Companies shouldn't rush to adopt new hedge accounting standard

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The Financial Accounting Standards Board released its long-awaited hedge accounting standard this week, but companies may want to be careful about adopting it early, or else they could miss out on some one-time benefits.

The accounting standards update for hedging, which FASB issued Monday, takes effect for public companies in 2019 and private companies in 2020 (see FASB releases hedge accounting standard). But FASB is also allowing early adoption for companies if they want to begin using it right away.

“Make sure you don’t rush to early adoption, and that you do actually take full advantage of all the transition elections you may have,” said Jon Howard, senior consultation partner in the accounting services group for financial instruments in Deloitte’s national office.

He acknowledged that many entities are going to want to adopt the standard early because it does ease some complicated processes.

“It’s not just for new hedges, but at the point of adoption you can make changes to some of your hedging strategies,” Howard pointed out. “You do get an opportunity to reclassify some securities from held to maturity to available for sale, in certain scenarios. But you get one bite of the apple, so I think companies, while they want to early adopt, they want to make sure they get the most benefit from these one-time transition elections.”

He is hearing that many companies will wait until next year to adopt the standard. “They’ll adopt it a year early, and some may adopt it earlier than that,” said Howard. “But for the most part we’re hearing people are making sure they get the controls in place for the new disclosures and for being able to do these qualitative assessments and figure out when they then have to rerun the math, making sure they can apply the standard when they early adopt it and get all the benefits of the transition.”

For the most part, the new standard has been well received, according to Howard. “Hedge accounting is very complicated,” he said. “It led in the past to restatements and a few errors, and certain people may have even decided it wasn’t worth the trouble to try to get hedge accounting. They would have derivatives, but they would just let them be mark to market through the income statement and not bother with hedge accounting. I think what FASB did with their outreach in simplifying was a big step in the right direction as far as making it easier to do hedge accounting, making the ongoing requirements easier as far as what you have to do timewise on day one.”

The hedge accounting process has been overly complicated for many companies to do. “If you do hedge accounting, then you’ve got to show a hedge is going to be highly effective, and usually you’ve got to do some math to show it’s going to fit that criteria,” said Howard. “Today, pre-adoption, you’ve got to have that all done before you can start hedge accounting. They’re giving people relief on that front, to give them three months until the end of the quarter, or until the end of the hedging relationship, whichever comes first, but you can do the math later. And you may not have to do it every quarter like you do today. Pre-adoption, I’d have to do this every quarter, so if I have a five-year hedge, I’ve got to keep running the math every quarter to make sure that I’m still meeting that 80 to 125 highly effective criteria. And if it’s a really, really good hedge, they’re allowing you to sort of qualitatively assess every period.”

FASB’s new standard eases some of those onerous requirements. “They’re making the requirements as far as what you have to do on day one and what you have to do on an ongoing basis a little bit easier,” said Howard. “Then they’re also allowing for a lot of hedging strategies that aren’t even allowed in the standard today as far as how you define what risks you are hedging to align more with what entities are doing for business reasons.”

The new standard has been eagerly anticipated by many companies. “People have been waiting for this to come out,” said Howard. “I don’t think anybody is going to say this is a bad thing. Would some people have wanted it to go father? Maybe in some areas, but generally speaking this has been very positively received.”

FASB also took steps to address the concerns of privately held companies, taking into account some of the feedback it heard from the Private Company Council.

“They do have some even more relaxed requirements on when you have to put together your documentation,” said Howard. “In terms of the math test, the highly effective hedge assessment test, everybody else has to do it by the end of the quarter. For the private companies they get a little bit longer. It’s basically when you’re going to prepare your next set of financials. Unless you do interims, you can get a little bit longer potentially. It is easier for everybody, and they are being sensitive to the private companies too.”

The hedge accounting standard was originally part of the financial instruments convergence project with the International Accounting Standards Board before FASB parted ways with the IASB on convergence. But despite the differences in how hedge accounting is treated in IFRS 9, Howard believes the new hedging standard more closely aligns U.S. GAAP with International Financial Reporting Standards.

“Today, even before the standard they weren’t converged,” he noted. “They did try to work together for a little while. I would say there is a difference today. This will bridge the gap a little bit. Some of the concepts are similar, but there will still be some differences. But I think hedge accounting under U.S. GAAP will maybe line up better with IFRS. Under IFRS people are probably applying hedge accounting to strategies that today won’t be allowed until you adopt the new standards, so it should get us closer.”

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Accounting standards Financial reporting Hedging FASB Deloitte