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FASB Issues New Rules to Stem Impact of LIBOR Expiration on U.S. Companies

Thomson Reuters Tax & Accounting  

· 5 minute read

Thomson Reuters Tax & Accounting  

· 5 minute read

By Denise Lugo

U.S. accounting rulemakers on March 12, 2020, published new rules to provide an easier, more cost efficient way for companies to modify contracts that reference the London Interbank Offered Rate (LIBOR) and other rates that are being phased out, a global regulatory shift caused by a rate fixing scandal that came to light almost a decade ago.

The rule changes, highly publicized by the FASB and therefore expected, take effect immediately and expire on December 21, 2022. Rate reform impacts trillions of dollars in loans, derivatives, and other financial contracts.

“This new ASU provides stakeholders with the guidance they need to ease the process of migrating away from LIBOR and other interbank offered rates to new reference rates,” FASB Chairman Russell Golden said in a statement. “It addresses operational challenges stakeholders raised with the Board and will help simplify matters going forward. At the same time, the new guidance will also help reduce transition-related costs,” he said.

Accounting Standards Update (ASU) No. 2020-04Reference Rate Reform (Topic 848): Facilitation of the Effects of Reference Rate Reform on Financial Reporting, eases the path for companies navigating rate reform because it:

  • allows eligible contracts that are modified to be accounted for as a continuation of those contracts – a simplification that eliminates the need for companies to reassess or remeasure the contracts for accounting purposes;
  • permits companies to preserve their hedge accounting during the transition period; and
  • enables companies to make a one-time election to transfer or sell held-to-maturity debt securities that are affected by rate reform.

Scandal Brought Significant Accounting Repercussions

In July 2017, global regulators said they would discontinue the use of LIBOR after bankers at a number of financial institutions moved to manipulate LIBOR to make profit. The scheme came to light in 2012. LIBOR, a daily calculation, is supposed to purport interest rate figures that banks pay to borrow money from each other. It is also used by banks to determine what rates to charge on various types of loans. Published reports suggest that the rate-fixing scheme might have been taking place since 2005, or even as early as 2003.

There are regulatory changes in the works worldwide to identify alternative reference rates that are more observable or transaction based and less susceptible to manipulation.

For the FASB, ASU No. 2020-04 is its second batch of rules on the topic since 2018. The board took swift steps to provide guidance after companies raised concerns about structural risks of interbank offered rates (IBORs) and particularly, the risk of the cessation of LIBOR.

U.S. companies raised concerns about the operational challenges the change would impose in accounting for contract modifications and hedge accounting because of the high volume of contracts and other arrangements that would need to be amended, the FASB said. The issues impact, for example, debt agreements, lease agreements, and derivative instruments, which will be modified to replace references to expired interbank offered rates with references to replacement rates.

Under regular accounting rules, contract modifications have to be evaluated to determine whether the modifications result in the establishment of new contracts or the continuation of existing contracts. To make that evaluation to thousands of contracts, companies would have incurred huge costs and the burdens would be challenging, accountants said. Companies also said that the financial reporting results should reflect the intended continuation of such contracts and arrangements during the period of the market-wide transition to alternative reference rates.

Another major concern companies raised was specific to hedge accounting, stemming from fears rate reform could disallow the application of certain hedge accounting guidance, and make certain hedging relationships not qualify as “highly effective” during the rate reform transition period. They said that the inability to apply hedge accounting because of reference rate reform could result in financial reporting outcomes that do not reflect companies’ intended hedging strategies.

ASU No. 2020-04 applies only to contracts, hedging relationships, and other transactions that reference LIBOR or another reference rate expected to be discontinued due to reference rate reform. And the alternatives and exceptions do not apply to contract modifications made and hedging relationships entered into or evaluated after December 31, 2022, a text of the rules states. An exception is hedging relationships existing as of December 31, 2022, that an entity has elected certain optional expedients for and are retained through the end of the hedging relationship.

Companies have to ensure they are being consistent with the changes for all contracts.


This article originally appeared in the March 13, 2020 edition of Accounting & Compliance Alert, available on Checkpoint.

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