SEC Urged to Overrule FASB Fair Value Accounting Interpretation

The American Bankers Association has asked the SEC to override recent FASB guidance on fair value accounting, FAS 157-3, and replace it with guidance clarifying that fair value in an illiquid market does not include forced or distressed sales. Adopted to deal with the market turbulence, FAS 157-3 changes FAS 157 to allow reclassifications Events are moving quickly, as the IASB has conformed IFRS to reflect FASB’s changes, and the European Commission has approved the changes.

Both US GAAP and IFRS will now permit entities, in rare circumstances, to reclassify financial instruments that are in the form of securities from their trading portfolio, measured at fair value, to held to maturity, measured at amortized cost and subject to testing for impairment. But reclassification will not be allowed if the fair value option was previously selected. In addition, reclassification to loan category (cost basis) will be permitted if the intention and ability is to hold for the foreseeable future (loans) or until maturity (debt securities).

Describing FAS 157-3 as circular, the ABA said that FASB still refuses to recognize the realities of current markets. While FAS 157-3 begins with improved guidance on the ability to use judgment and the fact that forced liquidations or distressed sales do not represent genuine fair value, 157-3 then requires that liquidity risk from the buyer’s perspective be included in the cash flow calculation. This requirement brings the guidance full circle back to distressed values. The use of distressed sales prices represents neither genuine fair value nor provides useful information to users of financial statements.

The SEC should consider if issuers and their auditors can actually apply the guidance, which is required for third quarter financial statements. In addition to overruling the guidance, the ABA urges the SEC to provide guidance on other than temporary impairment, which FAS 157-3 did not address. The SEC is also asked to suspend the proposal on accounting for securitization, as well as suspend work by standard setters on any projects requiring fair value in any future accounting standards pending Congressional review of the study mandated by the Emergency Economic Stabilization Act.