoint that there can be legal defeasance or in-substance defeasance. The Board tentatively decided that in these situations, the termination provisions in Statement 53 should not apply. Instead, the replacement swap is considered to continue the previously existing hedging relationship. The Board asked the staff to further develop a definition of assignment and in-substance assignment for incorporation into the Technical Bulletin.
The Board then discussed the characteristics of the replacement swap and tentatively decided that the replacement swap and the original swap should have the same critical terms, including, but not limited to, term to maturity, variable payment terms, fixed rate payments, and notional amount. The Board tentatively decided that any net payment received by the government should be attributable only to the calculation of the original swap’s exit price and the replacement swap’s entrance price. The Board also tentatively decided that the replacement swap should be entered into and the original swap should be ended on the same date. The Board asked the staff to further examine additional critical terms and to prepare a preballot draft of a proposed staff Technical Bulletin.
Derivatives: Application of Termination Provisions—Major Tentative Decisions to Date
Statement No. 64, Derivative Instruments: Application of Hedge Accounting Termination Provisions, was approved in June 2011.