As a result of the Coronavirus pandemic, lenders may have had to restructure and modify debt agreements with borrowers.
The accounting guidance provides two possible methods to treat these debt modifications. The Financial Accounting Standards Board (FASB) provides guidance on determining whether the modification or exchange is treated as a troubled debt restructure (TDR), FASB Subtopic 470-60, or a non-troubled modification or exchange, FASB Subtopic 470-50. Some factors to consider to determine if accounting application for a debt modification exists includes but are not limited to:
• Extending maturity date at a stated interest rate lower than current rate
• Reduction of stated interest rate for the remaining term
• Reduction of the face amount or maturity amount of debt
• Amending debt covenants
A TDR exists when the borrower is experiencing financial difficulties and the lender has granted a concession to the borrower. Such factors that may be evidence of financial difficulty include but are not limited to:
• Borrower has filed bankruptcy,
• Borrower has not remitted timely payments to the creditor or is in default of a loan.
• Future cash flows are insufficient to cover debt
• Securities are delisted on an exchange
A concession has been granted when the borrower’s effective borrowing rate on the restricted debt is less than the effective borrowing rate on the original debt.
Why Does This Matter?
The effect on the entity’s statement of operations and statement of financial condition depends on the nature and extent of a debt modification. The accounting treatment will depend on if the TDR involves modification of terms of the debt arrangement and if the undiscounted future cash payments under the terms of the new arrangement are greater or less than the total carrying amount of the old debt. The borrower recognizes a gain from the restructured debt equal to the difference between the carrying amount of the old debt and the total future undiscounted cash payments specified in the terms of the new debt.
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