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Derivatives and Hedging

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ASC 815 (formerly FAS 161) issued by the Financial Accounting Standards Board (FASB) has been in effect since November 2008.ASC 815 derivatives and hedging mandates that an entity identify derivative instruments, including specific derivative tools embedded in other contracts, either as assets or liabilities in the financial position statement and value the same at fair value. However, the ability to apply hedge accounting is not obligatory. If a derivative identifies as a hedge, then the gains or losses arising from the result will match or offset the profits or losses from theunderlying transaction’s value.

To qualify for hedge accounting, ASC 815 sets out rules and procedures for hedge effectiveness testing. Whenthe derivative is found ineffective, it is marked-to-market (MTM) in the companies’ earnings.

ASC 815 requires explanatory disclosures about an entity’s activities undertaken for derivatives and hedging, thereby improving financial reporting transparency. Specifically, when an entity uses derivative appliances, the accounting of derivative instruments and related hedged items under FAS 133 and its associated interpretations, how an entity’s financial performance, financial condition and cash flows are affected by the derivative instruments and related hedged items.

On August 28, 2017, the FASB finished its accounting for financial appliances, i.e., a hedging project by issuing accounting standards update No. 2017-12, derivatives and hedging (ASC 815, i.e.,targeted improvements to accounting for hedging activities. The new guidance improves hedging relationships’ financial reporting, resulting inbetter disclosure of an entity’s threat management activities’ financial results in its financial statements. The update amendments also make specifically targeted improvements to easeapplying the hedge accounting guidance in current GAAP.

In effect, the new guidance facilitates the following:

  • Removal ofa separatevaluation and reporting of hedge ineffectiveness;
  • Allowance of more risk components to qualify for hedge accounting such as the variation in cash flows outstanding to change in a contractually specified part of a forecasted acquisition or disposal of a non-financial asset or the contractually fixed interest rate a variable-rate financial instrument;
  • Securities Industry and Financial Markets Association (SIFMA) switch rate to the allowable standard rate of interest is in the United States;
  • Amendment to the valuation methods for calculating the fenced item’s fair value’s changeis inappropriateto value interest rate risk fences;
  • Introduction of the “last-of-layer” method for hedges of portfolios are for pre-payable financial assets;
  • Allowance an entity not to includeassessing effectiveness as part of the change in fair value of a currency swap explicable to a cross-currency basis spread;
  • Allowance an entity to identify in earnings the initial value of amounts not included in assessing effectiveness with a systematic and rational method over the hedging instrument’s life;
  • The identification and disclosure of the impacts of the hedging instrument and the hedged item in the financial statements to enhance the understandability of the results of an entity’s risk management activities. An entity is now required to reveal the hedging instrument’s earnings effect in the same statement of the operations line item. The earnings effect of the hedged object is recognized;
  • Amendment tothe existing statement of operations disclosures to examine the impacts of accounting for a hedgeon separate line items in operations statements; and
  • Thenew balance sheet disclosures are related to the fair value hedge basis adjustments.
  • Allow an entity to execute subsequent hedge effectiveness assessments qualitatively for instances where the initial quantitative testing is required.
  • Extension of the date, for all entities,through which the initial prospective quantitative assessment of hedge effectiveness must be executed to the first quarterly effectiveness date using the data applicable to hedge inception.
  • Allowing private companies that are not financial institutions and individuals not-for-profit institutions until the next interim (if applicable) or annual financial statements are available to be issued to perform the initial quantitative and all quarterly effectiveness tests designated by the method of assessing hedge effectiveness.
  • Allowing an entity to presume that the expiry of hedging derivative and the forecasted transactionsco-occurif both the derivative maturity and the forecasted transactions occur within the same 31-day period or fiscal month for purposes of assessing the qualifying criteria for the critical terms match method.
  • Allowing an entity to minute a long-haul method of evaluating effectiveness at the beginning of the hedge that the entity may use if it believes that using the shortcut method was no longer appropriate.

Effective Dates

  1. For public business entities¸, the new guidance came in effect for fiscal years beginning beforeDecember 15, 2018, and interim periods arose between those fiscal years.
  2. The amendments are applicable for all other fiscal years beginning beforeDecember 15, 2020, and interim periods initiate afterDecember 15, 2021.

At AJSH, we assist our clients in bookkeeping, payroll, auditing, taxation, secretarial compliances, and preparation of financial statements ensuring compliance with applicable accounting standards. If you have any questions or wish to know more about submissions with ASC 815 Derivatives and hedging, kindly contact us.


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