Asset and liability offsetting

Date recorded:

Exposure Draft feedback

The IASB staff presented the Boards with a summary of the feedback received from the offsetting exposure draft as well as feedback received during outreach activities performed during the exposure draft comment period, including roundtable sessions held in London, Norwalk and Singapore.

The general feedback received by the Boards was that most respondents strongly supported the Boards' efforts towards conversion feeling that this project was one of, if not the most important to reach a converged solution. In fact, some financial statement users stated that in their view convergence was more important than their preference for either gross or net presentation.

Overall, financial statement users had mixed views with some preferring gross presentation while others supported net presentation in the statement of financial position (this lack of consistency applied across geographical jurisdictions and even to users within the same organisation). However, there was a consensus that both gross and net information was needed for financial statement analysis. Users also preferred that the netting criteria be applied mandatorily rather than as an accounting policy election to improve comparability.

Users also were generally supportive of the disclosure requirements proposed in the exposure draft.

Regulators generally supported the proposals in the exposure draft and the Boards' basis for their decisions. They felt that gross presentation increases market discipline. Regulators were also supportive of convergence. However, the US prudential regulators supported net presentation as they felt the exposure draft proposals would represent the form of the transactions rather than the underlying economics of derivative and repurchase agreements subject to master netting agreements and therefore would provide less relevant information.

Many who currently apply IFRS were supportive of the proposed offsetting criteria. However, financial institutions and their industry groups, regardless of jurisdiction, supported convergence under an approach more similar to current US GAAP as they felt that provided better information regarding an entity's solvency as well as exposure to credit and liquidity risks. Most preparers also requested the Boards reconsider the scope of the proposed disclosure requirements, particularly with respect to loans, receivables and other types of financial instruments (items other than derivatives and repurchase agreements).

The major accounting firms generally supported the Boards' efforts towards convergence and developing a principles based approach towards offsetting. However, they identified what they view as inconsistencies between the proposed criteria, concepts and application guidance which they feel may lead to inappropriate interpretation or inconsistent application. Some firms believe that derivatives should be treated differently to other financial assets and liabilities and believe that net presentation will provide more decision useful information about credit and liquidity risk.

Overall, the feedback provided on specific issues in the exposure draft can be summarised in the following topics:

  • Unconditional and legally enforceable right of set-off
    • Unconditional vs. conditional rights of set-off
    • The definition of 'unconditional and legally enforceable' right of set-off
    • Legally enforceable - meaning of enforceable 'in all circumstances'.
  • Intention to either (i) settle the financial asset and financial liability on a net basis, or (ii) to realise the financial asset and settle the financial liability simultaneously
    • Definition of simultaneous settlement and intent
    • The unit of account to which the criteria should be applied
    • The treatment of collateral/variation margin
    • Whether offsetting should be optional or required.


Project direction going forward

The staff asked the Boards to provide some initial direction based on the feedback received from constituents.

One of the IASB members asked a question on the topic of collateral and the various forms it may take. The staff responded that they intend to hold an education session for the Boards on collateral and variation margin so that the Boards could better understand the issues involved with the various forms of collateral being used in practice.

One of FASB members asked the staff what feedback they have received with regards to regulatory capital implications of the proposals. The staff responded that in conversations held with the accounting task force of the Basel Committee that the proposals should not have a significant impact for those applying Basel II or under the Basel III framework. However, it was noted that the US regulators do use balance sheet totals in the calculation of leverage ratios. One IASB member asked the FASB members whether that was just a jurisdictional issue which the regulators could deal with. However, one FASB member responded that federal law requires that certain regulatory accounting cannot be less stringent than that used for financial reporting purposes.

One of the FASB members mentioned two issues in the exposure draft that had been highlighted for him during the outreach activities related to 1) the simultaneous settlement criteria and the application to transactions cleared through a clearinghouse and 2) the restriction to not allow consideration of collateral in the offsetting criteria. He felt that addressing these two issued may help to resolve a lot of the comments from those who did not support the exposure draft.

Several IASB members expressed their continued support for the proposals in the exposure draft based on the conceptual framework and unwillingness to consider any potential exception for derivatives and repurchase agreements. However, one IASB member mentioned that addressing the issue around simultaneous settlement and permitting netting when using exchanges or clearinghouses may push more transactions to be cleared that way and help to resolve the different views that currently exist but that time for implementation would need to be considered to allow for this migration.

The FASB Chair stated her view that a bank with a master netting agreement in place was in a substantially different economic position to one that did not have a master netting agreement in place and therefore the accounting should reflect that difference. She also questioned why the IASB was comfortable with different thresholds for netting on the balance sheet and income statement. She specifically noted the IASB was unsupportive of balance sheet netting when a contractual arrangement exists through a master netting agreement, however the hedge accounting proposals would essentially permit income statement netting solely based on management's stated risk management objective and the fact that the level of offset achieved was other than accidental (but that no contractual arrangement was required).

One of the IASB members raised the issue of whether a master netting agreement was in fact a single 'contract' (a premise raised by the International Derivatives and Swaps Association during the outreach roundtables) which sparked a conversation on the appropriate unit of account (an individual derivative or a portfolio of derivatives under a master netting agreement).

The IASB Chair attempted to summarise the views of the two Boards to provide some direction for the staff. He acknowledged that there seemed to be support for reconsidering the proposals around simultaneous settlement and collateral arrangements. Some FASB members had requested that derivatives and repurchase agreements be separately considered apart from other financial assets and liabilities to determine whether their characteristics warranted a separate presentation model. The IASB staff mentioned that the reconsideration of collateral would consider various aspects and one of which was the use of a master netting agreement. The Boards will wait to make any determination on whether to separately consider derivatives and repurchase agreements until the discussions around collateral arrangements have occurred.

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