Background and Key Provisions of the Proposed ASU

Under current GAAP, the premium on a callable debt security is generally amortized as an adjustment of yield over the contractual life (to maturity date) of the instrument. Accordingly, there is no consideration of early payment of principal, and any unamortized premium is recorded as a loss in earnings upon the debtor’s exercise of a call on a callable debt security purchased at a premium.

The amendments would require the premium to be amortized to the earliest call date but would retain the accounting for the amortization of discounts on purchased callable debt securities (i.e., the discount will continue to be amortized to maturity). 

Editor’s Note

Constituents have noted that under current guidance, (1) the amortization of
premiums does not reflect the economics of the underlying transaction and (2) the
model for pricing securities in the United States includes consideration for calls.
In addition, investors generally price a security to the call date when the security is
trading at a premium.

The proposed amendments would “more closely align the amortization period of
premiums and discounts to expectations incorporated in market pricing on the
underlying securities.”

Effective Date and Transition

The FASB plans to determine an effective date for the final guidance after considering stakeholder feedback on the proposed ASU. 

To apply the guidance, entities would use a modified retrospective approach, with the cumulative-effect adjustment recognized to retained earnings as of the beginning of the first reporting period in which the guidance is effective.

Entities would also be required to provide disclosures about a change in accounting principle in the period they adopt the final standard.

View the rest of the Heads Up.