Financial instruments – Impairment

Date recorded:

Purchased debt instruments

The Boards continued their discussions from the 22 March joint meeting in Norwalk on the accounting for purchased debt instruments subject to impairment accounting.

The discussion centred on how to recognise interest income for 'good book' purchased loans and whether purchased and originated loans should be treated similarly (e.g., effective interest rate based on contractual cash flows) or whether purchased loans should be treated differently (e.g., effective interest rate based on expected cash flows, including expected credit losses).

During the previous meeting, the IASB was supportive of a single model while the FASB preferred differentiation for purchased loans. The staffs prepared three illustrative examples to assist the Boards in their continued discussion on the topic.

The staffs began by requesting the Boards to limit the initial discussion in the context of loans in the good book. However, the unit of account question between the 'good book' and 'bad book' added significant complexity to the discussion (whether a 'good book' acquired portfolio would need to separate out any 'bad book' loans or whether an entire portfolio of 'bad book' loans would be considered for a separate interest recognition model). The inclusion of the 'floor' allowance in the examples (as a reduction in the purchase price/fair value of the purchased loans for a net carrying amount) also added to the confusion. One of the IASB members suggested that Board members ignore that part of the example and instead focus solely on the income recognition.

The IASB members generally remained consistent with their view from the prior meeting that for 'good book' loans that interest recognition should be the same as for originated loans. However, two IASB members did express support for separate models by using expected cash flows rather than contractual cash.

One of the FASB members strongly supported different interest recognition models for originated and purchased loans as he felt that information on organic growth of a customer relationship (originated loans) was important information for financial statement users and including acquired loan portfolios distorted that information. However, many of the FASB members were swayed by the examples that for 'good book' loans the interest recognition model should be consistent with originated loans.

The Boards also discussed how income should be recognised for 'bad book' loans acquired. In addressing the unit of account question for 'bad book' loans, the staffs responded they would prefer not to dictate the approach but to leave to how an entity manages their loan portfolios in determining whether an entire acquired portfolio would be considered 'bad book' or whether the 'bad book loans would be individually identified loans from a 'good book' acquired portfolio.

Ultimately both Boards tentatively decided that for 'good book' loans interest income would be recognised based on contractual cash flows while for 'bad book' loans interest income would be recognised based on expected cash flows. However, the Boards acknowledged there were other issues that may need to be addressed including non-accrual status of loans, differentiation between 'good book' and 'bad book' acquired loans and potentially needing to revisit based on feedback received on the impairment approach in the Supplementary document.

The FASB Chair also concluded the impairment discussion by recognising they have received requests from certain constituents to provide additional time to submit their comment letters. She encouraged those constituents to still send in their comments when possible, but mentioned that the Boards had received some consistent themes through the comment letters they have received to date and the outreach activities performed and they have decided to proceed with deliberations on those areas.

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