AbstractFASB has continually issued and revised the consolidation standards over time. The current consolidation guideline has different rules for the accounting for variable interest entities, non-controlling interests, and off-balance sheet transactions. It was developed to discourage the abuse of off-balance-sheet transactions for tax purposes. Consequently, there are different presentation and disclosure requirements for variable interest entities, non-controlling interests, and off-balance sheet transactions.
Final Project Advanced Accounting
In the past, most special purpose entities were structured in such a way that they were not required to consolidate the investments on the investor’s financial statements under the existing guidance. Most publicly traded entities took advantage of the situation and used off-balance sheet financial transactions to reduce their tax liabilities (Novogradac, Gray, Letsinger, & Tracy, 2012, p. 122). FASB responded by issuing accounting rules for a new category of entities called variable interest entities to discourage the accounting abuses related to off-balance sheet transactions. It also issued revised consolidation accounting rules whose primary driving criteria was control. The presentation and disclosures related to variable interest entities, non-controlling interest, and off-balance sheet transactions are discussed in the present essay. The implications that the disclosures may have to the readers of the financial statements are also discussed in the essay.
Variable Interest Entities
The consolidation of VIE is addressed in ASC 818-10. A variable interest entity is a legal entity that is subject to consolidation according to the provisions subtopic ASC 810-10. The VIE model scopes all reporting entities to its disclosure requirements. The model requires both public and non-public reporting entities to prepare the relevant disclosures. It requires both the primary beneficiary of a variable interest entity and the reporting entity with an interest in the VIE to disclose critical information on the reporting entity’s involvement with the VIE (PWC, 2013, p. 7-3). The primary beneficiary is required to disclose information such as the qualitative and quantitative information about its involvement with the VIE and the methodology used to determine the primary beneficiary, which is inclusive of all the significant judgments and assumptions. The beneficiary should also disclose the carrying amounts and the classification of the consolidated VIE’s assets and liabilities, including the qualitative information about the relationship between the assets and their associated liabilities. Other are the terms of arrangement that may require the beneficiary to support the VIE financially, the amount of gain or loss on initial consolidation of the VIE if the primary beneficiary is not a business, and whether the conclusion to consolidate the VIE has changed, the causes of the change, and their effects on the financial statements.
The reporting entity with an interest in a VIE should disclose the carrying amount and classification of the VIE’s assets and liabilities in its balance sheet and the liquidity arrangements, guarantees, and other third party commitments that may affect the fair value of its variable interest in the VIE (FASB, 2009, p. 26). It should also disclose the significant factors considered and the judgments made if power is determined to be shared, its maximum exposure to loss due to the involvement in the VIE, how the it determines the maximum exposure, and the significant sources of its exposure to the VIE. The entity should also disclose the qualitative and quantitative information about its involvement with the VIE, which should include factors such as nature, purpose, size, activities, and the financing of the VIE (FASB, 2009, p. 28). Additionally, the entity should disclose whether the conclusion to consolidate the VIE has changed in a period, the causes of the changes, and the effects of the changes on the financial statements.
The presentation of VIEs in consolidation is addressed in ASC 810-10-45-25. The section requires reporting entities to present separately on the face of the statement of financial position the assets of a consolidated VIE that can be used only to settle the debts and obligations of the consolidated VIE and the liabilities of a consolidated VIE for which creditors do not have recourse. It is worth noting that the assets and liabilities of the VIE are presented on a gross basis. Therefore, the liabilities of a VIE should not be netted against its assets (PWC, 2013, p. 7-4). Consequently, the liabilities of a VIE should not be combined into a single line item in the statement of financial position unless another accounting standard specifically permits this.
A non-controlling interest arises when a company has one or more less-than-wholly-owned subsidiaries. It is also referred to a minority interest and relates to the portion of the equity of the less-than-wholly-owned that is not attributable, both directly and indirectly, to the parent company. The non-controlling interest is part of the equity of the consolidated group. The disclosure requirements for noncontrolling interests are classified into two; the disclosure needs of a parent with a non-controlling interest in a subsidiary and the disclosure needs of a parent whose subsidiary is deconsolidated (FASB, 2007, p. 38). A parent with a non-controlling interest in a subsidiary should disclose the consolidated net income, consolidated comprehensive income, and the portions or amounts of each that are attributable to the parent company and the non-controlling interest. The disclosure should be made on the face of the financial statements. It should also disclose in the notes to the financial statement or on the face of the consolidated income statement the amounts attributable to the parent for the income from continuing operations, discontinued operations, and extraordinary times. The parent company should also disclose on either the consolidated statement of changes in equity or the notes to the consolidated financial statements a reconciliation of the carrying amounts of total equity, equity attributable to the parent, and the equity attributable to the non-controlling interest (FASB, 2007, p. 38). It should ensure that the reconciliation discloses the net income, all the components of other comprehensive income, and all the transactions with the owners acting in their capacity as owners. Finally, the parent company should disclose the effects of any changes in its ownership interest in the subsidiary. The disclosure should be done on the note to the consolidated financial statements.
A parent whose subsidiary has been deconsolidated should disclose the amount of gain or loss recognised due to the deconsolidation and the portion of any gain or loss related to the re-measurement of any retained interest in the former subsidiary. The disclosures should be made on the face of the income statement.
Off-balance Sheet Transactions
Off-balance sheet transactions refer to some kinds of interests, obligations, and risks, which are not apparent in the face of an entity’s financial statements (Covington & Burling, 2003, p 2). They are contractual arrangements with unconsolidated entities under which the registrant has either obligation under specified types of guarantee contracts, arrangements that provide credit, market risk, or liquidity to the unconsolidated entity, obligations under specified types of derivative instruments, or obligations that are material to the registrant.
Companies must disclose all the off-balance sheet transactions that have current or future effects on the consolidated financial position. They must disclose all the information necessary to understand their off-balance sheet transactions and their effects on the financial position (Covington & Burling, 2003, p 2). Some required disclosures include the nature and purpose of the off-balance sheet transactions and their liquidity, capital resources, market or credit risk, and any other benefits. Other are the financial impacts of the transactions and the extent to which they expose the group to risks, and all the known events, demands, commitments, trends, and uncertainties that affect the availability of the off-balance sheet transactions to the group (Covington & Burling, 2003, p 3). Off-balance sheet disclosures must be presented in a succinct and comprehensible language and format. Additionally, they must be given in a separate section of the MD&A.
Implications of the Disclosures to Readers of Financial Statements
The disclosures of variable interest entities, non-controlling interests, and off-balance sheet transactions have both positive and negative consequences to users of the financial statements. For instance, the disclosures communicate meaningful information, which increases the confidence that readers have in the financial statements (EY, 2014, p. 2). However, the disclosures may increase the volumes of data in the financial statements. Some investors and users of the financial statements may not be capable of analysing high volumes of data.
The various disclosure and presentation requirements for variable interest entities, non-controlling interests, and off-balance sheet transactions have been discussed in the present essay. The different standards have made it difficult for entities to abuse off-balance sheet transactions for tax purposes, which was the case before FASB intervened.
- Covington & Burling,. (2003). Off-Balance Sheet Arrangements and Contractual Obligations (1st ed.). Retrieved from https://www.cov.com/files/upload/Off-Balance%20Sheet%20Arrangements%20&%20Contractual%20Obligations.pdf
- EY,. (2014). Disclosure effectiveness (1st ed.). Retrieved from http://www.ey.com/Publication/vwLUAssets/EY-disclosure-effectiveness-what-companies-can-do-now/$FILE/EY-disclosure-effectiveness-what-companies-can-do-now.pdf
- FASB,. (2007). Noncontrolling Interests in Consolidated Financial Statements (1st ed.). Retrieved from http://www.fasb.org/cs/BlobServer?blobcol=urldata&blobtable=MungoBlobs&blobkey=id&blobwhere=1175820919516&blobheader=application/pdf
- FASB,. (2009). Improvements to Financial Reporting by Enterprises Involved with Variable Interest Entities (1st ed.). Retrieved from http://www.fasb.org/cs/BlobServer?blobcol=urldata&blobtable=MungoBlobs&blobkey=id&blobwhere=1175820006385&blobheader=application/pdf
- Novogradac, M., Gray, O., Letsinger, D., & Tracy, T. (2012). Novogradac New Markets Tax Credit Handbook (3rd ed.). Novogradac & Company LLP.
- PWC,. (2013). Guide to Accounting for Variable Interest Entities (1st ed.). Retrieved from http://www.pwc.com/us/en/cfodirect/assets/pdf/accounting-guides/pwc_variable_interest_2013.pdf