New FASB Proposal Nixes Participant Loans for 401(k) Plans

In an August proposal, the Financial Accounting Standards Board (FASB) unveiled plans to no longer include participant loans as part of a corporate 401(k) or other scheduled contribution plan.

Michael Gonzalez, FASB associate practice fellow for the accounting revision project, explains that currently, “Participants are borrowing from their own account. They own themselves.” As such, these loans are different from true credit, Gonzalez said.

The FASB feels that the new proposal will allow plans to more accurately report the value of these loans. From the FASB proposal, “[under the current system] most participant loans are carried at their unpaid principal balance plus any accrued but unpaid interest, which was considered a good-faith approximation of fair value.” However, the proposal cites questions about how well these approximations conform to a true fair-value measurement including “observable and unobservable inputs such as market interest rates, borrower’s credit risk, and historical default rates to estimate the fair value of participant loans.”

This proposal is up for comment through September 7^th, 2010.

Former Federal Reserve Chairman Paul Volcker Talks Mark-To-Market

Paul Volcker, former Chairman of the Federal Reserve and current Chairman of President Obama’s Economic Recovery Advisory Board recently discussed current financial regulation with Steve Forbes in an interview for Forbes.com. Volcker expressed his opinion (congruent with many other financial experts) that this particular recession is atypical and that standard means of recovery will not suffice. He went on to say that the current financial regulations, many of which he has worked on with the Economic Recovery Advisory Board, are not the final answer, but rather “a definitive step in the right direction.”

Recently proposed changes by the Financial Accounting Standards Board (FASB) have drawn Volcker’s concern as well. In the interview, he says “…my impression is just that FASB is much more toward insisting upon mark-to-market accounting in areas that I don’t think it’s appropriate.”

Volcker also speaks about critics’ claims that his famous “Volcker Rule” – designed to curtail proprietary trading by commercial banks – is being watered down, despite claims by the author himself that it will last.

The entire interview is available on Forbes’ Intelligent Investing website: http://www.forbes.com/intelligentinvesting.

I think we should listen to Volcker. The guy was present, and active, during the last major economic crisis.

Darling: Fair-Value Changes Will Be the End of Fixed-Rate Loans

In an editorial submitted to the ABA Banking Journal, George Darling, CEO of Darling Consulting Group, says that new Financial Accounting Standards Board (FASB) fair value accounting rules would spell the end of fixed-rate loans, among other negative ramifications for the banking industry.

According to Darling, fixed-rate loans would end because banks obviously would not want to mark their loans higher if interest rates rise. This would have a significant effect on American industry. Implementation of the new rules – especially when it comes to coding banking software – would be cost-prohibitive for most banks. Darling also says that comparing financial institutions’ financial statements would become impossible. “The models used to calculate the fair value of each financial institution’s assets and liabilities would differ in logic and scope. Each bank would have different risk ratings for loans and different models for calculation of core deposit values.” He goes on to say that fair-value assessments won’t accurately reflect the business model of many financial institutions, rendering their financial statements useless to investors.

The FASB proposal is up for comment through September 2010. Isn’t it ironic that the university professors and accountants want “pure” mark-to-market, and the real market participants, and tenured regulators (Volcker) warn that it is the wrong path? Which way should we go – theory or practice?

Figueredo: FASB Changes Will Affect Both Large and Small Business

The Financial Accounting Standards Board’s (FASB) proposed changes to fair value accounting will affect more than just big business, says Daniel Figueredo, a Manager at Burr Pilger Mayer, a San Francisco-based accounting and consulting firm. In an article published in Smart Business — Northern California, Figueredo explains that while the new fair value accounting rules will greatly increase transparency in accounting, businesses should not underestimate the amount of work required in preparing financial statements.

“The new standards in the exposure draft will help converge the U.S. generally accepted accounting principles (GAAP) with international financial reporting standards (IFRS),” says Figueredo. “It’s a pretty robust draft with many new disclosure requirements. If it’s issued as is, it will be challenging for businesses.”

The most significant changes will come from a requirement to report a sensitivity analysis, quantifying the volatility of “Level 3” fair value measurements, which are things like mortgage-backed securities that require the most judgment of value.

Figueredo explains the challenges: “It is not information that is readily available, and it is very judgmental. It will require significant time to be incurred, especially for companies that have a significant number of level 3 assets and liabilities…[such as] a financial institution.”

Investors and business have until September 7^th to submit comment letters to the FASB.

Kaletsky’s New Book Has Positive Outlook On Financial Markets

One of the few publications with a somewhat positive outlook for the world’s financial future is Anatole Kaletsky’s Capitalism 4.0: The Birth of a New Economy (Bloomsbury 2010). The title stems from Kaletsky’s writing that the United States has now entered a fourth era of capitalism, after the third era of free-market economics that ran from 1980-2008. His belief is that, in historical terms, the 2008 collapse was an aberration, a blip on the historical map. Also crucial is his belief that the 2000-2006 housing bubble was merely a correction of a previous slump and not a bubble at all.

However, Kaletsky is critical of many financial decisions that led to global panic, specifically mark-to-market accounting in the banking sector. Much of his blame is directed towards Hank Paulson, former U.S. treasury secretary and head of Goldman Sachs. Kaletsky argues that the adoption of mark-to-market accounting rules for securities was a disaster for assuming that the market value is always the correct value, thus minimizing regulators’ discretion. This practice, according to Kaletsky, overly exaggerated the peaks and valleys normally associated with financial markets.

While critical of recent economic rule changes, Kaletsky believes that pragmatism on the part of financial leaders will lead us out of the economic slump.



Authors and Publishers Producing Books Related To Financial Changes

This summer, booksellers nationwide are displaying two new books related to the financial crisis of 2008 and the subsequent struggle to fix it with various regulations.

Former Federal Deposit Insurance Corporation (FDIC) Chairman William M. Isaac has authored Senseless Panic: How Washington Failed America (Wiley, June 2010). Isaac’s book serves as a memoir for much of his time at the FDIC, a discussion of decisions and changes made in the ‘80s and ‘90s under his watch. Isaac also discusses the current crisis, as well as various regulatory operations designed to correct it, specifically the mark-to-market accounting rules. Michael Hanson of Fisher Investments calls it “the best breakdown of FAS 157 [the new mark-to-market accounting update] published so far.”

Also on shelves is The Squam Lake Report: Fixing The Financial System (Princeton University Press, June 2010), an analysis by no fewer than 15 collaborators representing some of the most prominent minds in modern economics. Squam Lake is a textbook-like compilation of insights, analysis and recommendations from the group.

Former FDIC Chairman Speaks Out Against Financial Reform

Former Federal Deposit Insurance Corporation (FDIC) chairman William Isaac spoke out against the current financial reform bill. Isaac says the troubles stem from the 2008 Troubled Asset Relief Program, more commonly known as TARP – the $700 billion bank bailout that followed the financial collapse.

Isaac has suggested that the subprime crisis and collapse of the economy could have been remedied by curtailing abuse of the short sale system in the stock market, or by revising mark-to-market accounting regulations that “needlessly destroyed $500 billion of capital in the financial system,” as well as allowing “the FDIC and the Fed (Federal Reserve Bank) to use their extraordinary powers to contain the crisis.”

The current financial bill, which includes new mark-to-market accounting rules, has become a political issue. Isaac said, “the Treasury itself decided about two weeks after TARP became law that it was a bad idea and never used it for its intended purpose — purchasing toxic assets from the banks.” This has become a source of contention for politicians who supported passage of TARP.

William Isaac currently serves as chairman of Global Financial Services for LECG, a global economic consulting firm.

Mark-To-Market May Affect Defined Benefit Plans

The Organization for Economic Cooperation and Development (OECD), a 32-country (including the United States) organization committed to protecting democracy and the market economy, has pointed to mark-to-market accounting rules as a primary factor in their review of defined benefit pension funding.

The OECD has sought to reform regulations on defined benefit funding, as the tide has increasingly flowed towards defined contribution plans. Juan Yermo, head of the private pensions unit of the OECD’s financial affairs division, and Clara Severinson, a division administrator, suggest in their recent document various reforms such as “reducing the reliance on market values of assets and liabilities in determining contribution levels, limiting sponsoring companies’ ability to tap surpluses or take contribution holidays and setting minimum funding levels.”

While the document agrees that mark-tomarket accounting has helped increase transparency and comparability in corporate financial statements, it “may increasingly dominate over other arguably more fundamental issues … as the biggest driver behind how and in what manner corporations remunerate their employees,” according to Yermo and Severinson.

Alternative Funds Wary of Fair-Value Changes

The new Financial Accounting Standards Board (FASB) proposals for fair-value accounting has managers of alternative funds – private funds such as private equity and venture capital – wary of tougher rules. Under the new proposal, managers of these funds would be subject to more stringent requirements on explaining and reporting how an asset is valued.

John Hildebrand, a partner with PricewaterhouseCoopers, explained to Pensions and Investments that private equity funds are generally valued on “internally developed information or…unobservable inputs,” resulting from a manager’s best estimate. The FASB’s proposal would require a transparent valuation practice, which many private equity managers are reluctant to adopt.

Mr. Hildebrand said that the fear among alternative fund managers is the exposure to legal issues resulting from disagreements about how they value certain aspects of funds. Additionally, fund managers say they are unclear on how the FASB would require them to apply the standards and make the calculations, and that compliance with the new rules will require a significant amount of work on their part.

Mark to Market Changes Could Spur Transactions in the Hotel Industry

At a July conference, members of the Industry Real Estate Finance Advisory expressed their views that proposed accounting changes will result in a boon for hotel investors as lenders become more willing to part with assets.

“If mark-to-market is going to go back into effect, then you’ll see a flush of hotels become available,” said Mark Elliott, a senior managing director with the brokerage firm Hodges Ward Elliot. Jackson Hsieh, real estate vice chairman for UBS, noted that while in 2009 most banks didn’t have the ability to take a write-down on an asset, “this year [they] made a lot of money” and will be able to do so.

Conference moderator Chuck Henry, president of Hotel Capital Advisers, echoed the sentiments by the panelists and said the time is right for investment in the hotel industry. “Absolutely it’s time to invest,” he said.

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