On Wednesday, the Financial Accounting Standards Board said its upcoming exposure drafts on revisions to two securitization-related rules — FAS 140 and FIN 46(R) — will likely propose an effective date of November 15, 2009. FAS 140 is the accounting rule that specifies the conditions for keeping securitized assets off the balance sheet, while FAS 46(R) focuses on when a company should consolidate variable interest entities (known as either VIEs or SPEs.)
Originally, FASB looked to stagger the deadlines, forcing companies to comply with a revised FAS 140 by the end of 2008, and an updated FIN 46(R) by the 2009 date. But board members agreed that with an exposure draft likely to be out in August, followed by a 60-day public comment period, the accelerated deadline would be impractical from a compliance perspective.
However, banks shouldn't really count the delay as a win, at least not yet. For one thing, the proposed changes to FIN 46(R) will probably force banks and other companies to bring billions of dollars worth of assets back on their balance sheets. What's more, FASB's vote to delay the deadline was quickly followed by another vote to improve disclosures around securitization transactions.
The new disclosure rules, which will be included in the upcoming exposure drafts, will likely go into effect in January 2009. The draft rules call for information about the nature, purpose, and activities of VIEs — including how the entity is financed, as well as the terms of arrangement that could require the company to provide financial support to the VIE — such as liquidity commitments and obligations to purchase assets. The comment period for the disclosure rules will be 30 days.
SPEs have a checkered past, mainly because they were the structures used by Enron's Andrew Fastow to hide massive losses before the energy company collapsed in 2001. Since then, FASB beefed up its SPE rules, adding the QSPE to the accounting literature. Indeed, for an SPE to "qualify" as one that can stay off a company's books, U.S. accounting rules require that its activities be strictly limited to passively receiving and disbursing securitized funds. But when the subprime crisis hit, banks — with the blessing of regulators — took a more active role in QSPEs.
Specifically, banks invaded the trusts to rework subprime mortgages that were in danger of default, essentially violating current accounting rules. FASB's response was to rewrite FAS 140 to eliminate QSPEs, since the structure could not withstand a credit meltdown the size of the current crisis. "I think [QSPEs] were tolerable until recently," opined FASB chairman Robert Herz in April. He continued that once subprime mortgages were put into QSPEs, they were, "and I'll use the pejorative term, ticking time bombs ... and the bombs started to explode."
FASB members said today that some constituents — particularly financial-statement preparers — complained that the accelerated deadline was unrealistic because it did not allow time for implementation. Banking regulators chimed in that the end-of-year deadline would not leave them enough time to factor in new regulatory capital requirements under the updated accounting rules.
Regulators require banks to hold a certain amount of capital in reserve to protect investors, with the amount based on the assets carried on a bank's balance sheet. The update to FIN 46(R) will likely cause banks to bring billions of dollars of securitized assets back on the balance sheet, thereby triggering new capital requirements.
Further, earlier this month, two trade groups — The American Securitization Forum and the Securities Industry and Financial Markets Association — argued in a letter to FASB that the proposed changes to FIN 46(R) would "swell the balance sheets" of affected companies with losses and shatter loan covenants. The letter also claimed that FASB's "fast-tracked deliberation on Statement 140 and Interpretation 46(R)" will bring sweeping changes to securitization accounting. Most notably, financial services companies, including the troubled mortgage lenders Fannie Mae and Freddie Mac, may be forced to consolidate the results of some or all of their SPEs.
But FASB members were loud and clear about why they agreed to push back the deadline. It was done in response to "practical realities," asserted Thomas Linsmeier. He emphasized that he would have no sympathy for comment letters whose sole purpose was to delay the effective date further.
For his part, Herz said it was clear that the notion of a QSPE was "stretched" during the subprime crisis, and that type of misuse was disappointing because "the system can do better."
Despite voting in favor of the delay and saying that the time issue was a valid consideration, the FASB chairman was not happy about the deferral. "It does pain me to allow something that has been abused by certain folks to go along for another year," said Herz. "Concentration of risk [in QSPEs] was not made clear .... People viewed those risks as remote and immaterial, and they were not."