This is because the unamortised portion of any transaction costs deducted from the original loan is included in the determination of the gain or loss on extinguishment. We can support you throughout the transaction process helping achieve the best possible outcome at the point of the transaction and in the longer term. Modification accounting under FASB Subtopic 470-50 is applied when the modification is deemed significant, and if not significant, the borrower . IFRS 9 contains guidance on non-substantial modifications and the accounting in such cases. There is no guidance on how to account for a refinancing of publicly traded debt securities that does not involve an exchange or modification offer (i.e., when a reporting entity issues new debt securities to investors, which potentially may include holders of the issuers existing debt securities, and uses the proceeds to pay off existing publicly-traded debt securities potentially held by the same investors). For example, a significant change in terms and conditions such as maturity date or covenants, change in the currency in which the financial liability is denominated or equity instrument embedded in new debt. Such costs or fees therefore have some impact of altering the EIR rather than being recognised in the profit or loss. In addition, these amendments also clarify that when the exchange or modification is not accounted for as an extinguishment, any costs or fees incurred adjust the carrying amount of the liability and are amortised over the remaining term of the modified liability. See, When a loan modification or exchange transaction involves the addition of a delayed draw loan commitment with the same lender, we believe it would not be appropriate to include the unfunded commitment amount of delayed draw term loan in the 10% test since the commitment is not funded on the modification date. For example, that may be the case if the intermediarys own funds are committed and those funds are not truly at risk because the intermediary is made whole by the debtor (and therefore is indemnified against loss by the debtor). Can be prepaid at any time without penalty, Can be prepaid at any time with a 1% penalty. In other words, they believe it is not possible to separately identify the prepayment amount. In addition to the 10 percent test, the borrower should apply judgment to assess whether qualitative factors indicate that a modification is substantial. Step 4: Calculating and Modelling Debt Financing in Excel. Capitalize and amortize as part of the effective yield, Capitalize and amortize as a debt issuance cost. The legal form of a modification transaction, whether a legal exchange or a legal amendment, is irrelevant for purposes of determining whether it is an accounting modification or extinguishment. The following decision tree provides a high-level overview of the analysis used by borrowers to determine the accounting for modifications of debt arrangements: Ultimately, to properly account for modifications to debt agreements, its important to know which questions to ask and what complexities might arise along the way. In this example, the present value of the remaining cash flows of the existing debt is $1,000,000. Present value of $5,000,000 at the stated interest rate of 5.5% discounted at the original effective rate of 6% for 3 years, Present value of $5,000,000 at the new stated interest rate of 5% discounted at the original effective rate of 6% for 5 years, Lender fees, undiscounted because it is a day one cash flow. Thin capitalisation. Debt-Service Coverage Ratio (DSCR): In corporate finance, the Debt-Service Coverage Ratio (DSCR) is a measure of the cash flow available to pay current debt obligations. lab. However, if you would like to discuss any of the points raised, please speak to your usual Grant Thornton contact oryour local member firm. Under this guidance, a modification would quantitatively be more than minor if the present value of the cash flows under the terms of the new debt instrument is at least 10% different from the present value of the remaining cash flows under the terms of the original debt instrument. Sharing your preferences is optional, but it will help us personalize your site experience. Calculate Accumulated Savings After a Certain Period. And it is even more so today. GTIL does not provide services to clients. In the case of a significant modification, the materiality of the changes from the modification results in a deemed retirement of the existing . Entity X has a non-amortising loan of CU 10,000,000 from the bank. Below are sample excel test questions and answers to give you a sense of what you will face on your test. One of those consequences is their ability to repay loans. Any additional fees or costs incurred on modification are also included in the gain or loss. When a loan is extinguished, unamortized fees and new creditor fees should be expensed, and new fees paid to third parties should be capitalized and amortized as debt issuance costs associated with the new debt. 4 To modify an existing debt instrument: If the warrant is held by a creditor, any change in fair value is (1) included in the 10% cash flow test in ASC 470-50. . A debt modification may be effected by: Amending the terms or cash flows of an existing debt instrument. We work with entrepreneurial businesses in the mid-market to help them assess the true commercial potential of their planned acquisition and understand how the purchase might serve their longer- term strategic goals. 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Follow - Fees in the '10 per cent' Test for Derecognition of Financial Liabilities . Financing transactions. Under ASC 470-50, modifications and exchanges not considered TDRs are accounted for as either: The media industry is in the grip of a technological revolution as the industry responds to the shift to digital and personalisation. The power of diversity: can life sciences maintain their lead? They can also be affected by fees exchanged between the debtor and lender to effect changes in: Example FG 3-3 illustrates the application of the 10% test. However, IFRS 9 clarifies in the Basis for Conclusions the IASB intends that adjustments to amortised cost in such cases should be recognised in profit or loss. Grant Thornton can help you capitalise on opportunities to unlock your potential for growth. "Grant Thornton refers to the brand under which the Grant Thornton member firms provide assurance, tax and advisory services to their clients and/or refers to one or more member firms, as the context requires. Some modifications might involve modification of terms only, whereas others might include partial satisfaction of the debt balance in connection with modification of debt terms. See Example FG 3-7 for an illustration of the application of this guidance. Demographic, organisational and resourcing issues are radically changing the global healthcare industry. For Example 1, the inputs are: Rate: 7% Values: twelve $1,000 payments at the start of each month; Dates: 2021-01-01 to 2021-12-31 Whereas above, in the final step, the fees included as an adjustment to the EIR are all fees, including external fees (such as lawyer fees). We help businesses navigate todays changing private equity landscape, ensuring that you can respond to ever-changing regulations and investor demands. 3.5Line of credit and revolving-debt arrangements. Examples of this type of modification include issuing new debt in different currency from old debt, or equity instrument embedded in the new debt. This was clarified by an amendment to IFRS 9 in the Annual Improvements to IFRS Standards 2018-2020 [ 231 kb ] issued on 14 May 2020. In a loan participation, the debtor borrows from a lead lender who then typically would issue participating interests in the loan to other third parties. Stay informed with our latest quarterly review. A debt modification may involve changes to embedded features (e.g., covenants, collateral, or seniority position) that have no effect on cash flows. On 1 July 2020, the bank agrees to waive interest for a six month period from 1 July 2020 to 31 December 2020. See, The effective interest rate of the original debt instrument should be used to calculate the present value of the cash flows on both the new and original debt instruments, A reporting entity has multiple bonds issued under a single bond offering outstanding; the bonds are held by a number of third-party investors, An investment bank and reporting entity negotiate a modification to the terms of the bonds, The investment bank buys the bonds from the third-party investors, The terms are then modified pursuant to the modification agreement, The investment bank sells the new bonds under the modified terms to third-party investors (who may, or may not, be the same as the investors in the original bonds), 3.4 Modification or exchange term loan and debt security. This amount is compared to the previous carrying amount and the difference is recognised in the profit or loss. This article will explore the federal income tax consequences of common transactions that can create CODI, including: Debt modifications. For example, if a borrower has two debt instruments outstanding with one lender, Tranche A and Tranche B, and the borrower (1) increases the principal balance of Tranche A, and (2) pays off Tranche B, the borrower should perform the 10% test by combining the cash flows of the original Tranche A and Tranche B debt instruments and comparing the combined cash flows to the new cash flows of the restructured Tranche A. Because the prepayment scenario resulted in modification accounting, it is not necessary to prepare a cash flow scenario that does not assume prepayment. When determining present value for this calculation, the discount rate is the effective interest rate used for the original debt . Examples of this type of modification include issuing new debt in different currency from old debt, or equity instrument embedded in the new debt. At Grant Thornton, we have a wealth of knowledge in forensic services and can support you with issues such as dispute resolution, fraud and insurance claims. A borrower may have several debt instruments outstanding with one lender. In an arrangement where an intermediary places notes issued by the debtor, if the placement is done under a best-efforts agreement, that would indicate that the intermediary is acting as agent. Value of the right of use asset divided by total remaining useful life days. BIO 123. lab. Interest is set at a fixed rate of 5%, which is payable monthly. The difference is an immediate gain of CU 24,000 (CU 1,000,000-CU 976,000) which is recognised in the profit or loss. One effect of extinguishment accounting is the accelerated expensing of transaction costs. Here are the When discounting the cash flows of the restructured Tranche A, we believe a weighted average effective interest rate based on the original Tranche A and Tranche B interest rates should be used. 3.2 Financial liabilities A financial liability is any liability that is: a contractual obligation - to deliver cash or another financial asset to another entity; or For full functionality of this site it is necessary to enable JavaScript. Having a robust process of quality control is one of the most effective ways to guarantee we deliver high-quality services to our clients. For example, if it is probable that the contingent event that gives rise to exercise of the call option will occur, a cash flow scenario assuming exercise of the call should be performed. 5.5 years (maturity extended by 2 years in June 20X4 amendment), 5 years (maturity unchanged from June 20X4 amendment), Can be prepaid at any time with a 3% penalty. Do Not Sell or Share My Personal Information. While not all-encompassing, the document provides an overview of the accounting guidance for common modifications to and exchanges of debt arrangements and illustrative examples of common debt modifications and exchanges.. The goal of the 10% test is to determine whether the terms of the relationship between the debtor and lender before and after a modification or exchange are substantially different. The increased digitisation of the workforce, changes in business models, globalisation, and remote working capabilities have led to a new approach to the delivery of services. In order to properly manage the liquidity and value of the debtor, it is important to consider the tax ramifications before any restructuring. Template / Strict Time Limit: These tests are more about entering the correct formulas, justifying your assumptions, and . Once you have finished answering the questions, open the Excel Test Questions and Answers page to see the full answers. ASC Subtopic 470-50, Debt Modifications and Extinguishments. Globalisation and company growth ambitions are driving an increase in M&A activity worldwide. Driving an insurance carrier ecosystem strategy. Finally, press Enter to see the annual debt service. PwC. If either the new debt instrument or the original debt instrument is callable or puttable, then separate cash flow analyses shall be performed assuming exercise and nonexercise of the call or put. Each member firm is a separate legal entity. With a finance lease under ASC 842, the calculation methodology to calculate the amortization rate post modification follows the same methodology at initial recognition. hbbd```b``f`D2~ R0Dw 5LHI%0{d "` P,$92L@md` o Qg
the net present value of the future revised cash flows, discounted at the original EIR inclusive of fees paid to the lender is CU 10,990,426 plus CU 150,000 which is equal to CU 11,140,426. for the purposes of the 10% test this is compared to CU 10,000,000 giving an 11.4% difference. If the change in cash flows is less than 10% in any scenario, then the restructuring is considered a modification. IFRS 9 states this test should compare the discounted present value amount of the cash flows under the new term, including any fees paid net of any fees received, discounted at the original EIR, with the discounted present value amount of the remaining cash flows of the original liability. We understand the commitment and scrutiny within this sector and will work with you to meet these challenges. calculating a new EIR for the modified liability, that is then used in future periods. The ratio states net . There is a general presumption that a third-party intermediary is acting as an agent; however, this presumption can be overcome. Our solutions include dealing with emigration and tax mitigation on the income and capital growth of overseas assets. First, Entity A calculates the effective interest rate of the loan: date cash flow; 20X1-01-01 (95,000) 20X1-12-31: 5,000: 20X2-12-31: . 1.1001-3. 38 0 obj
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off course? If the third-party intermediary is considered a principal to the transaction, it is the investor. The intermediary may be a principal if it acquires debt from or exchanges debt with another debt holder in the market and is subject to loss as a result of the transaction. FG Corp restructures its term loan again in December 20X4. Given that lack of guidance, here are some items borrowers should consider when analyzing the modification of a credit facility that involves both term debt and a revolving line of credit: In October 2020, the FASB issued a Staff Educational Paper that provides a summary of a borrowers accounting for debt modifications. 3 To issue debt: Any increase in fair value is accounted for as a debt issuance cost or a discount under ASC 835. There are some narrow exceptions to this, but generally this is only where the fees do not clearly relate to the modification, but are incremental to issuing the new debt that is payable to a party other than the lender, eg stamp duty paid on new financial instrument that is put in place. Credit arrangements can include both term loans and revolving credit arrangements. a notional repayment of existing debt with immediate re-lending of the same or a different amount with the same counterparty. To convert the cash flows on the new debt into the currency of the original debt, we believe there are two acceptable methods, use (1) the spot rate in effect at the debt modification or exchange date, or (2) the forward rates corresponding to each cash flow (i.e., interest payment and principal) payment date. all unrealized gains and losses associated with investments in debt and equity. Determining if the modification is substantial applies . Yeshiva University Of High Schoo. endstream
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Mid-market recovery spreads to more industries. If the intermediary places and reacquires debt for the debtor by committing its funds and is subject to the risk of loss of those funds, that would indicate that the intermediary is acting as principal. Maturity date is 31 December 2025. . lookup_value (required). If the intermediarys role is restricted to placing or reacquiring debt for the debtor without placing its own funds at risk, that would indicate that the intermediary is an agent. The old debt would have been derecognized and replaced with the amortized cost of the new debt of $865,000. Some borrowers continue to defer the unamortized debt issuance costs when they pay down a portion of their debt in connection with a modification (which is accounted for as a modification), based on the view that the prepayment is factored into the terms agreed to on the modified debt. By contrast, for a loan syndication, the debt modification guidance should be applied on a lender-by-lender basis, even if a lead lender has been identified. Changing the interest rate. In a public debt issuance, for purposes of applying the guidance in this Subtopic, the debt instrument is the individual security held by an investor, and the creditor is the security holder. 1.1001-3, a change in yield of the existing debt is significant if it is more than the greater of 25 basis points or 5% of the unmodified yield. Description. Interest is set at a . Repaying an existing debt obligation and contemporaneously issuing new debt to the same lender; although this may be a legal extinguishment, the transaction . This is more than 10%, so the loan modification (waiver of 6 months of interest and subsequent increase of the contractual interest rate) is considered to be a substantial modification. For this example, the present value of a 10-year lease with payments of $1,000 annually, 5% escalations, and a rate inherent in the lease of 6% is $9,586. Follow along as we demonstrate how to use the site. Climate change: planning for mandatory TCFD reporting. As this test is comparing the extent of the change between borrower and lender, the reference to fees in this context should refer to the fees between borrower and lender (eg would not normally include fees paid a lawyer). As a result the calculation will be $28,546.45 / 77 = $370.73. These interests could take the legal form of either assignments or participations. Oftentimes, debt agreements allow a borrower to prepay the debt prior to maturity; this is especially common in variable rate debt instruments and bank loan syndications. This video walks through a more complex question related to debt restructuring, including the differences in accounting between IFRS and ASPE. It cannot be assumed that the fair value equals the book value of the existing liability. In that case, the reporting entity should perform the 10% test based on the cash flows of the debt held by the third-party intermediary before and after the modification or exchange. Example FG 3-4 illustrates the application of the 10% test to a debt instrument with a prepayment option. The cash flows used in each respective 10% test are as follows: Lender fees paid in June 20X4 restructuring, Lender fees paid in December 20X4 restructuring. For the purposes of the 10% test this is compared to CU 1,000,000 giving only a 1.4% difference. Modified liability, that is then used in future periods the present value for this calculation the... Six month period from 1 July 2020, the borrower should apply judgment to assess whether factors. With you to meet these challenges result the calculation will be $ 28,546.45 77! 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