Consolidation (Topic 810) - FASB · 11/3/2011 · Consolidation (Topic 810): Amendments for Certain Investment Funds. Update 2010-10 indefinitely deferred the effective date of the

Consolidation (Topic 810)

Principal versus Agent Analysis

This Exposure Draft of a proposed Accounting Standards Update of Topic 810

is issued by the Board for public comment. Comments can be provided using the electronic

feedback form available on the FASB website. Written comments should be addressed to:

Technical Director

File Reference No. 2011-220

Proposed Accounting Standards Update

Issued: November 3, 2011 Comments Due: January 17, 2012

The FASB Accounting Standards Codification® is the source of authoritative

generally accepted accounting principles (GAAP) recognized by the FASB to be applied by nongovernmental entities. An Accounting Standards Update is not authoritative; rather, it is a document that communicates how the Accounting Standards Codification is being amended. It also provides other information to help a user of GAAP understand how and why GAAP is changing and when the changes will be effective.

Notice to Recipients of This Exposure Draft of a Proposed Accounting Standards Update

The Board invites comments on all matters in this Exposure Draft and is requesting comments by January 17, 2012. Interested parties may submit comments in one of three ways:

Using the electronic feedback form available on the FASB website at Exposure Documents Open for Comment

Emailing a written letter to [email protected], File Reference No. 2011-220

Sending written comments to ―Technical Director, File Reference No. 2011-220, FASB, 401 Merritt 7, PO Box 5116, Norwalk, CT 06856-5116.‖

Do not send responses by fax.

All comments received are part of the FASB’s public file. The FASB will make all comments publicly available by posting them to the online public reference room portion of its website. An electronic copy of this Exposure Draft is available on the FASB’s website.

Financial Accounting Standards Board

of the Financial Accounting Foundation 401 Merritt 7, PO Box 5116, Norwalk, Connecticut 06856-5116

Copyright © 2011 by Financial Accounting Foundation. All rights reserved. Permission is granted to make copies of this work provided that such copies are for personal or intraorganizational use only and are not sold or disseminated and provided further that each copy bears the following credit line: ―Copyright © 2011 by Financial Accounting Foundation. All rights reserved. Used by permission.‖

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Proposed Accounting Standards Update

Consolidation (Topic 810)


November 3, 2011

Comment Deadline: January 17, 2012

CONTENTS

Page Numbers

Summary and Questions for Respondents ........................................................ 1–9 Amendments to the FASB Accounting Standards Codification

® ................. 11–137

Background Information and Basis for Conclusions .............................. …138–148 Amendments to the XBRL Taxonomy ............................................................... 149

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Summary and Questions for Respondents

Why Is the FASB Issuing This Proposed Accounting Standards Update (Update)?

In June 2009, the Board issued FASB Statement No. 167, Amendments to FASB Interpretation No. 46(R) (subsequently codified by Accounting Standards Update No. 2009-17, Consolidation [Topic 810]: Improvements to Financial Reporting by Enterprises Involved with Variable Interest Entities), which requires a reporting entity to perform a qualitative evaluation of its power and economics to determine whether it should consolidate a variable interest entity. Before the effective date of Statement 167, the consolidation analysis for variable interest entities primarily focused on a quantitative assessment of the reporting entity’s exposure to the economic variability of the entity.

As a result of the amendments in Statement 167, investment managers and other similar entities would have been required to consolidate certain funds that they manage. Some users and preparers of financial statements of investment managers expressed concerns with this outcome. At the same time, the International Accounting Standards Board (IASB) was developing a consolidation standard that was expected to yield similar consolidation conclusions as Statement 167 for most variable interest entities but that yielded different conclusions for investment funds that are variable interest entities. In response to this potentially different consolidation conclusion, as well as the concerns from users and preparers of financial statements of investment managers, the Board issued in February 2010 Accounting Standards Update No. 2010-10, Consolidation (Topic 810): Amendments for Certain Investment Funds. Update 2010-10 indefinitely deferred the effective date of the consolidation requirements in Statement 167 for certain entities, allowing the FASB and the IASB to develop converged guidance for evaluating whether a decision maker is using its decision-making authority (power) as a principal or an agent and whether it should consolidate another entity.

The amendments in this proposed Update would rescind the indefinite deferral in Update 2010-10 and would require all variable interest entities to be evaluated for consolidation under the revised guidance. The revised guidance would clarify whether a decision maker is using its power as a principal or an agent. This analysis affects the determination of whether the entity is a variable interest entity and, if so, whether a reporting entity should consolidate the entity being evaluated.

In addition, when Statement 167 was issued, the Board acknowledged that the requirements in Statement 167 for evaluating kick-out and participating rights were not consistent with other U.S. generally accepted accounting principles (GAAP) (for example, while the consolidation guidance for a partnership that is

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not a variable interest entity considers the existence of substantive kick-out or participating rights, the consolidation analysis resulting from Statement 167 does not consider kick-out or participating rights, unless one party has the unilateral ability to exercise those rights). At the time, the Board decided to address that inconsistency in a subsequent project that reconsidered consolidation accounting more broadly. The amendments in this proposed Update would alleviate that inconsistency.

Who Would Be Affected by the Amendments in This Proposed Update?

The proposed amendments in this Update would affect all reporting entities that are required to evaluate whether they should consolidate another entity. The proposed amendments are expected to most significantly affect the financial reporting of entities that are involved with variable interest entities. The proposed amendments also would change the evaluation of whether an entity is a variable interest entity. Accordingly, entities that historically were not evaluated under the Variable Interest Entities Subsections of Subtopic 810-10 may be required to be evaluated for consolidation under that guidance, while other entities may no longer be required to be evaluated under that guidance. Finally, the proposed amendments would change the requirements for determining whether a general partner controls a limited partnership and, therefore, could affect reporting entities that are involved with partnerships and similar entities. In addition, the proposed amendments would change the evaluation of participating rights held by noncontrolling shareholders.

What Are the Main Provisions?

Variable Interest Entities

A reporting entity must determine whether it has a variable interest in the entity being evaluated for consolidation and whether that entity is a variable interest entity. Subtopic 810-10 currently provides criteria that must be evaluated to assess whether a decision-making arrangement represents a variable interest in an entity. Under the current requirements, if a reporting entity concludes that a decision-making arrangement represents a variable interest, then the decision maker is not an agent. This could affect the conclusion as to whether the entity is a variable interest entity. Specifically, the analysis of whether a decision-making arrangement represents a variable interest could affect the assessment of whether the equity investment holders, as a group, lack the characteristics of a controlling financial interest.

In addition, if the decision-making arrangement is determined to be a variable interest and the entity is a variable interest entity, current U.S. GAAP would

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require the decision maker to consolidate the variable interest entity if it has the power to direct the activities that most significantly impact the entity’s economic performance and the obligation to absorb losses or the right to receive benefits of the variable interest entity that potentially could be significant to the variable interest entity.

The proposed amendments would continue to require an evaluation to determine whether a decision maker has a variable interest in an entity. However, it would introduce a separate qualitative analysis to determine whether the decision maker is using its power in a principal or an agent capacity. Accordingly, a decision maker with a variable interest in an entity would need to determine its capacity on the basis of the amendments in this proposed Update.


Under the proposed amendments, the evaluation to assess whether a decision maker is using its power as a principal or an agent would focus on:

1. The rights held by other parties 2. The compensation to which the decision maker is entitled in accordance

with its compensation agreement(s) 3. The decision maker’s exposure to variability of returns from other

interests that it holds in the entity.

Rights Held by Others

Similar to Statement 167, the proposed amendments would include a provision that unilateral substantive kick-out or participating rights held by an unrelated single party are determinative that a decision maker is not a principal. However, under the proposed amendments, substantive kick-out or participating rights held by multiple parties also could indicate that the decision maker is not a principal. A reporting entity would need to consider the number of unrelated parties required to act together to exercise the rights, along with the decision maker’s fees and other economic interests when determining whether the rights are indicative of an agency relationship.

Decision Maker’s Compensation

The assessment of a decision maker’s capacity under the proposed amendments would include an evaluation of the decision maker’s fees. However, unlike current U.S. GAAP, a decision maker may still be determined to be an agent under the proposed amendments, even if its fees are below the level of seniority of other operating liabilities of the entity that arise in the ordinary course of the entity’s activities.

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Other Economic Interests

The proposed principal versus agent analysis differentiates between interests that expose the decision maker to negative returns (for example, an equity interest or a guarantee) from interests that expose it to only positive returns (for example, a performance-based fee). Specifically, interests that expose the decision maker to negative returns (or both negative and positive returns) are more likely to indicate a principal relationship, while interests that expose the decision maker to only positive returns are less likely to indicate a principal relationship, when considering the magnitude and variability of the interest. The proposed amendments also would require a reporting entity to consider whether other economic interests expose the decision maker to variable returns that are different from other investors. The existence of such interests (for example, subordinated interests) could provide evidence that the decision maker is a principal.

Related Parties

The evaluation of a decision maker’s capacity would consider direct interests held by the decision maker in the entity being evaluated, along with indirect interests held by the decision maker through its related parties. Accordingly, the evaluation would include the decision maker’s proportionate interest in the entity held through its related parties. For example, if a decision maker owns a 40 percent interest in a related party and that related party owns a 60 percent interest in the entity being evaluated, the decision maker’s interest would be considered equivalent to a 24 percent interest in the entity for the purposes of evaluating its decision-making capacity (assuming it has no other relationships with the entity). Similarly, if an employee of the decision maker, who is a related party, owns an interest in the entity being evaluated and that employee’s interest has been financed by the decision maker, the decision maker shall include its indirect interest in the evaluation. For purposes of performing the principal versus agent analysis, related parties include those parties as defined in Topic 850, Related Party Disclosures.

Voting Interest Entities

To more closely align the consolidation requirements for voting interest entities and partnerships that are not variable interest entities with the consolidation requirements for variable interest entities, the proposed amendments would change how participating rights affect the consolidation analysis for those entities. That is, the assessment of whether the participating rights of a noncontrolling shareholder would overcome the presumption of control by the majority shareholder would focus on whether such rights allow the noncontrolling shareholders to participate in the activities that most significantly impact the investee’s economic performance. Similarly, when evaluating participating rights

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for limited partnerships, the analysis would focus on whether the limited partners can participate in the activities that most significantly impact the limited partnership’s economic performance.

In addition, the proposed amendments would change the evaluation of whether a general partner controls a limited partnership (or similar entity) to be consistent with the principal versus agent analysis developed for evaluating variable interest entities. Accordingly, rather than focusing on whether a simple majority of the limited partners hold substantive kick-out rights or participating rights, the general partner would evaluate whether it uses its decision-making authority in a principal or an agent capacity. Because reporting entities would evaluate limited partnerships in a manner identical to the principal versus agent guidance developed in this proposed Update for variable interest entities, the remaining guidance currently in Subtopic 810-20 would be included within Subtopic 810-10.

How Would the Main Provisions Differ from Current U.S. Generally Accepted Accounting Principles (GAAP) and Why Would They Be an Improvement?

Current U.S. GAAP includes different requirements for performing a consolidation analysis, based on, among other factors, whether the entity under evaluation is any one of the following:

1. An entity that qualified for the deferral in Update 2010-10 2. An entity that is within the scope of Update 2009-17 3. A partnership that is not considered a variable interest entity.

Under the proposed amendments, all decision makers in the scope of Subtopic 810-10, regardless of whether the entity being evaluated is a variable interest entity, would be evaluated under the same requirements to determine whether the decision maker is a principal or an agent. In addition, the proposed Update would align the evaluation of participating rights under the various consolidation Subsections of Subtopic 810-10.

When Would the Amendments Be Effective?

The proposed amendments would be effective for an entity’s interim and annual reporting periods in fiscal years that begin after the effective date. The effective date (and whether early application would be permitted) will be determined after the Board considers the feedback on the amendments in this proposed Update.

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How Do the Proposed Provisions Compare with International Financial Reporting Standards (IFRS)?

The amendments in this proposed Update are the result of the FASB and the IASB’s efforts to develop consistent guidance for a reporting entity to determine whether it (or an entity’s decision maker) is an agent or a principal when performing its consolidation analysis. Consequently, the amendments in this proposed Update would improve the comparability of financial statements and disclosures prepared in accordance with U.S. GAAP and IFRS.

While the FASB and the IASB worked closely on convergence of the proposed principal versus agent guidance, the proposed amendments represent one component of the respective consolidation models under U.S. GAAP and IFRS, and differences exist in other areas of the consolidation analysis. Accordingly, the ultimate consolidation conclusion may be different under U.S. GAAP and IFRS in some circumstances.

Questions for Respondents

The Board invites individuals and organizations to comment on all matters in this proposed Update, particularly on the issues and questions below. Comments are requested from those who agree with the proposed guidance as well as from those who do not agree. Comments are most helpful if they identify and clearly explain the issue or question to which they relate. Those who disagree with the proposed guidance are asked to describe their suggested alternatives, supported by specific reasoning.


Question 1: When determining whether a decision maker is a principal or an

agent, the proposed amendments require the analysis to consider the decision maker’s overall relationship with the entity and the other parties involved with the entity. This analysis would be based on a qualitative assessment. Do you agree with this approach? If not, why?

Question 2: The evaluation of a decision maker’s capacity would consider the

following factors:

a. The rights held by other parties b. The compensation to which the decision maker is entitled in accordance

with its compensation agreement(s) c. The decision maker’s exposure to variability of returns from other


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Are the proposed factors for assessing whether a decision maker is a principal or an agent appropriate and operational? If not, why? Are there any other factors that the Board should consider including in this analysis?

Question 3: The proposed Update would require judgment in determining how to

weigh each factor in the overall principal versus agent analysis. Do you agree that the proposed amendments, including the related implementation guidance and illustrative examples, will result in consistent conclusions? If not, what changes do you recommend?

Question 4: Should substantive kick-out and participating rights held by multiple

unrelated parties be considered when evaluating whether a reporting entity should consolidate another entity? If so, do you agree that when those rights are held by multiple unrelated parties, they should not in and of themselves be determinative? If not, why? Are the guidance and implementation examples illustrating how a reporting entity should consider rights held by multiple unrelated parties in its analysis sufficiently clear and operational?

Question 5: The proposed Update would not include a criterion focusing on the

level of seniority of a decision maker’s fees when evaluating the decision maker’s capacity. Do you agree that the seniority of the fee relative to the entity’s other operating liabilities that arise in the normal course of the entity’s activities should not be solely determinative of a decision maker’s capacity? If not, why?

Question 6: The evaluation of a decision maker’s capacity places more

emphasis on the decision maker’s exposure to negative returns (for example, an equity interest or a guarantee) than interests that only expose the decision maker to positive returns. When performing the principal versus agent analysis, should the assessment differentiate between interests that expose a decision maker to negative returns (or both negative and positive returns) from interests that expose the decision maker only to positive returns? If not, why?

Question 7: A reporting entity would be required to evaluate whether there has

been a change in the decision maker’s capacity by considering whether there has been a change in the purpose and design of the entity. For example, the purpose and design of the entity may change if the entity issues additional equity investment that is at risk to the decision maker. Do you agree with this proposed requirement? If not, please specify when this relationship should be reassessed and why.

Question 8: The Board decided to include the principal versus agent

assessment as a separate analysis within the overall consolidation assessment, rather than replacing the current guidance for evaluating whether a decision-making arrangement is a variable interest (and accordingly, a principal) with the revised principal versus agent analysis. The Board believes that if an entity’s fee arrangement does not meet the definition of a variable interest (for example, a nominal performance-based fee), the decision maker should not be required to continue the consolidation assessment. Do you agree? If not, why?

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Question 9: The Board expects the proposed principal versus agent guidance

may affect the consolidation conclusions for entities that are consolidated as a result of the decision maker having a subordinated fee arrangement (for example, collateralized debt obligations). However, the Board does not otherwise expect the proposed amendments to significantly affect the consolidation conclusions for securitization entities, asset-backed financing entities, and entities formerly classified as qualifying special-purpose entities. Do you agree? If not, why?

Question 10: Update 2010-10 was issued to address concerns that some

believe that the consolidation requirements resulting from Statement 167 would have required certain funds (for example, money market funds that are required to comply with or operate in accordance with requirements that are similar to those included in Rule 2a-7 of the Investment Company Act of 1940) to be consolidated by their investment managers. The amendments in this proposed Update would rescind the indefinite deferral in Update 2010-10 and would require money market funds to be evaluated for consolidation under the revised guidance. The Board does not intend the application of the proposed Update to result in money market funds being consolidated. Do you agree that the application of the proposed Update will meet this objective? If not, why and what amendments would you recommend to address this issue?

Interests Held by Related Parties

Question 11: For purposes of applying the proposed principal versus agent

guidance, the proposed amendments would require a reporting entity to include the decision maker’s direct and indirect interests held in an entity through its related parties. Do you agree with the requirement that a decision maker should include its proportionate indirect interest held through its related parties for purposes of applying the principal versus agent analysis? Why or why not?

Evaluation of Partnerships and Similar Entities

Question 12: The amendments in this proposed Update would require a general

partner to evaluate its relationship with a limited partnership (or similar entity) by applying the same principal versus agent analysis required for evaluating variable interest entities to determine whether it controls the limited partnership. Do you agree that the evaluation of whether a general partner should consolidate a partnership should be based on whether the general partner is using its decision-making authority as a principal or an agent?

Effective Date and Transition

Question 13: Do you agree with the proposed transition requirements in

paragraph 810-10-65-4? If not, how would you propose to amend those requirements, and why? Please provide an estimate of how long it would reasonably take to implement the proposed requirements.

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Question 14: Should early adoption be permitted? If not, why?

Nonpublic Companies

Question 15: Should the amendments in this proposed Update be different for

nonpublic entities (private companies or not-for-profit organizations)? If the amendments in this proposed Update should be applied differently to nonpublic entities, please provide a rationale for why.

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Amendments to the FASB Accounting Standards Codification®

Summary of Proposed Amendments to the Accounting Standards Codification

1. The following table provides a summary of the proposed amendments to the Accounting Standards Codification.

Codification Section Description of Changes

Master Glossary Amended the terms kick-out rights, participating rights, and protective rights, with cause, and without cause

Superseded second definitions of the terms ordinary course of business, participating rights, and protective rights

Overview and Background (810-10-05)

Amended and moved the background guidance related to the consolidation of partnerships and similar entities from Subtopic 810-20

Added a flowchart that provides an overview of the guidance in this Subtopic

Scope and Scope Exceptions (810-10-15)

Amended the definition of a variable interest entity (VIE) regarding the evaluation of whether the equity investment at risk group has the power to direct the activities that most significantly impact the entity’s economic performance to include the proposed principal versus agent analysis

Moved the guidance on which partnerships are in the scope of the Consolidation of Partnerships and Similar Entities Subsections of Subtopic 810-10 from Section 810-20-15

Recognition (810-10-25)

Added guidance for assessing whether a decision maker has the ability to use its decision-making authority as a principal or an

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agent. The guidance includes an assessment of rights held by other parties, the decision maker’s compensation, and the decision maker’s exposure to variability of returns from other interests held in the entity

Added guidance on how interests held by related parties of a decision maker affect the principal versus agent analysis

Amended the characteristics of a controlling financial interest in a VIE to include that a reporting entity must evaluate whether it has the ability to use its decision-making authority in a principal capacity when assessing whether it has the power to direct the entity’s activities that most significantly impact the entity’s economic performance

Amended the protective rights and participating rights guidance to conform the requirements in the General Subsections of Subtopic 810-10 and those included in the specialized Subsections

Amended and moved the guidance on whether kick-out rights are considered substantive from Subtopic 810-20

Added guidance to the Consolidation of Partnerships and Similar Entities Subsection of Subtopic 810-10 requiring a general partner to evaluate consolidation of a limited partnership on the basis of whether it has the ability to use its decision-making authority in a principal or agent capacity

Subsequent Measurement (810-10-35)

Added guidance on when a reporting entity is required to reconsider its conclusions reached under the principal versus agent guidance

Other Presentation Matters (810-10-45)

Moved the guidance on consolidating financial statements from Section 810-20-45 to the General Subsection in Section 810-10-45

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Implementation Guidance and Illustrations (810-10-55)

Amended the noncontrolling rights guidance to include generalized terms that apply to entities included in the scope of both the General Subsections of Subtopic 810-10 and the specialized Subsections

Added examples to illustrate the principal versus agent analysis

Amended the examples illustrating how to identify the primary beneficiary of a variable interest entity to incorporate the principal versus agent analysis

Transition and Open Effective Date Information (810-10-65)

Added transition guidance for the proposed Update

Consolidation—Control of Partnerships and Similar Entities (810-20)

Superseded Subtopic content and moved portions of the guidance to Subtopic 810-10

Conforming Amendments

Conformed Subtopics 954-810, 958-810, and 970-810 to the proposed amendments

Introduction

2. The Accounting Standards Codification is amended as described in paragraphs 3–23. In some cases, to put the change in context, not only are the amended paragraphs shown but also the preceding and following paragraphs. Terms from the Master Glossary are in bold type. Added text is underlined and

deleted text is struck out.

Amendments to Master Glossary

3. Amend the Master Glossary terms kick-out rights, participating rights, protective rights, with cause, and without cause, with a link to transition

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paragraph 810-10-65-4, as follows: Add the following Master Glossary terms to Subtopic 718-10, with a link to transition paragraph 505-40-65-1, as follows:

Kick-Out Rights

The ability to remove a decision maker of an entity of its decision-making authority or to dissolve (liquidate) an entity without cause (as distinguished from with cause).the reporting entity with the power to direct the activities of a VIE

that most significantly impact the VIE’s economic performance.

Participating Rights

The ability to block or participate in the actions through which a reporting entity decision maker exercises its power to direct the activities that most significantly impact an entity’s economic performance. the power to direct the activities of a VIE that most significantly impact the VIE’s economic performance. Participating rights do not require the holders of such rights to have the ability to initiate actions.

Protective Rights

Rights that are only designed to protect the interests of the party holding those rights without giving that party a controlling financial interest in the entity to which they relate. For example, they include any of the following:

a. Approval or veto rights granted to other parties that do not affect the activities that most significantly impact the entity’s economic performance. Protective rights often apply to fundamental changes in the activities of an entity or apply only in exceptional circumstances. Examples include both of the following: 1. A lender might have rights that protect the lender from the risk

that the entity will change its activities to the detriment of the lender, such as selling important assets or undertaking activities that change the credit risk of the entity.

2. Other interests might have the right to approve a capital expenditure greater than a particular amount or the right to approve the issuance of equity or debt instruments.

3. Limited partners might have rights that allow them only to block actions of the general partner that would not most significantly impact the partnership’s economic performance, for example, rights to approve amendments to the limited partnership agreement.

b. The ability to remove the reporting entity that has a controlling financial interest in the entity in circumstances such as bankruptcy or on breach of contract by that reporting entity.

c. Limitations on the operating activities of an entity. For example, a franchise agreement for which the entity is the franchisee might restrict certain activities of the entity franchisee but may not give

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the franchisor a controlling financial interest in the franchisee. Such rights may only protect the brand of the franchisor.

With Cause

With cause generally restricts the limited partners’ investors’ ability to dissolve (liquidate) the limited partnership entity or remove the entity’s decision maker general partners in situations that include, but that are not limited to, fraud, illegal acts, gross negligence, and bankruptcy of the decision maker. general partners.

Without Cause

Without cause means that no reason need be given for the dissolution (liquidation) of the limited partnership entity or removal of the general partners entity’s decision maker.

4. Supersede the following Master Glossary terms, with a link to transition paragraph 810-10-65-4, as follows:

Ordinary Course of Business

Decisions about matters of a type consistent with those normally expected to be addressed in directing and carrying out current business activities, regardless of whether the events or transactions that would necessitate such decisions are expected to occur in the near term . However, it must be at least reasonably possible that those events or transactions that would necessitate such decisions will occur. The ordinary course of business does not include self-dealing transactions.

Participating Rights

Participating rights allow the limited partners to participate in certain financial and operating decisions of the limited partnership that are made in the ordinary course of business.

Protective Rights

While all limited partners’ rights could be described as protective rights, rights that are only protective in nature do not allow the limited partners to participate in financial and operating decisions of the limited partnership that are made in the ordinary course of business.

Amendments to Subtopic 810-10

5. Amend paragraphs 810-10-05-2, 810-10-05-4 through 05-6, 810-10-05-8, 810-10-05-9 through 05-10, and 810-10-05-13, supersede paragraph 810-10-05-8A, and add paragraphs 810-10-05-17 through 05-18 and their related heading, with a link to transition paragraph 810-10-65-4, as follows:

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Consolidation—Overall

Overview and Background

General

810-10-05-1 The Consolidation Topic provides guidance on entities subject to

consolidation as well as on how to consolidate. Paragraph 810-10-10-1 discusses the objectives of consolidation.

810-10-05-2 This Topic includes the following Subtopics:

a. Overall b. Subparagraph superseded by Accounting Standards Update 2012-

XX.Control of Partnerships and Similar Entities c. Research and Development Arrangements.

810-10-05-4 The guidance in this Subtopic is presented in the following three

Subsections:

a. General b. Variable Interest Entities c. Consolidation of Entities Controlled by Contract d. Consolidation of Partnerships and Similar Entities.

810-10-05-5 Paragraphs 810-10-05-6 and 810-10-25-1B summarize Paragraph

810-10-15-3 summarizes how reporting entities may determine which Subsection applies.

810-10-05-6 Paragraph not used. The following flowchart provides an overview

of the guidance in this Subtopic for evaluating whether a reporting entity shall consolidate another entity. The flowchart does not include all of the guidance in this Subtopic and is not intended as a substitute for the guidance in this Subtopic or in the Topics referenced in the flowchart. For example, the flowchart does not indicate how related parties affect the consolidation analysis or the evaluation of research and development arrangements under Subtopic 810-30.

[For ease of readability, the flowchart is not underlined as new text.]

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Consolidation Analysis in Subtopic 810-10

1

(a) Is the equity investment at risk not sufficient to finance the activities of the entity without additional subordinated financial support provided by any parties?

(b) As a group, do the holders of the equity investment at risk lack any of the characteristics of a controlling financial interest (that is, power to direct the activities that most significantly impact the entity’s economic performance, obligation to absorb expected losses, and right to receive expected residual returns)? When evaluating whether the equity investment group at risk lacks the characteristics of a controlling financial interest, the reporting entity should consider decision-making authority (power) delegated to a decision maker and whether the decision maker is using its power in a principal or an agent capacity.

(c) Are the equity investors’ voting rights not proportional to the economics and do substantially all of the activities of the entity either involve or are conducted on behalf of an investor that has disproportionately few voting rights?

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2

When evaluating whether a variable interest holder (or related party group) is a VIE’s primary beneficiary, the evaluation should consider whether the decision maker is using its decision-making authority (power) in a principal or an agent capacity. (See paragraphs 810-10-25-39A through 25-39L.)

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> Consolidation of VIEs

810-10-05-8 The Variable Interest Entities Subsections clarify the application of the General Subsections to certain legal entities in which equity investors do not

have sufficient equity at risk for the legal entity to finance its activities without additional subordinated financial support or, as a group, the holders of the

equity investment at risk lack any one of the following three characteristics:

a. The power, through voting rights or similar rights, to direct the activities of a legal entity that most significantly impact the entity’s economic performance

b. The obligation to absorb the {add glossary link}expected losses{add glossary link} of the legal entity

c. The right to receive the {add glossary link}expected residual returns{add glossary link} of the legal entity.

Paragraph 810-10-10-1 states that consolidated Consolidated financial statements are usually necessary for a fair presentation if one of the entities in the consolidated group directly or indirectly has a controlling financial interest in

the other entities. Paragraph 810-10-15-8 states that the usual condition for a controlling financial interest is ownership Ownership of a majority voting interest is the usual condition for a controlling financial interest. However, application of the majority voting interest requirement in the General Subsections of this Subtopic to certain types of entities may not identify the party with a controlling financial interest because the controlling financial interest may be achieved through arrangements that do not involve voting interests.

810-10-05-8A Paragraph superseded by Accounting Standards Update 2012-XX.

The reporting entity with a variable interest or interests that provide the reporting entity with a controlling financial interest in a variable interest entity (VIE) will

have both of the following characteristics:

a. The power to direct the activities of a VIE that most significantly impact the VIE’s economic performance

b. The obligation to absorb losses of the VIE that could potentially be significant to the VIE or the right to receive benefits from the VIE that could potentially be significant to the VIE.

810-10-05-9 Transactions involving variable interest entities (VIEs) are

common. The Variable Interest Entities Subsections provide guidance on determining whether an interest (including fees paid to a decision maker or service provider) should be considered a variable interest in a VIE. The Variable

Interest Entities Subsections explain how to identify VIEs and how to determine when a reporting entity should include the assets, liabilities, noncontrolling interests, and results of activities of a VIE in its consolidated financial

statements. Transactions involving VIEs are common. Some reporting entities

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have entered into arrangements using VIEs that appear to be designed to avoid reporting assets and liabilities for which they are responsible, to delay reporting losses that have already been incurred, or to report gains that are illusory. At the same time, many reporting entities have used VIEs for valid business purposes and have properly accounted for those VIEs based on guidance and accepted practice.

810-10-05-10 Some relationships between reporting entities and VIEs are similar

to relationships established by majority voting interests, but VIEs often are arranged without a governing board or with a governing board that has limited ability to make decisions that affect the VIE’s activities. A VIE’s activities may be limited or predetermined by the articles of incorporation, bylaws, partnership agreements, trust agreements, other establishing documents, or contractual agreements between the parties involved with the VIE. A reporting entity could be involved in the design of the VIE and implicitly chooses choose at the time of its investment to accept the activities in which the VIE is permitted to engage. That reporting entity may not need the ongoing ability to make decisions if the activities are predetermined or limited in ways the reporting entity chooses to accept. Alternatively, the reporting entity may obtain an ability to make decisions that affect a VIE’s activities through contracts or the VIE’s governing documents. There may be other techniques for protecting a reporting entity’s interests. In any case, the reporting entity may receive benefits similar to those received from a controlling financial interest and be exposed to risks similar to those received from a controlling financial interest without holding a majority voting interest (or without holding any voting interest). The power to direct the activities of a VIE that most significantly impact the entity’s economic performance and the reporting entity’s exposure to the entity’s losses or benefits are determinants of consolidation in the Variable Interest Entities Subsections. In assessing whether a reporting entity has the power to direct the activities of a VIE that most significantly impact the entity’s economic performance, a reporting entity should consider whether it has the ability to use its decision-making authority as a principal or an agent. The Variable Interest Entities Subsections also provide guidance on determining whether fees paid to a decision maker or service provider should be considered a variable interest in a VIE.

810-10-05-11 VIEs often are created for a single specified purpose, for example,

to facilitate securitization, leasing, hedging, research and development, reinsurance, or other transactions or arrangements. The activities may be predetermined by the documents that establish the VIEs or by contracts or other arrangements between the parties involved. However, those characteristics do not define the scope of the Variable Interest Entities Subsections because other entities may have those same characteristics. The distinction between VIEs and other entities is based on the nature and amount of the equity investment and the rights and obligations of the equity investors.

810-10-05-12 Because the equity investors in an entity other than a VIE

generally absorb losses first, they can be expected to resist arrangements that

22

give other parties the ability to significantly increase their risk or reduce their benefits. Other parties can be expected to align their interests with those of the equity investors, protect their interests contractually, or avoid any involvement with the entity.

810-10-05-13 In contrast, either a VIE does not issue voting interests (or other

interests with similar rights) or the total equity investment at risk is not sufficient to permit the legal entity to finance its activities without additional subordinated financial support. If a legal entity does not issue voting or similar interests or if the equity investment is insufficient, that legal entity’s activities may be predetermined or decision-making ability is determined contractually. If the total equity investment at risk is not sufficient to permit the legal entity to finance its activities, the parties providing the necessary additional subordinated financial support most likely will not permit an equity investor to make decisions that may be counter to their interests. That means that the usual condition for establishing a controlling financial interest as a majority voting interest does not apply to VIEs. Consequently, a standard consolidation analysis that requires ownership of voting stock is not appropriate for such entities.

Consolidation of Partnerships and Similar Entities

810-10-05-17 The Consolidation of Partnerships and Similar Entities Subsections

provide guidance on the consolidation of partnerships and similar entities that are not in the scope of the Variable Interest Entities Subsections (see the Variable Interest Entities Subsection of Section 810-10-15).

810-10-05-18 Joint venture accounting is addressed in Topic 323. Real estate

joint venture accounting is addressed in Subtopic 970-323. Accounting for certain kick-out rights with respect to variable interest entities (VIEs) can be found in paragraph 810-10-25-38C. [Content amended as shown and moved from paragraph 810-20-05-2]

6. Amend paragraphs 810-10-15-3, 810-10-15-9, 810-10-15-13 through 15-13A, and 810-10-15-14, supersede paragraphs 810-10-15-5 through 15-6, 810-10-15-8, and 810-10-15-10, and add paragraphs 810-10-15-11A through 15-11B, and 810-10-15-23 through 15-25 and related headings, with a link to transition paragraph 810-10-65-4, as follows:

Consolidation—Overall

Scope and Scope Exceptions

General

> Overall Guidance

23

810-10-15-1 The Scope Section of the Overall Subtopic establishes the

pervasive scope for all Subtopics of the Consolidation Topic. Unless explicitly addressed within specific Subtopics, the following scope guidance applies to all Subtopics of the Consolidation Topic.

810-10-15-2 The General Subsection of this Section establishes the pervasive

scope for this Subtopic, with specific exceptions noted in the other Subsections of this Section.

> Entities

810-10-15-3 All reporting entities shall apply the guidance in the Consolidation

Topic to determine whether and how to consolidate another entity and apply the applicable Subsection as follows:

a. If the reporting entity has an interest in an entity is within the scope of the Variable Interest Entities Subsections, it should first apply the guidance in those Subsections. Paragraph 810-10-15-17 provides specific exceptions to applying the Variable Interest Entities Subsections.

b. Subparagraph superseded by Accounting Standards Update 2012-XX. If the reporting entity has an investment in another entity that is not determined to be a VIE, the reporting entity should use the guidance in the General Subsections to determine whether that interest constitutes a controlling financial interest. Paragraph 810-10-15-8 states that the usual condition for a controlling financial interest is ownership of a majority voting interest, directly or indirectly, of more than 50 percent of the outstanding voting shares. Noncontrolling rights may prevent the owner of more than 50 percent of the voting shares from having a controlling financial interest. [Content amended and moved to paragraph 810-10-15-3(e)]

c. If the reporting entity has a contractual management relationship with another entity that is not determined to be within the scope of the Variable Interest Entities Subsections, a VIE, the reporting entity should use the guidance in the Consolidation of Entities Controlled by Contract Subsections to determine whether the arrangement constitutes a controlling financial interest.

d. If the reporting entity has an interest in a partnership or similar entity that is not within the scope of the Variable Interest Entities Subsections, the reporting entity should use the guidance in the Consolidation of Partnerships and Similar Entities Subsections to determine whether the interest constitutes a controlling financial interest. Paragraph 810-10-15-25 provides specific exceptions to applying the Consolidation of Partnerships and Similar Entities Subsections.

e. If the reporting entity has an investment interest in another an entity that is not determined to be a VIE within the scope of the Variable Interest Entities Subsections and is not within the scope of the Subsections

24

listed in paragraph 810-10-15-3(c) through (d), the reporting entity should use only the guidance in the General Subsections to determine whether that interest constitutes a controlling financial interest. Paragraph 810-10-15-8 states that the usual condition for a controlling financial interest is ownership of a majority voting interest, directly or indirectly, of more than 50 percent of the outstanding voting shares. Noncontrolling rights may prevent the owner of more than 50 percent of the voting shares from having a controlling financial interest. [Content amended as shown and moved from paragraph 810-10-15-3(b)]

810-10-15-4 All legal entities are subject to this Topic’s evaluation guidance for

consolidation by a reporting entity, with specific qualifications and exceptions noted below.

810-10-15-5 Paragraph superseded by Accounting Standards Update 2012-XX.

The application of this Topic by not-for-profit entities (NFPs) as defined in Topic 958 is subject to additional guidance in Subtopic 958-810. [Content moved to paragraph 810-10-15-11A]


The guidance in this Topic applies to all reporting entities, with specific qualifications and exceptions noted below.

810-10-15-7 Paragraph not used.


The usual condition for a controlling financial interest is ownership of a majority voting interest, and, therefore, as a general rule ownership by one reporting entity, directly or indirectly, of more than 50 percent of the outstanding voting shares of another entity is a condition pointing toward consolidation. The power to control may also exist with a lesser percentage of ownership, for example, by contract, lease, agreement with other stockholders, or by court decree. [Content amended and moved to paragraph 810-10-25-1A]

810-10-15-9 A majority-owned subsidiary is an entity separate from its parent and may be a variable interest entity (VIE) that is subject to consolidation in

accordance with the Variable Interest Entities Subsections of this Subtopic. Therefore, a reporting entity with an explicit or implicit interest in a legal entity within the scope of the Variable Interest Entities Subsections shall follow the guidance in the Variable Interest Entities Subsections.


A reporting entity shall apply consolidation guidance for entities that are not in the scope of the Variable Interest Entities Subsections (see the Variable Interest Entities Subsection of this Section) as follows:

a. All majority-owned subsidiaries—all entities in which a parent has a controlling financial interest—shall be consolidated. However, there are exceptions to this general rule.

25

1. A majority-owned subsidiary shall not be consolidated if control does not rest with the majority owner—for instance, if any of the

following are present: i. The subsidiary is in legal reorganization ii. The subsidiary is in bankruptcy iii. The subsidiary operates under foreign exchange restrictions,

controls, or other governmentally imposed uncertainties so severe that they cast significant doubt on the parent’s ability to control the subsidiary.

iv. In some instances, the powers of a shareholder with a majority voting interest to control the operations or assets of the investee are restricted in certain respects by approval or veto rights granted to the noncontrolling shareholder (hereafter referred to as noncontrolling rights). In paragraphs 810-10-25-2 through 25-14, the term noncontrolling shareholder refers to

one or more noncontrolling shareholders. Those noncontrolling rights may have little or no impact on the ability of a shareholder with a majority voting interest to control the investee’s operations or assets, or, alternatively, those rights may be so restrictive as to call into question whether control rests with the majority owner.

v. Control exists through means other than through ownership of a majority voting interest, for example as described in (b) through (e).

2. A majority-owned subsidiary in which a parent has a controlling financial interest shall not be consolidated if the parent is a broker-dealer within the scope of Topic 940 and control is likely to be temporary.

3. Except as discussed in paragraph 946-810-45-3, consolidation by an investment company within the scope of Topic 946 of a non-investment-company investee is not appropriate.

b. Subtopic 810-20 shall be applied to determine whether the rights of the limited partners in a limited partnership overcome the presumption that the general partner controls, and therefore should consolidate, the partnership.

c. Subtopic 810-30 shall be applied to determine the consolidation status of a research and development arrangement.

d. The Consolidation of Entities Controlled by Contract Subsections of this Subtopic shall be applied to determine whether a contractual management relationship represents a controlling financial interest. [Content moved to paragraph 810-10-25-1B]

e. Paragraph 710-10-45-1 addresses the circumstances in which the accounts of a rabbi trust that is not a VIE (see the Variable Interest Entities Subsections for guidance on VIEs) shall be consolidated with the accounts of the employer in the financial statements of the

26

employer. [Content amended and moved to paragraph 810-10-15-11B]

810-10-15-11 A difference in fiscal periods of a parent and a subsidiary does not

justify the exclusion of the subsidiary from consolidation.

810-10-15-11A The application of this Topic by not-for-profit entities (NFPs) as

defined in Topic 958 is subject to additional guidance in Subtopic 958-810. [Content moved from paragraph 810-10-15-5]

810-10-15-11B Paragraph 710-10-45-1 addresses the circumstances in which the accounts of a rabbi trust that is not a {add glossary link}VIE{add glossary link} (see the Variable Interest Entities Subsections for guidance on VIEs) shall

be consolidated with the accounts of the employer in the financial statements of the employer. [Content amended as shown and moved from paragraph 810-10-15-10(e)]

810-10-15-12 The guidance in this Topic does not apply in any of the following

circumstances:

a. An employer shall not consolidate an employee benefit plan subject to the provisions of Topic 712 or 715.

b. Subparagraph superseded by Accounting Standards Update No. 2009-16.

c. Subparagraph superseded by Accounting Standards Update No. 2009-16.

d. Investments accounted for at fair value in accordance with the specialized accounting guidance in Topic 946 are not subject to consolidation according to the requirements of this Topic.

e. A reporting entity shall not consolidate a governmental organization and shall not consolidate a financing entity established by a governmental organization unless the financing entity meets both of the following conditions: 1. Is not a governmental organization 2. Is used by the business entity in a manner similar to a (VIE) in an

effort to circumvent the provisions of the Variable Interest Entities Subsections.


> Overall Guidance

810-10-15-13 The Variable Interest Entities Subsections follow the same Scope

and Scope Exceptions as outlined in the General Subsection of this Subtopic,Subtopic see (see paragraph 810-10-15-1,810-10-15-1) with specific transaction qualifications and exceptions noted below.

27

810-10-15-13A For purposes of applying the Variable Interest Entities

Subsections, only substantive terms, transactions, and arrangements, whether contractual or noncontractual, shall be considered. Any term, transaction, or arrangement shall be disregarded when applying the provisions of the Variable Interest Entities Subsections if the term, transaction, or arrangement does not have a substantive effect on any of the following:

a. A legal entity’s status as a VIE variable interest entity (VIE) b. A reporting entity’s power over a {add glossary link}VIE{add glossary

link}

c. A reporting entity’s obligation to absorb losses or its right to receive benefits of the legal entity.legal entity

d. The capacity in which the decision maker uses its decision-making authority.

810-10-15-13B Judgment, based on consideration of all the facts and

circumstances, is needed to distinguish substantive terms, transactions, and arrangements from nonsubstantive terms, transactions, and arrangements.

> Entities

810-10-15-14 A {remove glossary link}legal entity{remove glossary link}

shall be subject to consolidation under the guidance in the Variable Interest Entities Subsections if, by design, any of the following conditions exist exist. (The phrase by design refers to legal entities that meet the conditions in this paragraph because of the way they are structured. For example, a legal entity under the control of its equity investors that originally was not a variable interest entity [VIE] VIE does not become one because of operating losses. The design

of the legal entity is important in the application of these provisions.):

a. The total equity investment (equity investments in a legal entity are interests that are required to be reported as equity in that entity’s financial statements) at risk is not sufficient to permit the legal entity to finance its activities without additional subordinated financial support

provided by any parties, including equity holders. For this purpose, the total equity investment at risk has all of the following characteristics: 1. Includes only equity investments in the legal entity that participate

significantly in profits and losses even if those investments do not carry voting rights

2. Does not include equity interests that the legal entity issued in exchange for subordinated interests in other VIEs

3. Does not include amounts provided to the equity investor directly or indirectly by the legal entity or by other parties involved with the legal entity (for example, by fees, charitable contributions, or other payments), unless the provider is a parent, subsidiary, or affiliate

of the investor that is required to be included in the same set of consolidated financial statements as the investor

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4. Does not include amounts financed for the equity investor (for example, by loans or guarantees of loans) directly by the legal entity or by other parties involved with the legal entity, unless that party is a parent, subsidiary, or affiliate of the investor that is required to be included in the same set of consolidated financial statements as the investor.

Paragraphs 810-10-25-45 through 25-47 discuss the amount of the total equity investment at risk that is necessary to permit a legal entity to finance its activities without additional subordinated financial support.

b. As a group the holders of the equity investment at risk lack any one of the following three characteristics: 1. The power, through voting rights or similar rights, to direct the

activities of a legal entity that most significantly impact the entity’s economic performance. The holders of the equity investment at risk may delegate this power to a decision maker that is an agent of the equity holders. In such situations, the decision maker shall not prevent the holders of the equity investment at risk from having this characteristic if the decision maker is determined to be an agent of the equity holders. Paragraphs 810-10-25-39A through 25-39L provide guidance on the assessment of a decision maker’s capacity. The investors do not have that power through voting rights or similar rights if no owners hold voting rights or similar

rights (such as those of a common shareholder in a corporation or a general partner in a partnership). Additionally, legal Legal entities that are not controlled by the holder of a majority voting interest because of noncontrolling shareholder veto rights as discussed in paragraphs 810-10-25-2 through 25-14 are not VIEs if the shareholders holders of the equity investment at risk as a group have the power to control the entity and the equity investment meets the other requirements in paragraph 810-10-15-14(a) and 810-10-15-14(c).of the Variable Interest Entities Subsections. Kick-out rights or participating rights held by the holders of the equity

investment at risk shall not prevent interests other than the equity investment from having this characteristic unless a single equity holder (including its related parties and de facto agents) has the unilateral ability to exercise such rights. Alternatively, interests other than the equity investment at risk that provide the holders of those interests with kick-out rights or participating rights shall not prevent the equity holders from having this characteristic unless a single reporting entity (including its related parties and de facto agents) has the unilateral ability to exercise those rights. A decision maker also shall not prevent the equity holders from having this characteristic unless the fees paid to the decision maker represent

29

a variable interest based on paragraphs 810-10-55-37 through 55-38.

2. The obligation to absorb the expected losses of the legal entity.

The investor or investors do not have that obligation if they are directly or indirectly protected from the expected losses or are guaranteed a return by the legal entity itself or by other parties involved with the legal entity. See paragraphs 810-10-25-55 through 25-56 and Example 1 (see paragraph 810-10-55-42) for a discussion of expected losses.

3. The right to receive the expected residual returns of the legal

entity. The investors do not have that right if their return is capped by the legal entity’s governing documents or arrangements with other variable interest holders or the legal entity. For this purpose, the return to equity investors is not considered to be capped by the existence of outstanding stock options, convertible debt, or similar interests because if the options in those instruments are exercised, the holders will become additional equity investors.

If interests other than the equity investment at risk provide the holders of that investment with these characteristics or if interests other than the equity investment at risk prevent the equity holders from having these characteristics, the entity is a VIE.

c. The equity investors as a group also are considered to lack the characteristic in (b)(1) if both of the following conditions are present:

1. The voting rights of some investors are not proportional to their obligations to absorb the expected losses of the legal entity, their rights to receive the expected residual returns of the legal entity, or both.

2. Substantially all of the legal entity’s activities (for example, providing financing or buying assets) either involve or are conducted on behalf of an investor that has disproportionately few voting rights. This provision is necessary to prevent a primary beneficiary from avoiding consolidation of a VIE by organizing the

legal entity with nonsubstantive voting interests. Activities that involve or are conducted on behalf of the related parties of an investor with disproportionately few voting rights shall be treated as if they involve or are conducted on behalf of that investor. The term related parties in this paragraph refers to all parties identified in paragraph 810-10-25-43, except for de facto agents under paragraph 810-10-25-43(d).

A primary beneficiary cannot avoid consolidation of a VIE by

organizing the legal entity with nonsubstantive voting interests. For purposes of applying this requirement, reporting entities shall consider each party’s obligations to absorb expected losses and rights to receive

30

expected residual returns related to all of that party’s interests in the legal entity and not only to its equity investment at risk.


> Overall Guidance

810-10-15-23 This Subtopic The Consolidation of Partnerships and Similar

Entities Subsections follows follow the same Scope and Scope Exceptions as outlined in the General Subsection of the Overall this Subtopic, see Section 810-10-15, paragraph 810-10-15-1, with specific qualifications and exceptions noted below. As noted in paragraph 810-20-25-1810-10-25-84, in situations involving multiple general partners, entities under common control are considered to be a single general partner for purposes of applying the guidance in the Consolidation of Partnerships and Similar Entities Subsections of this Subtopic. [Content amended as shown and moved from paragraph 810-20-15-1]

> Entities

810-10-15-24 The Consolidation of Partnerships and Similar Entities Subsections

apply to reporting Reporting entities, including not-for-profit entities (NFPs) that are required to apply the consolidation guidance in the General Subsections of Subtopic 810-10 for their investments in partnership and similar entities. That is, if an entity is required to apply the consolidation guidance included in the General Subsections of that Subtopic to its investment in a limited partnership, it is within the scope of this Subtopic.Subsection. [Content amended as shown and moved from paragraph 810-20-15-2(a)]

810-10-15-25 The guidance in the Consolidation of Partnerships and Similar

Entities Subsections this Subtopic does not apply to the following entities:

a. Limited partnerships or similar entities (such as limited liability companies that have governing provisions that are the functional equivalent of a limited partnership) that are entities within the scope of the Variable Interest Entities Subsections of Subtopic 810-10 (see the Variable Interest Entities Subsection of Section 810-10-15)

b. A general partner that, in accordance with generally accepted

accounting principles (GAAP), carries its investment in the limited partnership at fair value with changes in fair value reported in a statement of operations or financial performance

c. Entities in industries in which it is appropriate for a general partner to use the pro rata method of consolidation for its investment in a limited partnership (see paragraph 810-10-45-14).810-10-45-14)

d. In circumstances in which no single general partner in a group of general partners that are not affiliates controls the limited partnership.partnership (see paragraph 810-10-25-84).

31

[Content amended as shown and moved from paragraph 810-20-15-3]

7. Amend paragraphs 810-10-25-1 through 25-10, 810-10-25-13 through 25-14, 810-10-25-20 through 25-21, 810-10-25-29, 810-10-25-38A, 810-10-25-38C, 810-10-25-42 through 25-44, supersede paragraph 810-10-25-11 through 25-12, and add paragraphs 810-10-25-1A through 25-1B, 810-10-25-39A through 25-39L, 810-10-25-40A through 25-40C, 810-10-25-41A through 25-41G, and 810-10-25-82 through 25-106 and related headings, with a link to transition paragraph 810-10-65-4, as follows:

Recognition

General

810-10-25-1 Consolidation is appropriate if a reporting entity has a controlling

financial interest in another entity and a specific scope exception does not apply (see Section 810-10-15). The usual condition for a controlling financial interest is ownership of a majority voting interest, but in some circumstances, control does not rest with the majority owner.

810-10-25-1A The usual condition for a controlling financial interest is ownership

of a majority voting interest, and, therefore, as a general rule ownership by one reporting entity, directly or indirectly, of more than 50 percent of the outstanding voting shares of another entity is a condition pointing toward consolidation. TheHowever, the power to control may also exist with a lesser percentage of ownership, for example, by contract, lease, agreement with other stockholders, or by court decree. [Content amended as shown and moved from paragraph 810-10-15-8]

810-10-25-1B A reporting entity shall apply consolidation guidance for entities

that are not in the scope of the Variable Interest Entities Subsections (see the Variable Interest Entities Subsection of this Section 810-10-15) as follows:

a. All majority-owned subsidiaries—all entities in which a parent has a controlling financial interest—shall be consolidated. However, there are exceptions to this general rule. 1. A majority-owned subsidiary shall not be consolidated if control

does not rest with the majority owner—for instance, if any of the

following are present: i. The subsidiary is in legal reorganization ii. The subsidiary is in bankruptcy iii. The subsidiary operates under foreign exchange restrictions,

controls, or other governmentally imposed uncertainties so severe that they cast significant doubt on the parent’s ability to control the subsidiary.

32

iv. In some instances, the powers of a shareholder with a majority voting interest to control the operations or assets of the investee are restricted in certain respects by approval or veto rights granted to the noncontrolling shareholder (hereafter referred to as noncontrolling rights). In paragraphs 810-10-25-2 through 25-14, the term noncontrolling shareholder refers to one or more noncontrolling shareholders. Those noncontrolling rights may have little or no impact on the ability of a shareholder with a majority voting interest to control the investee’s operations or assets, or, alternatively, those rights may be so restrictive as to call into question whether control rests with the majority owner.

v. Control exists through means other than through ownership of a majority voting interest, for example as described in (b) through (e). (d).

2. A majority-owned subsidiary in which a parent has a controlling financial interest shall not be consolidated if the parent is a broker-dealer within the scope of Topic 940 and control is likely to be temporary.

3. Subparagraph superseded by Accounting Standards Update 2012-XX. Except as discussed in paragraph 946-810-45-3, consolidation by an investment company within the scope of Topic 946 of a non-investment-company investee is not appropriate.

b. Subtopic 810-20The Consolidation of Partnerships and Similar Entities Subsections of this Subtopic shall be applied to determine whether a the rights of the limited partners general partner (or similar interest holder) has a controlling financial interest in a limited partnership (or similar entity) overcome the presumption that the general partner controls, and therefore should consolidate, and, therefore, shall consolidate the partnership (or similar entity).

c. Subtopic 810-30 shall be applied to determine the consolidation status of a research and development arrangement.

d. The Consolidation of Entities Controlled by Contract Subsections of this Subtopic shall be applied to determine whether a contractual management relationship represents a controlling financial interest.

e. Subparagraph superseded by Accounting Standards Update 2012-XX. Paragraph 710-10-45-1 addresses the circumstances in which the accounts of a rabbi trust that is not a VIE (see the Variable Interest Entities Subsections for guidance on VIEs) shall be consolidated with the accounts of the employer in the financial statements of the employer.


> The Effect of Noncontrolling Rights on Consolidation

33

810-10-25-2 Paragraph 810-10-15-10(a)(1)(iv) 810-10-25-1B(a)(1)(iv) explains

that, in some instances, the powers of a shareholder with a majority voting interest to control the operations or assets of the investee are restricted in certain respects by approval or veto rights granted to the noncontrolling shareholder (referred to as noncontrolling rights). That paragraph also explains that, in paragraphs 810-10-25-2 through 25-14 the term noncontrolling shareholder refers to one or more noncontrolling shareholders. Paragraph 810-10-15-10(a)(1)(iv) 810-10-25-1B(a)(1)(iv) explains that those noncontrolling rights may have little or no impact on the ability of a shareholder with a majority voting interest to control the investee’s operations or assets, or, alternatively, those rights may be so restrictive as to call into question whether control rests with the majority owner.

810-10-25-3 The guidance in paragraphs 810-10-25-1 810-10-25-2 through 25-

14 shall be applied in assessing the impact on consolidation of noncontrolling shareholder approval or veto rights in both of the following circumstances:

a. Investments in which the investor has a majority voting interest in investees that are corporations or analogous entities (such as limited liability companies that have governing provisions that are the functional equivalent of regular corporations)

b. In other circumstances in which corporate investees would be consolidated in accordance with generally accepted accounting principles (GAAP), absent the existence of certain approval or veto rights held by noncontrolling shareholders.

810-10-25-4 The guidance in paragraphs 810-10-25-2 through 25-14 on

noncontrolling rights does not apply in any one either of the following situations:

a. Entities that, in accordance with GAAP, carry substantially all of their assets, including investments in controlled entities, at fair value with changes in value reported in a statement of net income or financial performance

b. Investments in noncorporate entities and variable interest entities

(VIEs) (see the Variable Interest Entities Subsection of Section 810-10-15).810-10-15)

c. Investments in limited partnerships and similar entities that are not in the scope of the Variable Interest Entities Subsections (see the Consolidation of Partnerships and Similar Entities Subsection of Section 810-10-15).

810-10-25-5 The assessment of whether the rights of a noncontrolling

shareholder should overcome the presumption of consolidation by the investor with a majority voting interest in its investee is a matter of judgment that depends on facts and circumstances. The framework in which such facts and circumstances are judged shall be based on whether the noncontrolling rights, individually or in the aggregate, provide for the noncontrolling shareholder to effectively participate in the activities that most significantly impact the investee’s

34

economic performance (referred to as participating rights). significant decisions

that would be expected to be made in the ordinary course of business. Effective participation means the ability to block significant decisions proposed by the investor who has a majority voting interest. That is, control does not rest with the majority owner because the investor with the majority voting interest cannot cause the investee to take an action that is significant in the ordinary course of business related to the activities that most significantly impact the investee’s economic performance if it has been vetoed by the noncontrolling shareholder. This assessment of noncontrolling rights shall be made at the time a majority voting interest is obtained and shall be reassessed if there is a significant change to the terms or in the exercisability of the rights of the noncontrolling shareholder.

810-10-25-6 All noncontrolling rights could be described as protective of the

noncontrolling shareholder’s investment in the investee, but some noncontrolling rights also allow the noncontrolling shareholder to participate in determining certain financial and operating decisions of the investee that are made in the ordinary course of business the activities that most significantly impact the investee’s economic performance. (referred to as participating rights). Participation means the ability to block actions proposed by the investor that has a majority voting interest. Thus, the investor with the majority voting interest must have the agreement of the noncontrolling shareholder to take certain actions. Participation does not mean the ability of the noncontrolling shareholder to initiate actions.

810-10-25-7 Noncontrolling rights that are only protective in nature (referred to as {add glossary link}protective rights{add glossary link}) would not overcome

the presumption that the owner of a majority voting interest shall consolidate its investee. Substantive noncontrolling rights that provide the noncontrolling shareholder with the right to effectively participate in significant decisions that would be expected to be related to the investee’s ordinary course of business the activities that most significantly impact the investee’s economic performance, although also protective of the noncontrolling shareholder’s investment, shall overcome the presumption that the investor with a majority voting interest shall consolidate its investee.

810-10-25-8 For purposes of this Subsection, a reporting entity must identify

which activities most significantly impact the entity’s economic performance and determine whether the noncontrolling shareholders have the right to participate in those activities. The likelihood that the participating right will be exercised by the noncontrolling shareholders shall not be considered when assessing whether a participating right is substantive. For purposes of this Subsection, decisions made in the ordinary course of business are defined as decisions about matters of a type consistent with those normally expected to be addressed in directing and carrying out the entity’s current business activities, regardless of whether the events or transactions that would necessitate such decisions are expected to occur in the near term. However, it must be at least reasonably possible that those events or transactions that would necessitate such decisions will occur.

35

The ordinary course of business definition would not include self-dealing transactions with controlling shareholders.

810-10-25-9 The following guidance addresses considerations of noncontrolling

shareholder rights, specifically:

a. Protective rights b. Subparagraph superseded by Accounting Standards Update 2012-XX.

Substantive participating rights c. Factors to consider in evaluating whether noncontrolling shareholder

rights.rights are substantive.

>> Protective Rights

810-10-25-10 Noncontrolling rights (whether granted by contract or by law) that

would allow the noncontrolling shareholder to block corporate actions would be considered protective rights and would not overcome the presumption of consolidation by the investor with a majority voting interest in its investee. The following list is illustrative of the protective rights that often are provided to the noncontrolling shareholder but is not all-inclusive:

a. Amendments to articles of incorporation of the investee b. Pricing on transactions between the owner of a majority voting interest

and the investee and related self-dealing transactions c. Liquidation of the investee or a decision to cause the investee to enter

bankruptcy or other receivership d. Subparagraph superseded by Accounting Standards Update 2012-XX.

Acquisitions and dispositions of assets that are not expected to be undertaken in the ordinary course of business (noncontrolling rights relating to acquisitions and dispositions of assets that are expected to be made in the ordinary course of business are participating rights; determining whether such rights are substantive requires judgment in light of the relevant facts and circumstances [see paragraphs 810-10-25-13 and 810-10-55-1])

e. Issuance or repurchase of equity interests.

> > Substantive Participating Rights


Noncontrolling rights (whether granted by contract or by law) that would allow the noncontrolling shareholder to effectively participate in either of the following corporate actions shall be considered substantive participating rights and would overcome the presumption that the investor with a majority voting interest shall consolidate its investee. The following list is illustrative of substantive participating rights, but is not necessarily all-inclusive:

a. Selecting, terminating, and setting the compensation of management responsible for implementing the investee’s policies and procedures

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b. Establishing operating and capital decisions of the investee entity, including budgets, in the ordinary course of business.


The rights noted in the preceding paragraph are participating rights because, in the aggregate, the rights allow the noncontrolling shareholder to effectively participate in decisions that occur as part of the ordinary course of the investee’s business and are significant factors in directing and carrying out the activities of the business. Individual rights, such as the right to veto the termination of management responsible for implementing the investee’s policies and procedures, should be assessed based on the facts and circumstances to determine if they are substantive participating rights in and of themselves. However, noncontrolling rights that appear to be participating rights but that by themselves are not substantive (see paragraphs 810-10-25-13 and 810-10-55-1) would not overcome the presumption of consolidation by the investor with a majority voting interest in its investee. The likelihood that the veto right will be exercised by the noncontrolling shareholder should not be considered when assessing whether a noncontrolling right is a substantive participating right.

> > Factors to Consider in Evaluating Whether Noncontrolling Rights Are Substantive

810-10-25-13 The following factors shall be considered in evaluating whether

noncontrolling rights that appear to be participating are substantive rights, that is, whether these factors provide for effective participation in the activities that most significantly impact the entity’s economic performance:significant decisions related to the investee’s ordinary course of business:

a. Consideration shall be given to situations in which a majority shareholder owns such a significant portion of the investee that the noncontrolling shareholder has a small economic interest. As the disparity between the ownership interest of majority and noncontrolling shareholders increases, the rights of the minority shareholder are presumptively more likely to be protective rights and shall raise the level of skepticism about the substance of the right. Similarly, although a majority owner is presumed to control an investee, the level of skepticism about such ability shall increase as the investor’s economic interest in the investee decreases.

b. The corporate governance arrangements governing documents shall be considered to determine the rights at each level and at what level decisions are made—(for example, at the shareholder level or at the board level level).— and the rights at each level also shall be considered. In all situations, any matters that can be put to a vote of the shareholders shall be considered to determine if other investors, individually or in the aggregate, have substantive participating rights by virtue of their ability to vote on matters submitted to a shareholder vote. The determination of whether matters that can be put to a vote are

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substantive shall be based on a consideration of all relevant facts and circumstances.

c. Relationships between the majority and noncontrolling shareholders (other than an investment in the common investee) that are of a related-party nature, as defined in Topic 850, shall be considered in determining if whether the participating rights of the noncontrolling shareholder are substantive. For example, if the noncontrolling shareholder in an investee is a member of the immediate family of the majority shareholder of the investee, then the rights of the noncontrolling shareholder likely would not be considered substantive. overcome the presumption of consolidation by the investor with a majority voting interest in its investee.

d. Certain noncontrolling rights may deal with operating or capital decisions that do not most significantly impact the entity’s economic performance.are not significant to the ordinary course of business of the investee. Noncontrolling rights related to decisions items that are not considered significant for directing and carrying out the most significant activities of the investee investee’s business are not substantive participating rights. rights and would not overcome the presumption of consolidation by the investor with a majority voting interest in its investee. Examples of such noncontrolling rights relate to decisions about include the following: 1. Location location of investee headquarters,the investee’s

headquarters 2. Name name of the investee, investee 3. Selectionselection of auditors, auditors and 4. Selectionselection of accounting principles for purposes of separate

reporting of investee the investee’s operations. e. Subparagraph superseded by Accounting Standards Update 2012-

XX.Certain noncontrolling rights may provide for the noncontrolling shareholder to participate in significant decisions that would be expected to be made in certain business activities in the ordinary course of business; however, the existence of such noncontrolling rights shall not overcome the presumption that the majority shall consolidate, if it is remote that the event or transaction that requires noncontrolling shareholder approval will occur. Remote is defined in Topic 450 as the chance of the future event or events occurring being slight.

f. An owner of a majority voting interest who has a contractual right to buy out the interest of the noncontrolling shareholder in the investee for fair value or less shall consider the feasibility of exercising that contractual right when determining if the participating rights of the noncontrolling shareholder are substantive. If such a buyout is prudent, feasible, and substantially within the control of the majority owner, the majority owner’s contractual right to buy out the noncontrolling owner demonstrates that the participating rights are right of the noncontrolling shareholder is not substantive. a substantive right. The existence of

38

such call options, for purposes of the General Subsections, negate the participating rights of the noncontrolling shareholder to veto an action of the majority shareholder, rather than create an additional ownership interest for that majority shareholder. It would not be prudent, feasible, and substantially within the control of the majority owner to buy out the noncontrolling shareholder if, for example, either of the following conditions exists: 1. Thethe noncontrolling shareholder controls technology that is

critical to the investee orinvestee. 2. Thethe noncontrolling shareholder is the principal source of funding

for the investee.

Paragraph 810-10-55-1 provides additional guidance on assessing substantive participating rights.

810-10-25-14 An entity that is not controlled by the holder of a majority voting

interest because of noncontrolling shareholder veto rights described in paragraphs 810-10-25-2 through 25-13 and 810-10-55-1 is not a {add glossary link}VIE{add glossary link} if the shareholders as a group (the holders of the

equity investment at risk) have the power to control the entity and the equity investment meets the other requirements of paragraphs 810-10-15-14 and 810-10-25-45 through 25-47, as applicable.


810-10-25-20 This Subsection addresses various transactional considerations in determining whether a legal entity is a variable interest entity (VIE) (VIE) and

would need to be consolidated by the reporting entity, specifically:

a. Determining the variability to be considered 1. Terms of interests issued 2. Subordination 3. Certain interest rate risk 4. Certain derivative instruments.

b. Initial involvement with a legal entity c. Consolidation based on variable interests

1. Subparagraph superseded by Accounting Standards Update 2012-XX.The effect of related parties

1a. Principal versus agent analysis 1b. The effect of related parties 2. Sufficiency of equity at risk 3. Implicit variable interests 4. Variable interest and interests in specific assets of a VIE.

> Determining the Variability to Be Considered

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810-10-25-21 The variability that is considered in applying the Variable Interest

Entities Subsections affects the determination of all of the following:

a. Whether the legal entity is a {add glossary link}VIE{add glossary link}

b. Which interests are variable interests in the legal entity c. Which party, if any, is the primary beneficiary of the VIE

That variability will affect any calculation of expected losses and expected residual returns, if such a calculation is necessary. Paragraph 810-10-25-38A

810-10-25-29 provides guidance on the use of a quantitative approach associated with expected losses and expected residual returns in connection with determining which party is the primary beneficiary.

810-10-25-29 A qualitative analysis of the design of the legal entity, as performed

in accordance with the guidance in the Variable Interest Entities Subsections will often will be conclusive in determining the variability to consider in applying the guidance in the Variable Interest Entities Subsections, and determining which interests are variable interests, interests. If a qualitative analysis of the design of the legal entity is inconclusive, the quantitative approach described in the definitions of the terms expected losses, expected residual returns, and expected variability may be applied. However, a quantitative approach is not

required and shall not be the sole determinant as to whether a decision maker is a principal or an agent. A quantitative approach also is not required and shall not be the sole determinant as to whether a and ultimately determining which variable interest holder, if any, is the primary beneficiary.

> Consolidation Based on Variable Interests

810-10-25-38 A reporting entity shall consolidate a VIE when that reporting entity

has a variable interest (or combination of variable interests) that provides the reporting entity with a controlling financial interest on the basis of the provisions in paragraphs 810-10-25-38A through 25-38G. The reporting entity that consolidates a VIE is called the primary beneficiary of that VIE.

810-10-25-38A A reporting entity with a variable interest in a VIE shall assess

whether the reporting entity has a controlling financial interest in the VIE and, thus, is the VIE’s primary beneficiary. This shall include an assessment of the characteristics of the reporting entity’s variable interest(s) and other involvements (including involvement of related parties and de facto agents) (including implicit variable interests), if any, in the VIE, as well as the involvement of other variable interest holders. Paragraph 810-10-25-43 provides guidance on related parties and de facto agents. Additionally, the assessment shall consider the VIE’s purpose and design, including the risks that the VIE was designed to create and pass through to its variable interest holders. A reporting entity shall be deemed to have a controlling financial interest in a VIE if it has both of the following characteristics:

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a. The power to direct the activities of a VIE that most significantly impact the VIE’s economic performance

b. The obligation to absorb losses of the VIE that could potentially be significant to the VIE or the right to receive benefits from the VIE.VIE that could potentially be significant to the VIE. The quantitative approach described in the definitions of the terms expected losses, expected residual returns, and expected variability is not required

and shall not be the sole determinant as to whether a reporting entity has these obligations or rights.

In assessing whether a reporting entity has the power to direct the activities of a VIE that most significantly impact the VIE’s economic performance, a reporting entity shall consider whether it has the ability to use its decision-making authority as a principal or an agent. Paragraphs 810-10-25-39A through 25-39L provide guidance on performing this assessment.

Only one reporting entity, if any, is expected to be identified as the primary beneficiary of a VIE. Although more than one reporting entity could have the characteristic in (b) of this paragraph, only one reporting entity if any, will have the power to direct the activities of a VIE that most significantly impact the VIE’s economic performance.

810-10-25-38B A reporting entity must identify which activities most significantly

impact the VIE’s economic performance and determine whether it has the power to direct those activities. A reporting entity’s ability to direct the activities of an entity when circumstances arise or events happen constitutes power if that ability relates to the activities that most significantly impact the economic performance of the VIE. A reporting entity does not have to exercise its power in order to have power to direct the activities of a VIE.

810-10-25-38C A reporting entity’s determination of whether it has the power to

direct the activities of a VIE that most significantly impact the VIE’s economic performance shall not be affected by the existence of kick-out rights or participating rights unless a single reporting entity (including its related parties

and de facto agents) has the unilateral ability to exercise those kick-out rights or participating rights. A single reporting entity (including its related parties and de facto agents) that has the unilateral ability to exercise {add glossary link} kick-out rights {add glossary link} or {add glossary link} participating rights {add glossary link} may be the party with the power to direct the activities of a

variable interest entity that most significantly impact the entity’s economic performance. These requirements related to kick-out rights and participating rights are limited to this particular analysis and are not applicable to transactions accounted for under other authoritative guidance. Protective rights held by

other parties do not preclude a reporting entity from having the power to direct the activities of a variable interest entity that most significantly impact the entity’s economic performance.

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810-10-25-38D If a reporting entity determines that power is, in fact, shared

among multiple unrelated parties such that no one party has the power to direct the activities of a VIE that most significantly impact the VIE’s economic performance, then no party is the primary beneficiary. Power is shared if two or more unrelated parties together have the power to direct the activities of a VIE that most significantly impact the VIE’s economic performance and if decisions about those activities require the consent of each of the parties sharing power. If a reporting entity concludes that power is not shared but the activities that most significantly impact the VIE’s economic performance are directed by multiple unrelated parties and the nature of the activities that each party is directing is the same, then the party, if any, with the power over the majority of those activities shall be considered to have the characteristic in paragraph 810-10-25-38A(a).

810-10-25-38E If the activities that impact the VIE’s economic performance are

directed by multiple unrelated parties, and the nature of the activities that each party is directing is not the same, then a reporting entity shall identify which party has the power to direct the activities that most significantly impact the VIE’s economic performance. One party will have this power, and that party shall be deemed to have the characteristic in paragraph 810-10-25-38A(a).

810-10-25-38F Although a reporting entity may be significantly involved with the

design of a VIE, that involvement does not, in isolation, establish that reporting entity as the entity with the power to direct the activities that most significantly impact the economic performance of the VIE. However, that involvement may indicate that the reporting entity had the opportunity and the incentive to establish arrangements that result in the reporting entity being the variable interest holder with that power. For example, if a sponsor has an explicit or implicit financial responsibility to ensure that the VIE operates as designed, the sponsor may have established arrangements that result in the sponsor being the entity with the power to direct the activities that most significantly impact the economic performance of the VIE.

810-10-25-38G Consideration shall be given to situations in which a reporting

entity’s economic interest in a VIE, including its obligation to absorb losses or its right to receive benefits, is disproportionately greater than its stated power to direct the activities of a VIE that most significantly impact the VIE’s economic performance. Although this factor is not intended to be determinative in identifying a primary beneficiary, the level of a reporting entity’s economic interest may be indicative of the amount of power that reporting entity holds.

> > Principal versus Agent Analysis

810-10-25-39A A reporting entity is required to assess whether the entity’s

decision maker is a principal or an agent. This assessment is relevant when determining whether the entity is a variable interest entity, as discussed in paragraph 810-10-15-14(b), and when determining whether a reporting entity is the primary beneficiary of a variable interest entity.

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810-10-25-39B An agent is a party that acts on behalf of and for the benefit of

another party or parties (the principal(s)) and, therefore, does not control the entity when it exercises its decision-making authority. Thus, decision-making authority (power) may be held and exercisable by an agent but on behalf of a principal. A decision maker is not an agent simply because other parties can benefit from the decisions that it makes.

810-10-25-39C A decision maker shall consider the overall relationship between

itself, the entity being managed, and other parties involved with the entity when evaluating whether it is exercising its decision-making authority as a principal or an agent. This assessment also shall consider the entity’s purpose and design, including the risks that the entity was designed to create and pass through to its interest holders. In particular, all of the factors below shall be considered in determining whether the decision maker is using its decision-making authority in a principal or an agent capacity:

a. The rights held by other parties (see paragraphs 810-10-25-39D through 25-39H).

b. The compensation to which the decision maker is entitled in accordance with its compensation agreement(s) (see paragraphs 810-10-25-39I through 25-39J).

c. The decision maker’s exposure to variability of returns from other interests that it holds in the entity (see paragraphs 810-10-25-39K through 25-39L).

Different weightings shall be applied to each of the factors on the basis of particular facts and circumstances considering the purpose and design of the entity, including the risks that the entity was designed to create and pass through to its interest holders. (See the Examples in paragraphs 810-10-55-3A through 55-3BK.)

> > > Rights Held by Other Parties

810-10-25-39D Substantive rights held by other parties may affect the decision

maker’s ability to direct the activities that most significantly impact an entity’s economic performance. Substantive kick-out rights or participating rights may indicate that the decision maker is an agent rather than a principal.

810-10-25-39E When a single party (including its related parties) holds a

substantive kick-out right (or other rights that have a similar effect on the decision maker’s ability to exercise its power) and can remove the decision maker without cause, this, in isolation, is sufficient to conclude that the decision maker

is an agent rather than a principal. If more than one unrelated party holds such rights (and no single party can remove the decision maker without the agreement of other parties), the kick-out rights are not, in isolation, conclusive in determining that a decision maker is not a principal. The greater the number of unrelated parties required to act together to exercise rights to remove a decision maker, and the greater the magnitude of, and variability associated with, the decision

43

maker’s other economic interests (that is, compensation and other interests), the less weighting that shall be placed on this factor. In addition, consideration shall be given to situations in which a decision maker has such a significant exposure to the entity’s variability that the holders of the kick-out rights have a small exposure to the entity’s variability. As the disparity between a decision maker’s economic interests in an entity and the economic interests of those holding the rights increases, the kick-out rights become presumptively less relevant, and the likelihood that the decision maker is a principal increases.

810-10-25-39F Substantive participating rights held by other parties that restrict a

decision maker’s discretion shall be considered in a similar manner to kick-out rights when evaluating whether the decision maker is a principal. Accordingly, a decision maker is not a principal if a single party has the ability to block or participate in the actions through which the decision maker exercises its power to direct the activities that most significantly impact the entity’s economic performance. If more than one party holds such rights (and no single party can exercise those rights without the agreement of other parties), those rights are not, in isolation, conclusive in determining that a decision maker is not a principal.

810-10-25-39G Consideration of the rights held by other parties shall include an

assessment of any rights exercisable by an entity’s board of directors (or other governing body) and their effect on the decision-making authority. The assessment of rights held by a board of directors would need to include an evaluation of the board of directors’ authority and composition. A board of directors whose members are independent of the decision maker may serve as a mechanism to facilitate numerous parties to act collectively in exercising their rights. For example, a board of directors for a fund established in accordance with the Investment Company Act of 1940, which is legally required to have an independent board of directors, may be considered substantive and yield significant authority when assessing whether to retain a decision maker. Conversely, a board of directors that lacks authority or independence from the decision maker should be excluded from the principal versus agent assessment. Kick-out rights held by a board of directors shall not be considered to be unilateral and, thus, shall not be solely determinative that a decision maker is not a principal unless a single third-party investor (including its related parties) controls the board of directors.

810-10-25-39H The guidance in paragraphs 810-10-25-40A through 25-40C

addresses considerations that shall be evaluated to determine if kick-out rights held by other parties are substantive. In addition, the guidance in paragraphs 810-10-25-41A through 25-41G addresses considerations that shall be evaluated to determine whether rights held by other parties are protective rights or

substantive participating rights.

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> > > Compensation

810-10-25-39I A decision maker shall consider its compensation to assess

whether it is a principal or an agent. The greater the magnitude of, and variability associated with, the decision maker’s compensation relative to the entity’s anticipated economic performance, the more likely the decision maker is using its decision-making authority in a principal capacity.

810-10-25-39J In determining whether a decision maker is a principal or an

agent, the decision maker also shall consider whether both of the following conditions exist:

a. The compensation of the decision maker is commensurate with the services provided.

b. Its compensation agreement includes only terms, conditions, or amounts that are customarily present in arrangements for similar services negotiated on an arm’s-length basis.

If those conditions are not present, this would be a strong indicator that the decision maker is a principal. However, meeting those conditions in isolation is not sufficient to conclude that a decision maker is not a principal.

> > > Exposure to Variability in Returns from Other Interests

810-10-25-39K In assessing whether it is a principal, a decision maker that holds

other interests in an entity (for example, investments in the entity or guarantees with respect to the performance of the entity) shall consider its exposure to variability of returns from those interests. Holding other interests in an entity indicates that the decision maker may be a principal.

810-10-25-39L In evaluating its exposure to variable returns from other interests

in the entity, a decision maker shall consider all of the following:

a. Whether the magnitude of, and variability associated with, the decision maker’s economic interests, considering its compensation and other interests in aggregate, makes it more likely that the decision maker is a principal.

b. Whether the decision maker’s exposure to variability of returns is more than that of the other investors. This may exist when a decision maker holds subordinated investments in, or provides other forms of credit enhancement to, an entity. For example, a 5 percent pro rata interest in an entity would be less indicative of a principal relationship than a 5 percent subordinated interest in an entity.

c. Whether the decision maker’s exposure to positive and negative returns (for example, an equity interest or a guarantee) makes it more likely to be a principal. In contrast, an interest that exposes the decision maker to only positive returns, when considering the magnitude and variability of the interest, would be less indicative of a principal relationship.

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d. The decision maker’s maximum exposure to losses of the entity. Although the decision maker’s exposure is evaluated primarily on the basis of returns expected from the activities of an entity, that evaluation also shall consider its maximum exposure to losses of the entity.

> > > Kick-Out Rights

810-10-25-40A The determination of whether the kick-out rights are substantive

and would affect the analysis of whether a decision maker is a principal or an agent shall be based on a consideration of all relevant facts and circumstances. For kick-out rights to be considered substantive, the parties holding the kick-out rights shall have the ability to exercise those rights if they choose to do so; that is, there are no significant barriers to the exercise of the rights. Barriers include, but are not limited to, the following:

a. Kick-out rights subject to conditions that make it unlikely that they will be exercisable (for example, conditions that narrowly limit the timing of the exercise)

b. Financial penalties or operational barriers associated with dissolving (liquidating) the entity or replacing the decision maker that would act as a significant disincentive for dissolution (liquidation) or removal

c. The absence of an adequate number of qualified replacement decision makers or the lack of adequate compensation to attract a qualified replacement

d. The absence of an explicit, reasonable mechanism in the entity’s governing documents or in the applicable laws or regulations, by which the other parties holding the rights can call for and conduct a vote to exercise those rights

e. The inability of the other parties holding the rights to obtain the information necessary to exercise them.

810-10-25-40B For purposes of applying the preceding paragraph, an investor’s

unilateral right to withdraw its investment in whole or in part (withdrawal right) that does not require dissolution or liquidation of the entire entity is not deemed to be a kick-out right.

810-10-25-40C Rights held by other parties to remove the decision maker shall

be evaluated as kick-out rights in accordance with paragraph 810-10-25-40A. Rights held by other parties to participate in the termination of management (for example, management is outsourced to a party other than the decision maker) or the individual members of management of the entity may be substantive participating rights.

> > > Participating Rights

810-10-25-41A The assessment of whether the rights of other parties are

considered substantive participating rights is a matter of judgment that depends on facts and circumstances. The framework in which such facts and

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circumstances are judged shall be based on whether the rights provide for the other interest holders to effectively participate in the activities that most significantly impact the entity’s economic performance (that is, participating rights). Participation does not require the ability of the other interest holders to initiate actions but rather the ability to block significant decisions proposed by the decision maker.

810-10-25-41B All rights could be described as protective of the other interest

holders in the entity, but some rights also allow the other interest holders to participate in the activities that most significantly impact the investee’s economic performance.

810-10-25-41C Rights that are only protective in nature (that is, protective rights)

would not affect the consolidation analysis. Substantive participating rights that provide the other interest holders with the right to effectively participate in the activities that most significantly impact the entity’s economic performance, although also protective of the other interest holders, shall be considered in the consolidation analysis.

810-10-25-41D For purposes of this Subsection, a reporting entity must identify

which activities most significantly impact the entity’s economic performance and determine whether the other interest holders have the right to participate in those activities. The likelihood that the participating rights will be exercised by the interest holder shall not be considered when assessing whether a participating right is substantive.

810-10-25-41E The following guidance addresses considerations of participating

rights, specifically:

a. Protective rights b. Factors to consider in evaluating participating rights.

> > > > Protective Rights

810-10-25-41F Rights (whether granted by contract or by law) that would allow

other parties to block the following actions would be considered protective rights and would not affect the consolidation analysis. The following list is illustrative of protective rights but is not all-inclusive:

a. Amendments to the governing documents of the entity b. Pricing on transactions between the decision maker and the entity and

related self-dealing transactions c. Liquidation of the entity or a decision to cause the entity to enter

bankruptcy or other receivership d. Issuance or repurchase of ownership interests.

> > > > Factors to Consider in Evaluating Participating Rights

810-10-25-41G The following factors shall be considered in evaluating whether

rights that appear to be participating are substantive rights (that is, whether these

47

factors provide for effective participation in the activities that most significantly impact the entity’s economic performance):

a. The governing documents shall be considered to determine the rights at each level and at what level decisions are made (for example, at the interest-holder level or at the decision maker level). In all situations, any matters that can be put to a vote of the interest holders shall be considered when determining if other parties, individually or in the aggregate, have substantive participating rights by virtue of their ability to vote on matters submitted to a vote. The determination of whether matters that can be put to a vote are substantive shall be based on a consideration of all relevant facts and circumstances.

b. Relationships between the decision maker and other parties (other than an interest in the common entity) that are of a related-party nature, as defined in Topic 850, shall be considered in determining whether the other parties’ are participating rights are substantive. For example, if the other party is a member of the immediate family of the decision maker, then the rights of the other parties likely would not be considered substantive participating rights.

c. Certain rights may deal with operating or capital decisions that do not most significantly impact the entity’s economic performance. Rights related to decisions that are not considered significant for directing and carrying out the most significant activities of the entity are not substantive participating rights. Examples of such rights include the following decisions: 1. Location of the entity’s headquarters 2. Name of the entity 3. Selection of auditors 4. Selection of accounting principles for purposes of separate

reporting of the entity’s operations. d. A decision maker who has a contractual right to buy out the interest of

the other parties in the entity for fair value or less shall consider the feasibility of exercising that contractual right when determining if the participating rights of the other parties are substantive. If such a buyout is prudent, feasible, and substantially within the control of the decision maker, the contractual right to buy out the other parties’ interests demonstrates that the participating rights are not substantive. The existence of such call options, for purposes of the Variable Interest Entities Subsections, negates the participating rights of the other parties to veto an action of the decision maker, rather than create an additional ownership interest for the decision maker. It would not be prudent, feasible, and substantially within the control of the decision maker to buy out the interests of the other parties if, for example, either of the following conditions exists: 1. The other parties control technology that is critical to the entity. 2. The other parties are the principal source of funding for the entity.

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Paragraph 810-10-55-1 provides additional guidance on assessing substantive participating rights.

> > The Effect of Related Parties

810-10-25-42 For purposes of determining whether the decision maker is a

principal or an agent (see paragraphs 810-10-25-39A through 25-39L), a decision maker shall include its direct economic interest in the entity and its indirect economic interests in the entity held through related parties. For example, if a decision maker owns a 40 percent interest in a related party and

that related party owns a 60 percent interest in the entity being evaluated, the decision maker’s interest would be considered equivalent to a 24 percent direct interest in the entity for the purposes of evaluating its decision-making capacity (assuming it has no other relationships with the entity). Similarly, if an employee of the decision maker is a related party and owns an interest in the entity being evaluated and that employee’s interest has been financed by the decision maker, the decision maker shall include its indirect interest in the evaluation. The term related parties in this paragraph refers to all parties as defined in Topic 850. For purposes of determining whether it is the primary beneficiary of a VIE, a reporting entity with a variable interest shall treat variable interests in that same VIE held by its related parties as its own interests.

810-10-25-43 For purposes of applying the guidance in the Variable Interest Entities Subsections, unless otherwise specified, the term related parties includes those parties identified in Topic 850 and certain other parties that are acting as de facto agents or de facto principals of the variable interest holder. All of the following are considered to be de facto agents of a reporting entity:

a. A party that cannot finance its operations without subordinated financial support from the reporting entity, for example, another VIE of

which the reporting entity is the primary beneficiary b. A party that received its interests as a contribution or a loan from the

reporting entity c. An officer, employee, or member of the governing board of the reporting

entity d. A party that has an agreement that it cannot sell, transfer, or encumber

its interests in the VIE without the prior approval of the reporting entity. The right of prior approval creates a de facto agency relationship only if that right could constrain the other party’s ability to manage the economic risks or realize the economic rewards from its interests in a VIE through the sale, transfer, or encumbrance of those interests. However, a de facto agency relationship does not exist if both the reporting entity and the party have right of prior approval and the rights are based on mutually agreed terms by willing, independent parties. 1. Subparagraph superseded by Accounting Standards Update No.

2009-17.

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2. Subparagraph superseded by Accounting Standards Update No. 2009-17.

e. A party that has a close business relationship like the relationship between a professional service provider and one of its significant clients.

810-10-25-44 In situations in which a reporting entity concludes that neither it nor

one of its related parties has the characteristics in paragraph 810-10-25-38A but, as a group, the reporting entity and its related parties (including the de facto agents described in the preceding paragraph) have those characteristics, then the party within the related party group that is most closely associated with the VIE is the primary beneficiary. The determination of which party within the related party group is most closely associated with the VIE requires judgment and shall be based on an analysis of all relevant facts and circumstances, including all of the following:

a. The existence of a principal-agency relationship between parties within the related party group

b. The relationship and significance of the activities of the VIE to the various parties within the related party group

c. A party’s exposure to the variability associated with the anticipated economic performance of the VIE

d. The design of the VIE.


> General Partner Is the Decision Maker Presumed to Control a Limited Partnership

810-10-25-82 The general partners in a limited partnership shall determine

whether they control a limited partnership based on the application of the framework guidance in this Subtopic Subsection. The general partner is the limited partnership’s decision maker. The general partner shall determine whether it has the ability to use its decision-making authority in a principal or agent capacity. If a general partner uses its decision-making authority in a principal capacity, it shall consolidate the limited partnership. [Content amended as shown and moved from paragraph 810-20-25-2]

810-10-25-83 If, based on the preceding evaluation in paragraphs 810-10-25-86

through 25-106, the limited general partners partner does not use its decision-making authority in a principal capacity, possess substantive kick-out rights, presumption of control by the general partners would be overcome and each of the general partners partner would account for its investment in the limited partnership using the equity method of accounting. Topic 323 provides guidance on the equity method of accounting. [Content amended as shown and moved from paragraph 810-20-25-10]

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810-10-25-84 If a limited partnership has multiple general partners, the

determination of which, if any, general partner within the group uses its decision-making authority in a principal capacity controls and, therefore, shall consolidate the limited partnership is based on an analysis of the relevant facts and circumstances. In situations involving multiple general partners, entities under common control are considered to be a single general partner for purposes of applying the guidance in this Subtopic.Subsection. [Content amended as shown and moved from paragraph 810-20-25-1]

810-10-25-85 The assessment of whether the general partner has the ability to

use its decision-making authority in a principal or agent capacity limited partners’ rights and their impact on the presumption of control of the limited partnership by the general partners shall be made when an investor (or investors) first becomes a general partner (or partners) and shall be reassessed in accordance with paragraph 810-10-35-6.- at each reporting period thereafter for which financial statements of the general partner(s) are prepared. [Content amended as shown and moved from paragraph 810-20-25-6]

> > Principal versus Agent Analysis

810-10-25-86 An agent is a party that acts on behalf of and for the benefit of

another party or parties (the principal(s)) and, therefore, does not control the entity when it exercises its decision-making authority. Thus, decision-making authority (power) may be held and exercisable by an agent on behalf of a principal. A general partner is not an agent simply because the limited partners can benefit from the decisions that it makes.

810-10-25-87 A general partner shall consider the overall relationship between

itself, the limited partnership being managed, and other parties involved with the limited partnership when evaluating whether it is exercising its decision-making authority as a principal or an agent. This assessment also shall consider the limited partnership’s purpose and design, including the risks that the limited partnership was designed to create and pass through to its interest holders. In particular, all of the factors below shall be considered in determining whether the general partner is using its decision-making authority in a principal or an agent capacity:

a. The rights held by other parties (see paragraphs 810-10-25-88 through 25-91)

b. The compensation to which it is entitled in accordance with its compensation agreement(s) (see paragraphs 810-10-25-92 through 25-93)

c. The general partner’s exposure to variability of returns from other interests that it holds in the limited partnership (see paragraphs 810-10-25-94 through 25-95).

Different weightings shall be applied to each of the factors on the basis of particular facts and circumstances considering the purpose and design of the

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limited partnership, including the risks that the limited partnership was designed to create and pass through to its interest holders. (See the Examples in paragraphs 810-10-55-3A through 55-3BK.)

> > > Rights Held by Other Parties

810-10-25-88 Substantive rights held by other parties may affect the general

partner’s ability to direct the activities that most significantly impact a limited partnership’s economic performance. Substantive kick-out rights or participating rights may indicate that the general partner is an agent rather than

a principal.

810-10-25-89 When a single party (including its related parties) holds a

substantive kick-out right (or other rights that have a similar effect on the general partner’s ability to exercise its power) and can remove the general partner without cause, this, in isolation, is sufficient to conclude that the general partner

is not a principal. If more than one unrelated party holds such rights (and no single party can remove the general partner without the agreement of other parties), those rights are not, in isolation, conclusive in determining that a general partner is not a principal. The greater the number of unrelated parties required to act together to exercise rights to remove a general partner, and the greater the magnitude of, and variability associated with, the general partner’s other economic interests (that is, compensation and other interests), the less weighting that shall be placed on this factor. In addition, consideration shall be given to situations in which a general partner has such a significant exposure to the limited partnership’s variability that the holders of those rights have a small exposure to the limited partnership’s variability. As the disparity between a general partner’s economic interests in a limited partnership and the economic interests of those holding the rights increases, the kick-out rights become presumptively less relevant, and the likelihood that the general partner is a principal increases.

810-10-25-90 Substantive participating rights held by other parties that restrict a

general partner’s discretion shall be considered in a similar manner to kick-out rights when evaluating whether the general partner is a principal. Accordingly, a general partner is not a principal if a single party has the ability to block or participate in the actions through which the general partner exercises its power to direct the activities that most significantly impact the limited partnership’s economic performance. If more than one party holds such rights (and no single party can exercise those rights without the agreement of other parties), those rights are not, in isolation, conclusive in determining that a general partner is not a principal.

810-10-25-91 The guidance in paragraphs 810-10-25-97 through 25-99

addresses considerations that shall be evaluated to determine if kick-out rights held by other parties are substantive. In addition, the guidance in paragraphs 810-10-25-100 through 25-106 addresses considerations that shall be evaluated

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to determine whether rights held by other parties are protective rights or

substantive participating rights.

> > > Compensation

810-10-25-92 A general partner shall consider its compensation to assess

whether it is a principal or an agent. The greater the magnitude of, and variability associated with, the general partner’s compensation relative to the limited partnership’s anticipated economic performance, the more likely the general partner is using its decision-making authority in a principal capacity.

810-10-25-93 In determining whether a general partner is a principal or an agent,

the general partner also shall consider whether both of the following conditions exist:

a. The compensation of the general partner is commensurate with the services provided.

b. Its compensation agreement includes only terms, conditions, or amounts that are customarily present in arrangements for similar services negotiated on an arm’s-length basis.

If those conditions are not present, this would be a strong indicator that the general partner is a principal. However, meeting those conditions in isolation is not sufficient to conclude that a general partner is not a principal.

> > > Exposure to Variability in Returns from Other Interests

810-10-25-94 A general partner that holds other interests in a limited partnership

(for example, limited partnership interests in the limited partnership or guarantees with respect to the performance of the limited partnership) shall consider its exposure to variability of returns from those interests in assessing whether it is a principal. Holding other interests in the limited partnership indicates that the general partner may be a principal.

810-10-25-95 In evaluating its exposure to variable returns from other interests in

the limited partnership, a general partner shall consider all of the following:

a. Whether the magnitude of, and variability associated with, the general partner’s economic interests, considering its compensation and other interests in aggregate, makes it more likely that the general partner is a principal.

b. Whether the general partner’s exposure to variability of returns is more than that of the other investors. For example, this may exist when a general partner holds subordinated investments in, or provides other forms of credit enhancement to, the limited partnership. For example, a 5 percent pro rata interest in a limited partnership would be less indicative of a principal relationship than a 5 percent subordinated interest in a limited partnership.

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c. Whether the general partner’s exposure to positive and negative returns (for example, an equity interest or a guarantee) makes it more likely to be a principal. In contrast, an interest that exposes the general partner to only positive returns, when considering the magnitude and variability of the interest, would be less indicative of a principal relationship.

d. The general partner’s maximum exposure to losses of the limited partnership. Although the general partner’s exposure is evaluated primarily on the basis of returns expected from the activities of the limited partnership, that evaluation also shall consider its maximum exposure to losses of the limited partnership, which would include guarantees of the partnership’s obligations (through a contract or a legal requirement) that may be inherent in a general partner’s ownership interest.

> > The Effects of Related Parties

810-10-25-96 For purposes of determining whether the general partner is a

principal or an agent (see paragraphs 810-10-25-86 through 25-95), the general partner shall include its direct economic interests in the partnership and its indirect economic interest held through a related party. For example, if a general partner owns a 40 percent interest in a related party and that related party owns a 60 percent interest in the limited partnership being evaluated, the general partner’s interest would be considered equivalent to a 24 percent direct interest in the limited partnership for the purposes of evaluating its capacity (assuming it has no other relationships with the entity). Similarly, if an employee of the general partner is a related party and owns an interest in the limited partnership being evaluated and that employee’s interest has been financed by the general partner, the general partner shall include its indirect interest in the evaluation. The term related parties in this paragraph refers to all parties as defined in Topic 850.

> > > Kick-Out Rights

810-10-25-97 The determination of whether the kick-out rights are substantive

and would affect the analysis of whether a decision maker is a principal or an agent shall be based on a consideration of all relevant facts and circumstances. Substantive kick-out rights shall have both of the following characteristics: In order for kick-out rights to be considered substantive, the limited partners holding the kick-out rights shall have the ability to exercise those rights if they choose to do so; that is, there are no significant barriers to the exercise of the rights. Barriers include, but are not limited to, the following:

a. Subparagraph superseded by Accounting Standards Update 2012-XX. The kick-out rights can be exercised by a single limited partner or a vote of a simple majority (see Example 1 [paragraph 810-20-55-10]) or a lower percentage of the limited partners’ voting interests held by parties other than the general partners, entities under common control with the general partners or a general partner, and other parties acting on behalf of the general partners or a general partner. A kick-out right that

54

contractually requires a vote in excess of a simple majority (such as a supermajority) of the limited partners’ voting interests to remove the general partners may still be substantive if the general partners could be removed in every possible voting scenario in which a simple majority of the limited partners’ voting interests vote for removal. That is, there is no combination of the limited partners’ voting interests that represents at least a simple majority of the limited partners’ voting interests that cannot remove the general partners (see Example 1, Case D [paragraph 810-20-55-14]). All relevant facts and circumstances shall be considered in assessing whether other parties, including, but not limited to, those defined as related parties in Topic 850, may be acting on behalf of the general partners in exercising their voting rights as limited partners. Similarly, in assessing whether a single limited partner has the ability to remove the general partners, consideration shall be given to whether other parties, including, but not limited to, those defined as related parties in that Topic, may be acting with the limited partner in exercising their kick-out rights.

b. The limited partners holding the kick-out rights have the ability to exercise those rights if they choose to do so; that is, there are no significant barriers to the exercise of the rights. Barriers include, but are not limited to, the following:

1.b. Kick-out rights subject to conditions that make it unlikely that they will be exercisable, for example, conditions that narrowly limit the timing of the exercise

2.c. Financial penalties or operational barriers associated with dissolving (liquidating) the limited partnership or replacing the general partners that would act as a significant disincentive for dissolution (liquidation) or removal

3.d. The absence of an adequate number of qualified replacement general partners or the lack of adequate compensation to attract a qualified replacement

4.e. The absence of an explicit, reasonable mechanism in the limited partnership agreement or in the applicable laws or regulations, by which the limited partners holding the rights can call for and conduct a vote to exercise those rights

5.f. The inability of the limited partners holding the rights to obtain the information necessary to exercise them.


810-10-25-98 For purposes of applying the preceding paragraph, the limited

partners’ unilateral right to withdraw from the partnership in whole or in part (withdrawal right) that does not require dissolution or liquidation of the entire limited partnership would not overcome the presumption that the general partners control the limited partnership (that is, the withdrawal right is not deemed to be a kick-out right).right. The requirement to dissolve or liquidate the

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entire limited partnership upon the withdrawal of a limited partner or partners shall not be required to be contractual for a withdrawal right to be considered as a potential kick-out right. [Content amended and moved from paragraph 810-20-25-9]

810-10-25-99 Rights held by the limited partners to remove the general partners

from the partnership shall be evaluated as kick-out rights pursuant toin accordance with paragraph 810-20-25-8810-10-25-97. Rights of the limited partners to participate in the termination of management (for example, management is outsourced to a party other than the general partner) or the individual members of management of the limited partnership may be substantive participating rights. [Content amended and moved from paragraph 810-20-25-14]

> > > Participating Rights

810-10-25-100 The assessment of whether the rights of limited partners are

considered substantive participating rights is a matter of judgment that depends on facts and circumstances. The framework in which such facts and circumstances are judged shall be based on whether the limited partners’ rights provide for the limited partners to effectively participate in the activities that most significantly impact the limited partnership’s economic performance (that is, participating rights). Participation does not require the ability of the limited partners to initiate actions but rather the ability to block significant decisions proposed by the general partner.

810-10-25-101 All limited partner rights could be described as protective of the

limited partners’ investment in the investee, but some rights also allow the limited partners to participate in the activities that most significantly impact the investee’s economic performance.

810-10-25-102 Rights that are only protective in nature (that is, protective rights)

would not affect the consolidation analysis. Substantive participating rights that provide the limited partners with the right to effectively participate in the activities that most significantly impact the investee’s economic performance, although also protective of the limited partners’ investment, shall be considered in the consolidation analysis.

810-10-25-103 For purposes of this Subsection, a reporting entity must identify

which activities most significantly impact the investee’s economic performance and determine whether the limited partners have the right to participate in those activities. The likelihood that the participating right will be exercised by the limited partners shall not be considered when assessing whether a participating right is substantive.

810-10-25-104 The following guidance addresses considerations of limited

partners’ rights, specifically:

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a. Protective rights b. Factors to consider in determining whether limited partners’ rights are

substantive.

> > > > Protective Rights

810-10-25-105 Limited partners’ rights (whether granted by contract or by law)

that would allow the limited partners to block the following limited partnership actions would be considered protective rights. The following list is illustrative of protective rights but is not all-inclusive: rights and would not overcome the presumption of control by the general partners:

a. Amendments to the limited partnership agreement b. Pricing on transactions between the general partners and the limited

partnership and related self-dealing transactions c. Liquidation of the limited partnership initiated by the general partners or

a decision to cause the limited partnership to enter bankruptcy or other receivership

d. Subparagraph superseded by Accounting Standards Update 2012-XX. Acquisitions and dispositions of assets that are not expected to be undertaken in the ordinary course of business (Limited partners’ rights relating to acquisitions and dispositions that are expected to be made in the ordinary course of the limited partnership’s business are participating rights. Determining whether such rights are substantive requires judgment in light of the relevant facts and circumstances.)

e. Issuance or repurchase of limited partnership interests.

These are illustrative of some, but not all, of the protective rights that often are provided to limited partners. [Content amended and moved from paragraph 810-20-25-19]

> > > > Factors to Consider in Determining Whether Limited Partners’ Rights Are Substantive

810-10-25-106 The following factors shall be considered in evaluating whether

limited partners’ rights that appear to be participating are substantive rights-that rights, (that is, whether these factors provide for effective participation in the activities that most significantly impact the limited partnership’s economic performance): significant decisions related to the limited partnership’s ordinary course of business:

a. The limited partnership agreement shall be considered to determine the rights at each level and at what level decisions are made–(for example, by the general partners or by the limited partnership as a wholewhole).–and the rights at each level also shall be considered. In all situations, any matters that can be put to a vote of the limited partnership shall be considered to determine if the limited partners, individually or in the aggregate, have substantive participating rights by virtue of their ability

57

to vote on matters submitted to a vote of the limited partnership. The determinationDetermination of whether matters that can be put to a vote of the limited partners, or the vote of the limited partnership as a whole, are substantive shall be based on a consideration of all relevant facts and circumstances.

b. Relationships between the general partners and limited partners (other than investment in the common limited partnership) that are of a related-party nature, as defined in Topic 850, shall be considered in determining ifwhether the participating rights of the limited partners are substantive. For example, if the limited partner in a limited partnership is a member of the immediate family of the general partners of the limited partnership, then the rights of the limited partner likely would not overcome the presumption of control by the general partners.be considered substantive participating rights.

c. Certain limited partners’ rights may deal with operating or capital decisions that do not most significantly impact the limited parternship’s economic performance.are not significant to the ordinary course of business of the limited partnership. Limited partners’ rights related to itemsdecisions that are not considered significant for directing and carrying out the most significant activities of the limited partnership partnership’s business are not substantive participating rights and would not overcome the presumption of control by the general partners. Examples of such limited partners’ rights include the following decisions: 1. Location of the limited partnership’s headquarters 2. Name of the limited partnership 3. Selection of auditors 4. Selection of accounting principles for purposes of separate

reporting of the limited partnership’s operations. d. Subparagraph superseded by Accounting Standards Update 2012-XX.

Certain limited partners’ rights may provide for the limited partners to participate in significant decisions that would be expected to be made in certain business activities in the ordinary course of business; however, the existence of such limited partners’ rights shall not overcome the presumption that the general partners have control if it is remote that the event or transaction that requires the limited partners’ approval will occur.

e. General partners who have a contractual right to buy out the interest of the limited partners in the limited partnership for fair value or less shall consider the feasibility of exercising that contractual right when determining if the participating rights of the limited partners are substantive. If such a buyout is prudent, feasible, and substantially within the control of the general partners, the general partners’ contractual right to buy out the limited partners demonstrates that the participating right of the limited partners is not a substantive right. The existence of such call options, for purposes of this Subtopic, the Partnerships and Similar Entities Subsections, negates the participating

58

rights of the limited partners to approve or veto an action of the general partners rather than creates an additional ownership interest for the general partners. It would not be prudent, feasible, and substantially within the control of the general partners to buy out the limited partners if, for example, either of the following conditions exists: 1. The limited partners control technology that is critical to the limited

partnership. 2. The limited partners are the principal source of funding for the

limited partnership.

Paragraph 810-10-55-1 provides additional guidance on assessing substantive participating rights. [Content amended and moved from paragraph 810-20-25-20]

8. Add paragraphs 810-10-35-6 through 35-7 and Subsection title, with a link to transition paragraph 810-10-65-4, as follows:

Subsequent Measurement


810-10-35-6 The initial determination of whether a decision maker uses its

decision-making authority in a principal or an agent capacity shall be made on the date at which a reporting entity becomes involved with the legal entity. The

determination of whether the decision maker is using its authority in a principal or an agent capacity shall be reconsidered if there has been a change in the purpose and design of the entity. For example, the purpose and design of the entity may change if the entity issues additional equity investment that is at risk to the decision maker.


810-10-35-7 The initial determination of whether a general partner uses its

decision-making authority in a principal or an agent capacity shall be made on the date at which a reporting entity becomes involved with the legal entity. The determination of whether the general partner is using its authority in a principal or an agent capacity shall be reconsidered if there has been a change in the purpose and design of the limited partnership. For example, the purpose and design of the limited partnership may change if the limited partnership issues additional partnership interests to the general partner.

9. Add paragraph 810-10-45-14A and its related heading, with a link to transition paragraph 810-10-65-4, as follows:

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Other Presentation Matters

> Additional Useful Information for Limited PartnershipsConsolidating Financial Statements

810-10-45-14A An entity has financial statement and disclosure alternatives that

may provide additional useful information. For example, an entity may highlight the effects of consolidating a limited partnership by providing consolidating financial statements or separately classifying the assets and liabilities of the limited partnership(s) on the face of the balance sheet. [Content amended as shown and moved from paragraph 810-20-45-1]

10. Amend paragraphs 810-10-55-1 and its related heading, 810-10-55-37 through 55-38, 810-10-55-101 through 55-103, 810-10-55-107 through 55-109, 810-10-55-113, 810-10-55-115 through 55-117, 810-10-55-120 through 55-121, 810-10-55-126, 810-10-55-128 through 55-130, 810-10-55-132 through 55-133, 810-10-55-140 through 55-143, 810-10-55-145 through 55-146, 810-10-55-150, 810-10-55-153 through 55-154, 810-10-55-157 through 55-159, 810-10-55-164 through 55-166, 810-10-55-170 through 55-171, 810-10-55-176 through 55-177, 810-10-55-180 through 55-181, 810-10-55-185 through 55-187, 810-10-55-193, 810-10-55-196 through 55-198, 810-10-55-200 through 55-202, 810-10-55-204 through 55-205; supersede paragraphs 810-10-55-3 through 55-4, 810-10-55-105, 810-10-55-118, 810-10-55-131, 810-10-55-144, 810-10-55-169, 810-10-55-179, 810-10-55-191, and 810-10-55-203; and add paragraphs 810-10-55-2A through 55-2B, 810-10-55-3A through 55-3BK, 810-10-55-108A through 55-108D, 810-10-55-120A through 55-120E, 810-10-55-132A through 55-132E, 810-10-55-145A through 55-145E, 810-10-55-158A through 55-158E, 810-10-55-170A through 55-170E, 810-10-55-180A through 55-180D, and 810-10-55-204A through 55-204D, and their related headings, with a link to transition paragraph 810-10-65-4, as follows:

Implementation Guidance and Illustrations

General

> Implementation Guidance

> > Assessing Individual Noncontrolling Participating Rights

810-10-55-1 The following implementation guidance is intended to facilitate the

understanding Examples of how to assess individual noncontrolling rights facilitate the understanding of how to assess whether the rights of the noncontrolling shareholder should be considered protective or participating and, if participating, whether the rights are substantive. This assessment is relevant for determining whether noncontrolling rights overcome the presumption of a

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majority shareholder’s control over an entity under the General Subsection of this Subtopic. This assessment also is relevant for determining whether a decision maker is using its decision-making authority in a principal or agent capacity under the Variable Interest Entities Subsection of this Subtopic and whether a general partner is using its decision-making authority in a principal or agent capacity under the Consolidation of Partnerships and Similar Entities Subsection of this Subtopic. Although the following examples illustrate the assessment of possible assessments of individual participating rights or protective rights,

noncontrolling rights, the evaluation of noncontrolling rights shallshould consider all of the factors identified in paragraph 810-10-25-13 the relevant Subsections of this Subtopic to determine whether the noncontrolling rights, individually or in the aggregate, provide for the noncontrolling shareholderholders of such rights to effectively participate in significant decisions that would be expected to be made in the ordinary course of business: the activities that most significantly impact the investee’s economic performance:

a. The rights of the noncontrolling shareholder Rights relating to the approval of acquisitions and dispositions of assets that are expected to be undertaken in the ordinary course of business may be substantive participating rights. rights if those activities are considered to most significantly impact the entity’s economic performance. Whether a right to approve the acquisition or disposition of assets significantly impacts the entity’s economic performance should be based on an evaluation of the relevant facts and circumstances. Rights related only to acquisitions that are not expected to be undertaken in the ordinary course of the investee’s existing business usually are protective and would not overcome the presumption of consolidation by the investor with a majority voting interest in its investee. Whether a right to approve the acquisition or disposition of assets is in the ordinary course of business should be based on an evaluation of the relevant facts and circumstances. In addition, if approval by the shareholder is necessary to incur additional indebtedness to finance an acquisition that is not in the investee’s ordinary course of business, then the approval by the noncontrolling shareholder would be considered a protective right.

b. Existing facts and circumstances should be considered in assessing whether the rights of the noncontrolling shareholder relating to an investee’s entity’s incurring additional indebtedness are protective or participating rights. For example, if it is reasonably possible or probable that the investee entity will need to incur the level of borrowings that requires noncontrolling shareholder approval by other interest holders in its ordinary course of business to carry out the activities that most significantly impact the entity’s economic performance, the rights of the noncontrolling shareholder would be viewed as substantive participating rights.

c. The rights of the noncontrolling shareholder Rights relating to dividends or other distributions may be protective or participating and should be

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assessed in light of the available facts and circumstances. For example, rights to block customary or expected dividends or other distributions may be substantive participating rights, while rights to block extraordinary distributions would be protective rights.

d. The rights of the noncontrolling shareholder Rights relating to an investee’s entity’s specific action (for example, to lease property) in an existing business may be protective or participating and should be assessed in light of the available facts and circumstances. For example, if the investee entity had the ability to purchase, rather than lease, the property without requiring the approval of the noncontrolling shareholder, then the rights of the noncontrolling shareholder to block the investee entity from entering into a lease would not be substantive.

e. The rights of the noncontrolling shareholder Rights relating to an investee’s entity’s negotiation of collective bargaining agreements with unions may be protective or participating and should be assessed in light of the available facts and circumstances. For example, if an investee entity does not have a collective bargaining agreement with a union or if the union does not represent a substantial portion of the investee’s entity’s work force, then the rights of the noncontrolling shareholder to approve or veto a new or broader collective bargaining agreement are not substantive.

f. Provisions that govern what will occur if the noncontrolling shareholder other interest holder blocks the an action of an owner of a majority

voting interest need to be considered to determine whether the right of the noncontrolling shareholder to block the action has substance. For example, if the a shareholder agreement provides that if the noncontrolling shareholder blocks the approval of an operating budget, then the budget simply defaults to last year’s budget adjusted for inflation, and if the investee entity is a mature business for which year-to-year operating budgets would not be expected to vary significantly, then the rights of the noncontrolling shareholder to block the approval of the operating budget do not allow the noncontrolling shareholder to effectively participate and are not substantive.

g. Noncontrolling rights Rights relating to the initiation or resolution of a lawsuit may be considered protective or participating depending on the available facts and circumstances. For example, if lawsuits are a part of the entity’s ordinary course of business, significantly impact the economic performance of the entity, as is the case for some insurance entities, then the noncontrolling rights may be considered a substantive participating right.

h. Subparagraph superseded by Accounting Standards Update 2012-XX. A noncontrolling shareholder has the right to veto the annual operating budget for the first X years of the relationship. Based on the facts and circumstances, during the first X years of the relationship this right may be a substantive participating right. However, following Year X there is a significant change in the exercisability of the noncontrolling right (for

62

example, the veto right terminates). As of the beginning of the period following Year X, that right would no longer be a substantive participating right and would not overcome the presumption of consolidation by the investor with a majority voting interest in its investee.

> > LIFO Liquidation

810-10-55-2 These paragraphs expand on the guidance in paragraph 810-10-25-

16. A last-in, first-out (LIFO) liquidation (also called a decrement) occurs when the number of units (or total base year cost if dollar value LIFO is used) in a LIFO pool at year end is less than that at the beginning of the year, causing prior years’ costs, rather than current year’s costs, to be charged to current year’s income. For example, in periods of rising prices, prior years’ costs are less than current year’s costs and, in such periods, charging prior years’ costs to current year’s income results in reporting current year’s net income higher than it would be reported without a liquidation.

810-10-55-2A Accounting for a LIFO liquidation is more complex with intra-entity

transfers of inventories. Paragraph 810-10-10-1 states that the purpose of consolidated financial statements is to present the results of operations and the financial position of the parent and its subsidiaries as if the consolidated group were a single economic entity. Under that guidance intra-entity profit on

assets remaining within the group shall be eliminated. Results of operations and financial position, therefore, shall not be affected solely because of inventory transfers within a reporting entity. Inventory transferred between or from LIFO pools may cause LIFO inventory liquidations that could affect the amount of intra-entity profit to be eliminated. [Content moved from paragraph 810-10-55-3]

810-10-55-2B Many different approaches are used by entities in eliminating such

profit. Each reporting entity shall adopt an approach that, if consistently applied, defers reporting intra-entity profits from transfers within a reporting entity until such profits are realized by the reporting entity through dispositions outside the consolidated group. The approach shall be suited to the entity’s individual circumstances. [Content moved from paragraph 810-10-55-4]


Accounting for a LIFO liquidation is more complex with intra-entity transfers of inventories. Paragraph 810-10-10-1 states that the purpose of consolidated financial statements is to present the results of operations and the financial position of the parent and its subsidiaries as if the consolidated group were a

single economic entity. Under that guidance intra-entity profit on assets remaining within the group shall be eliminated. Results of operations and financial position, therefore, shall not be affected solely because of inventory transfers within a reporting entity. Inventory transferred between or from LIFO pools may cause LIFO inventory liquidations that could affect the amount of intra-entity profit to be eliminated. [Content moved to paragraph 810-10-55-2A]

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> > Assessing a Decision Maker’s Capacity

810-10-55-3A The following Examples illustrate the application of the guidance a

reporting entity should consider to determine whether a decision maker uses its decision-making authority as a principal or an agent. This analysis is required to determine whether an entity is a variable interest entity (VIE) (see paragraph

810-10-15-14(b)). If the entity is a VIE, the analysis is used to identify the entity’s primary beneficiary, if any (see paragraphs 810-10-25-39A through 25-39L). If the entity is not a VIE but is a partnership or other similar entity, the conclusion

from this analysis will determine whether the general partner should consolidate the partnership (see paragraphs 810-10-25-86 through 25-96). These Examples only illustrate the guidance that a reporting entity should apply to determine whether the decision maker is a principal or an agent and do not include the evaluation of whether an entity is a VIE. Therefore, while these Examples are relevant to both VIEs and partnerships that are not considered VIEs, additional analysis would be required to determine the consolidation conclusion.

> > > Case A: Investment Fund—Large Capital Fund

810-10-55-3B A fund manager creates and sells interests in an investment fund

to external investors. The interests were marketed to investors as an opportunity to gain exposure to the risks and rewards of a diversified portfolio of publicly traded companies with large market capitalizations while relying on the fund manager’s knowledge and expertise to maximize the fund’s returns.

810-10-55-3C The fund manager holds a 10 percent pro rata investment in the

fund, and the remaining 90 percent is widely held by third-party investors. For its services, the fund manager receives an annual fee equal to 1 percent of the net asset value of the fund. The fee is considered commensurate with the services provided. The fund manager has no additional obligation to fund any losses incurred by the fund.

810-10-55-3D The assets of the fund are managed within the defined parameters

established in the offering memorandum. Those parameters provide the fund manager with the discretion to determine how to invest the fund’s assets so long as the investments are consistent with the defined parameters and objectives set forth in the offering memorandum.

810-10-55-3E The fund is not required to and does not establish an independent

board of directors. The individual investors do not hold any substantive rights that would affect the decision-making authority of the fund manager, but they can redeem their interests within particular limits set forth by the fund.

> > > > Design of the Entity

810-10-55-3F To determine whether the fund manager uses its decision-making

authority in a principal or an agent capacity, a reporting entity is required to evaluate the purpose and design of the fund, including the risks the fund was

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designed to create and pass through to its interest holders. In making this assessment, the reporting entity determined the following:

a. The fund is designed to provide investors with exposure to the risks and rewards of a diversified and actively managed equity portfolio by granting a professional fund manager the authority to manage the fund’s investments within defined parameters.

b. The fund manager’s fee is designed to provide compensation to the fund manager that is commensurate with the services provided and includes only customary terms and conditions.

c. The fund manager’s 10 percent pro rata investment exposes the fund manager to pro rata gains, as well as losses, and is designed to align the fund manager’s interests with those of the third-party investors.

> > > > Principal versus Agent Analysis

810-10-55-3G To determine whether it is using its decision-making authority in a

principal or an agent capacity, a decision maker must analyze all of the following:

a. The rights held by others b. Its compensation c. Its other economic interests.

810-10-55-3H The third-party investors do not have voting rights or other rights

that allow them to affect the fund manager’s decision-making authority or abilities, nor do they have the power to remove the fund manager. The lack of such rights, in isolation, is not conclusive that the fund manager is a principal.

810-10-55-3I As compensation for its services, the fund manager receives a fee

that provides it with the right to receive benefits from the fund. The fee received is commensurate with the services provided and includes only customary terms and conditions. Although not meeting these conditions would be a strong indicator that the decision maker is a principal, meeting these conditions is not sufficient to conclude that the decision maker is not a principal. The evaluation also must consider the purpose and design of the compensation arrangement, including the magnitude of and variability associated with the fee. When evaluating the annual fee of 1 percent of the fund’s net asset value, the evaluation would consider the fund’s total anticipated economic performance.

810-10-55-3J The fund manager, as a 10 percent equity holder, has the

obligation to absorb losses and the right to receive benefits from the fund. The fund manager’s investment aligns its economic exposure to positive and negative returns with the other third-party investors because all the equity investors share proportionately in the gains or losses of the entity. The fund manager’s 10 percent investment does not provide any credit or other enhancements to the third-party investors.

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810-10-55-3K The level of economic variability that the fund manager is exposed

to through its fees and its equity interests, relative to the returns expected from the activities of the entity, indicates that the fund manager is not using its decision-making authority to direct the relevant activities in a principal capacity. In concluding that the fund manager is not using its decision-making authority in a principal capacity, the evaluation considered that the compensation arrangement provides the manager with an annual fee equal to 1 percent of the fund’s net asset value, and the 10 percent equity interest exposes the fund manager to losses and the right to receive benefits from the fund. The fee does not expose the decision maker to negative returns. The 10 percent equity interest exposes the fund manager to both positive and negative returns that are not different from that of the third-party investors. Because the fund manager’s interest is pro rata, it is aligned with that of the third-party investors. Considering the purpose and design of the fund, the magnitude and variability of the fund manager’s 1 percent fee and 10 percent equity interest, relative to the fund’s anticipated economic performance, are conclusive that the fund manager is not using its decision-making authority in a principal capacity.

> > > Case B: Investment Fund—Performance-Based Fees

810-10-55-3L A fund manager creates and sells securities in an investment fund

to external investors. The securities were marketed to the investors as an opportunity to generate significant returns by allowing the fund manager broad decision-making authority, including how to invest the fund’s capital.

810-10-55-3M The fund manager is paid an annual fixed fee equal to 2 percent

of the assets under management and a performance-based fee of 20 percent of the fund’s profits if a specified annual profit level is achieved. The fees are considered commensurate with the services provided.

810-10-55-3N The fund is not required to and does not establish an independent



810-10-55-3O To determine whether the fund manager uses its decision-making

authority in a principal or an agent capacity, a reporting entity is required to evaluate the purpose and design of the fund, including the risks the fund was designed to create and pass through to its interest holders. In making this assessment, the reporting entity determined the following:

a. The fund is designed to provide investors with exposure to the risks and returns of the fund that depend on the fund manager’s performance. The investors have granted the fund manager broad decision-making authority over their invested capital on the basis of the prior performance demonstrated by the fund manager.

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b. The fee structure is designed to provide greater compensation to the fund manager if the fund generates returns for the third-party investors above the specified profit level. The specified profit level that needs to be achieved by fund is based on the activities of the fund, the nature of the fund’s assets, and the decision maker’s authority. While the fund manager’s fee structure may provide an incentive for the fund manager to take additional risk in order to realize its performance-based fee, the performance-based fee is designed to: 1. Align the interests of the fund manager with those of the third-party

investors 2. Provide compensation to the fund manager that is commensurate

with its services 3. Include only customary terms and conditions.


810-10-55-3P To determine whether it is using its decision-making authority in a



810-10-55-3Q The third-party investors do not have voting rights or other rights

that allow them to affect the fund manager’s authority or abilities, nor do they have the power to remove the fund manager. The lack of such rights, in isolation, is not conclusive that the fund manager is a principal.

810-10-55-3R As compensation for its services, the fund manager receives fixed

and performance fees that provide it with the right to receive benefits from the fund. The fees received are commensurate with the services provided and include only customary terms and conditions. Although not meeting these conditions would be a strong indicator that the decision maker is a principal, meeting these conditions is not sufficient to conclude that the decision maker is not a principal. The fund manager also must consider the purpose and design of its compensation arrangement, including the magnitude of and variability associated with the fees. Although the nonreceipt of a performance-based fee does not represent an exposure to negative returns, a decision maker’s compensation might influence its actions, as it attempts to earn the fee. When evaluating the annual fee of 2 percent of the fund’s net asset value and the performance-based fee of 20 percent of the fund’s profit if a specified annual profit level is achieved, the evaluation would consider the fund’s total anticipated economic performance.

810-10-55-3S The fund manager does not hold any other interest in the fund and

is not obligated to compensate the investors for any losses.

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810-10-55-3T The level of economic variability the fund manager is exposed to

through its fees, relative to the returns expected from the activities of the entity, indicates that the fund manager is not using its decision-making authority to direct the relevant activities of the entity in a principal capacity. In concluding that the fund manager is not using its decision-making authority in a principal capacity, the evaluation considered that the compensation arrangement provides the manager with an annual fee equal to 2 percent of the fund’s net asset value and a performance-based fee of 20 percent of the fund’s profit if a specified annual profit level is achieved. Although the fees might influence the decision maker’s actions and expose it to variability of returns that is different from that of the other investors, they do not expose the decision maker to negative returns. The magnitude and variability of the fees, relative to the entity’s anticipated economic performance and considering the purpose and design of the fund, are conclusive that the fund manager is not using its decision-making authority in a principal capacity.

> > > Case C: Investment Fund—Performance-Based Fees and Additional Interests

810-10-55-3U A fund manager creates and sells securities in an investment fund

to external investors. The securities were marketed to the investors as an opportunity to generate significant returns by allowing the fund manager broad decision-making authority, including how to invest the fund’s capital.

810-10-55-3V The fund manager is paid an annual fixed fee equal to 2 percent of

the assets under management and a performance-based fee of 20 percent of the fund’s profits if a specified annual profit level is achieved. The fees are considered commensurate with the services provided. The fund manager also holds a 20 percent pro rata investment in the fund. The fund manager does not have any obligation to compensate the fund for losses beyond its 20 percent investment.

810-10-55-3W The fund is not required to and does not establish an independent



810-10-55-3X To determine whether the fund manager uses its decision-making

authority in a principal or an agent capacity, a reporting entity is required to evaluate the purpose and design of the fund, including the risks the fund was designed to create and pass through to its interest holders. In making this assessment, the reporting entity determined the following:

a. The fund is designed to provide investors with exposure to the risks and returns of the fund that depend on the fund manager’s performance. The investors have granted the fund manager broad decision-making

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authority over their invested capital on the basis of the prior performance demonstrated by the fund manager.

b. The fee structure is designed to provide greater compensation to the fund manager if the fund generates returns for the third-party investors above the specified profit level. The specified profit level that needs to be achieved by fund is based on the activities of the fund, the nature of the fund’s assets, and the decision maker’s authority. While the fund manager’s fee structure may provide an incentive for the fund manager to take additional risk in order to realize its performance-based fee, the performance-based fee is designed to: 1. Align the interests of the fund manager with those of the third-party



c. The fund manager’s 20 percent pro rata investment exposes the fund manager to gains, as well as losses, of the fund and is designed to align the fund manager’s interests with those of the third-party investors.


810-10-55-3Y To determine whether it is using its decision-making authority in a



810-10-55-3Z The third-party investors do not have voting rights or other rights

that allow them to affect the fund manager’s authority or abilities, nor do they have the power to remove the fund manager. The lack of such rights, in isolation, is not conclusive that the fund manager is a principal.

810-10-55-3AA As compensation for its services, the fund manager receives

fixed and performance-based fees that provide it with the right to receive benefits from the fund. The fees received are commensurate with the services provided and include only customary terms and conditions. Although not meeting these conditions would be a strong indicator that the decision maker is a principal, meeting these conditions is not sufficient to conclude that the decision maker is not a principal. The fund manager also must consider the purpose and design of its compensation arrangement, including the magnitude of, and variability associated with, its fees. Although the nonreceipt of a performance-based fee does not represent an exposure to negative returns, a decision maker’s compensation might influence its actions, as it attempts to earn the fee. When evaluating the annual fee equal to 2 percent of the fund’s net asset value and the performance-based fee of 20 percent of the fund’s profit if a specified annual

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profit level is achieved, the evaluation would consider the fund’s total anticipated economic performance.

810-10-55-3AB The fund manager, as a 20 percent equity holder, has the

obligation to absorb losses and the right to receive benefits of the fund. The fund manager’s investment aligns its economic exposure to positive and negative returns with the other third-party investors because all the equity investors share proportionately in the gains or losses of the funds. The fund manager’s 20 percent investment does not provide any credit or other enhancements to the third-party investors.

810-10-55-3AC The level of economic variability that the fund manager is

exposed to through equity interests, relative to the returns expected from the activities of the entity, indicates that the fund manager is using its decision-making authority to direct the relevant activities of the fund in a principal capacity. In concluding that the fund manager is using its decision-making authority in a principal capacity, the evaluation considered the fund manager’s obligation to absorb a significant amount of losses and the right to receive benefits of the fund through its 20 percent equity holding, combined with its compensation that exposes it to variability of returns that is different from that of the other investors. The 20 percent equity interest exposes the fund manager to both positive and negative returns that are not different from that of the third-party investors. Because the fund manager’s interest is pro rata, it is aligned with that of the third-party investors. Nonetheless, considering the purpose and design of the fund, the magnitude and variability of the 20 percent equity interest and the fee arrangement, relative to the entity’s anticipated economic performance, are conclusive that the fund manager is using its decision-making authority in a principal capacity.

> > > Case D: Investment Fund—Board of Directors

810-10-55-3AD A fund manager creates and sells securities in an investment

fund to external investors. The securities were marketed to the investors as an opportunity to generate significant returns by allowing the fund manager broad decision-making authority, including how to invest the fund’s capital.

810-10-55-3AE The fund manager is paid an annual fixed fee equal to 2 percent

of the assets under management and a performance-based fee of 20 percent of the fund’s profits if a specified annual profit level is achieved. The fees are considered commensurate with the services provided. The fund manager also holds a 20 percent pro rata investment in the fund. The fund manager does not have any obligation to compensate the fund for losses beyond its 20 percent investment.

810-10-55-3AF The fund has a board of seven directors, all of whose members

are independent of the fund manager and appointed by the other investors. The board reviews the performance of the fund’s operations and evaluates and approves major contracts with service providers (including, the fund manager’s

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contract) on an annual basis. If a simple majority of the board members decided not to approve the fund manager’s contract, the services could be performed by other managers in the industry.

810-10-55-3AG The individual investors do not hold any substantive rights that

would affect the decision-making authority of the fund manager, but they can redeem their interests within particular limits set forth by the fund.


810-10-55-3AH To determine whether the fund manager uses its decision-

making authority in a principal or an agent capacity, a reporting entity is required to evaluate the purpose and design of the fund, including the risks the fund was designed to create and pass through to its interest holders. In making this assessment, the reporting entity determined the following:

a. The fund is designed to provide investors with exposure to the risks and returns of the fund that depend on the fund manager’s performance. The investors have granted the fund manager broad decision-making authority over their invested capital on the basis of the prior performance demonstrated by the fund manager. However, the investors have substantive rights to remove the fund manager, because the board of directors provides a mechanism to ensure that the investors can remove the fund manager without cause if they decide to do so.

b. The fee structure is designed to provide greater compensation to the fund manager if the fund generates returns for the third-party investors above the specified profit level. The specified profit level that needs to be achieved by the fund is based on the activities of the fund, the nature of the fund’s assets, and the decision maker’s authority. While the fund manager’s fee structure may provide an incentive for the fund manager to take additional risk in order to realize its performance fee, the performance-based fee is designed to: 1. Align the interests of the fund manager with those of the third-party



c. The fund manager’s 20 percent pro rata investment exposes the fund manager to gains, as well as losses, of the fund and is designed to align the fund manager’s interests with those of the third-party investors.


810-10-55-3AI To determine whether it is using its decision-making authority in a


a. The rights held by others

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b. Its compensation c. Its other economic interests.

810-10-55-3AJ The third-party investors, through the independent board of

directors, have the power to remove the fund manager. These removal rights are considered substantive because there are no significant barriers to the exercise of those rights. The assessment of rights held by a board of directors must consider the board of directors’ authority and composition. In this case, the board of directors is independent of the fund manager and, by a simple majority of the board members, has the ability to remove the fund manager. These kick-out rights are not unilateral and, thus, not solely determinative that the fund

manager is not a principal. However, the analysis would consider the number of individuals required to act together to exercise the rights to remove the fund manager. In addition, the disparity between the fund manager’s 20 percent equity interest and the other 80 percent held by the third-party equity investors, who are represented by the board of directors, would not diminish the relevance of the rights held by the board of directors.

810-10-55-3AK As compensation for its services, the fund manager receives

fixed and performance-based fees that provide it with the right to receive benefits from the fund. The fees received are commensurate with the services provided and include only customary terms and conditions. Although not meeting these conditions would be a strong indicator that the decision maker is a principal, meeting these conditions is not sufficient to conclude that the decision maker is not a principal. The fund manager also must consider the purpose and design of its compensation arrangement, including the magnitude of, and variability associated with, its fees. Although the nonreceipt of a fee does not represent an exposure to negative returns, a decision maker’s compensation might influence its actions as it attempts to earn the fee. When evaluating the annual fee equal to 2 percent of the fund’s net asset value and the performance-based fee of 20 percent of the fund’s profit if a specified annual profit level is achieved, the evaluation would consider the fund’s total anticipated economic performance.

810-10-55-3AL The fund manager, as a 20 percent equity holder, has the

obligation to absorb losses and the right to receive benefits from the fund. The fund manager’s investment aligns its economic exposure to positive and negative returns with the other third-party investors because all the equity investors share proportionately in the gains or losses of the funds. The fund manager’s 20 percent investment does not provide any credit or other enhancements to the third-party investors.

810-10-55-3AM The level of economic variability that the fund manager is

exposed to through its equity interests and fees, relative to the returns expected from the activities of the entity, indicates that the fund manager is using its decision-making authority to direct the relevant activities of the fund in a principal capacity. The fund manager has an obligation to absorb a significant amount of losses and the right to receive benefits of the fund through its 20 percent equity

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holding, combined with its compensation. The 20 percent equity interest exposes the fund manager to both positive and negative returns that are designed to be aligned with the third-party investors. Because the fund manager’s interest is pro rata, it is aligned with that of the third-party investors. Nonetheless, considering the purpose and design of the fund, the magnitude and variability of the 20 percent equity interest and the fee arrangement, relative to the entity’s anticipated economic performance, are indicative that the fund manager is using its decision-making authority in a principal capacity. However, the board of director’s ability to remove the fund manager provides a mechanism to ensure that the investors can remove the fund manager. In this case, the kick-out rights held by the board of directors are more likely to be indicative that the fund manager is an agent because the board of directors is independent, the board has the ability to remove the fund manager by a simple majority of the seven board members without cause, and there are no significant barriers to exercise those rights. Therefore, when considering all of the factors in the analysis, the removal rights held by the board of directors, combined with its compensation and equity interests, indicate that the fund manager is not using its decision-making authority to direct the relevant activities in a principal capacity. In different circumstances, the weightings of the factors may indicate that the fund manager’s ability to use its decision-making authority is that of a principal. For example, the fund manager would use its decision-making authority in a principal capacity in this example if its 20 percent equity interest was subordinated and exposed it to a greater level of economic variability. Similarly, the fund manager would use its decision-making authority in a principal capacity in this example if its kick-out rights held by the board of directors were not substantive.

> > > Case E: Asset-Backed Collateralized Debt Obligation

810-10-55-3AN A fund manager creates and sells securities in an investment

fund to external investors. The interests, which consist of $90 of AAA-rated fixed-rate debt securities, $6 of BB-rated fixed-rate debt securities, and $4 of equity,

were marketed to investors as an investment in a portfolio of asset-backed securities with exposure to the credit risk associated with the possible default by the issuers of the asset-backed securities in the portfolio and to the interest rate risk associated with the management of the portfolio. The equity tranche was designed to absorb the first dollar risk of loss related to credit risk and interest rate risk and to receive any residual returns from a favorable change in interest rates or credit risk that affects the proceeds received on the sale of investments in the portfolio.

810-10-55-3AO All debt securities issued by the fund are held by third-party

investors. The equity tranche is held 35 percent by the fund manager and 65 percent by a third-party investor. The fund uses the proceeds to purchase a portfolio of asset-backed securities with varying tenors and interest rates.

810-10-55-3AP The assets of the fund are managed within the defined

parameters established by the underlying trust documents. The parameters

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provide the manager with the latitude to manage the fund’s assets while maintaining an average portfolio rating of single B-plus or higher. If the average rating of the portfolio declines, the fund’s governing documents require that the manager’s discretion in managing the portfolio be curtailed.

810-10-55-3AQ For its services, the manager earns a base, fixed fee, and a

performance-based fee in which it receives a portion of the fund’s profit above a targeted return. The fees are considered commensurate with the services provided.

810-10-55-3AR The manager can be removed, without cause, by a simple

majority decision of the AAA-rated debt holders. As the debt of the entity is widely dispersed, no one party has the ability to unilaterally remove the manager. If removal of the manager occurs, the manager will continue to hold a 35 percent equity interest in the VIE. The third-party equity investor has rights that are limited to administrative matters.


810-10-55-3AS To determine whether the fund manager uses its decision-

making authority in a principal or an agent capacity, a reporting entity is required to evaluate the purpose and design of the fund, including the risks the fund was designed to create and pass through to its interest holders. In making this assessment, the reporting entity determined the following:

a. The fund is designed to: 1. Provide investors with the ability to invest in a pool of asset-backed

securities 2. Earn a positive spread between the interest that the fund earns on

its portfolio and the interest paid to the debt investors 3. Generate management fees for the manager.

b. The fund manager’s fee is designed to provide greater compensation to the fund manager if the fund generates returns for the third-party investors above the specified profit level. While the fund manager’s fee structure may provide an incentive for the fund manager to take additional risk in order to realize its performance-based fee, the fee is designed to: a. Align the interests of the fund manager with those of the third-party

investors b. Provide compensation to the fund manager that is commensurate

with its investors c. Include only customary terms and conditions.

c. The fund manager’s 35 percent interest in the equity tranche is designed to absorb a portion of the first dollar risk of loss related to credit risk and interest rate risk and to receive any residual returns from a favorable change in interest rates or credit risk that affects the proceeds received on the sale of asset-backed securities in the portfolio.

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> > > > Principal versus Agent Analysis 810-10-55-3AT To determine whether it is using its decision-making authority in

a principal or an agent capacity, a decision maker must analyze all of the following:


810-10-55-3AU The debt holders of the fund do not have voting rights or other

rights that provide them with the power to direct activities that most significantly impact the fund’s economic performance. Although a simple majority of AAA-rated debt holders can remove the fund manager without cause, the rights are widely dispersed among all of the AAA-rated debt holders. In addition, the disparity between the fund manager’s 35 percent subordinated equity interest and the AAA-rated debt holders would diminish the relevance of the kick-out rights. Therefore, the individual investor’s rights would receive less weight when evaluating the decision-making authority of the fund manager.

810-10-55-3AV As compensation for its services, the fund manager receives a

fixed fee and a performance-based fee that provides it with the right to receive benefits of the fund above a targeted return. The fee received is commensurate with the services provided and includes only customary terms and conditions. Although not meeting these conditions would be a strong indicator that the decision maker is a principal, meeting these conditions is not sufficient to conclude that the decision maker is not a principal. The fund manager also must consider the purpose and design of its compensation arrangement, including the magnitude of, and variability associated with, its fees. Although the nonreceipt of a fee does not represent an exposure to negative returns, a decision maker’s compensation might influence its actions, as it attempts to earn a performance-based fee. When evaluating the base, fixed fee, and performance-based fee, the evaluation would consider the fund’s total anticipated economic performance.

810-10-55-AW The fund manager, as the 35 percent equity tranche holder, has

the obligation to absorb losses and the right to receive benefits of the fund that are disproportionate from the other AAA-rated debt holders’ exposure. Although the fund manager’s economic exposure is evaluated primarily on the basis of returns expected from the activities of the fund, the purpose of its subordinated interest is to absorb 35 percent of the first dollar risk of loss and to receive 35 percent of any residual benefits. Therefore, the evaluation should not ignore the fund manager’s maximum exposure to losses of the fund through its equity interest.

810-10-55-3AX The level of economic variability that the fund manager is

exposed to through its equity interests and fees relative to the returns expected from the activities of the entity indicates that the fund manager is using its

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decision-making authority to direct the relevant activities of the fund in a principal capacity. The fund manager has an obligation to absorb a significant amount of losses and the right to receive benefits of the fund through its 35 percent subordinated equity interest, combined with its compensation. Therefore, the magnitude and variability of the 35 percent equity interest and the fee arrangement together are indicative that the fund manager is using its decision-making authority in a principal capacity. The widely dispersed kick-out rights held by the AAA-rated debt holders would not overcome this conclusion based on the dispersion of the rights and the disproportionate economic interest of the right holders and the fund manager.

> > > Case F: Commercial Paper Conduit

810-10-55-3AY A sponsor creates and sells interests in a commercial paper

conduit to external investors. The entity is financed with $98 of AAA-rated fixed-rate short-term debt with a 3-month maturity and $2 of subordinated notes, which were marketed to investors as an investment in a portfolio of highly-rated medium-term assets with minimal exposure to the credit risk associated with the possible default by the issuers of the assets in the portfolio. The subordinated notes were designed to absorb the first dollar risk of loss related to credit. The entity is marketed to all investors as having a low probability of credit exposure because of the nature of the assets obtained. Furthermore, the entity is marketed to the short-term debt holders as having protection from liquidity risk because of a credit and liquidity facility provided by the sponsor.

810-10-55-3AZ The entity uses the proceeds to purchase a portfolio of medium-

term assets with average tenors of three years. The asset portfolio is obtained from multiple sellers. The short-term debt and subordinated notes are held by multiple third-party investors. Upon maturity of the short-term debt, the entity will either refinance the debt with existing investors or reissue the debt to new investors.

810-10-55-3BA The sponsor of the entity provides credit enhancement in the

form of a letter of credit equal to 5 percent of the entity’s assets, and it provides a liquidity facility to fund the cash flow shortfalls on 100 percent of the short-term debt. Cash flow shortfalls could arise because of a mismatch between collections on the underlying assets of the entity and payments because of the short-term debt holders or to the inability of the entity to refinance or reissue the short-term debt upon maturity.

810-10-55-3BB A credit default of the entity’s assets resulting in deficient cash

flows is absorbed as follows:

a. First by the subordinated note holders b. Second by the sponsor’s letter of credit c. Third by the short-term debt holders.

The sponsor’s liquidity facility does not advance against defaulted assets.

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810-10-55-3BC The entity is exposed to liquidity risk because the average life of

the assets is greater than that of its liabilities. The entity enters into a liquidity facility with the sponsor to mitigate liquidity risk.

810-10-55-3BD The sponsor of the entity performs various functions to manage

the operations of the entity. Specifically, the sponsor:

a. Establishes the terms of the entity b. Approves the sellers permitted to sell to the entity c. Approves the assets to be purchased by the entity d. Decides on the funding of the entity, including determining the tenor and

other features of the short-term debt issued e. Administers the entity by monitoring the assets, arranging for debt

placement, compiling monthly reports, and ensuring compliance with the entity’s credit and investment policies.

810-10-55-3BE For providing credit and liquidity facilities and management

services, the sponsor receives a fixed fee calculated as an annual percentage of the asset value. The short-term debt holders and subordinated note holders have no voting rights.


810-10-55-3BF To determine whether the sponsor uses its decision-making

authority in a principal or an agent capacity, a reporting entity is required to evaluate the purpose and design of the entity, including the risks the entity was designed to create and pass through to its interest holders. In making this assessment, the reporting entity determined the following:

a. The entity is designed to: 1. Provide investors with the ability to invest in a pool of highly rated

medium-term assets 2. Provide the multiple sellers to the entity with access to lower-cost

funding, to earn a positive spread between the interest that the entity earns on its asset portfolio and its weighted-average cost of funding

3. Generate fees for the sponsor. b. The sponsor’s fee is designed to provide compensation to the sponsor

that is commensurate with the services provided and includes only customary terms and conditions.

c. The sponsor of the entity provides credit enhancement in the form of a letter of credit equal to 5 percent of the entity’s assets, and it provides a liquidity facility to fund the cash flow shortfalls on 100 percent of the short-term debt.

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810-10-55-3BG To determine whether it is using its decision-making authority in

a principal or an agent capacity, a decision maker must analyze all of the following:


810-10-55-3BH The short-term debt holders and subordinated note holders of

the entity have no voting rights and no other rights that provide them with the ability to participate in the activities that most significantly impact the entity’s economic performance or the power to remove the sponsor from directing such activities. The lack of such rights, in isolation, is not conclusive that the sponsor is a principal.

810-10-55-3BI The sponsor receives a fixed fee calculated as annual percentage

of the asset value. The fee received is commensurate with the services provided and includes only customary terms and conditions. Although not meeting these conditions would be a strong indicator that the decision maker is a principal, meeting these conditions is not sufficient to conclude that the decision maker is not a principal. The sponsor also must consider the purpose and design of its compensation arrangement, including the magnitude of, and variability associated with, its fees. When evaluating the fee, the evaluation would consider the entity’s total anticipated economic performance.

810-10-55-3BJ The sponsor determined that it has the implicit financial

responsibility to ensure that the entity operates as designed in order to manage the risk to its reputation in the marketplace. Although the sponsor’s economic exposure is evaluated primarily on the basis of returns expected from the activities of the entity, when considering the purpose and design of the credit and liquidity features, the sponsor would consider its implicit variable interest to absorb the first dollar risk of loss related to credit, liquidity, market value, and interest rate risk. Therefore, the evaluation also should consider the sponsor’s maximum exposure to losses of the entity through its implicit obligation.

810-10-55-3BK The level of economic variability the sponsor is exposed to

through its fees and its implicit variable interest indicates that the sponsor is using its decision-making authority to direct the relevant activities of the entity in a principal capacity. In concluding that the sponsor is using its decision-making authority in a principal capacity, the evaluation considered the sponsor’s implicit obligation to absorb a significant amount of losses through its credit and liquidity facilities, combined with its compensation. The magnitude and variability of the credit and liquidity facilities along with the fee arrangement are conclusive that the sponsor is using its decision-making authority in a principal capacity.

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Many different approaches are used by entities in eliminating such profit. Each reporting entity shall adopt an approach that, if consistently applied, defers reporting intra-entity profits from transfers within a reporting entity until such profits are realized by the reporting entity through dispositions outside the consolidated group. The approach shall be suited to the entity’s individual circumstances. [Content moved to paragraph 810-10-55-2B]

> > > Fees Paid to Decision Makers or Service Providers

810-10-55-37 Fees paid to a legal entity’s decision maker(s) or service

provider(s) are not variable interests if all of the following conditions are met:

a. The fees are compensation for services provided and are commensurate with the level of effort required to provide those services provided.

b. Subparagraph superseded by Accounting Standards Update 2012-XX. Substantially all of the fees are at or above the same level of seniority as other operating liabilities of the VIE that arise in the normal course of the VIE’s activities, such as trade payables.

c. The decision maker or service provider does not hold other interests in the VIE that individually, or in the aggregate, would absorb more than an insignificant amount of the VIE’s expected losses or receive more than an insignificant amount of the VIE’s expected residual returns.

d. The service compensation arrangement includes only terms, conditions, or amounts that are customarily present in arrangements for similar services negotiated at arm’s length.

e. The total amount of anticipated fees are insignificant relative to the total amount of the VIE’s anticipated economic performance.

f. The anticipated fees are expected to absorb an insignificant amount of the variability associated with the VIE’s anticipated economic performance.

810-10-55-37A For purposes of evaluating the conditions in the preceding

paragraph, any interest in an entity that is held by a related party of the decision maker should be considered in the analysis. Specifically, a decision maker should include its direct interest in the entity and its indirect interests in the entity held through related parties. For example, if a decision maker owns a 40 percent interest in a related party and that related party owns a 60 percent interest in the entity being evaluated, the decision maker’s interest would be considered equivalent to a 24 percent direct interest in the entity for the purposes of evaluating whether the fees paid to the decision maker(s) or service provider(s) are not variable interests (assuming it has no other relationships with the entity). Similarly, if an employee of the decision maker, who is a related party, owns an interest in the entity being evaluated and that employee’s interest has been financed by the decision maker, the decision maker shall include its indirect interest in the evaluation. The term related parties in this paragraph refers to all

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parties as defined in Topic 850. For purposes of evaluating the conditions in the preceding paragraph, the quantitative approach described in the definitions of the terms expected losses, expected residual returns, and expected variability is not

required and should not be the sole determinant as to whether a reporting entity meets such conditions. In addition, for purposes of evaluating the conditions in the preceding paragraph, any interest in the entity that is held by a related party

of the entity’s decision maker(s) or service provider(s) should be treated as though it is the decision maker’s or service provider’s own interest. For that purpose, a related party includes any party identified in paragraph 810-10-25-43 other than:

a. An employee of the decision maker or service provider (and its other related parties), except if the employee is used in an effort to circumvent the provisions of the Variable Interest Entities Subsections of this Subtopic

b. An employee benefit plan of the decision maker or service provider (and its other related parties), except if the employee benefit plan is used in an effort to circumvent the provisions of the Variable Interest Entities Subsections of this Subtopic.

810-10-55-38 Fees paid to decision makers or service providers that do not meet

all of the conditions in the preceding paragraph 810-10-55-37 are variable interests.

> > Example 5: Identifying a Primary Beneficiary

810-10-55-93 The following cases are provided solely to illustrate the application

of the guidance in paragraphs 810-10-25-38A through 25-38G related to the identification of a primary beneficiary:

a. Commercial mortgage-backed securitization (Case A) b. Asset-backed collateralized debt obligation (Case B) c. Structured investment vehicle (Case C) d. Commercial paper conduit (Case D) e. Guaranteed mortgage-backed securitization (Case E) f. Residential mortgage-backed securitization (Case F) g. Property lease entity (Case G) h. Collaboration—Joint venture arrangement (Case H) i. Furniture manufacturing entity (Case I).

810-10-55-94 The identification of a primary beneficiary, if any, in Cases A-I is

based solely on the specific facts and circumstances presented. These Cases are hypothetical and are not meant to represent actual transactions in the marketplace. Although certain aspects of the Cases may be present in actual fact patterns, all relevant facts and circumstances of a specific fact pattern or structure would need to be evaluated to reach an accounting conclusion. All of the Cases share the following assumptions:

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a. All the entities are presumed to be VIEs. b. All variable interests are presumed to be variable interests in the VIE as

a whole, rather than variable interests in specified assets of the VIE, on the basis of the guidance in paragraphs 810-10-25-55 through 25-59.

810-10-55-95 In some Cases, certain fees are described as representing, or not

representing, a variable interest on the basis of paragraphs 810-10-55-37 through 55-38. However, the Cases were not meant to illustrate the application of the guidance in those paragraphs, and additional facts would be necessary to determine which condition(s) resulted in the fee representing a variable interest. Finally, determining the primary beneficiary in accordance with the guidance in the Variable Interest Entities Subsections requires judgment and is on the basis of individual facts and circumstances of the VIE and the reporting entity with the variable interest or interests.

> > > Case A: Commercial Mortgage-Backed Securitization

810-10-55-96 A VIE is created and financed with $94 of investment grade 7-year

fixed-rate bonds (issued in 3 tranches) and $6 of equity. All of the bonds are held by third-party investors. The equity is held by a third party, who is also the special servicer. The equity tranche was designed to absorb the first dollar risk of loss and to receive any residual return from the VIE. The VIE uses the proceeds to purchase $100 of BB-rated fixed-rate commercial mortgage loans with contractual maturities of 7 years from a transferor. The commercial mortgage loans contain provisions that require each borrower to pay the full scheduled interest and principal if the loan is extinguished prior to maturity. The transaction was marketed to potential bondholders as an investment in a portfolio of commercial mortgage loans with exposure to the credit risk associated with the possible default by the borrowers.

810-10-55-97 Each month, interest received from all of the pooled loans is paid

to the investors in the fixed-rate bonds, in order of seniority, until all accrued interest on those bonds is paid. The same distribution occurs when principal payments are received.

810-10-55-98 If there is a shortfall in contractual payments from the borrowers or

if the loan collateral is liquidated and does not generate sufficient proceeds to meet payments on all bond classes, the equity tranche and then the most subordinate bond class will incur losses, with further losses impacting more senior bond classes in reverse order of priority.

810-10-55-99 The transferor retains the primary servicing responsibilities. The

primary servicing activities performed are administrative in nature and include remittance of payments on the loans, administration of escrow accounts, and collections of insurance claims. Upon delinquency or default by the borrower, the responsibility for administration of the loan is transferred from the transferor as the primary servicer to the special servicer. Furthermore, the special servicer, as

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the equity holder, has the approval rights for budgets, leases, and property managers of foreclosed properties.

810-10-55-100 The special servicer is involved in the creation of the VIE and

required at the creation date that certain loans, which it deemed to be of high risk, be removed from the initial pool of loans that were going to be purchased by the VIE from the transferor. The special servicer also reviewed the VIE’s governing documents to ensure that the special servicer would be allowed to act quickly and effectively in situations in which a loan becomes delinquent. The special servicer concluded the VIE’s governing documents allowed the special servicer to adequately monitor and direct the performance of the underlying loans.

810-10-55-101 For its services as primary servicer, the transferor earns a fixed

fee, calculated as a percentage of the unpaid principal balance on the underlying loans. The special servicer also earns a fixed fee, calculated as a percentage of the unpaid principal balance on the underlying loans. The fees earned by the primary servicer and special servicer are considered commensurate with the services provided. No party has the ability to remove the primary servicer or the special servicer.


810-10-55-102 To evaluate the facts and circumstances and determine which

reporting entity, if any, is the primary beneficiary of a VIE, paragraph 810-10-25-38A requires that a reporting entity determine the purpose and design of the VIE, including the risks that the VIE was designed to create and pass through to its variable interest holders. In making this assessment, the variable interest holders of the VIE determined the following:

a. The primary purposes for which the VIE was created were to provide liquidity to the transferor to originate additional loans and to provide investors with the ability to invest in a pool of commercial mortgage loans.

b. The VIE was marketed to debt investors as a VIE that would be exposed to the credit risk associated with the possible default by the borrowers with respect to principal and interest payments, with the equity tranche designed to absorb the first dollar risk of loss. Additionally, the marketing of the transaction indicated that such risks would be mitigated by subordination of the equity tranche.

c. The VIE is not exposed to prepayment risk because the commercial mortgage loans contain provisions that require the borrower to pay the full scheduled interest and principal if the loan is extinguished prior to maturity.

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> > > > Primary Beneficiary

810-10-55-103 The special servicer and the bondholders are the variable interest

holders in the VIE. The fees paid to the transferor do not represent a variable interest on the basis of a consideration of the conditions in paragraphs 810-10-55-37 through 55-38. The fees paid to the special servicer represent a variable interest on the basis of a consideration of the conditions in those paragraphs.

810-10-55-104 Paragraph 810-10-25-38B requires that a reporting entity identify

which activities most significantly impact the VIE’s economic performance and determine whether it has the power to direct those activities. The economic performance of the VIE is most significantly impacted by the performance of its underlying assets. Thus, the activities that most significantly impact the VIE’s economic performance are the activities that most significantly impact the performance of the underlying assets. The special servicer has the ability to manage the VIE’s assets that are delinquent or in default to improve the economic performance of the VIE. Additionally, the special servicer, as the equity holder, can approve budgets, leases, and property managers on foreclosed property. The special servicing activities are performed only upon delinquency or default of the underlying assets. However, a reporting entity’s ability to direct the activities of a VIE when circumstances arise or events happen constitutes power if that ability relates to the activities that most significantly impact the economic performance of the VIE. A reporting entity does not have to exercise its power in order to have power to direct the activities of a VIE. The special servicer’s involvement in the design of the VIE does not, in isolation, result in the special servicer being the primary beneficiary of the VIE. However, in this situation, that involvement indicated that the special servicer had the opportunity and the incentive to establish arrangements that result in the special servicer being the variable interest holder with the power to direct the activities that most significantly impact the VIE’s economic performance.

810-10-55-105 Paragraph superseded by Accounting Standards Update 2012-

XX.The bondholders of the VIE have no voting rights and no other rights that provide them with the power to direct the activities that most significantly impact the VIE’s economic performance. [Content amended and moved to paragraph 810-10-55-108B]

810-10-55-106 The activities that the primary servicer has the power to direct are

administrative in nature and do not most significantly impact the VIE’s economic performance. In addition, the primary servicer, and its related parties, do not hold a variable interest in the VIE. Thus, the primary servicer cannot be the primary beneficiary of the VIE.

810-10-55-107 If a reporting entity has the power to direct the activities of a VIE

that most significantly impact the VIE’s economic performance, then under the requirements of paragraph 810-10-25-38A, that reporting entity also is required to determine whether it has the obligation to absorb losses of the VIE that could

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potentially be significant to the VIE or the right to receive benefits from the VIE that could potentially be significant to the VIE.

810-10-55-108 The special servicer, for its servicing activities, receives a fixed

fee that provides it with the right to receive benefits of the VIE. The special servicer concluded that the benefits could not potentially be significant to the VIE. The special servicer, as the equity tranche holder, has the obligation to absorb losses and the right to receive benefits ofbenefits, either of which could potentially be significant to the VIE. As equity tranche holder, the special servicer is the most subordinate tranche and therefore absorbs the first dollar risk of loss and has the right to receive benefits, including the VIE’s actual residual returns, if any.

810-10-55-108A In assessing whether the special servicer has the power to

direct the activities of the VIE that most significantly impact the VIE’s economic performance, the special servicer must determine whether it uses its decision-making authority in a principal or an agent capacity. In making this assessment, the special servicer must evaluate all of the following:

a. The rights held by other parties b. Its compensation c. Its other economic interests.

810-10-55-108B The bondholders of the VIE have no voting rights and no other

rights that provide them with the ability to participate in directing power to direct the activities that most significantly impact the VIE’s economic performance or with the power to remove the special servicer from directing such activities. [Content amended as shown and moved from paragraph 810-10-55-105]

810-10-55-108C The special servicer’s fee received is commensurate with the

services provided and includes only customary terms and conditions. However, as the equity tranche holder, the special servicer has the obligation to absorb losses and the right to receive benefits of the VIE that are disproportionate from the other interest holders. Although the special servicer’s economic exposure is evaluated primarily on the basis of returns expected from the activities of the VIE, the purpose of its subordinated interest is to absorb the entity’s first dollar risk of loss and to receive any residual returns. Therefore, the evaluation should also consider the special servicer’s maximum exposure to losses of the VIE through its equity interest.

810-10-55-108D The level of economic variability the special servicer is exposed

to through its fees and its subordinated equity interests indicates that the special servicer is using its decision-making authority in a principal capacity.

810-10-55-109 On the basis of the specific facts and circumstances presented in

this Case and the analysis performed, the special servicer would be deemed to be the primary beneficiary of the VIE because:

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a. It is the variable interest holder with the power to direct the activities of the VIE that most significantly impact the VIE’s economic performance.

b. As the equity tranche holder, it has the obligation to absorb losses of the VIE and the right to receive benefits from the VIE, either of which could potentially be significant to the VIE.

c. The special servicer is using its decision-making authority (power) in a principal capacity.

> > > Case B: Asset-Backed Collateralized Debt Obligation

810-10-55-110 A VIE is created and financed with $90 of AAA-rated fixed-rate

debt securities, $6 of BB-rated fixed-rate debt securities, and $4 of equity. All debt securities issued by the VIE are held by third-party investors. The equity tranche is held 35 percent by the manager of the VIE and 65 percent by a third-party investor. The VIE uses the proceeds to purchase a portfolio of asset-backed securities with varying tenors and interest rates.

810-10-55-111 The transaction was marketed to potential debt investors as an

investment in a portfolio of asset-backed securities with exposure to the credit risk associated with the possible default by the issuers of the asset-backed securities in the portfolio and to the interest rate risk associated with the management of the portfolio. The equity tranche was designed to absorb the first dollar risk of loss related to credit risk and interest rate risk and to receive any residual returns from a favorable change in interest rates or credit risk that affects the proceeds received on the sale of investments in the portfolio.

810-10-55-112 The assets of the VIE are managed within the parameters

established by the underlying trust documents. The parameters provide the manager with the latitude to manage the VIE’s assets while maintaining an average portfolio rating of single B-plus or higher. If the average rating of the portfolio declines, the VIE’s governing documents require that the manager’s discretion in managing the portfolio be curtailed.

810-10-55-113 For its services, the manager earns a base, fixed fee and a

performance performance-based fee in which it receives a portion of the VIE’s profit above a targeted return. The manager can be removed, without cause, by a simple majority decision of the AAA-rated debt holders. As the debt of the entity is widely disbursed, dispersed, no one party has the ability to unilaterally remove the manager. If removal of the manager occurs, the manager will continue to hold a 35 percent equity interest in the VIE. The fees are considered commensurate with the services provided.

810-10-55-114 The third-party equity investor has rights that are limited to

administrative matters.



reporting entity, if any, is the primary beneficiary of a VIE, paragraph 810-10-25-

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38A requires that a reporting entity determine the purpose and design of the VIE, including the risks that the VIE was designed to create and pass through to its variable interest holders. In making this assessment, the variable interest holders of the VIE determined the following:

a. The primary purposes for which the VIE was created were to provide investors with the ability to invest in a pool of asset-backed securities, to earn a positive spread between the interest that the VIE earns on its portfolio and the interest paid to the debt investors, and to generate management fees for the manager.

b. The transaction was marketed to potential debt investors as an investment in a portfolio of asset-backed securities with exposure to the credit risk associated with the possible default by the issuers of the asset-backed securities in the portfolio and to the interest rate risk associated with the management of the portfolio. Additionally, the marketing of the transaction indicated that such risks would be mitigated by the support from the equity tranche.

c. The equity tranche was designed to absorb the first dollar risk of loss related to credit risk and interest rate risk and to receive any residual returns from a favorable change in interest rates or credit risk that affects the proceeds received on the sale of asset-backed securities in the portfolio.


810-10-55-116 The third-party debt investors, the third-party equity investor, and

the manager are the variable interest holders in the VIE. The fees paid to the manager represent a variable interest on the basis of a consideration of the conditions in paragraphs 810-10-55-37 through 55-38.


which activities most significantly impact the VIE’s economic performance and determine whether it has the power to direct those activities. The economic performance of the VIE is most significantly impacted by the performance of the VIE’s portfolio of assets. Thus, the activities that most significantly impact the VIE’s economic performance are the activities that most significantly impact the performance of the portfolio of assets. The manager has the ability to manage the VIE’s assets within the parameters of the trust documents. If the average rating of the portfolio declines, the VIE’s governing documents require that the manager’s discretion in managing the portfolio be curtailed. Although the AAA-rated debt holders can remove the manager without cause, no one party has the unilateral ability to exercise the kick-out rights over the manager. Therefore, such kick-out rights would not be considered in this primary beneficiary analysis.


XX.The debt holders of the VIE do not have voting rights or other rights that provide them with the power to direct activities that most significantly impact the VIE’s economic performance. Although the AAA-rated debt holders can remove

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the manager without cause, no one party has the unilateral ability to exercise the kick out rights over the manager. [Content amended and moved to paragraph 810-10-55-120B]

810-10-55-119 The third-party equity investor has the power to direct certain

activities. However, the activities that the third-party equity investor has the power to direct are administrative and do not most significantly impact the VIE’s economic performance.


that most significantly impact the VIE’s economic performance, then under the requirements of paragraph 810-10-25-38A, that reporting entity also is required to determine whether it has the obligation to absorb losses of the VIE that could potentially be significant to the VIE or the right to receive benefits from the VIEVIE. that could potentially be significant to the VIE. The manager, as the 35 percent equity tranche holder, has the obligation to absorb losses and the right to receive benefits. As equity tranche holder, the manager has the most subordinate tranche and therefore absorbs 35 percent of the first dollar risk of loss and has the right to receive 35 percent of any residual benefits. Furthermore, the manager receives a performance-based fee that provides it with the right to receive benefits of the VIE. Through the equity interest and performance-based fee, the manager has the obligation to absorb losses of the VIE that could potentially be significant to the VIE and the right to receive benefits from the VIE that could potentially be significant to the VIE.

810-10-55-120A In assessing whether the manager has the power to direct the

activities of the VIE that most significantly impact the VIE’s economic performance, the manager must determine whether it uses its decision-making authority in a principal or an agent capacity. In making this assessment, the manager must analyze all of the following:


810-10-55-120B The debt holders of the VIE do not have voting rights or other

rights that provide them with the power to direct activities that most significantly impact the VIE’s economic performance. Although the a simple majority of AAA-rated debt holders can remove the manager without cause, no one party has the unilateral ability to exercise the kick out rights over the manager. the rights are widely distributed among all of the AAA-rated debt holders. Therefore, the individual investor’s rights would receive less weight when evaluating the decision-making authority of the manager. [Content amended as shown and moved from paragraph 810-10-55-118]

810-10-55-120C The manager receives a fixed fee and a performance-based fee

that provides it with the right to receive benefits from the VIE above a targeted

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return. The fee received is commensurate with the services provided and includes only customary terms and conditions.

810-10-55-120D The manager, as the 35 percent equity tranche holder, has the

obligation to absorb losses and the right to receive benefits of the VIE that are disproportionate from the other AAA-rated debt holders’ exposure. Although the manager’s economic exposure is evaluated primarily on the basis of returns expected from the activities of the VIE, the purpose of its subordinated interest is to absorb 35 percent of the first dollar risk of loss and to receive 35 percent of any residual benefits. Therefore, the evaluation should consider the manager’s maximum exposure to losses of the VIE through its equity interest.

810-10-55-120E The widely dispersed kick-out rights held by the AAA-rated debt

holders and the level of economic variability the manager is exposed to through its fees and its subordinated equity interests indicate that the manager is using its decision-making authority in a principal capacity.


this Case and the analysis performed, the manager would be deemed to be the primary beneficiary of the VIE because:

a. It is the variable interest holder with the power to direct the activities of the VIE that most significantly impact the VIE’s economic performance. performance (and no single entity has the unilateral ability to exercise kick-out rights).

b. Through its equity interest and performance-based fee, it has the obligation to absorb losses of the VIE that could potentially be significant to the VIE and the right to receive benefits from the VIE that could potentially be significant to the VIE.

c. It is using its decision-making authority (power) in a principal capacity.

> > > Case C: Structured Investment Vehicle

810-10-55-122 A VIE is created and financed with $94 of AAA-rated fixed-rate

short-term debt with a 6-month maturity and $6 of equity. The VIE uses the proceeds to purchase a portfolio of floating-rate debt with an average life of four years and varying interest rates and short-term deposits with highly rated banks. The short-term debt securities and equity are held by multiple third-party investors. Upon maturity of the short-term debt, the VIE will either refinance the debt with existing investors or reissue the debt to new investors at existing market rates.

810-10-55-123 The primary purpose of the VIE is to generate profits by

maximizing the spread it earns on its asset portfolio and its weighted-average cost of funding. The transaction was marketed to potential debt investors as an investment in a portfolio of high-quality debt with exposure to the credit risk associated with the possible default by the issuers of the debt in the portfolio. The equity tranche is designed to absorb the first dollar risk of loss related to

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credit, liquidity, market value, and interest rate risk and to receive any benefit from a favorable change in credit, market value, and interest rates.

810-10-55-124 The VIE is exposed to liquidity risk because the average tenor of

the assets is greater than its liabilities. To mitigate liquidity risk, the VIE maintains a certain portion of its assets in short-term deposits with highly rated banks. The VIE has not entered into a liquidity facility to further mitigate liquidity risk.

810-10-55-125 The sponsor of the VIE was significantly involved with the

creation of the VIE. The sponsor performs various functions to manage the operations of the VIE, which include:

a. Investment management—This management must adhere to the investment guidelines established at inception of the VIE. These guidelines include descriptions of eligible investments and requirements regarding the composition of the credit portfolio (including limits on country risk exposures, diversification limits, and ratings requirements).

b. Funding management—This function provides funding management and operational support in relation to the debt issued and the equity with the objective of minimizing the cost of borrowing, managing interest rate and liquidity risks, and managing the capital adequacy of the VIE.

c. Defeasance management—An event of defeasance occurs upon the failure of the rating agencies to maintain the ratings of the debt securities issued by the VIE at or above certain specified levels. In the event of defeasance, the sponsor is responsible for overseeing the orderly liquidation of the investment portfolio and the orderly discharge of the VIE’s obligations. This includes managing the market and credit risks of the portfolio.

810-10-55-126 For its services, the sponsor receives a fixed fee, calculated as

an annual percentage of the aggregate equity outstanding, and a performance-based fee, calculated as a percentage of the VIE’s profit above a targeted return. The fees are considered commensurate with the services provided.

810-10-55-127 The debt security holders of the VIE have no voting rights. The

equity holders have limited voting rights that are typically limited to voting on amendments to the constitutional documents of the VIE.




a. The primary purposes for which the VIE was created were to provide investors with the ability to invest in a pool of high-quality debt, to

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maximize the spread it earns on its asset portfolio over its weighted-average cost of funding, and to generate management fees for the sponsor.

b. The transaction was marketed to potential debt investors as an investment in a portfolio of high-quality debt with exposure to the credit risk associated with the possible default by the issuers of the debt in the portfolio.

c. The equity tranche is negotiated to absorb the first dollar risk of loss related to credit, liquidity, market value, and interest rate risk and to receive a portion of the benefit from a favorable change in credit, market value, and interest rates.

d. The principal risks to which the VIE is exposed include credit, interest rate, and liquidity risk.


810-10-55-129 The third-party debt investors, the third-party equity investors,

and the sponsor are the variable interest holders in the VIE. The fees paid to the sponsor represent a variable interest on the basis of a consideration of the conditions in paragraphs 810-10-55-37 through 55-38.


which activities most significantly impact the VIE’s economic performance and determine whether it has the power to direct those activities. The economic performance of the VIE is significantly impacted by the performance of the VIE’s portfolio of assets and by the terms of the short-term debt. Thus, the activities that most significantly impact the VIE’s economic performance are the activities that significantly impact the performance of the portfolio of assets and the terms of the short-term debt (when the debt is refinanced or reissued). The sponsor manages the VIE’s investment, funding, and defeasance activities. The fact that the sponsor was significantly involved with the creation of the VIE does not, in isolation, result in the sponsor being the primary beneficiary of the VIE. However, the fact that the sponsor was involved with the creation of the VIE indicated that the sponsor had the opportunity and the incentive to establish arrangements that result in the sponsor being the variable interest holder with the power to direct the activities that most significantly impact the VIE’s economic performance.


XX. The debt security holders of the VIE have no voting rights and no other rights that provide them with the power to direct the activities that most significantly impact the VIE’s economic performance. Although the equity holders have voting rights, they are limited to voting on amendments to the constitutional documents of the VIE, and those rights do not provide the equity holders with the power to direct the activities that most significantly impact the VIE’s economic performance. [Content amended and moved to paragraph 810-10-55-132B]


that most significantly impact the VIE’s economic performance, then under the

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requirements of paragraph 810-10-25-38A, that reporting entity also is required to determine whether it has the obligation to absorb losses of the VIE that could potentially be significant to the VIE or the right to receive benefits from the VIE that could potentially be significant to the VIE. The sponsor, through its performance-based fee arrangement, receives benefits from that could potentially be significant to the VIE. As the entity is designed to earn a spread between the returns on the assets and the liabilities, the sponsor receives a significant portion of the primary benefit the VIE was designed to create. The sponsor also considered whether it had an implicit financial responsibility to ensure that the VIE operates as designed. The sponsor determined that it has an implicit financial responsibility responsibility. and that such obligation could potentially be significant. This determination was influenced by the sponsor’s concern regarding the risk to its reputation in the marketplace if the VIE did not operate as designed.

810-10-55-132A In assessing whether the sponsor has the power to direct the

activities of the VIE that most significantly impact the VIE’s economic performance, the sponsor must determine whether it uses its decision-making authority in a principal or an agent capacity. In making this assessment, the sponsor must evaluate all of the following:


810-10-55-132B The debt security holders of the VIE have no voting rights and

no other rights that provide them with the power to direct the activities that most significantly impact the VIE’s economic performance or the power to remove the sponsor from directing such activities. Although the equity holders have voting rights, they are limited to voting on amendments to the constitutional documents of the VIE, and those rights do not provide the equity holders with the ability to participate in power to direct the activities that most significantly impact the VIE’s economic performance. performance, or the power to remove the sponsor from directing such activities. Therefore, such protective rights would not be considered in the evaluation of the sponsor’s decision-making authority. [Content amended as shown and moved from paragraph 810-10-55-131]

810-10-55-132C The sponsor receives a fixed fee and a performance-based fee

that provides it with the right to receive benefits of the VIE above a targeted return. The fee received is commensurate with the services provided and includes only customary terms and conditions.

810-10-55-132D The sponsor determined that it has an implicit financial

obligation to ensure that the VIE operates as designed in order to manage the risk to its reputation in the marketplace. Although the sponsor’s economic exposure is evaluated primarily on the basis of returns expected from the activities of the VIE, its implicit variable interest would require it to absorb the first dollar risk of loss related to credit, liquidity, market value, and interest rate risk.

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Therefore, the evaluation also should consider the sponsor’s maximum exposure to losses of the VIE through its implicit obligation.

810-10-55-132E The level of economic variability the sponsor is exposed to

through its fees and its implicit variable interest indicates that the sponsor is using its decision-making authority to direct the relevant activities of the VIE in a principal capacity.


this Case and the analysis performed, the sponsor would be deemed to be the primary beneficiary of the VIE because:


b. Through its performance-based fee arrangement and implicit financial responsibility to ensure that the VIE operates as designed, it has the obligation to absorb losses of the VIE that could potentially be significant to the VIE and the right to receive benefits from the VIE that could potentially be significant to the VIE.


> > > Case D: Commercial Paper Conduit

810-10-55-134 A VIE is created by a reporting entity (the sponsor) and financed

with $98 of AAA-rated fixed-rate short-term debt with a 3-month maturity and $2 of subordinated notes. The VIE uses the proceeds to purchase a portfolio of medium-term assets with average tenors of three years. The asset portfolio is obtained from multiple sellers. The short-term debt and subordinated notes are held by multiple third-party investors. Upon maturity of the short-term debt, the VIE will either refinance the debt with existing investors or reissue the debt to new investors.

810-10-55-135 The sponsor of the VIE provides credit enhancement in the form

of a letter of credit equal to 5 percent of the VIE’s assets and it provides a liquidity facility to fund the cash flow shortfalls on 100 percent of the short-term debt. Cash flow shortfalls could arise due to a mismatch between collections on the underlying assets of the VIE and payments due to the short-term debt holders or to the inability of the VIE to refinance or reissue the short-term debt upon maturity.

810-10-55-136 A credit default of the VIE’s assets resulting in deficient cash

flows is absorbed as follows:

a. First by the subordinated note holders b. Second by the sponsor’s letter of credit c. Third by the short-term debt holders.

The sponsor’s liquidity facility does not advance against defaulted assets.

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810-10-55-137 The VIE is exposed to liquidity risk because the average life of

the assets is greater than that of its liabilities. The VIE enters into a liquidity facility with the sponsor to mitigate liquidity risk.

810-10-55-138 The transaction was marketed to potential debt investors as an

investment in a portfolio of highly rated medium-term assets with minimal exposure to the credit risk associated with the possible default by the issuers of the assets in the portfolio. The subordinated notes were designed to absorb the first dollar risk of loss related to credit. The VIE is marketed to all investors as having a low probability of credit exposure due to the nature of the assets obtained. Furthermore, the VIE is marketed to the short-term debt holders as having protection from liquidity risk due to the liquidity facility provided by the sponsor.

810-10-55-139 The sponsor of the VIE performs various functions to manage the

operations of the VIE. Specifically, the sponsor:

a. Establishes the terms of the VIE b. Approves the sellers permitted to sell to the VIE c. Approves the assets to be purchased by the VIE d. Makes decisions regarding the funding of the VIE including determining

the tenor and other features of the short-term debt issued e. Administers the VIE by monitoring the assets, arranging for debt

placement, compiling monthly reports, and ensuring compliance with the VIE’s credit and investment policies.

810-10-55-140 For providing credit and liquidity facilities and management

services, the sponsor receives a fixed fee calculated as an annual percentage of the asset value. The fees are considered commensurate with the services provided. The short-term debt holders and subordinated note holders have no voting rights.




a. The primary purposes for which the VIE was created were to provide investors with the ability to invest in a pool of highly rated medium-term assets, to provide the multiple sellers to the VIE with access to lower-cost funding, to earn a positive spread between the interest that the VIE earns on its asset portfolio and its weighted-average cost of funding, and to generate fees for the sponsor.

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b. The transaction was marketed to potential debt investors as an investment in a portfolio of highly rated medium-term assets with minimal exposure to the credit risk associated with the possible default by the issuers of the assets in the portfolio. The subordinated debt is designed to absorb the first dollar risk of loss related to credit and interest rate risk. The VIE is marketed to all investors as having a low probability of credit loss due to the nature of the assets obtained. Furthermore, the VIE is marketed to the short-term debt holders as having protection from liquidity risk due to the liquidity facility provided by the sponsor.

c. The principal risks to which the VIE is exposed include credit, interest rate, and liquidity.


810-10-55-142 The short-term debt holders, the third-party subordinated note

holders, and the sponsor are the variable interest holders in the VIE. The fees paid to the sponsor represent a variable interest on the basis of a consideration of the conditions in paragraphs 810-10-55-37 through 55-38.


which activities most significantly impact the VIE’s economic performance and determine whether it has the power to direct those activities. The economic performance of the VIE is significantly impacted by the performance of the VIE’s portfolio of assets and by the terms of the short-term debt. Thus, the activities that most significantly impact the VIE’s economic performance are the activities that significantly impact the performance of the portfolio of assets and the terms of the short-term debt (when the debt is refinanced or reissued). The sponsor manages the operations of the VIE. Specifically, the sponsor establishes the terms of the VIE, approves the sellers permitted to sell to the VIE, approves the assets to be purchased by the VIE, makes decisions about the funding of the VIE including determining the tenor and other features of the short-term debt issued, and administers the VIE by monitoring the assets, arranging for debt placement, and ensuring compliance with the VIE’s credit and investment policies. The fact that the sponsor was significantly involved with the creation of the VIE does not, in isolation, result in the sponsor being the primary beneficiary of the VIE. However, the fact that the sponsor was involved with the creation of the VIE may indicate that the sponsor had the opportunity and the incentive to establish arrangements that result in the sponsor being the variable interest holder with the power to direct the activities that most significantly impact the VIE’s economic performance.


XX.The short-term debt holders and subordinated note holders of the VIE have no voting rights and no other rights that provide them with power to direct the activities that most significantly impact the VIE’s economic performance. [Content amended and moved to paragraph 810-10-55-145B]

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that most significantly impact the VIE’s economic performance, then under the requirements of paragraph 810-10-25-38A, that reporting entity also is required to determine whether it has the obligation to absorb losses of the VIE that could potentially be significant to the VIE or the right to receive benefits from the VIE that could potentially be significant to the VIE. The sponsor, through its fee arrangement, receives benefits from the VIE that could potentially be significant to the VIE. The sponsor, through its letter of credit and liquidity facility, also has the obligation to absorb losses of the VIE that could potentially be significant to the VIE.

810-10-55-145A In assessing whether the sponsor has the power to direct the

activities of the VIE that most significantly impact the VIE’s economic performance, the sponsor must determine whether it uses its decision-making authority in a principal or an agent capacity. In making this assessment, the sponsor must evaluate all of the following:


810-10-55-145B The short-term debt holders and subordinated note holders of

the VIE have no voting rights and no other rights that provide them with the ability to participate in power to direct the activities that most significantly impact the VIE’s economic performance or the power to remove the sponsor from directing such activities. Therefore, the individual investors do not hold any substantive rights that would affect the decision-making authority of the sponsor. [Content amended as shown and moved from paragraph 810-10-55-144]

810-10-55-145C The sponsor received benefits from the VIE through its fee

arrangement, and the fee is commensurate with the services provided and includes only customary terms and conditions.

810-10-55-145D The sponsor, through its letter of credit and liquidity facility, also

has the obligation to absorb losses of the VIE that are disproportionate from the other interest holders’ exposure, which might influence the actions of the sponsor. Although the sponsor’s economic exposure is evaluated primarily on the basis of returns expected from the activities of the VIE, the purpose of the letter of credit and liquidity facility is to reduce the AAA-rated debt holders’ exposure to credit and liquidity risk. Therefore, the evaluation should consider the sponsor’s maximum exposure to losses of the VIE through its letter of credit and liquidity facility.

810-10-55-145E The level of economic variability the sponsor is exposed to

through its fees and its letter of credit and liquidity facility indicates that the sponsor is using its decision-making authority to direct the relevant activities of the VIE in a principal capacity.

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this Case and the analysis performed, the sponsor would be deemed to be the primary beneficiary of the VIE because:


b. Through its letter of credit and liquidity facility, the sponsor has the obligation to absorb losses of that could potentially be significant to the VIE, and, through its fee arrangement, the sponsor has the right to receive benefits of that could potentially be significant to the VIE.


> > > Case E: Guaranteed Mortgage-Backed Securitization

810-10-55-147 A VIE is created and financed with $100 of a single class of

investment-grade 30-year fixed-rate debt securities. The VIE uses the proceeds to purchase $100 of 30-year fixed-rate residential mortgage loans from the transferor. The VIE enters into a guarantee facility that absorbs 100 percent of the credit losses incurred on the VIE’s assets. The assets acquired by the VIE are underwritten by the transferor in accordance with the parameters established by the guarantor. Additionally, all activities of the VIE are prespecified by the trust agreement and servicing guide, which are both established by the guarantor. No critical decisions are generally required for the VIE unless default of an underlying asset is reasonably foreseeable or occurs.

810-10-55-148 The transaction was marketed to potential debt security holders

as an investment in a portfolio of residential mortgage loans with exposure to the credit risk of the guarantor and to the prepayment risk associated with the underlying loans of the VIE. Each month, the security holders receive interest and principal payments in proportion to their percentage ownership of the underlying loans.

810-10-55-149 If there is a shortfall in contractually required loan payments from

the borrowers or if the loan is foreclosed on and the liquidation of the underlying property does not generate sufficient proceeds to meet the required payments on all securities, the guarantor will make payments to the debt securities holders to ensure timely payment of principal and accrued interest on the debt securities.

810-10-55-150 The guarantor also serves as the master servicer for the VIE. As

master servicer, the guarantor services the securities issued by the VIE. Generally, if a mortgage loan is 120 days (or 4 consecutive months) delinquent, and if other circumstances are met, the guarantor has the right to buy the loan from the VIE. The master servicer can only be removed for a material breach in its obligations. As compensation for the guarantee and services provided, the guarantor receives a fee that is calculated monthly as a percentage of the unpaid principal balance on the underlying loans. The fees are considered commensurate with the services provided.

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810-10-55-151 As master servicer, the guarantor also is responsible for

supervising and monitoring the servicing of the residential mortgage loans (primary servicing). The VIE’s governing documents provide that the guarantor is responsible for the primary servicing of the loans; however, the guarantor is allowed to, and does, hire the transferor to perform primary servicing activities that are conducted under the supervision of the guarantor. The guarantor monitors the primary servicer’s performance and has the right to remove the primary servicer at any time it considers such a removal to be in the best interest of the security holders.

810-10-55-152 The primary servicing activities are performed under the servicing

guide established by the guarantor. Examples of the primary servicing activities include collecting and remitting principal and interest payments, administering escrow accounts, and managing default. When a loan becomes delinquent or it is reasonably foreseeable of becoming delinquent, the primary servicer can propose a default mitigation strategy in which the guarantor can approve, reject, or require another course of action if it considers such action is in the best interest of the security holders. As compensation for servicing the underlying loans, the transferor receives a fee that is calculated monthly as a percentage of the unpaid principal balance on the underlying loans.




a. The primary purposes for which the VIE was created were to provide investors with the ability to invest in a pool of residential mortgage loans with a third-party guarantee for 100 percent of the principal and interest payments due on the mortgage loans in the VIE, to provide the transferor to the VIE with access to liquidity for its originated loans and an ongoing servicing fee, and to generate fees for the guarantor.

b. The transaction was marketed to potential debt security holders as an investment in a portfolio of residential mortgage loans with exposure to the credit risk of the guarantor and prepayment risk associated with the underlying assets of the VIE.

c. The principal risks to which the VIE is exposed include credit risk of the underlying assets, prepayment risk, and the risk of fluctuations in the value of the underlying real estate. The credit risk of the underlying assets and the risk of fluctuations in the value of the underlying real estate are fully absorbed by the guarantor.

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810-10-55-154 The debt securities holders and the guarantor are the variable

interest holders in the VIE. The fees paid to the transferor do not represent a variable interest on the basis of a consideration of the conditions in paragraphs 810-10-55-37 through 55-38.


which activities most significantly impact the VIE’s economic performance and determine whether it has the power to direct those activities. The economic performance of the VIE is most significantly impacted by the performance of its underlying assets. Thus, the activities that most significantly impact the VIE’s economic performance are the activities that most significantly impact the performance of the underlying assets. The guarantor, who is also the master servicer, has the ability (through establishment of the servicing terms, to appoint and remove the primary servicer, to direct default mitigation, and to purchase defaulted assets) to manage the VIE’s assets that become delinquent (or may become delinquent in the reasonably foreseeable future) to improve the economic performance of the VIE.

810-10-55-156 Prepayment risk is also a risk that the VIE was designed to create

and pass through. However, no variable interest holder has the power to direct activities related to such risk.

810-10-55-157 Because the guarantor is able to appoint and replace the primary

servicer and direct default mitigation, the primary servicer does not have the power to direct the activities that most significantly impact the VIE’s economic performance. In addition, the primary servicer and its related parties do not hold a variable interest in the VIE. Thus, the primary servicer cannot be the primary beneficiary of the VIE. Furthermore, the security holders have no voting rights and, thus, no power to direct the activities that most significantly impact the VIE’s economic performance.


that most significantly impact the VIE’s economic performance, then under the requirements of paragraph 810-10-25-38A, that reporting entity also is required to determine whether it has the obligation to absorb losses of the VIE that could potentially be significant to the VIE or the right to receive benefits from the VIE that could potentially be significant to the VIE. The guarantor, through its fee arrangement, receives benefits and benefits, which may or may not potentially be significant under this analysis; however, the guarantor has the obligation to absorb losses of the VIEVIE. that could potentially be significant through its guarantee obligation.

810-10-55-158A In assessing whether the guarantor has the power to direct the

activities of the VIE that most significantly impact the VIE’s economic performance, the guarantor must determine whether it uses its decision-making

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authority in a principal or an agent capacity. In making this assessment, the guarantor must analyze all of the following:


810-10-55-158B The debt security holders have no voting rights and, thus, do

not have the ability to participate in the activities that most significantly impact the VIE’s economic performance nor the power to remove the guarantor from directing such activities. Therefore, the individual debt security holders do not hold any substantive rights that would affect the decision-making authority of the guarantor.

810-10-55-158C The guarantor receives a fixed fee for its services that provides

it with the right to receive benefits of the VIE. The fee received is commensurate with the services provided and includes only customary terms and conditions.

810-10-55-158D The guarantor provides an obligation to absorb losses of the

VIE that are disproportionate from the other interest holders’ exposure. Although the guarantor’s economic exposure is evaluated primarily on the basis of returns expected from the activities of the VIE, the purpose of the guarantee is to absorb 100 percent of the VIE’s credit risk. Therefore, the evaluation also should consider the guarantor’s maximum exposure to losses of the VIE.

810-10-55-158E The level of economic variability the guarantor is exposed to

through its fees and its guarantee indicates that the guarantor is using its decision-making authority to direct the relevant activities of the VIE in a principal capacity.


this Case and the analysis performed, the guarantor would be deemed to be the primary beneficiary of the VIE because:


b. Through its fee arrangement and its guarantee, it the guarantor has the obligation to absorb losses of the VIE and the right to receive benefits of the that could potentially be significant to the VIE.


> > > Case F: Residential Mortgage-Backed Securitization

810-10-55-160 A VIE is created and financed with $100 of 30-year fixed-rate

debt securities. The securities are issued in 2 tranches (a $90 senior tranche and a $10 residual tranche). The senior tranche securities are investment grade and are widely dispersed among third-party investors. The residual tranche securities are held by the transferor. The VIE uses the proceeds to purchase $100 of 30-year fixed-rate residential mortgage loans from a transferor. A default on the

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underlying loans is absorbed first by the residual tranche held by the transferor. All activities of the VIE are prespecified by a pooling and servicing agreement for the transaction. No critical decisions are generally required for the VIE unless default of an underlying asset is reasonably foreseeable or occurs.

810-10-55-161 The transaction was marketed to potential senior debt security

holders as an investment in a portfolio of residential mortgage loans with exposure to the credit risk of the underlying loan borrowers and to the prepayment risk associated with the underlying loans of the VIE. Each month the security holders receive interest and principal payments in proportion to their percentage of ownership of the underlying loans. The residual tranche was designed to provide a credit enhancement to the transaction and to absorb the first dollar risk of loss related to credit.

810-10-55-162 The primary servicing responsibilities are retained by the

transferor. No party has the ability to remove the transferor as servicer.

810-10-55-163 The servicing activities are performed in accordance with the

pooling and servicing agreement. Examples of the servicing activities include collecting and remitting principal and interest payments, administering escrow accounts, monitoring overdue payments, and overall default management. Default management includes evaluating the borrower’s financial condition to determine which loss mitigation strategy (specified in the pooling and servicing agreement) will maximize recoveries on a particular loan. The acceptable default management strategies are limited to the actions specified in the pooling and servicing agreement and include all of the following:

a. Modifying the terms of loans when default is reasonably foreseeable b. Temporary forbearance on collections of principal and interest (such

amounts would be added to the unpaid balance on the loan) c. Short sales in which the servicer allows the underlying borrower to sell

the mortgaged property even if the anticipated sale price will not permit full recovery of the contractual loan amounts.

810-10-55-164 As compensation for servicing the underlying loans, the transferor

receives a fee, calculated monthly as a percentage of the unpaid principal balance on the underlying loans. The fees are considered commensurate with the services provided. Although the servicing activities, particularly managing default, are required to be performed in accordance with the pooling and servicing agreement, the transferor, as servicer, has discretion in determining which strategies within the pooling and servicing agreement to utilize to attempt to maximize the VIE’s economic performance.



reporting entity, if any, is the primary beneficiary of a VIE, paragraph 810-10-25-38A requires that a reporting entity determine the purpose and design of the VIE,

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including the risks that the VIE was designed to create and pass through to its variable interest holders. In making this assessment, the variable interest holders of the VIE determined the following:

a. The primary purposes for which the VIE was created were to provide investors with the ability to invest in a pool of residential mortgage loans and to provide the transferor to the VIE with access to liquidity for its originated loans and an ongoing servicing fee and potential residual returns.

b. The transaction was marketed to potential senior debt security holders as an investment in a portfolio of residential mortgage loans with credit enhancement provided by the residual tranche and prepayment risk associated with the underlying assets of the VIE. The marketing of the transaction indicated that credit risk would be mitigated by the subordination of the residual tranche.

c. The principal risks to which the VIE is exposed include credit of the underlying assets, prepayment risk, and the risk of fluctuations in the value of the underlying real estate.


810-10-55-166 The debt security holders and the transferor are the variable

interest holders in the VIE. The fee paid to the transferor (in its role as servicer) represents a variable interest on the basis of a consideration of the conditions in paragraphs 810-10-55-37 through 55-38.


which activities most significantly impact the VIE’s economic performance and determine whether it has the power to direct those activities. The economic performance of the VIE is most significantly impacted by the performance of its underlying assets. Thus, the activities that most significantly impact the VIE’s economic performance are the activities that most significantly impact the performance of the underlying assets. The transferor, as servicer, has the ability to manage the VIE’s assets that become delinquent (or are reasonably foreseeable of becoming delinquent) to improve the economic performance of the VIE. Additionally, no party can remove the transferor in its role as servicer. The default management activities are performed only after default of the underlying assets or when default is reasonably foreseeable. However, a reporting entity’s ability to direct the activities of a VIE when circumstances arise or events happen constitutes power if that ability relates to the activities that most significantly impact the economic performance of the VIE. A reporting entity does not have to exercise its power in order to have power to direct the activities of a VIE.

810-10-55-168 Prepayment risk is also a risk that the VIE was designed to create

and pass through. However, no variable interest holder has the power to direct matters related to such risk.

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XX.The senior security holders have no voting rights and, thus, no power to direct the activities that most significantly impact the VIE’s economic performance.[Content amended and moved to paragraph 810-10-55-170B]


that most significantly impact the VIE’s economic performance, then under the requirements of paragraph 810-10-25-38A, that reporting entity also is required to determine whether it has the obligation to absorb losses of the VIE that could potentially be significant to the VIE or the right to receive benefits from the VIEVIE. that could potentially be significant to the VIE. The transferor, through its residual tranche ownership, has the obligation to absorb losses and the right to receive benefits of benefits, either of which could potentially be significant to the VIE. The transferor, for its servicing activities, receives a fixed fee that provides it with the right to receive benefits of the VIE. The transferor concluded that those benefits could not potentially be significant to the VIE.

810-10-55-170A In assessing whether the transferor has the power to direct the

activities of the VIE that most significantly impact the VIE’s economic performance, the transferor needs to determine whether it uses its decision-making authority in a principal or an agent capacity. In making this assessment, the transferor must evaluate all of the following:


810-10-55-170B The senior security holders have no kick-out rights or voting

rights and, thus, no power to direct, do not have the ability to participate in the activities that most significantly impact the VIE’s economic performance. performance, nor do they have the power to remove the transferor from directing such activities. Therefore, the individual investors do not hold any substantive rights that would affect the decision-making authority of the guarantor. [Content amended as shown and moved from paragraph 810-10-55-169]

810-10-55-170C The transferor, for its servicing activities, receives a fixed fee

that provides it with the right to receive benefits of the VIE. The fee is commensurate with the services provided and includes only customary terms and conditions.

810-10-55-170D The transferor, through its residual tranche ownership, has the

obligation to absorb losses and the right to receive benefits of the VIE that are disproportionate from the other interest holders’ exposure. Although the transferor’s economic exposure is evaluated primarily on the basis of returns expected from the activities of the VIE, the purpose of its subordinated interest is to absorb the entity’s first dollar risk of loss and to receive any residual returns. Therefore, the evaluation also should consider the transferor’s maximum exposure to losses of the VIE through its equity interest.

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810-10-55-170E The level of economic variability the transferor is exposed to

through its fees and its subordinated equity interests indicates that the transferor is using its decision-making authority in a principal capacity.


this Case and the analysis performed, the transferor would be deemed to be the primary beneficiary of the VIE because:


b. Through its residual tranche ownership, it has the obligation to absorb losses and the right to receive benefits of benefits, either of which could potentially be significant to the VIE.


> > > Case G: Property Lease Entity

810-10-55-172 A VIE is created and financed with $950 of 5-year fixed-rate debt

and $50 of equity. The VIE uses the proceeds from the issuance to purchase property to be leased to a lessee with an AA credit rating. The equity is subordinate to the debt because the debt is paid before any cash flows are available to the equity investors. The lease has a five-year term and is classified as a direct finance lease by the lessor and as an operating lease by the lessee. The lessee, however, is considered the owner of the property for tax purposes and, thus, receives tax depreciation benefits.

810-10-55-173 The lessee is required to provide a first-loss residual value

guarantee for the expected future value of the leased property at the end of five years (the option price) up to a specified percentage of the option price, and it has a fixed-price purchase option to acquire the property for the option price. If the lessee does not exercise the fixed-price purchase option at the end of the lease term, the lessee is required to remarket the property on behalf of the VIE. If the property is sold for an amount less than the option price, the lessee is required to pay the VIE the difference between the option price and the sales proceeds, which is not to exceed a specified percentage of the option price. If the property is sold for an amount greater than the option price, the lessee is entitled to the excess of the sales proceeds over the option price. A third-party residual value guarantor provides a very small additional residual value guarantee to the lessor VIE, which allows the lessor to achieve direct financing lease treatment.

810-10-55-174 The governing documents for the VIE do not permit the VIE to

buy additional assets or sell existing assets during the five-year holding period, and the terms of the lease agreement and the governing documents for the VIE do not provide the equity holders with the power to direct any activities of the VIE. The VIE was formed so that the lessee would have rights to use the property under an operating lease and would retain substantially all of the risks and rewards from appreciation or depreciation in value of the leased property.

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810-10-55-175 The transaction was marketed to potential investors as an

investment in a portfolio of AA-rated assets collateralized by leased property that would provide a fixed-rate return to debt holders equivalent to AA-rated assets. The return to equity investors is expected to be slightly greater than the return to the debt investors because the equity is subordinated to the debt.




a. The primary purpose for which the VIE was created was to provide the lessee with use of the property for five years with substantially all of the rights and obligations of ownership, including tax benefits.

b. The VIE was marketed to potential investors as an investment in a portfolio of AA-rated assets collateralized by leased property that would provide a fixed-rate return to debt holders equivalent to AA-rated assets. The return to equity investors is expected to be slightly greater than the return to the debt investors because the equity is subordinated to the debt.

c. The residual value guarantee effectively transfers substantially all of the risk associated with the underlying property (that is, decreases in value) to the lessee and the fixed-price purchase option effectively transfers substantially all of the rewards from the underlying property (that is, increases in value) to the lessee.

d. The VIE is designed to be exposed to the risks associated with a cumulative change in fair value of the leased property at the end of five years as well as credit risk related to the potential default by the lessee of its contractually required lease payments.


810-10-55-177 The debt investors, the equity investors, and the lessee are the

variable interest holders in the VIE.


which activities most significantly impact the VIE’s economic performance and determine whether it has the power to direct those activities. The economic performance of the VIE is significantly impacted by the fair value of the underlying property and the credit of the lessee. The lessee’s maintenance and operation of the leased property has a direct effect on the fair value of the underlying property, and the lessee directs the remarketing of the property. The lessee also has the ability to increase the benefits it can receive and limit the

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losses it can suffer by the manner in which it uses the property and how it remarkets the property.


XX.The debt holders do not have the power to direct activities that most significantly impact the VIE’s economic performance. Although the equity holders establish the terms of the lease agreement, the terms of the lease agreement do not provide the equity holders with the power to direct activities that most significantly impact the VIE’s economic performance. [Content amended and moved to paragraph 810-10-55-180B]


that most significantly impact the VIE’s economic performance, then under the requirements of paragraph 810-10-25-38A, that reporting entity also is required to determine whether it has the obligation to absorb losses of the VIE that could potentially be significant to the VIE or the right to receive benefits from the VIE that could potentially be significant to the VIE. The lessee has both the obligation to absorb losses of that could potentially be significant to the VIE and the right to receive benefits of that could potentially be significant to the VIE through the residual value guarantee and the purchase option, respectively.

810-10-55-180A In assessing whether the lessee has the power to direct the

activities of the VIE that most significantly impact the VIE’s economic performance, the lessee must determine whether it uses its decision-making authority in a principal or an agent capacity. In making this assessment, the lessee must evaluate both of the following:

a. Rights held by other parties b. Its economic interests.

810-10-55-180B The debt holders do not have any rights that provide them with

the ability to participate in the power to direct activities that most significantly impact the VIE’s economic performance. Although the equity holders establish the terms of the lease agreement, the terms of the lease agreement do not provide the equity holders with the ability to participate in the power to direct activities that most significantly impact the VIE’s economic performance. Therefore, the individual investors do not hold any substantive rights that would affect the decision-making authority of the lessee. [Content amended as shown and moved from paragraph 810-10-55-179]

810-10-55-180C The lessee has the obligation to absorb losses of the VIE and

the right to receive benefits of the VIE through the residual value guarantee and the purchase option, respectively. Although the lessee’s economic exposure is evaluated primarily on the basis of returns expected from the activities of the VIE, the purpose of its residual value guarantee is to absorb losses incurred by the entity, and the purpose of the purchase option is to receive any residual returns. Therefore, the evaluation also should consider the lessee’s maximum exposure to losses of the VIE.

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810-10-55-180D The level of economic variability the lessee is exposed to

through its residual value guarantee and purchase option indicates that the lessee is using its decision-making authority to direct the relevant activities of the VIE in a principal capacity.


this Case and the analysis performed, the lessee would be deemed the primary beneficiary of the VIE because:


b. Through its residual value guarantee and purchase option, it has the obligation to absorb losses of the VIE that could potentially be significant to the VIE and the right to receive benefits from the VIE that could potentially be significant to the VIE.


> > > Case H: Collaboration—Joint Venture Arrangement

810-10-55-182 The following Cases illustrate the application of the guidance in

paragraphs 810-10-25-38A through 25-38G related to the determination of the entity that has the power to direct the activities of the VIE that most significantly impact the VIE’s economic performance.

a. Joint decision making, different activities (Case H1) b. Separate decision making, different activities (Case H2) c. Separate decision making, same activities (Case H3) d. Separate decision making, similar and different activities (Case H4).

810-10-55-183 Each of the Cases share the following assumptions:

a. Reporting Entity A and Reporting Entity B form a VIE to manufacture, distribute, and sell a beverage. The VIE is funded with $95 million of 20-year fixed-rate debt and $5 million of equity. The debt is widely dispersed among third-party investors. The equity is held by Reporting Entity A and Reporting Entity B. Reporting Entity A and Reporting Entity B are not related parties.

b. Reporting Entity A and Reporting Entity B each have 50 percent of the voting rights and each represents 50 percent of the board of directors.

c. Reporting Entity A is a beverage manufacturer and distributor. Reporting Entity B is also a beverage manufacturer and distributor.

> > > > Case H1: Joint Decision Making, Different Activities

810-10-55-184 Reporting Entity A is responsible for manufacturing the beverage.

Reporting Entity B is responsible for distributing and selling the beverage. Decisions about the manufacturing, distributing, and selling of the beverage require the consent of both Reporting Entity A and Reporting Entity B. All other decisions about the VIE are jointly decided by Reporting Entity A and Reporting

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Entity B through their voting interests and equal board representation. Any matters that cannot be resolved or agreed upon must be resolved through a third-party arbitration process.

> > > > > Design of the Entity


reporting entity, if any, is the primary beneficiary of a VIE, paragraph 810-10-25-38A requires that a reporting entity determine the purpose and design of the VIE, including the risks that the VIE was designed to create and pass through to its variable interest holders. In making this assessment, the variable interest holders of the VIE determined that the primary purpose for which the VIE was created was to provide Reporting Entity A with access to Reporting Entity B’s distribution and sales network and for Reporting Entity B to gain access to Reporting Entity A’s manufacturing process and technology.

> > > > > Primary Beneficiary

810-10-55-186 Reporting Entity A and Reporting Entity B (through their equity

investment) and the debt investors are the variable interest holders in the VIE.


which activities most significantly impact the VIE’s economic performance and determine whether it has the power to direct those activities. The economic performance of the VIE is significantly impacted by the manufacturing of the beverage and by the selling and distributing of the beverage. Thus, the activities that most significantly impact the VIE’s economic performance are the activities that significantly impact the manufacturing of the beverage and the selling and distributing of the beverage.

810-10-55-188 Paragraph 810-10-25-38D provides that if a reporting entity

determines that power is, in fact, shared among multiple parties such that no one party has the power to direct the activities of a VIE that most significantly impact the VIE’s economic performance, then no party is the primary beneficiary. Power is shared if two or more unrelated parties together have the power to direct the activities of a VIE that most significantly impact the VIE’s economic performance, and if decisions about those activities require the consent of each of the parties sharing power.

810-10-55-189 Reporting Entity A and Reporting Entity B share the power to

direct the activities that will most significantly impact the economic performance of the VIE through their ability to make decisions about the manufacturing, distributing, and selling of the beverage and because of the fact that those decisions require each party’s consent.

810-10-55-190 The debt holders of the VIE have no voting rights and no other

rights that provide them with the power to direct the activities that most significantly impact the VIE’s economic performance.

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XX.If a reporting entity has the power to direct the activities of a VIE that most significantly impact the VIE’s economic performance, then under the requirements of paragraph 810-10-25-38A, that reporting entity also is required to determine whether it has the obligation to absorb losses of the VIE that could potentially be significant to the VIE or the right to receive benefits from the VIE that could potentially be significant to the VIE. Reporting Entity A and Reporting Entity B both have the obligation to absorb losses and the right to receive benefits that could potentially be significant to the VIE through their equity interests.


this Case and the analysis performed, the VIE does not have a primary beneficiary because the power to direct the activities of the VIE that most significantly impact the VIE’s economic performance, is, in fact, shared among multiple parties (Reporting Entity A and Reporting Entity B) such that no one party has the power to direct the activities of the VIE that most significantly impact the VIE’s economic performance.

> > > > Case H2: Separate Decision Making, Different Activities

810-10-55-193 Assume that decisions about the manufacturing, distributing, and

selling of the beverage do not require the consent of both Reporting Entity A and Reporting Entity B. Each reporting entity would be required to identify which activities most significantly impact the VIE’s economic performance and determine whether it has the power to direct those activities. The party with the power to direct those activities would be the primary beneficiary of the VIE. Because decisions about these activities do not require the consent of both Reporting Entity A and Reporting Entity B, power would not be considered shared, and either Reporting Entity A or Reporting Entity B would be the primary beneficiary of the VIE, on the basis of which party has have the power to direct the activities of the VIE that most significantly impact the VIE’s economic performance. If Reporting Entity A or Reporting Entity B has both the power to direct the activities that most significantly impact the VIE’s economic performance and the obligation to absorb losses of the VIE or the right to receive benefits from the VIE, then that party would be the primary beneficiary of the VIE. When assessing whether Reporting Entity A or Reporting Entity B is the primary beneficiary, each reporting entity shall consider whether it has the ability to use its decision-making authority as a principal or an agent.

> > > > Case H3: Separate Decision Making, Same Activities

810-10-55-194 Assume that Reporting Entity A and Reporting Entity B each

manufacture, distribute, and sell the beverage in different locations, but decisions about these activities do not require the consent of both Reporting Entity A and Reporting Entity B. That is, each reporting entity is responsible for the same activities. Because decisions about these activities do not require the consent of

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both Reporting Entity A and Reporting Entity B, power would not be considered shared.

810-10-55-195 If a reporting entity concludes that power is not shared but the

activities that most significantly impact the VIE’s economic performance are directed by multiple unrelated parties and the nature of the activities that each party is directing is the same, the party, if any, with the power over the majority of those activities shall be considered to have the power to direct the activities of a VIE that most significantly impact the VIE’s economic performance. If no party directs the majority of those activities, the VIE does not have a primary beneficiary.

810-10-55-196 If Reporting Entity A or Reporting Entity B has both the power

over the majority of those activities that most significantly impact the VIE’s economic performance and the obligation to absorb losses of the VIE or the right to receive benefits from the VIE, then that party would be the primary beneficiary of the VIE. When assessing whether Reporting Entity A or Reporting Entity B is the primary beneficiary, each reporting entity shall consider whether it has the ability to use its decision-making authority as a principal or an agent.

> > > > Case H4: Separate Decision Making, Similar and Different Activities

810-10-55-197 Assume that Reporting Entity A and Reporting Entity B are each

responsible for manufacturing the beverage, but Reporting Entity B is also responsible for all of the distributing and selling of the beverage, and decisions about the manufacturing, distributing, and selling of the beverage do not require the consent of both Reporting Entity A and Reporting Entity B. Each reporting entity would be required to identify which activities most significantly impact the VIE’s economic performance and determine whether it has the power to direct those activities. The party with the power to direct those activities would be the primary beneficiary of the VIE. That is, power would not be considered shared.shared, and either Reporting Entity A or Reporting Entity B would be the primary beneficiary of the VIE. However, if a reporting entity concludes that power is not shared but the activities that most significantly impact the VIE’s economic performance are directed by multiple unrelated parties and the nature of the activities that each party is directing is the same, the party, if any, with the power over the majority of those activities shall be considered to have the power to direct the activities of a VIE that most significantly impact the VIE’s economic performance. If no party directs the majority of those activities, the VIE does not have a primary beneficiary.

810-10-55-198 Reporting Entity B may conclude that its power over some of the

manufacturing of the beverage, combined with its power over all of the distributing and selling of the beverage, results in its it being the party with the power to direct the activities that most significantly impact the VIE’s economic performance. However, if Reporting Entity B were to conclude that the distributing and selling of the beverage did not significantly impact the economic performance of the VIE, then the party that has both the power over the majority

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of the manufacturing of the beverage and the obligation to absorb losses of the VIE or the right to receive benefits from the VIE is the primary beneficiary of the VIE. When assessing whether Reporting Entity A or Reporting Entity B is the primary beneficiary, each reporting entity shall consider whether it has the ability to use its decision-making authority as a principal or an agent.primary beneficiary of the VIE would be the party, if any, with the power over the majority of the manufacturing of the beverage.

> > > Case I: Furniture Manufacturing Entity

810-10-55-199 A VIE is created by a furniture manufacturer and a financial

investor to manufacture and sell wood furniture to retail customers in a particular geographic region. The VIE was created because the furniture manufacturer has no viable distribution channel in that particular geographic region. The VIE is established with $100 of equity, contributed by the furniture manufacturer, and $3 million of 10-year fixed-rate debt, provided by a financial investor. The furniture manufacturer establishes the sales and marketing strategy of the VIE, manages the day-to-day activities of the VIE, and is responsible for preparing and implementing the annual budget for the VIE. The VIE has a distribution contract with a third party that does not represent a variable interest in the VIE. Interest is paid to the fixed-rate debt holder (the financial investor) from operations before funds are available to the equity holder. The furniture manufacturer has guaranteed the fixed-rate debt to the financial investor. The debt agreement includes a clause such that if there is a materially adverse change that materially impairs the ability of the VIE and the furniture manufacturer to pay the debt, then the financial investor can take possession of all the assets of the VIE. An independent third party must objectively determine whether a materially adverse change has occurred on the basis of the terms of the debt agreement (an example of a materially adverse change under the debt agreement is the bankruptcy of the VIE).




a. The primary purpose for which the VIE was created was to enable the furniture manufacturer to extend its existing business line into a particular geographic region that lacked a viable distribution channel.

b. The VIE was marketed to the financial investor as a fixed-rate investment in a retail operating entity, supported by the furniture manufacturer’s expertise and guarantee.

c. The furniture manufacturer’s guarantee of the debt effectively transfers all of the operating risk of the VIE to the furniture manufacturer.

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810-10-55-201 The furniture manufacturer and the financial investor (debt holder)

are the variable interest holders in the VIE.


which activities most significantly impact the VIE’s economic performance and determine whether it has the power to direct those activities. The economic performance of the VIE is most significantly impacted by the operations of the VIE because the operating cash flows of the VIE are used to repay the financial investor. Thus, the activities that most significantly impact the VIE’s economic performance are the operating activities of the VIE. The furniture manufacturer has the ability to establish the sales and marketing strategy of the VIE and manage the day-to-day activities of the VIE. Accordingly, the VIE’s economic performance is most significantly impacted by the activities that the furniture manufacturer has the power to direct.


XX. The debt holder has the power to take possession of all of the assets of the VIE if there is a materially adverse change under the debt agreement. However, the debt holder’s rights under the materially adverse change clause represent protective rights. Protective rights held by other parties do not preclude a

reporting entity from having the power to direct the activities of a VIE that most significantly impact the VIE’s economic performance. Protective rights are designed to protect the interests of the party holding those rights without giving that party a controlling financial interest in the VIE to which they relate. The debt holder’s rights protect the interests of the debt holder; however, the VIE’s economic performance is most significantly impacted by the activities over which the furniture manufacturer has power. The debt holder’s protective rights do not prevent the furniture manufacturer from having the power to direct the activities of the VIE that most significantly impact the VIE’s economic performance. [Content amended and moved to paragraph 810-10-55-204B]


that most significantly impact the VIE’s economic performance, then under the requirements of paragraph 810-10-25-38A, that reporting entity also is required to determine whether it has the obligation to absorb losses of the VIE that could potentially be significant to the VIE or the right to receive benefits of that could potentially be significant to the VIE. The furniture manufacturer has the obligation to absorb losses that could potentially be significant through its equity interest and debt guarantee and the right to receive benefits that could potentially be significant through its equity interest.

810-10-55-204A In assessing whether the furniture manufacturer has the power

to direct the activities of the VIE that most significantly impact the VIE’s economic performance, the furniture manufacturer must determine whether it uses its decision-making authority in a principal or an agent capacity. In making this assessment, the furniture manufacturer must evaluate both of the following:

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a. The rights held by other parties b. Its economic interests.

810-10-55-204B The debt holder has the power to take possession of all of the

assets of the VIE if there is a materially adverse change under the debt agreement. However, the debt holder’s rights under the materially adverse change clause represent {remove glossary link} protective rights {remove glossary link}. Protective rights held by other parties do not preclude a reporting

entity from having the power to direct the activities of a VIE that most significantly impact the VIE’s economic performance. Protective rights are designed to protect the interests of the party holding those rights without giving that party a controlling financial interest in the VIE to which they relate. The debt holder’s rights protect the interests of the debt holder; however, the VIE’s economic performance is most significantly impacted by the activities over which the furniture manufacturer has power. The debt holder’s protective rights do not affect the evaluation of whether the furniture manufacturer is using its decision-making authority in a principal or an agent capacity. prevent the furniture manufacturer from having the power to direct the activities of the VIE that most significantly impact the VIE’s economic performance. [Content amended as shown and moved from paragraph 810-10-55-203]

810-10-55-204C The furniture manufacturer has the obligation to absorb losses

through its equity interest and debt guarantee and the right to receive benefits through its equity interest.

810-10-55-204D The level of economic variability the furniture manufacturer is

exposed to through its equity interests indicates that the furniture manufacturer is using its decision-making authority in a principal capacity.


this Case and the analysis performed, the furniture manufacturer would be the primary beneficiary of the VIE because:


b. Through its equity interest and debt guarantee, it has the obligation to absorb losses of the VIE that could potentially be significant to the VIE and the right to receive benefits from the VIE that could potentially be significant to the VIE.


11. Amend paragraph 810-10-65-2 and add paragraph 810-10-65-4 and its related heading as follows:

> Transition Related to FASB Statement No. 167, Amendments to FASB Interpretation No. 46(R)

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810-10-65-2 The following represents the transition and effective date information related to FASB Statement No. 167, Amendments to FASB Interpretation 46(R):

a. Except as noted in item aa, the pending content that links to this paragraph is effective as of the beginning of each reporting entity’s first annual reporting period that begins after November 15, 2009, for interim periods within that first annual reporting period, and for interim and annual reporting periods thereafter. Earlier application is prohibited.

aa. Except for the pending content in Section 810-10-50, the pending content that links to this paragraph shall not be applied to either of the following: (See item aaaa for guidance on the rescission of this indefinite deferral.) 1. A reporting entity’s interest in an entity if all of the following

conditions are met: i. The entity either:

01. Has all of the attributes specified in paragraph 946-10-15-2(a) through (d)

02. Does not have all of the attributes specified in paragraph 946-10-15-2(a) through (d) but is an entity for which it is acceptable based on industry practice to apply measurement principles that are consistent with those in Topic 946 (including recognizing changes in fair value currently in the statement of operations) for financial reporting purposes.

ii. The reporting entity does not have an explicit or implicit obligation to fund losses of the entity that could potentially be significant to the entity. This condition should be evaluated considering the legal structure of the reporting entity’s interest, the purpose and design of the entity, and any guarantees provided by the reporting entity’s related parties.

iii. The entity is not: 01. A securitization entity 02. An asset-backed financing entity 03. An entity that was formerly considered a qualifying

special-purpose entity. Examples of entities that may meet the preceding conditions include a mutual fund, a hedge fund, a mortgage real estate investment fund, a private equity fund, and a venture capital fund. Examples of entities that do not meet the preceding conditions include structured investment vehicles, collateralized debt/loan obligations, commercial paper conduits, credit card securitization structures, residential or commercial mortgage-backed entities, and government sponsored mortgage entities.

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2. A reporting entity’s interest in an entity that is required to comply with or operate in accordance with requirements that are similar to those included in Rule 2a-7 of the Investment Company Act of 1940 for registered money market funds.

An entity that initially meets the deferral requirements in this subparagraph may subsequently cease to qualify for the deferral as a result of a change in facts and circumstances. In that situation, the pending content that links to this paragraph shall become effective for the entity. Accordingly, if the reporting entity is required to consolidate an entity because the entity no longer qualifies for the deferral, the reporting entity shall initially measure the assets, liabilities, and noncontrolling interests of the VIE in accordance with paragraphs 810-10-30-1 through 30-6, as of the date the entity ceases to qualify for the deferral.

aaa. Public and nonpublic entities shall provide the disclosures required by the pending content in paragraphs 810-10-50-1 through 50-19 that links to this paragraph for all variable interests in variable interest entities

(VIEs). This includes variable interests in VIEs that qualify for the deferral in the preceding subparagraph but are considered VIEs under the provisions of the Variable Interest Entities Subsections of this Subtopic before the amendments in the pending content that links to this paragraph (that is, before the effects of Accounting Standards Updates 2009-17 and 2010-10). For public entities, in periods after initial adoption, comparative disclosures for those disclosures that were not previously required by paragraphs 810-10-50-7 through 50-19 are required only for periods after the effective date. Comparative information for disclosures previously required by those paragraphs that also are required by the pending content in the Variable Interest Entities Subsections shall be presented. For nonpublic entities, in periods after initial adoption, comparative disclosures for those disclosures that were not previously required are required only for periods after the effective date. Comparative information for disclosures previously required that also are required by the pending content in the Variable Interest Entities Subsections shall be presented.

aaaa. For the entities described in item aa, the pending content that links to paragraph 810-10-65-2 shall be effective for fiscal years and interim periods beginning on or after [date to be inserted after exposure].

For the pending content that links to paragraph 810-10-65-2 that has been amended by pending content that links to paragraph 810-10-65-4, the pending content that links to 810-10-65-4 shall be followed.

[For ease of use, the remainder of this paragraph, which is unaffected by the amendments in this Update, has been omitted.]

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> Transition Related to Accounting Standards Update No. 2012-XX, Consolidation (Topic 810): Principal versus Agent Analysis 810-10-65-4 The following represents the transition and effective date information related to Accounting Standards Update No. 2012-XX, Consolidation (Topic 810): Principal versus Agent Analysis:

a. The pending content that links to this paragraph shall be effective for fiscal years and interim periods beginning on or after [date to be inserted after exposure].

b. If a reporting entity is required to consolidate an entity as a result of the initial application of the pending content that links to this paragraph, the initial measurement of the assets, liabilities, and noncontrolling interests of the entity depends on whether the determination of their carrying amounts is practicable. In this context, carrying amounts refers to the amounts at which the assets, liabilities, and noncontrolling interests would have been carried in the consolidated financial statements if the requirements of the pending content that links to this paragraph had been effective when the reporting entity first met the conditions to consolidate the entity. 1. If determining the carrying amounts is practicable, the reporting

entity shall initially measure the assets, liabilities, and noncontrolling interests of the entity at their carrying amounts at the date the pending content that links to this paragraph first applies.

2. If determining the carrying amounts is not practicable, the assets, liabilities, and noncontrolling interests of the entity shall be measured at fair value at the date the pending content that links to this paragraph first applies.

c. Any difference between the net amount added to the statement of financial position of the reporting entity and the amount of any previously recognized interest in the newly consolidated entity shall be recognized as a cumulative-effect adjustment to retained earnings. A reporting entity shall describe the transition method(s) applied and shall disclose the amount and classification in its statement of financial position of the consolidated assets or liabilities by the transition method(s) applied.

d. A reporting entity that is required to consolidate an entity as a result of the initial application of the pending content that links to this paragraph may elect the fair value option provided by the Fair Value Option Subsections of Subtopic 825-10, only if the reporting entity elects the option for all financial assets and financial liabilities of that entity that are eligible for this option under those Fair Value Option Subsections. This election shall be made on an entity-by-entity basis. Along with the disclosures required in those Fair Value Option Subsections, the reporting entity shall disclose all of the following: 1. Management’s reasons for electing the fair value option for a

particular entity or group of entities

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2. The reasons for different elections if the fair value option is elected for some entities and not others

3. Quantitative information by line item in the statement of financial position indicating the related effect on the cumulative-effect adjustment to retained earnings of electing the fair value option for an entity.

e. If a reporting entity is required to deconsolidate an entity as a result of the initial application of the pending content that links to this paragraph, the reporting entity shall initially measure any retained interest in the deconsolidated former subsidiary at its carrying amount at the date the requirements of the pending content that links to this paragraph first apply. In this context, carrying amount refers to the amount at which any retained interest would have been carried in the reporting entity’s financial statements if the pending content that links to this paragraph had been effective when the reporting entity became involved with the entity or no longer met the conditions to consolidate the entity. Any difference between the net amount removed from the statement of financial position of the reporting entity and the amount of any retained interest in the newly deconsolidated entity shall be recognized as a cumulative-effect adjustment to retained earnings. The amount of any cumulative-effect adjustment related to deconsolidation shall be disclosed separately from any cumulative-effect adjustment related to consolidation of entities.

f. The determinations of whether a legal entity is a variable interest entity (VIE) and which reporting entity, if any, should consolidate the

entity shall be made as of the date the reporting entity became involved with the legal entity or, if events requiring reconsideration of the legal entity’s status or the status of its variable interest holders have occurred, as of the most recent date at which the pending content that links to this paragraph would have required consideration.

g. If, at transition, it is not practicable for a reporting entity to obtain the information necessary to make the determinations in (f) above as of the date the reporting entity became involved with a legal entity or at the most recent reconsideration date, the reporting entity shall make the determinations as of the date on which the pending content that links to this paragraph is first applied.

h. If the determinations of whether an entity is a VIE and whether a

reporting entity should consolidate the entity are made in accordance with (f) and (g) above, then the consolidating entity shall measure the assets, liabilities, and noncontrolling interests of the entity at fair value as of the date on which the pending content that links to this paragraph is first applied.

i. The pending content that links to this paragraph may be applied retrospectively in previously issued financial statements for one or more years with a cumulative-effect adjustment to retained earnings as of the beginning of the first year restated.

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12. Supersede Section 810-20-05, with a link to transition paragraph 810-10-65-4, as follows:

Consolidation—Control of Partnerships and Similar Entities

Overview and Background


This Subtopic addresses the potential consolidation of partnerships and similar entities.


Joint venture accounting is addressed in Topic 323. Real estate joint venture accounting is addressed in Subtopic 970-323. Accounting for certain kick-out rights with respect to variable interest entities (VIEs) can be found in paragraph 810-10-25-38C. [Content amended and moved to paragraph 810-10-05-18]



> Overall Guidance


This Subtopic follows the same Scope and Scope Exceptions as outlined in the General Subsection of the Overall Subtopic, see Section 810-10-15, with specific qualifications and exceptions noted below. As noted in paragraph 810-20-25-1, in situations involving multiple general partners, entities under common control are considered to be a single general partner for purposes of applying the guidance in this Subtopic. [Content amended and moved to paragraph 810-10-15-23]

> Entities


XX.The guidance in this Subtopic applies to the following entities:

a. Reporting entities, including not-for-profit entities (NFPs) that are required to apply the consolidation guidance in the General Subsections of Subtopic 810-10 for their investments in partnership and similar entities. That is, if an entity is required to apply the consolidation guidance included in the General Subsections of that Subtopic to its investment in a limited partnership, it is within the scope of this Subtopic.[Content amended and moved to paragraph 810-10-15-24]

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The guidance in this Subtopic does not apply to the following entities:

a. Limited partnerships or similar entities (such as limited liability companies that have governing provisions that are the functional equivalent of a limited partnership) that are entities within the scope of the Variable Interest Entities Subsections of Subtopic 810-10 (see the Variable Interest Entities Subsection of Section 810–10–15)

b. A general partner that, in accordance with generally accepted accounting principles (GAAP), carries its investment in the limited partnership at fair value with changes in fair value reported in a statement of operations or financial performance

c. Entities in industries in which it is appropriate for a general partner to use the pro rata method of consolidation for its investment in a limited partnership (see paragraph 810-10-45-14).

d. In circumstances in which no single general partner in a group of general partners controls the limited partnership. [Content amended and moved to paragraph 810-10-15-25]


Recognition

> General Partner Is Presumed to Control a Limited Partnership


If a limited partnership has multiple general partners, the determination of which, if any, general partner within the group controls and, therefore, shall consolidate the limited partnership is based on an analysis of the relevant facts and circumstances. In situations involving multiple general partners, entities under common control are considered to be a single general partner for purposes of applying the guidance in this Subtopic. [Content amended and moved to paragraph 810-10-25-84]


The general partners in a limited partnership shall determine whether they control a limited partnership based on the application of the framework in this Subtopic. [Content amended and moved to paragraph 810-10-25-82]


The general partners in a limited partnership are presumed to control that limited partnership regardless of the extent of the general partners’ ownership interest in the limited partnership.

> Evaluating Presumption of General Partner Control

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The following provides guidance for purposes of assessing whether the limited partners’ rights might preclude a general partner from controlling a limited partnership.


XX.The assessment of whether the rights of the limited partners shall overcome the presumption of control by the general partners is a matter of judgment that depends on facts and circumstances. The general partners do not control the limited partnership if the limited partners have either of the following:

a. The substantive ability to dissolve (liquidate) the limited partnership or otherwise remove the general partners without cause (as distinguished from with cause)

b. Substantive participating rights.


XX.The assessment of limited partners’ rights and their impact on the presumption of control of the limited partnership by the general partners shall be made when an investor (or investors) first becomes a general partner (or partners) and shall be reassessed at each reporting period thereafter for which financial statements of the general partner(s) are prepared. [Content amended and moved to paragraph 810-10-25-85]


XX.The following guidance shall be considered in evaluating whether rights held by the limited partners overcome the presumption of control by the general partners.

> > Substantive Kick-Out Rights

810-20-25-8 Paragraph superseded by Accounting Standards Update 2012-XX.The determination of whether the kick-out rights are substantive shall be

based on a consideration of all relevant facts and circumstances. Substantive kick-out rights shall have both of the following characteristics:

a. The kick-out rights can be exercised by a single limited partner or a vote of a simple majority (see Example 1 [paragraph 810-20-55-10]) or a lower percentage of the limited partners’ voting interests held by parties other than the general partners, entities under common control with the general partners or a general partner, and other parties acting on behalf of the general partners or a general partner. A kick-out right that contractually requires a vote in excess of a simple majority (such as a supermajority) of the limited partners’ voting interests to remove the general partners may still be substantive if the general partners could be removed in every possible voting scenario in which a simple majority of the limited partners’ voting interests vote for removal. That is, there is no combination of the limited partners’ voting interests that represents at

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least a simple majority of the limited partners’ voting interests that cannot remove the general partners (see Example 1, Case D [paragraph 810-20-55-14]). All relevant facts and circumstances shall be considered in assessing whether other parties, including, but not limited to, those defined as related parties in Topic 850, may be acting on behalf of the general partners in exercising their voting rights as limited partners. Similarly, in assessing whether a single limited partner has the ability to remove the general partners, consideration shall be given to whether other parties, including, but not limited to, those defined as related parties in that Topic, may be acting with the limited partner in exercising their kick-out rights.

b. The limited partners holding the kick-out rights have the ability to exercise those rights if they choose to do so; that is, there are no significant barriers to the exercise of the rights. Barriers include, but are not limited to, the following: 1. Kick-out rights subject to conditions that make it unlikely they will be

exercisable, for example, conditions that narrowly limit the timing of the exercise

2. Financial penalties or operational barriers associated with dissolving (liquidating) the limited partnership or replacing the general partners that would act as a significant disincentive for dissolution (liquidation) or removal

3. The absence of an adequate number of qualified replacement general partners or the lack of adequate compensation to attract a qualified replacement

4. The absence of an explicit, reasonable mechanism in the limited partnership agreement or in the applicable laws or regulations, by which the limited partners holding the rights can call for and conduct a vote to exercise those rights

5. The inability of the limited partners holding the rights to obtain the information necessary to exercise them. [Content amended and moved to paragraph 810-10-25-97]


XX.For purposes of applying the preceding paragraph, the limited partners’ unilateral right to withdraw from the partnership in whole or in part (withdrawal right) that does not require dissolution or liquidation of the entire limited partnership would not overcome the presumption that the general partners control the limited partnership (that is, the withdrawal right is not deemed to be a kick-out right). The requirement to dissolve or liquidate the entire limited partnership upon the withdrawal of a limited partner or partners shall not be required to be contractual for a withdrawal right to be considered as a potential kick-out right. [Content amended and moved to paragraph 810-10-25-98]


XX.If, based on the preceding evaluation, the limited partners possess

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substantive kick-out rights, presumption of control by the general partners would be overcome and each of the general partners would account for its investment in the limited partnership using the equity method of accounting. Topic 323 provides guidance on the equity method of accounting. [Content amended and moved to paragraph 810-10-25-83]

> > Substantive Participating Rights


XX.If the limited partners have substantive participating rights, the presumption of control by the general partners would be overcome and each of the general partners would account for its investment in the limited partnership using the equity method of accounting. Substantive participating rights provide the limited partners with the ability to effectively participate in significant decisions that would be expected to be made in the ordinary course of the limited partnership’s business.

810-20-25-12 Paragraph superseded by Accounting Standards Update 2012-XX.Participating rights are different from protective rights. Limited partners’

protective rights that are only protective in nature do not overcome the presumption that the general partners control the limited partnership. Limited partners’ rights, individually or in the aggregate, that provide the limited partners with the right to effectively participate in significant decisions that would be expected to be made in the ordinary course of the limited partnership’s business while being protective of the limited partners’ investment overcome the presumption that the general partners control the limited partnership.


XX.Limited partners’ rights (whether granted by contract or by law) that would allow limited partners to effectively participate in the following actions of the limited partnership shall be considered substantive participating rights and would overcome the presumption that the general partners control the limited partnership:

a. Selecting, terminating, and setting the compensation of management responsible for implementing the limited partnership’s policies and procedures

b. Establishing operating and capital decisions of the limited partnership, including budgets, in the ordinary course of business


Rights held by the limited partners to remove the general partners from the partnership shall be evaluated as kick-out rights pursuant to paragraph 810-20-25-8. Rights of the limited partners to participate in the termination of management (for example, management is outsourced to a party other than the general partner) or the individual members of management of the limited partnership may be substantive participating rights. [Content amended and moved to paragraph 810-10-25-99]

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XX.The rights described in paragraph 810-20-25-13 are considered illustrative of substantive participating rights, but not necessarily an all-inclusive list.


XX.The rights described in paragraph 810-20-25-13 are participating rights because, in the aggregate, the rights allow the limited partners to effectively participate in the decisions that occur as part of the ordinary course of the limited partnership’s business and are significant factors in directing and carrying out the activities of the limited partnership. In evaluating the limited partners’ rights to determine if they are substantive, participation means the ability of the limited partners to approve or block actions proposed by the general partners. That is, the general partners must have the limited partners’ agreement to take the actions outlined above in order for the rights to be substantive participating rights. Participation does not require the ability of the limited partners to initiate actions.


XX.Individual rights, such as the right to veto the termination of management responsible for implementing the limited partnership’s policies and procedures (if management is outsourced—via contract with a third party—by the general partners), shall be assessed based on the facts and circumstances to determine if they are substantive participating rights in and of themselves. The likelihood that the veto right will be exercised by the limited partners shall not be considered when assessing whether a limited partner right is a substantive participating right.


XX.However, limited partners’ rights that appear to be participating rights but that by themselves are not substantive would not overcome the presumption of control by the general partners in the limited partnership.

> > Protective Rights


XX.Limited partners’ rights (whether granted by contract or by law) that would allow the limited partners to block the following limited partnership actions would be considered protective rights and would not overcome the presumption of control by the general partners:

a. Amendments to the limited partnership agreement b. Pricing on transactions between the general partners and the limited

partnership and related self-dealing transactions c. Liquidation of the limited partnership initiated by the general partners or

a decision to cause the limited partnership to enter bankruptcy or other receivership

d. Acquisitions and dispositions of assets that are not expected to be undertaken in the ordinary course of business (Limited partners’ rights relating to acquisitions and dispositions that are expected to be made in

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the ordinary course of the limited partnership’s business are participating rights. Determining whether such rights are substantive requires judgment in light of the relevant facts and circumstances.)

e. Issuance or repurchase of limited partnership interests.

These are illustrative of some, but not all, of the protective rights that often are provided to limited partners. [Content amended and moved to paragraph 810-10-25-105]

> > Factors to Consider in Determining Whether Limited Partners’ Rights Are Substantive


The following factors shall be considered in evaluating whether limited partners’ rights that appear to be participating are substantive rights-that is, whether these factors provide for effective participation in significant decisions related to the limited partnership’s ordinary course of business:

a. The limited partnership agreement shall be considered to determine at what level decisions are made—by the general partners or by the limited partnership as a whole—and the rights at each level also shall be considered. In all situations, any matters that can be put to a vote of the limited partnership shall be considered to determine if the limited partners, individually or in the aggregate, have substantive participating rights by virtue of their ability to vote on matters submitted to a vote of the limited partnership. Determination of whether matters that can be put to a vote of the limited partners, or the vote of the limited partnership as a whole, are substantive shall be based on a consideration of all relevant facts and circumstances.

b. Relationships between the general partners and the limited partners (other than investment in the common limited partnership) that are of a related-party nature, as defined in Topic 850, shall be considered in determining if the participating rights of the limited partners are substantive. For example, if the limited partner in a limited partnership is a member of the immediate family of the general partners of the limited partnership, then the rights of the limited partner likely would not overcome the presumption of control by the general partners.

c. Certain limited partners’ rights may deal with operating or capital decisions that are not significant to the ordinary course of business of the limited partnership. Limited partners’ rights related to items that are not considered significant for directing and carrying out the activities of the limited partnership’s business are not substantive participating rights and would not overcome the presumption of control by the general partners. Examples of such limited partners’ rights include the following decisions: 1. Location of the limited partnership’s headquarters 2. Name of the limited partnership

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3. Selection of auditors 4. Selection of accounting principles for purposes of separate

reporting of the limited partnership’s operations. d. Certain limited partners’ rights may provide for the limited partners to

participate in significant decisions that would be expected to be made in certain business activities in the ordinary course of business; however, the existence of such limited partners’ rights shall not overcome the presumption that the general partners have control if it is remote that the event or transaction that requires the limited partners’ approval will occur.

e. General partners who have a contractual right to buy out the interest of the limited partners in the limited partnership for fair value or less shall consider the feasibility of exercising that contractual right when determining if the participating rights of the limited partners are substantive. If such a buyout is prudent, feasible, and substantially within the control of the general partners, the general partners’ contractual right to buy out the limited partners demonstrates that the participating right of the limited partners is not a substantive right. The existence of such call options, for purposes of this Subtopic, negates the participating rights of the limited partners to approve or veto an action of the general partners rather than creates an additional ownership interest for the general partners. It would not be prudent, feasible, and substantially within the control of the general partners to buy out the limited partners if, for example, either of the following conditions exists: 1. The limited partners control technology that is critical to the limited

partnership. 2. The limited partners are the principal source of funding for the

limited partnership. [Content amended and moved to paragraph 810-10-25-106]


XX.Paragraphs 810-20-55-1 through 55-9 provide additional guidance on assessing limited partner protective and substantive participating rights.



> Additional Useful Information for Limited Partnerships


An entity has financial statement and disclosure alternatives that may provide additional useful information. For example, an entity may highlight the effects of consolidating a limited partnership by providing consolidating financial

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statements or separately classifying the assets and liabilities of the limited partnership(s) on the face of the balance sheet. [Content amended and moved to paragraph 810-10-45-14A]




> > Assessing Limited Partner Protective and Substantive Participating Rights


The following implementation guidance is intended to facilitate the understanding of how to assess whether the rights of the limited partners should be considered protective or participating and, if participating, whether the rights are substantive. Although this guidance illustrates possible assessments of individual limited partners’ rights, the evaluation of limited partners’ rights should consider all of the factors identified in paragraph 810-20-25-20 to determine whether the limited partners’ rights, individually or in the aggregate, provide for the limited partners to effectively participate in significant decisions that would be expected to be made in the ordinary course of business.

> > > Approval of Acquisitions and Dispositions


The rights of the limited partners relating to the approval of acquisitions and dispositions of assets that are expected to be undertaken in the ordinary course of business may be substantive participating rights. Rights related only to

acquisitions that are not expected to be undertaken in the ordinary course of business usually are protective and would not overcome the presumption of

control by the general partners in the limited partnership. Whether the right to approve the acquisition or disposition of assets is in the ordinary course of business should be based on an evaluation of the relevant facts and circumstances. In addition, if approval by the limited partners is necessary to incur additional indebtedness to finance an acquisition that is not in the limited partnership’s ordinary course of business, then the approval by the limited partners would be considered a protective right.

> > > Approval for Incurring Additional Indebtedness


Existing facts and circumstances should be considered in assessing whether the rights of the limited partners relating to a limited partnership incurring additional indebtedness are protective or participating rights. For example, if it is reasonably possible or probable that the limited partnership will need to incur the level of

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borrowing that requires limited partner approval in its ordinary course of business, the rights of the limited partners would be viewed as substantive participating rights.

> > > Rights Relating to Dividends and Other Distributions


The rights of the limited partners relating to dividends or other distributions may be protective or participating and should be assessed in light of the available facts and circumstances. For example, rights to block customary or expected dividends or other distributions may be substantive participating rights, while rights to block extraordinary distributions would be protective rights.

> > > Rights Relating to Partnership-Specific Action


The rights of the limited partners relating to a limited partnership’s specific action (for example, to lease property) in an existing business may be protective or participating and should be assessed in light of the available facts and circumstances. For example, if the limited partnership had the ability to purchase, rather than lease, the property without requiring the approval of the limited partners, then the rights of the limited partners to block the limited partnership from entering into a lease would not be substantive.

> > > Rights Relating to Negotiation of Collective Bargaining Agreements


The rights of the limited partners relating to a limited partnership’s negotiation of collective-bargaining agreements with unions may be protective or participating and should be assessed in light of the available facts and circumstances. For example, if a limited partnership does not have a collective-bargaining agreement with a union or if the union does not represent a substantial portion of the limited partnership’s work force, then the rights of the limited partners to approve or veto a new or broader collective-bargaining agreement are not substantive.

> > > Rights to Block Action of General Partner


Provisions that govern what will occur if the limited partners block the action of the general partners need to be considered to determine whether the rights of the limited partners to block have substance. For example, if both of the following circumstances exist, then the rights of the limited partners to block the approval of the operating and capital budgets do not allow the limited partners to effectively participate and are not substantive:

a. The limited partnership agreement provides that if the limited partners block the approval of operating and capital budgets, then the budgets simply default to last year’s budgets adjusted for inflation.

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b. The limited partnership operates in a mature business for which year-to-year operating and capital budgets would not be expected to vary significantly.

> > > Rights Relating to the Initiation of a Lawsuit


Limited partners’ rights relating to the initiation or resolution of a lawsuit may be considered protective or participating depending on the available facts and circumstances. For example, if lawsuits are a part of, or are expected to be a part of, the limited partnership’s ordinary course of business, as is the case for some insurance entities, then the limited partners’ rights may be considered substantive participating rights.

> > > Right to Veto Annual Operating and Capital Budgets


The limited partners have the right to veto the annual operating and capital budgets for the first X years of the limited partnership. Based on the facts and circumstances, during the first X years of the limited partnership this right may be a substantive participating right. However, following Year X there is a significant change in the exercisability of the limited partners’ right (for example, the veto right terminates). As of the beginning of the period following Year X, since that right no longer exists, the presumption that the general partners control the partnership would not be overcome.

> Illustrations

> > Example 1: Simple Majority Threshold for the Application of Kick-Out Rights


This Example illustrates the guidance in paragraphs 810-20-25-8 through 25-10. To illustrate the application of the simple majority threshold, consider the following Cases A, B, and C in which the limited partnership agreement requires a simple majority of the limited partners’ voting interests to remove the general partner and Case D in which a supermajority of the limited partners’ voting interests is required for such removal:

a. Three equal-interest limited partners (Case A) b. Two equal-interest limited partners (Case B) c. One hundred equal-interest limited partners (Case C) d. Required limited partner voting percentages greater than 50 percent

(Case D).

> > > Case A: Three Equal-Interest Limited Partners


Assume that a limited partnership has 3 limited partners, none of which have any relationship to the general partners, and that each holds an equal amount of the

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limited partners’ voting interests (33.33 percent). In this Case, applying the simple majority requirement in the partnership agreement would require a vote of no more than two of the three limited partners to remove the general partners. Accordingly, a provision that entitles any individual limited partner to remove the general partner or a provision that requires a vote of two of the limited partners to remove the general partner would meet the requirements of paragraph 810-20-25-8(a) for a substantive kick-out right. However, if a vote of all three limited partners is required to remove the general partner, the right would not meet the requirements of that paragraph for a substantive kick-out right because the required vote is greater than a simple majority of the limited partners voting interests.

> > > Case B: Two Equal-Interest Limited Partners


Consider the same facts as in Case A, except that there are two limited partners that each hold an equal interest. In this Case, a simple majority of the limited partners’ voting interests would require a vote of both limited partners, so a provision entitling any individual limited partner to remove the general partner or a provision that requires a vote of both limited partners to remove the general partner would meet the requirements of paragraph 810-20-25-8(a) for a substantive kick-out right.

> > > Case C: One Hundred Equal-Interest Limited Partners


Consider the same facts as in Case A, except that there are 100 limited partners that each hold an equal interest. In this Case, a simple majority of the limited partners’ voting interests would require a vote of 51 limited partners, so a provision that requires a vote of less than 52 limited partners to remove the general partner would meet the requirements of paragraph 810-20-25-8(a) for a substantive kick-out right. However, if a vote of 52 or more limited partners is required to remove the general partner, that provision would not meet the requirements of that paragraph for a substantive kick-out right because the required vote is greater than a simple majority of the limited partners’ voting interests.

> > > Case D: Required Limited Partner Voting Percentages Greater than 50 Percent


In this Case, consider the following situations based on a limited partnership agreement that requires a vote of 66.6 percent of the limited partners’ voting interests to remove the general partner:

a. Equal-interest limited partners (Case D1) b. Limited partners with unequal interests (Case D2).

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> > > > Case D1: Equal-Interest Limited Partners


There are 3 independent limited partners that each hold an equal percentage (33.33 percent) of the limited partner voting interest. A vote of 2 of the 3 limited partners represents 66.7 percent of the limited partners voting interests, which also represents the smallest possible combination of voting interests that is at least a simple majority of the limited partners’ voting interests. Assuming there are no barriers to the exercise of the kick-out rights, the kick-out rights in this

situation meet the simple majority requirement and therefore represent substantive kick-out rights that overcome the presumption of control by the general partners.

> > > > Case D2: Limited Partners with Unequal Interests


There are 3 independent limited partners that hold 45 percent (Limited Partner 1), 25 percent (Limited Partner 2), and 30 percent (Limited Partner 3) of the limited partners’ voting interests, respectively. To remove the general partners, a vote of Limited Partner 1 in combination with either Limited Partner 2 or Limited Partner 3 would be a simple majority of the limited partners and would satisfy the 66.6 percent contractual requirement. In contrast, a vote to exercise the kick-out right by Limited Partner 2 and Limited Partner 3 also would represent a simple majority of the limited partners; however, their voting interests (55 percent) would not meet the required threshold of 66.6 percent to remove the general partners. Accordingly, the kick-out right in this situation would be assessed as nonsubstantive because the smallest possible combination (Limited Partner 2 and Limited Partner 3) that represents at least a simple majority of the limited partners voting interests cannot remove the general partners. Assuming the limited partners do not possess substantive participating rights, the presumption of control by the general partners would not be overcome.


17. Amend paragraph 810-30-15-3, with a link to transition paragraph 810-10-65-4, as follows:

Consolidation—Research and Development Arrangements


810-30-15-3 The guidance in this Subtopic does not apply to either of the

following:

a. Transactions in which the funds are provided by third parties, which would generally be within the scope of Subtopic 730-20. That Subtopic

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establishes standards of financial accounting and reporting for an entity that is a party to a research and development arrangement through which it can obtain the results of research and development funded partially or entirely by others.

b. Special-purpose entities required to be consolidated under the guidance on variable interest entities (VIEs). That guidance must be applied first (see the Variable Interest Entities Subsection of Section 810-10-15) before considering this Subtopic. Consolidation by business entities of VIEs, which include many special-purpose entities used in research and development arrangements, is addressed by the Variable Interest Entities Subsections of Subtopic 810-10. The Variable Interest Entities Subsections of that Subtopic require a VIE to be consolidated by an entity if that entity will absorb a majority of the VIE’s expected losses or is entitled to receive a majority of the VIE’s expected residual returns or both.


18. Amend paragraphs 954-810-15-2 through 15-3, with a link to transition paragraph 810-10-65-4, as follows:

Health Care Entities—Consolidation


> Overall Guidance

954-810-15-1 This Subtopic follows the same Scope and Scope Exceptions as

outlined in the Overall Subtopic, see Section 954-10-15.

> Entities

954-810-15-2 If the reporting entity is an investor-owned health care entity, this

Subtopic provides consolidation guidance for reporting relationships with other entities in addition to the guidance in the following locations:

a. Pursuant to paragraph 810-10-15-3(a), an investor-owned health care entity shall first apply the guidance in the Variable Interest Entities Subsections of Subtopic 810-10 if it is within the scope of those Subsections.

b. Pursuant to paragraph 810-10-15-3(b), if the investor-owned health care entity has an investment in another entity that is not determined to be a variable interest entity (VIE), it shall use the guidance in the General Subsections of Subtopic 810-10 to determine whether that interest constitutes a controlling financial interest.

http://asc.fasb.org/link&sourceid=SL2265813-111697&objid=6431556

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c. Pursuant to paragraph 810-10-15-3(c), if the investor-owned health care entity has a contractual management relationship with another entity (for example, a physician practice) and that other entity is not determined to be a VIE, it shall use the guidance in the Consolidation of Entities Controlled by Contract Subsections of Subtopic 810-10 to determine whether the arrangement constitutes a controlling financial interest.

d. Pursuant to Section 810-20-15, paragraph 810-10-15-3(d), if the investor-owned health care entity is the general partner of a limited partnership or a similar entity (such as a limited liability entity that has governing provisions that are the functional equivalent of a limited partnership), it shall apply the guidance in the Consolidation of Partnerships and Similar Entities Subsections of Subtopic 810-10.Subtopic 810-20.

e. Pursuant to Section 810-30-15, if the investor-owned health care entity is a sponsor in a research and development arrangement, it shall apply the guidance in Subtopic 810-30.

954-810-15-3 If the reporting entity is a not-for-profit business-oriented health

care entity, this Subtopic provides consolidation guidance for reporting relationships with other entities in addition to the guidance in the following locations:

a. Pursuant to paragraph 810-10-15-17, not-for-profit business-oriented health care entities are not subject to the Variable Interest Entities Subsections of Subtopic 810-10 unless the not-for-profit entity is used by a business entity in a manner similar to a VIE in an effort to circumvent the provisions of those Subsections.

b. If the not-for-profit, business-oriented health care entity has an investment in a for-profit entity, it shall use the guidance in the General Subsections of Subtopic 810-10 to determine whether that interest constitutes a controlling financial interest.

c. If the not-for-profit, business-oriented health care entity has a contractual management relationship with another entity (for example, a physician practice), it shall use the guidance in the Consolidation of Entities Controlled by Contract Subsections of Subtopic 810-10 to determine whether the arrangement constitutes a controlling financial interest.

d. If the not-for-profit, business-oriented health care entity is the general partner of a for-profit limited partnership or a similar entity (such as a limited liability entity that has governing provisions that are the functional equivalent of a limited partnership), it shall apply the guidance in Subtopic 810-20the Consolidation of Partnerships and Similar Entities Subsections of Subtopic 810-10.

e. If the not-for-profit, business-oriented health care entity is a sponsor in a research and development arrangement, it shall apply the guidance in Subtopic 810-30.

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f. If the not-for-profit, business-oriented health care entity has a relationship with another not-for-profit entity that involves control, an economic interest, or both, it shall apply the guidance in Subtopic 958-

810. g. If the not-for-profit, business-oriented health care entity is engaged in

leasing transactions with a special-purpose-entity (SPE) lessor, it shall consider whether it should consolidate the lessor in accordance with the guidance in paragraphs 958-810-25-8 throughthorough 25-10.

h. Except where it elects to report such interests at fair value in accordance with the Fair Value Option Subsections of Subtopic 825-10, a not-for-profit, business-oriented health care entity that owns 50 percent or less of the common voting stock of an investee and can exercise significant influence over operating and financial policies shall apply the guidance in Subtopic 323-10.

i. Except where it elects to report such interests at fair value in accordance with the Fair Value Option Subsections of Subtopic 825-10, a not-for-profit, business-oriented health care entity shall report noncontrolling interests in for-profit real estate partnerships, limited liability entities, and similar entities over which the reporting entity has more than a minor interest under the equity method in accordance with the guidance in Subtopic 970-323. A not-for-profit, business-oriented health care entity shall apply the guidance in paragraph 970-323-25-2 to determine whether its interest in a for-profit partnership, limited liability entity, or similar entity is a controlling interest or a noncontrolling interest. A not-for-profit, business-oriented health care entity shall apply the guidance in paragraph 323-30-35-3 to determine whether a limited liability entity should be viewed as similar to a partnership, as opposed to a corporation, for purposes of determining whether a noncontrolling interest in a limited liability entity or a similar entity should be accounted for in accordance with Subtopic 970-323 or Subtopic 323-10.



954-810-45-2 Paragraph 958-810-25-2A explains that, in some situations, certain

actions require approval by a supermajority vote of the board. That paragraph states that such voting requirements might overcome the presumption of control by the owner or holder of a majority voting interest. (For related implementation guidance, see paragraph 958-810-55-4A.) Pursuant to paragraph 810-10-15-17(a) a not-for-profit, business-oriented health care entity is not subject to the Variable Interest Entities Subsections of Subtopic 810-10, except that it may be a related party for purposes of applying paragraphs 810-10-25-42810-10-25-43 through 25-44. Also, if a not-for-profit, business-oriented health care entity is

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used by business entities in a manner similar to a variable interest entity (VIE) in an effort to circumvent the provisions of the Variable Interest Entities Subsections of Subtopic 810-10, that not-for-profit entity shall be subject to the Variable Interest Entities Subsections of that Subtopic.



Not-for-Profit Entities—Consolidation


958-810-15-4 Additional guidance for reporting relationships between NFPs and

for-profit entities is located in the following locations in the Codification:

a. An NFP with a controlling financial interest in a for-profit entity through direct or indirect ownership of a majority voting interest in that entity shall apply the guidance in the General Subsections of Subtopic 810-10. However, in accordance with paragraph 810-10-15-17, NFPs are not subject to the Variable Interest Entities Subsections of that Subtopic.

b. An NFP that is a general partner of a for-profit limited partnership or a similar entity (such as a limited liability company that has governing provisions that are the functional equivalent of a limited partnership) shall apply the guidance in Subtopic 810-20 the Consolidation of Partnerships and Similar Entities Subsections of Subtopic 810-10 unless that partnership interest is reported at fair value in conformity

with the guidance described in (e). c. An NFP that owns 50 percent or less of the voting stock in a for-profit

business entity shall apply the guidance in Subtopic 323-10 unless that investment is reported at fair value in conformity with the guidance described in (e).

d. An NFP with a more than a minor interest in a for-profit real estate partnership, limited liability company, or similar entity shall, subject to the fair value exceptions in item (e), report for its noncontrolling interests in such entities using the equity method in accordance with the guidance in Subtopic 970-323 unless that interest is reported at fair value in conformity with the guidance described in (e). An NFP shall apply the guidance in paragraph 970-323-25-2 to determine whether its interests in a for-profit partnership, limited liability company, or similar entity are controlling interests or noncontrolling interests. An NFP shall apply the guidance in paragraph 323-30-35-3 to determine whether a limited liability company should be viewed as similar to a partnership, as

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opposed to a corporation, for purposes of determining whether noncontrolling interests in a limited liability company or a similar entity should be accounted for in accordance with Subtopic 970-323 or Subtopic 323-10.

e. An NFP may be required to report an investment described in (c) at fair value in conformity with paragraph 958-320-35-1, or may be permitted to make an election in accordance with paragraph 825-10-25-1. In addition, NFPs other than those within the scope of Topic 954 may be permitted to report an investment described in (b), (c), or (d) at fair value in conformity with Section 958-325-35.




> > > Relationship with a For-Profit Entity

958-810-55-4 The following flowchart indicates the order in which an NFP applies

the guidance elsewhere in the Codification to determine the accounting for its relationship with a for-profit entity.

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135



Real Estate—General—Investments—Equity Method and Joint Ventures

Recognition

970-323-25-8 If the substance of the partnership arrangement is such that the

general partners are not in control of the major operating and financial policies of the partnership activities that most significantly impact the limited partnership’s economic performance, a limited partner may be in control. An example could be a limited partner holding over 50 percent of the total partnership interest. A controlling limited partner shall be guided in accounting for its investment by the principles for investments in subsidiaries in Topic 810. Noncontrolling limited partners shall account for their investments by the equity method and shall be guided by the provisions of Topic 323, as discussed in the guidance beginning in paragraph 970-323-25-2, or by the cost method, as discussed in the guidance beginning in paragraph 970-323-25-5, as appropriate.


23. Amend paragraphs 970-810-25-1 through 25-3, with a link to transition paragraph 810-10-65-4, as follows:

Real Estate—General—Consolidation

Recognition

> General Partnerships

970-810-25-1 A general partnership that is controlled, directly or indirectly, by

an investor is, in substance, a subsidiary of the investor. Paragraph 810-10-15-8 810-10-15-1A states that the usual condition for a controlling financial interest is ownership of a majority voting interest, and, therefore, as a general rule ownership by one entity, directly or indirectly, of over 50 percent of the outstanding voting shares of another entity is a condition pointing toward consolidation. However, if partnership voting interests are not clearly indicated, a condition that would usually indicate control is ownership of a majority (over 50 percent) of the financial interests in profits or losses (see paragraphs 970-323-35-16 through 35-17). Paragraph 810-10-15-8 810-10-15-1A states that the power to control may also exist with a lesser percentage of ownership, for

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example, by contract, lease, agreement with other stockholders, or by court decree. The power to control may also exist with a lesser percentage of ownership by agreement with other partners.

970-810-25-2 On the other hand, the majority interest holder may not control the

entity if one or more of the other partners have substantive participating rights that permit those other partners to effectively participate in significant decisions that would be expected to be made in the ordinary course of businessthe activities that most significantly impact the partnership’s economic performance. The determination of whether the rights of the other partners are substantive participating rights shall be evaluated in accordance with the guidance for substantive participating rights in Subtopic 810-20 paragraphs 810-10-25-2 through 25-14. If the other partners have substantive participating rights, the presumption of control by the majority interest holder is overcome. A controlling investor shall account for its investment under the principles of accounting applicable to investments in subsidiaries. Accordingly, interentity profits and losses on assets remaining within the group shall be eliminated. A noncontrolling investor in a general partnership shall account for its investment by the equity method and should be guided by the provisions of Topic 323.

> Limited Partnerships

970-810-25-3 The rights and obligations of the general partners in a limited partnership are different from those of the limited partners.partners and,

accordingly, the general partners shall be presumed to control the limited partnership. However, the rights of the limited partners may overcome that presumption of control General partners are required to evaluate whether they use their power (decision-making authority) in a principal or an agent capacity and, therefore, control the limited partnership. If the general partners lack the ability to use their decision-making authority as a principal, they do not control the limited partnership. The guidance in Subtopic 810-20the Consolidation of Partnerships and Similar Entities Subsections in Subtopic 810-10 shall be used to determine whether the rights of the limited partners overcome the presumption of control by the general partners control the limited partnership:

a. If the presumption of control by the general partners do not control the limited partnership, is overcome by the rights of the limited partners, the general partners shall apply the equity method of accounting to their interests.

b. If the presumption of control by the general partners is not overcome by the rights of the limited partners andthe general partners, as a group, control the limited partnership, but no single general partner controls the limited partnership, the general partners shall apply the equity method of accounting to their interests.

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c. If the presumption of control is not overcome by the rights of the limited partners and a single general partner controls the limited partnership, that general partner shall consolidate the limited partnership and apply the principles of accounting applicable for investments in subsidiaries in Topic 810.

The amendments in this proposed Update were approved for publication by five members of the Financial Accounting Standards Board. Messrs. Buck and Schroeder abstained from voting. Members of the Financial Accounting Standards Board:

Leslie F. Seidman, Chairman Daryl E. Buck Russell G. Golden Thomas J. Linsmeier R. Harold Schroeder Marc A. Siegel Lawrence W. Smith

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Background Information and Basis for Conclusions

Introduction

BC1. The following summarizes the Board’s considerations in reaching the conclusions in this proposed Update. It includes reasons for accepting certain approaches and rejecting others. Individual Board members gave greater weight to some factors than to others.

BC2. The proposed amendments in this Update would change the analysis a reporting entity must perform to determine whether it should consolidate another entity. Specifically, the proposed amendments would:

a. Provide criteria to evaluate whether an entity’s decision maker is using its decision-making authority as a principal or an agent. This would affect the determination of whether an entity is a variable interest entity (VIE) and which party is the VIE’s primary beneficiary.

b. Amend the requirements for evaluating kick-out and participating rights in the various Subsections of Subtopic 810-10 to be more closely aligned.

c. Amend the requirements for evaluating whether a general partner controls a limited partnership.

Background Information

BC3. In June 2009, the FASB issued Statement 167 (codified in Update 2009-17), which requires a reporting entity to perform a qualitative evaluation on the basis of its power and economics to determine if it should consolidate a VIE. Before the effective date of Statement 167, the consolidation analysis for VIEs focused primarily on a quantitative assessment of the reporting entity’s exposure to the economic variability of the entity.

BC4. During deliberations for Statement 167, the IASB was reconsidering its consolidation guidance as part of a standalone project and issued an Exposure Draft, ED 10, Consolidated Financial Statements, in December 2008. Similar to the guidance in Statement 167, the consolidation model being developed by the IASB focused on whether the reporting entity is exposed, or has rights, to variable returns from its involvement with the investee and has the ability to affect those returns through its power over the investee.

BC5. In October 2009, the FASB and the IASB affirmed their previous decision to jointly develop guidance for consolidation of all entities, including

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entities considered VIEs under U.S. GAAP. The FASB expected the consolidation guidance being developed by the IASB to yield similar consolidation conclusions as Statement 167 for most VIEs, with the exception of interests in certain investment companies. The potential difference in the consolidation conclusion for these investment companies is a result of how a decision maker (investment manager) is required to evaluate whether it has the ability to use its decision-making authority in a principal or agent capacity.

BC6. In response to the potentially different consolidation conclusions between U.S. GAAP and the IASB’s tentative decisions, as well as concerns from users and preparers of financial statements of investment managers, the FASB issued Accounting Standards Update No. 2010-10, Consolidation (Topic 810): Amendments for Certain Investment Funds, in February 2010. Update 2010-10 indefinitely deferred the effective date of the consolidation requirements in Update 2009-17 (which codified Statement 167) for certain entities, allowing the FASB and the IASB to develop converged guidance to evaluate the capacity in which a decision maker uses its decision-making authority and whether it should consolidate another entity as part of the larger joint consolidations project.

BC7. In January 2011, based on comments received from respondents to the IASB’s staff draft of IFRS 10 and input received during two roundtables hosted to solicit views from stakeholders, the FASB decided to make only limited changes to the consolidation requirements in U.S. GAAP at this time. Specifically, the Board decided to propose changes to the consolidation requirements relating to the consolidation of VIEs, the consolidation of limited partnerships that are not VIEs, and the assessment of kick-out rights and participating rights in the various subsections of Subtopic 810-10. The Board intends for this proposed Update to more closely align the consolidation conclusions for VIEs under U.S. GAAP and entities evaluated for consolidation under IFRS.


BC8. The current consolidation requirements for VIEs focus on whether the reporting entity has power over the VIE’s most significant activities and has the obligation to absorb losses or the right to receive returns that potentially could be significant to the VIE. In some cases, a party that has decision-making authority over a VIE is the controlling party. However, in other cases, the party exercising decision-making authority is an agent of the party or parties that control the entity. Therefore, it would not be appropriate to have a decision maker consolidate an entity if it is an agent of another party. Similarly, the party or parties that actually control the entity should not avoid consolidating the entity by delegating its decision-making authority over that entity to another party.

BC9. Under the current accounting requirements, a conclusion that a decision-making arrangement represents a variable interest is determinative that the decision maker is not an agent. Under this proposed Update, a decision

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maker with a variable interest in an entity would be required to perform a separate analysis to evaluate its overall relationship with the entity being managed and the other parties involved with the entity to assess the capacity in which it uses its decision-making authority. Accordingly, the Board decided that rather than relying on the current assessment in paragraph 810-10-55-37, which provides a list of requirements a reporting entity must meet to conclude that it is an agent, the decision maker’s capacity should be determined according to a separate qualitative assessment. Under this approach, the reporting entity would consider the following factors in the context of the purpose and design of the entity when evaluating the capacity of a decision maker:

a. The rights held by other parties b. The compensation to which the decision maker is entitled in accordance

with its compensation agreement(s) c. The decision maker’s exposure to variability of returns from other


BC10. The Board decided that when a decision maker is evaluating its capacity, the assessment should not solely be based on any one of the factors, but should consider the overall nature of the arrangement and should take into account all available evidence. The Board concluded that an arrangement should be evaluated in its totality and that no single factor should always have primacy. The Board observed that, depending on the facts and circumstances, a particular factor may be a strong indicator of a principal or agent relationship and would receive a greater weighting than the other factors.

BC11. The Board acknowledges that allowing stakeholders to use judgment when determining the weight of each factor in the overall principal versus agent analysis could create the potential for diversity in its application. However, the Board believes that the evaluation of each decision-making arrangement should encompass an assessment of the purpose and design of the entity and the risks to which each party involved with the entity is exposed. Accordingly, different factors should receive a greater weighting depending on the circumstances.

BC12. Participants at the November 2010 roundtable meetings supported the Board’s decision to evaluate a decision maker’s capacity under a qualitative model that incorporates all facts and circumstances. They noted that decision maker agreements often include features tailored to a particular entity and are adjusted for the level of management’s experience, the nature of the assets under management, the goals and objectives of the entity, and so forth. A qualitative model would accommodate the diverse set of arrangements in practice by evaluating those features and determining their purpose.

BC13. The Board also considered whether the principal versus agent analysis should consider a decision maker’s right to use the underlying assets of the entity for its own purposes and whether it is obligated to fund the entity’s liabilities. The Board decided not to include this as a factor because of concerns that this could result in inappropriate consolidation conclusions. Specifically, most investors with

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a noncontrolling interest in an entity require protective rights that limit the controlling entity’s ability to use the underlying assets of the entity for its own purposes. These rights would be considered protective rights and, similar to the guidance in the General Subsection of Subtopic 810-10, should not affect the consolidation analysis. The Board recognizes the concern that excluding this factor may result in a reporting entity presenting assets (including cash reserves) in its consolidated financial statements even though the reporting entity is unable to use these assets as if they were its own. The Board believes, however, that the presentation requirement for VIEs in paragraph 810-10-45-25 resolves this issue.

BC14. The Board decided to include the principal versus agent assessment as a separate analysis within the overall consolidation assessment, rather than replacing the current guidance for evaluating whether a decision-making arrangement is a variable interest with the revised principal versus agent analysis. The Board believes that if an entity’s fee arrangement does not meet the definition of a variable interest (for example, a nominal performance-based fee), the decision maker should not be required to continue the consolidation assessment. However, if a decision maker has a fee arrangement in a VIE that meets the definition of a variable interest, but the decision maker determines that it is not the VIE’s primary beneficiary, the Board believes that the disclosures required for a nonprimary beneficiary holder of a variable interest in a VIE should be provided.

Rights Held By Others

BC15. The evaluation of a decision maker’s capacity should consider the decision maker’s relationships with other interest holders. The Board believes that when a decision maker is an agent, the other interest holders are likely to introduce additional measures that are intended to ensure that the decision maker does not act against their interests and, accordingly, may limit the decision maker’s authority. For example, the other interest holders may have rights to remove the decision maker or the right to participate in any significant decisions.

BC16. In its deliberations leading to the issuance of Statement 167, the Board decided that kick-out rights should be excluded from the consolidation analysis for VIEs unless those rights were held by a single party. The Board reasoned that while U.S. GAAP recognizes the existence of substantive kick-out rights, they are typically not exercised and, thus, should not be considered until exercised unless one party has the unilateral ability to exercise those rights. In its deliberations for Statement 167, the Board concluded that if kick-out rights held by multiple parties are included in the consolidation analysis, reporting entities may have structuring opportunities to conclude that no single party has power over the VIE. The Board found these structuring opportunities troubling and, thus, was willing to accept an inconsistency in the kick-out rights concept between the consolidation analysis in the Variable Interest Entities Subsections of Subtopic 810-10 and other U.S. GAAP (including other areas within Topic 810).

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BC17. The Board also decided in its deliberations leading to the issuance of Statement 167 that participating rights can provide a constraint on an entity’s decision-making ability in a manner similar to kick-out rights and, thus, should have the same effect on the consolidation analysis as kick-out rights. That is, under Update 2009-17, participating rights should not affect the consolidation analysis for VIEs unless a single entity (including its related parties and de facto agents) has the unilateral ability to exercise such participating rights.

BC18. Consistent with the Board’s decision in Statement 167, the proposed Update specifies that a decision maker is always an agent of another party when that other party holds a unilateral, substantive right to remove the decision maker. Therefore, a substantive kick-out or participating right that is held by a single party is a conclusive indicator of an agency relationship. However, the Board concluded that substantive kick-out or participating rights held by multiple parties that are required to act together to exercise such rights now should be included as a factor in the overall evaluation of the decision maker’s capacity, although the existence of such rights is not determinative that a decision maker is not a principal. The Board noted that such rights should receive less weight in the principal versus agent analysis as the number of parties required to act together to exercise such rights increases. This conclusion is based on the Board’s continued belief that kick-out and participating rights should affect only the consolidation analysis when there is a realistic possibility that the other interest holders may exercise those rights.

BC19. The Board concluded that kick-out rights and participating rights held by a small number of parties could overcome the decision maker’s economic interest in the principal versus agent analysis. However, the Board believes that a reporting entity should consider whether its economic interests are disproportionately greater than the economic interests held by the parties holding the kick-out or participating rights when weighing this factor. That is, as the level of a decision maker’s economic interest increases compared with the economic interests held by those holding the kick-out or participating rights, the decision maker should evaluate the substance of those rights with increased skepticism.

BC20. The Board decided that for the purpose of the principal versus agent analysis, liquidation rights should be considered equivalent to kick-out rights. Liquidation rights provide the holders of such rights with the ability to dissolve the entity and, thus, effectively remove the decision maker’s authority. The Board considered evaluating liquidation rights similar to kick-out rights only when it is reasonable that upon liquidation the investors will receive substantially all of the specific assets under management and can find a replacement manager with sufficient skills to manage those assets. For example, some may argue that it is less likely for the holders to exercise their liquidation rights if they would not receive the assets under management or they are unlikely to find a replacement for the current decision maker. The Board ultimately rejected this view, because the outcome for the decision maker is the same regardless of whether the holders of those rights have the ability to obtain the specific assets from the entity

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upon liquidation or to identify an alternative manager. If the holders exercise their substantive liquidation rights, similar to kick-out rights, the decision maker’s abilities would be removed. The Board’s decision is consistent with the definition of kick-out rights originally included in EITF Issue No. 04-5, Determining Whether a General Partner, or the General Partners as a Group, Controls a Limited Partnership or Similar Entity When the Limited Partners Have Certain Rights (codified in Subtopic 810-20).

BC21. The Board also considered whether redemption rights should be considered equivalent to kick-out rights. Redemption rights represent an entity’s obligation to return provided capital to an investor upon the investor’s request. While redemption rights do not provide an investor with the power to remove a decision maker, investors could theoretically withdraw 100 percent of an entity’s capital (assuming there are no restrictions in place) and effectively ―kick out‖ the decision maker. While this scenario may be rare in circumstances with many investors, it might be plausible for an entity that has few investors and, thus, could be seen as increasing the possibility that a decision maker is not a principal in those situations.

BC22. The Board ultimately concluded that redemption rights are inherently different from liquidation or kick-out rights, because the decision maker can avoid the loss of its decision-making abilities by obtaining additional investors for the entity. The Board’s conclusion is consistent with the current guidance in paragraph 810-20-25-9, which states that ―. . . the limited partners’ unilateral right to withdraw from the partnership in whole or in part (withdrawal right) that does not require dissolution or liquidation of the entire limited partnership would not overcome the presumption that the general partners control the limited partnership. . . .‖

BC23. The Board concluded that kick-out rights held by a board of directors should not be considered to be unilateral and, thus, solely determinative of an agency relationship unless a single third-party investor (including its related parties) controls the board of directors. However, the evaluation of the rights held by other parties in the principal versus agent analysis should include an assessment of (a) whether rights held by an entity’s board of directors (or another governing body) are substantive and (b) their effect on a decision maker’s capacity. Effectively, a board of directors whose members are independent of the decision maker may serve to facilitate numerous parties to act collectively in exercising their rights. Therefore, although not conclusive, kick-out rights (or other rights that have a similar effect on a decision maker’s authority) exercisable by a board of directors are more likely to indicate that a decision maker is not a principal than if the same rights were exercisable individually by a significant number of unrelated parties.

BC24. The assessment of kick-out rights held by a board of directors would need to include an evaluation of the board of directors’ authority and composition. For example, a board of directors for a fund established in

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accordance with the Investment Company Act of 1940, which is legally required to have an independent board of directors, may be considered substantive and yield significant authority when assessing whether to retain a decision maker. Conversely, a board of directors that lacks authority or independence from the decision maker should be excluded from the principal versus agent assessment. In addition, when evaluating the substance of the kick-out rights held by a board of directors, the assessment should consider the magnitude of and variability associated with the economic interests held by the decision maker.

Decision Maker’s Compensation

BC25. The Board considered whether a reporting entity should evaluate exposure to negative returns (broadly considered to be monetary losses through a decrease in an investment in the entity or a potential obligation to the entity) differently than interests that provide only positive returns (for example, a performance-based fee). The Board concluded that a decision maker’s economic interest that has exposure only to positive returns would be less indicative that the decision maker is a principal than a decision maker’s economic interest that has either exposure to both positive and negative returns or only negative returns. The Board believes that although the nonreceipt of a fee does not represent an exposure to negative returns, a decision maker’s compensation might influence its actions, as it attempts to earn a performance-related fee. Accordingly, the Board decided that the principal versus agent analysis should differentiate between interests that provide only positive returns and those that provide both positive and negative returns or only negative returns by including the decision maker’s fees and other interests held by the decision maker as two separate factors.

BC26. The Board decided that compensation that is not commensurate with the services provided or that includes terms, conditions, or amounts that are not customarily present in arrangements negotiated on an arm’s-length basis for similar services would be a strong indicator that the decision maker is a principal. However, meeting those conditions, in isolation, are not sufficient to conclude that a decision maker is not a principal.

BC27. The Board concluded that when evaluating a fee arrangement, the evaluation should not focus on whether the fee is subordinate to the operating liabilities of the entity that arise in the normal course of an entity’s activities. Rather, a reporting entity would inherently consider a fee’s level of subordination when evaluating the decision maker’s exposure to variability through its fee. The Board believes that although a portion of the decision maker’s fee may be subordinate to the entity’s senior interest holders, this portion of the fee may represent compensation for the decision maker using its power as an agent for the subordinated interest holders. Accordingly, although the fees are subordinate to the entity’s other obligations, they may still relate to an agency relationship.

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Other Economic Interests

BC28. In situations in which a decision maker holds other economic interests in an entity, it should consider the amount of variability associated with the anticipated economic performance of the entity that the other interests are expected to absorb. The Board concluded that the greater the exposure to variability associated with the anticipated economic performance, the more likely it is that the decision maker is a principal. For example, if a decision maker does not have other interests in an entity it manages (besides its nominal fee), the Board believes that the decision maker likely would be using any decision-making authority as an agent. Conversely, if the decision maker held a substantial investment in the entity, the Board believes that it is likely that the decision maker would be using its decision-making authority as a principal.

BC29. The Board considered, but ultimately rejected, specifying a particular level of returns or exposure to variability of returns that would cause the reporting entity to be deemed a principal in the absence of other parties holding substantive removal rights (or other rights that are in substance equivalent to removal rights). Although specifying a particular level of returns might lead to more consistent application of the requirements by removing some of the judgment required, the Board observed that such an approach is likely to lead to inappropriate consolidation conclusions in some situations. In addition, it would create a bright line prone to structuring opportunities to achieve a particular accounting outcome. Therefore, the Board concluded that as a decision maker’s exposure to the variability of returns from its investment in an entity increases, it becomes more likely that the decision maker is a principal. Participants at the November 2010 roundtable meetings agreed that it is difficult to establish a specific level of exposure that should result in consolidation because the level could vary depending on the type or nature of the other interests and the entity.

BC30. The Board decided that the evaluation of a decision maker’s other interests should focus primarily on the returns expected from an entity’s activities. However, the Board concluded that the evaluation should not ignore the decision maker’s maximum exposure to losses associated with the economic performance of the entity. Accordingly, the determination of how a decision maker’s other interests affect the analysis should consider the purpose and design of the entity and the reason for the decision maker holding such interests. That is, the decision maker should consider the reasons for holding an economic interest, including its maximum potential exposure to losses of the entity. Although the evaluation in Update 2009-17 required a reporting entity to ignore probability when evaluating whether its economic interests indicate that it is the primary beneficiary (paragraph 810-10-25-38A), the Board believes that the evaluation of those other interests under the revised principal versus agent guidance in this proposed Update is not expected to change the consolidation conclusion in most cases because the revised analysis would focus on the purpose and the design

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of such interests. This is illustrated in the examples in paragraphs 810-10-55-93 through 55-205.

Relationship with Other Parties

BC31. Currently, Subtopic 810-10 requires interests held by a decision maker’s related parties to be treated as though they belong to the decision maker when evaluating whether the decision-making arrangement is a variable interest. The Board continues to believe that in analyzing its involvement with an entity, a decision maker should consider interests held by its related parties. However, the Board believes that the principal versus agent analysis should consider the decision maker’s proportionate exposure through its interest in a related party and not the entire interest held by the related party. The Board believes that the decision maker would be exposed to the same level of variability whether it holds an interest directly or indirectly through a related party.

Reconsideration of the Principal versus Agent Assessment

BC32. The proposed amendments would require a reporting entity to reconsider whether a decision maker’s relationship with an entity is that of a principal or an agent. Because the evaluation of a decision maker’s capacity focuses on the overall relationship between the decision maker, the entity being managed, and other parties involved with the entity, the principal versus agent assessment should be reconsidered if there is a change in the purpose and design of the entity. A change in the entity’s purpose and design could affect a decision maker’s ability to exercise its authority (for example, through the addition of kick-out rights) or a decision maker’s exposure to an entity’s variability (for example, through additional equity financing).


BC33. When Statement 167 was issued, the Board acknowledged that the requirements in that Statement about the evaluation of kick-out and participating rights are not consistent with other U.S. GAAP (for example, the guidance for kick-out rights held by limited partners in a partnership and noncontrolling interest holder veto rights). At the time, the Board decided to address that inconsistency in a subsequent project to more broadly reconsider consolidation accounting.

BC34. Subtopic 810-20 currently presumes that a general partner in a limited partnership controls the limited partnership unless substantive kick-out or participating rights exist to overcome that presumption. The Board was concerned with this inconsistency. Specifically, the evaluation of a limited partnership that is not considered a VIE could result in inconsistent consolidation conclusions for similar legal entities that are considered VIEs. A general partner

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(decision maker) could conclude that it is an agent when determining whether the limited partnership is considered a VIE in Subtopic 810-10 due to a nominal economic interest in the partnership. If the entity is not considered a VIE, the entity would be evaluated under the guidance in Subtopic 810-20. The general partner would be required to consolidate the partnership (before the amendments in this proposed Update) if the limited partners do not hold substantive kick-out or participating rights.

BC35. The Board decided that the guidance for evaluating limited partnerships in Subtopic 810-20 should be consistent with the principal versus agent analysis being developed for VIEs. Accordingly, the proposed amendments would require a general partner to consider its economic interests in the partnership and any rights held by other parties in evaluating whether it should consolidate the partnership. The Board agreed that the economic interest included in the evaluation would include guarantees of the partnership’s obligations (through a contract or a legal requirement) that may be inherent in a general partner’s ownership interest.

Effective Date and Transition

BC36. The Board did not decide on an effective date for the final amendments. Rather, the Board intends to make that decision during redeliberations using feedback received from respondents to this proposed Update.

BC37. The Board believes that many of the reporting entities that will be required to consolidate previously unconsolidated entities as a result of the proposed amendments would be applying the model in the pending content of the Variable Interest Entities Subsections of Subtopic 810-10 for the first time. These entities would have previously qualified for the indefinite deferral under Update 2010-10 and, accordingly, these entities would continue to be evaluated under the guidance in Topic 810 (before the amendments in Update 2009-17). The Board believes that these entities should apply transition requirements similar to the transition requirements included in Update 2009-17.

BC38. However, entities whose activities primarily relate to securitizations or other forms of asset-backed financings were specifically excluded from the scope of the deferral in Update 2010-10. Accordingly, these entities are currently required to be evaluated under the pending content within the Variable Interest Entities Subsections of Subtopic 810-10. The Board generally does not expect that rescinding the deferral and issuing the revised principal versus agent guidance will result in the consolidation of previously unconsolidated securitization or asset-backed financing structures. Accordingly, the Board does not believe that there is a need for the transition guidance to include an option that would allow securitizations or other forms of asset-backed financings to initially record assets of a VIE that can only be used to settle obligations of the entity at their unpaid principal balances similar to the option in Update 2009-17.

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Benefits and Costs

BC39. The objective of financial reporting is to provide information that is useful to present and potential investors, creditors, donors, and other capital market participants in making rational investment, credit, and similar resource allocation decisions. However, the benefits of providing information for that purpose should justify the related costs. Present and potential investors, creditors, donors, and other users of financial information benefit from improvements in financial reporting, while the costs to implement new guidance are borne primarily by present investors. The Board’s assessment of the costs and benefits of issuing new guidance is unavoidably more qualitative than quantitative because there is no method to objectively measure the costs to implement new guidance or to quantify the value of improved information in financial statements.

BC40. The Board understands that some entities will incur additional costs as a result of the amendments in this proposed Update. Particularly, some entities, such as those holding interests in entities that are in the scope of Update 2010-10, may, for the first time, be required to apply the Variable Interest Entities Subsections of Subtopic 810-10. Therefore, these entities that were previously not required to determine whether they are the primary beneficiary of a VIE under the requirements in the pending content of the Variable Interest Entities Subsections of Subtopic 810-10 may be required to do so, incurring additional costs. For those entities that did not qualify for the deferral in Update 2010-10, the Board does not expect that the proposed amendments would significantly affect the consolidation conclusions and, therefore, does not expect that the proposed amendments would result in significant additional costs.

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Amendments to the XBRL Taxonomy

The FASB will expose for public comment the proposed changes to the U.S. GAAP Financial Reporting Taxonomy (UGT) that would be required were the provisions of this Exposure Draft finalized as proposed. The proposed changes to the UGT will be available on the FASB website on or about November 30, 2011. The FASB will alert the public of the availability of proposed UGT changes and the deadline for comment through an announcement on its website and in its Action Alert email service.