Lecture Notes for Acct 592
Prof. Teresa Gordon
FASB Up-Date
FIN No. 45 – Guarantor’s Accounting and Disclosure Requirements for
Guarantees, Including Indirect Guarantees of Indebtedness of Others
(November 2002)
An intepretation of FASB No. 5, 57, 107. This interpretation REPLACES FIN No. 34
Scope: Covers disclosures to be made in interim and annual reports regarding guarantees of
indebtedness of others (disclosed under FASB No. 5 even though the probability is generally
“remote”
Guarantee contracts covered have ANY of the following characteristics:
a.
Contracts that contingently require the guarantor to make payments to the guaranteed party
based on an “underlying”
Examples:
Irrevocable standby letter of credit which guarantees payment of a specified obligation
Market value guarantee of asset owned by the guaranteed party
Guarantee of the market price of common stock of the guaranteed party
Guarantee of the collection of cash flows from assets held by special purpose entity
b.
Performance standby letter of credit or similar arrangements in which guarantor must make
payments to the guaranteed party in the event of another entity’s failure to perform under a
nonfinancial contract
c.
Indemnification agreements that require guarantor to make payments to the indemnified
party (guaranteed party) based on changes in an “underlying” such as an adverse judgment
in a lawsuit, imposition of additional taxes due to adverse interpretation of the law
d.
Indirect guarantees of the indebtedness of others even though the payment to the
guaranteed party may not be based on an underlying asset, liability, etc., of the guaranteed
party.
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Lecture Notes for Acct 592
Prof. Teresa Gordon
THE INTERPRETATION
The issuance of a guarantee obligates the guarantor (issuer) in two respects:
1.
The guarantor undertakes an obligation to stand ready to perform over the term of
the guarantee i the event that the specified triggering events or conditions occur
This is the noncontingent part of the obligation
2.
The guarantor undertakes a contingent obligation to make future payments if those
triggering events or conditions occur
This is the contingent part of the obligation
FASB 5 should not be interpreted as prohibiting the guarantor from initially recognizing a liability
for that guarantee even though it is not probable that the payments will be required under
that guarantee.
At the inception of a guarantee, the guarantor shall recognize in its statement of financial
position a liability for that guarantee, measured as follows:
a.
The premium received or receivable – when the guarantee is issued in a standalone
arm’s-length transaction with an unrelated party
b.
When the guarantee is part of a transaction with multiple elements, estimate the fair
value of the guarantee.
Consider the premium which would be required by the guarantor to issue a
standalone guarantee with an unrelated party
In the absence of observable transactions for identical or similar guarantees, use
expected present value measurement techniques
c.
If a guarantor must recognize a guarantee at inception because it is probable and
can be estimated (FASB 5), the amount to initially recognize is the GREATER of
the fair value of the guarantee (as measured above) or the contingent liability
amount required under paragraph 8 of Statement 5.
d
Not for profit situation: guarantees provided as a contribution to an unrelated party
(like a loan guarantee by a community foundation to a nonprofit entity), the
guarantee (gift) should be measured at the fair value of the guarantee and NOT
considered merely a conditional promise to give.
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Lecture Notes for Acct 592
Prof. Teresa Gordon
The debit side of the entity is not prescribed by FIN 45. Some examples
provided include:
a.
b.
c.
d.
e.
If a premium is received, the debit would be to cash or receivable.
If the fair value of the premium is an allocation of the receivable or cash received on a
transaction that involves other assets, liabilities, etc., the allocation to the guarantee will
affect the calculation of the gain or loss on the transaction.
If the guarantee is associated with the acquisition of a business accounted for under the
equity method, the guarantee would increase the carrying value of the investment.
In an operating lease situation, the guarantee would affect prepaid rent.
If no consideration is received, the offsetting entry would be to expense.
Arrangements not covered by FIN 45
1.
2.
3.
4.
5.
6.
7.
8.
Commercial letters of credit and loan commitments
Subordination of some securities that gives another class or tranche priority in the event of
liquidation, etc.
Guarantees excluded from scope of FASB 5, para. 7
A lessee’s guarantee of the residual value of leased asset (capital lease only)
A contract that is accounted for as contingent rent under FASB 13
Guarantee issued by insurance company under FASB No. 60, No. 97, No. 113, or No. 120
A contract that meets the criteria BUT provides for payments that constitute a vendor rebate (by the
guarantor) based on either sales revenue of, or number of units sold by, the guaranteed party.
Guarantee whose existence prevents the guarantor from being able to either account for a transaction
as the sale of an asset that is related to the guarantee’s underlying or recognize in earnings the profit
from that sale transaction.
Scope exceptions from only the initial recognition and initial measurement
provisions
1.
2.
3.
4.
5.
6.
7.
8.
Guarantees accounted for as a derivative under Statement 133
Product warranties (the disclosure requirements of FIN 45 do apply – see below)
Guarantees issued in a business combination (Statement 141)
Guarantees for which the guarantor’s obligation would be reported as an equity item (rather than a
liability) under GAAP
Guarantee by an original lessee that has become secondarily liable under a new lease that relieved
the original lessee from being the primary obligor (principal debtor) – says to not apply this section
to secondary obligations that are not accounted for under Statement 13, paragraph 38.
Guarantees between parents and subsidiaries or between corporation under common control
Parent’s guarantee of debt of its subsidiary to a third party
A subsidiary’s guarantee of debt owed to a third party by its parent or a sibling subsidiary.
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Lecture Notes for Acct 592
Prof. Teresa Gordon
DISCLOSURES ABOUT A GUARANTOR’S OBLIGATIONS
a.
Nature of the guarantee including, the approximate term
how the guarantee arose, and the event or circumstance that would require the
guarantor to perform under the guarantee.
b.
Maximum potential amount of future payments
c.
Current carrying amount of the liability
d.
Nature of (1) any recourse provisions that would enable guarantor to recover from
third parties any of the amounts paid under the guarantee and (2) any assets held
either as collateral or by third parties that the guarantor would be able to liquidate
to recover any of the amounts paid.
e.
FOR PRODUCT WARRANTIES. The disclosure of the maximum amount of
future payments requirement above is waived. Instead:
1.
The accounting policy and methodology used to determine its liability for
product warranties including any deferred revenues associated with
extended warranties.
2.
A tabular reconciliation of the changes in the guarantor’s aggregate
product warranty for the reporting period.
Beginning balance
Aggregate reduction for payments made or services provided
Aggregate increase for new warranties issued during period
Aggregate changes in the liability related to pre-existing warranties
(changes in estimate)
Ending balance
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