In mid-January 2013, the Financial Accounting Standards Board (FASB) proposed changing financial reporting for repurchase agreements, also known “repos”. FASB is seeking comments on its proposal by March 29.
This is FASB’s second change to repo agreement accounting in the last two years. The change indirectly occurs from the poor accounting practices for repo agreements used by Lehman Brothers, in which massive debt was removed from Lehman’s balance sheet. This article provides additional information regarding the Lehman repos and related misreporting.
The proposed change clarifies the distinction between transactions that are sales that can be moved off the balance sheet, and on-balance sheet secured borrowings. If adopted, the proposal will require more repos to remain on the balance sheet as short-term borrowings. Current rules require the transferor to treat the transaction as a secured borrowing if a contemporaneous forward agreement exists to repurchase the same or “substantially the same” asset at a fixed price from the transferee before its maturity. But, under this rule, a transferor can record a sale (and thus remove the transaction from the balance sheet) if a transferor will not recover the transferred asset at the conclusion of the agreement because the underlying asset has already matured.
Under the new proposal, one would need to evaluate whether the transferor maintains “effective control”. The proposal would eliminate the current maturity-based distinction and require secured borrowing accounting regardless of whether the transferred asset will mature.