NORWALK, Conn. – The wording surrounding when and how securitiescan be sold to meet liquidity needs or are used as part of a creditunion's risk management program is up for interpretation under aFinancial Accounting Standards Board (FASB) proposal. Under its“The Meaning of Other-Than-Temporary Impairment and Its Applicationto Certain Investments” EITF Issue 03-1-1, FASB providesimplementation guidance with respect to debt securities that areimpaired solely due to interest rates and/or sector spreads. FASBsought comments on whether the application guidance with respect to“minor impairments” should also be applied to securities analyzedfor impairment under paragraphs 10-15 of Issue 03-1. That issue of“minor impairments” is not easily defined. In a Oct. 29 commentletter, NAFCU President/CEO Fred Becker said it “agrees that minorimpairments can be considered temporary without further analysisbecause normal interest rate and/or sector spread volatilityeliminates the impairments.” But it does not support defining aminor impairment by creating a bright-line test because it couldcreate artificial assumptions about the volatility of the interestrate. “The degree of volatility is relative to the characteristicsof the security and the institution's asset-liability managementpractices,” Becker wrote. “However, NAFCU does support FASBproviding guidance and examples of minor impairments for differenttypes of securities, in order to achieve uniform compliance withthe standard.” There are circumstances that “do not call intoquestion the investor's ability or intent to hold securities torecovery when the investor has sold another security that it hadpreviously asserted its ability and intent to hold to recovery,”Becker noted. But a credit union's unexpected changes in liquidityneed or unexpected increases in interest rates would require it todivest itself of certain securities, but not all securities in aportfolio, he added. “This type of portfolio management should bepermitted to continue without fear of a `taint' on the entire classof securities,” Becker wrote. The Association of Corporate CreditUnions feels that the proposal should “specifically limit therequirement of an investor to assert the intent and ability to holdthe securities in unrealized loss positions until recovery to thosesituations where the decline in market value below cost is causedby severe credit deterioration,” wrote Michael Canning, ACCUexecutive director in a Oct. 28 comment letter. “If the decline issolely due to changes in interest rates, no impairment charge needsto be made if a company asserts that it has the ability and intentto hold the security for a sufficient period of time to allow forrecovery of fair value up to or beyond the cost of the investment,”Canning wrote. The value fluctuations of available-for-sale (AFS)securities are recorded as unrealized gains and losses directly inequity, in an account known as accumulated other comprehensiveincome (“AOCI”), he explained. “Corporates periodically sell someof these impaired securities in order to manage their businesses,and it is not uncommon for them to change their intentionsregarding some AFS securities when considering ALM or hedgingstrategies in light of changes in the market, economy or otherpredictable factors,” Canning pointed out. In defining “minorimpairments,” the ACCU believes the auditors and financialstatement preparers will be able to apply the notion without anyadditional guidance from FASB. “Although, we do believe a thresholdof 5% is too low based on historic trends a threshold around 10%would be more appropriate,” Canning wrote. “Security pricing canexperience potential volatility over time and if the threshold istoo low it may inadvertently reflect a temporary rather than along-term change.” Canning said the selling of impaired securities“seems to be the triggering event for much of the confusionsurrounding what we perceive to be a misapplication of EITF 03-1.”“Many financial institutions are being told by their auditors thatthe sale of impaired securities will likely lead to a determinationthat the entire portfolio is “tainted,” because the financialinstitution appears to have developed a pattern of sellingsecurities for which it previously asserted that it intended tohold until full recovery,” Canning wrote. “We are concerned aboutthe ambiguous meaning that is being attributed to the word“pattern” in this context.” About $1.69 trillion of securities maybe subject to the rule, according to the Federal Deposit InsuranceCorp. FASB will continue to take comments on the proposal. -

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