The Financial Accounting Standards Board (“FASB”), the rule-making body for U.S. generally accepted accounting principles (“GAAP”), has recently issued 3 accounting alternatives for non-public companies that were proposed by the FASB’s Private Company Council. Prior to these, all companies had similar requirements, regardless of whether they were publicly traded or not.
These alternatives will help simplify accounting and financial statement reporting requirements for many dealers when issuing GAAP based financial statements. A summary of the new alternatives:
- Variable Interest Entity Accounting Alternative
Dealers that own a real estate company that lease the land and building back to a dealership can, in most cases, now remove the real estate company from the dealership’s financial statement; thus, that entity may no longer be required to be consolidated with the dealership operations.
- Goodwill Accounting
Dealerships can now amortize goodwill over 10 years where as previously goodwill could not be amortized and dealerships had to do a complex impairment test each year.
- Hedge Accounting
Dealerships that have an interest rate swap with a bank may find accounting and valuing of the swap is easier under this new alternative.
- Variable Interest Entity Accounting Alternative
A common financial statement reporting challenge for dealers can occur when the dealership leases its facilities from a real estate company that is also owned by the owner of the dealership. This arrangement has typically resulted in the classification of the real estate company as a Variable Interest Entity (“VIE”) under GAAP. The dealership is then required to consolidate the real estate company into the dealership. The new accounting alternative, ASU 2014-07, can be applied by dealerships that are not part of a publicly traded group. The alternative is an accounting policy election that permits a private company lessee NOT to apply variable interest entity (VIE) guidance to a lessor entity when the following criteria are met (the following scenarios are very common in the dealership industry):
- The private company lessee (the reporting entity) and the lessor legal entity are under common control.
- The private company lessee has a lease arrangement with the lessor legal entity.
- Substantially all activities between the private company lessee and the lessor legal entity are related to leasing activities (including supporting leasing activities) between those two entities.
- If the private company lessee explicitly guarantees or provides collateral for any obligation of the lessor legal entity related to the asset leased by the private company, the principal amount of the obligation at inception of such guarantee or collateral arrangement does not exceed the value of the asset leased by the private company from the lessor legal entity.
If elected, the accounting alternative must be applied by the private company to all lessor entities meeting the above criteria. Lessor entities within the scope of the alternative still need to be evaluated for consolidation under other applicable accounting guidance such as ASC Subtopic 810-20 related to control of partnerships and similar entities.
Although not required to evaluate the lessor entity under VIE guidance if the criteria in the ASU are met, the private company lessee is required to make certain disclosures about its relationship with the lessor entity, including:
- Accounting for Goodwill
This new accounting standard, ASU 2014-02, allows dealerships that are not part of a publicly traded group to elect an accounting alternative to simplify the accounting for goodwill after initial measurement and recognition. The main provisions are as follows:
- Allows amortization of goodwill on a straight-line basis over 10 years, or less than 10 years if the entity demonstrates another useful life is more appropriate.
- Provides an alternative model for evaluating and testing goodwill for impairment, including testing only upon occurrence of a triggering event.
- Effective prospectively for the first annual period beginning after December 15, 2014. If a company chooses to adopt this accounting alternative, amortization of goodwill would begin on January 1 of the year of adoption, starting with the full goodwill balance (carryback of amortization to prior periods is not permitted).Early application is permitted for any annual or interim period for which an entity’s financial statements have not yet been made available for issuance (e.g. 2013 financial statements not yet made available for issuance).
- All provisions of the alternative must be elected (e.g. cannot elect the impairment alternatives without electing the amortization alternative).
- Simplified Hedge Accounting
This new accounting standard, ASU 2014-03, allows all dealerships that are not part of a publicly traded group to elect an accounting alternative to use the simplified hedge accounting approach to account for receive-variable, pay-fixed interest rate swaps that are entered into for the purpose of economically converting a variable-rate borrowing into a fixed-rate borrowing.
The main provisions of the accounting alternative are as follows:
- Provides a practical expedient method allowing an entity to assume no ineffectiveness in the hedge in order to qualify for cash flow hedge accounting under Topic 815, Derivatives and Hedging.
- Documentation of interest rate effectiveness required by GAAP can be completed through the date the financial statements are available to be issued after hedge inception rather than concurrently at hedge inception.
- Effective for annual periods beginning after December 15, 2014, and interim periods within annual periods beginning after December 15, 2015. A modified retrospective or full retrospective approach to adoption is permitted. Early adoption is permitted for any annual or interim period for which an entity’s financial statements have not yet been made available for issuance (e.g. 2013 financial statements not yet made available for issuance).
In order to qualify for the simplified hedge accounting alternative all of the following conditions must be met:
- The variable rate on both the swap and the borrowing are based on the same index (e.g., LIBOR) and reset period (e.g., 1 month). Entities are not limited to “benchmark interest rates”.
- The terms of the swap are “plain vanilla” and there is no floor or cap on the variable interest rate of the swap unless the borrowing has a comparable floor or cap.
- The repricing and settlement dates for the swap and borrowing are the same or differ by no more than a few days.
- The swap’s fair value, when entered into, is at or near zero.
- The notional amount of the swap is less than or equal to the principal amount of the hedged borrowing.
- All interest payments on the variable-rate borrowing during the term of the swap are designated as hedged either in total or in proportion to the principal amount of the borrowing being hedged. The alternative can be applied on a swap-by-swap basis for both existing swaps and swaps entered into after the date of adoption.
About the Dixon Hughes Goodman Dealer Services Group: The Dealer Services Group of Dixon Hughes Goodman has a team of dedicated professionals working exclusively with dealerships across the country. We represent dealerships in all 50 states, serving dealership groups of all sizes, including half of the top 10 dealership groups in the country. Providing our clients with industry thought leaders in our Assurance, Tax and Risk Service Groups, we consult on best practices to help maximize efficiencies, decrease costs and understand risk management. Dealerships need an independent CPA firm to provide an objective view to take their business to the next level. At Dixon Hughes Goodman, we deliver on both sides of the service equation - a fact you might find a plus.
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