SFAS 157 Fair Value Measurements – Additional Not-for-Profit Perspectives
Now that SFAS 157 has been in effect for a while, it is worthwhile to discuss a few practical issues that often arise during its implementation.
First a few reminders:
Nonprofit organizations use fair value accounting when they are:
(1) required by certain accounting standards to use fair value for certain transactions and balances, and
(2) permitted by certain other accounting standards to use fair value for certain other transactions and balances,
Determination of fair value is governed by Statement of Financial Accounting Standards (SFAS) No. 157, Fair Value Measurements, (now codified in Topic 820 of the FASB Accounting Standards Codification (ASC)) and its several related FASB staff positions. It is important to remember that SFAS 157 does not itself ever mandate the use of fair value accounting.
SFAS 157 mentions three valuation techniques:
• market for identical or comparable items
• future income (discounted)
• replacement cost.
and three levels of a hierarchy of inputs:
• Level 1 (para. 24-27) – quoted prices in active markets for identical items
• Level 2 (para. 28-29) – observable inputs other than quoted market prices
• Level 3 (para. 30) – unobservable inputs.
Nonprofits are especially likely to need to apply this statement in connection with:
• Non-cash contributions received and made, (includes both items which will be capitalized on the balance sheet, and donated services and use of property which flow through the income statement), per SFAS 116 (ASC 958-605)
• Non-marketable (so-called ‘alternative’) investments, per Chapter 8 of the audit guide (ASC 958-325)
• Acquisition accounting under SFAS 164 (ASC 958-805) for a combination, and
• Any asset or liability for which the fair value option is elected under SFAS 159 (ASC 825).
Balance sheet items for which SFAS 159 is most likely to be elected, and which are likely to require additional effort to determine their fair value, are pledges and loans receivable and payable. For long-term receivables and payables discounted to present value under APB 21 (ASC 835), the effect of using fair value is to unfreeze the interest rate used to compute the discount. Under APB 21 the interest rate is set at the inception of the agreement and is not changed over the life of the agreement; under SFAS 157 the interest rate is adjusted each period to a current rate.
Non-cash contributions are required to be valued at fair value by SFAS 116, and, even if alternative investments are not reported at fair value in the balance sheet, SFAS 107 (ASC 825) may require disclosure of their fair value in a footnote.
FASB is also considering further changes in measurement principles for financial instruments generally. At a meeting in July, 2009, the Board agreed to propose a model to improve financial reporting for financialinstruments.
The Board reached the following decision:
... to propose that all financial instruments will be presented on the balance sheet at fair value with changes in value recognized in net income or other comprehensive income with an optional exception for [its] own debt in certain circumstances, which will be measured at amortized cost. ....
The main effect of this proposal will be to change SFAS 115 applicable to for-profit organizations. However it would also presumably remove the options for reporting non-SFAS 124 investments (see ASC 958- 325) that nonprofits now have, under the AICPA audit guide for not-for-profits, to use either fair value or another method (the other method - either cost or the lower of cost or fair value - varies depending on what type of organization is involved).
AICPA Issues Paper - In January 2010, the AICPA issued a draft of an issues paper designed to provide practical guidance in implementation of the fair value standards in SFAS 157 (ASC 820-10-35) as they apply to three areas peculiar to nonprofits:
• Pledges (promises to give)
• Beneficial interests in perpetual third-party trusts
• Split-interest agreements such as lead trusts, remainder trusts, and charitable gift annuities
Parts of this paper are fairly straightforward; parts of it are very theoretical. Briefly, with respect to:
I. - Pledges, it observes that two of the three methods of measuring fair value (cost and market) are not going to be useful or practical to use for pledges. By elimination, the present value of future cash flows approach is the one that is normally going to be used, which is consistent with existing practice. The paper discusses the determination of an appropriate discount rate and its relation to the assessed risk of collectibility of the pledge.
II. - Perpetual trusts, it refers to the guidance in Chapter 6 of the AICPA audit guide for not-for-profits, which indicates that the fair value of the beneficial interest is normally best measured by the fair value of the assets in the trust, absent indications to the contrary.
III. - Split-interests, it includes a lengthy theoretical discussion of the various aspects of measuring these agreements. The subject is complicated by the great variety of types of agreements, the variety of payment schemes contained in such agreements, the need to value both the assets and the liability under the agreements, and the number of variables affecting the value such as: life expectancy, discount rate, estimates of future return on the trust assets, type and potential variability of payments to the life tenant, valuation of the assets underlying the agreement, form of trust management (i.e., sometimes the charitable beneficiary is also the trustee; sometimes not), etc.
Comments on the draft were due in March.
For more information contact Dick Larkin, Director, Institute for Nonprofit Excellence at dlarkin@bdo.com.
Information courtesy:
