COVID-19 Relief: Short-Term Loan Modifications Aren’t TDRs
During the novel coronavirus (COVID-19) crisis, financial institutions may be working with struggling borrowers on loan modifications. A group of financial institution regulatory agencies, after consulting with the Financial Accounting Standards Board (FASB), has issued a joint statement. The guidance confirms that, for borrowers that are current on their loan payments, short-term modifications due to the COVID-19 pandemic won’t be considered troubled debt restructurings (TDRs). The statement is also consistent with a related provision of the Coronavirus Aid, Relief, and Economic Security (CARES) Act.
Accounting for TDRs
Under Accounting Standards Codification (ASC) Topic 310-40, Receivables — Troubled Debt Restructurings by Creditors, a debt restructuring is considered a TDR if 1) the borrower is troubled, and 2) the creditor, for economic or legal reasons related to the borrower’s financial difficulties, grants a concession it wouldn’t otherwise consider.
Under U.S. Generally Accepted Accounting Principles (GAAP), types of loan modifications that may be classified as a TDR include, but aren’t limited to:
- A reduction of the stated interest rate for the remaining original life of the debt,
- An extension of the maturity date or dates at a stated interest rate lower than the current market rate for new debt with similar risk,
- A reduction of the face amount or maturity amount of the debt as stated in the instrument or other agreement, and
- A reduction of accrued interest.
The concession to a troubled borrower may include a restructuring of the loan terms to alleviate the burden of the borrower’s near-term cash requirements, such as a modification of terms to reduce or defer cash payments to help the borrower attempt to improve its financial condition.
Providing relief in times of crisis
The Interagency Statement on Loan Modifications and Reporting for Financial Institutions Working with Customers Affected by the Coronavirus (Revised) was issued by the Federal Reserve Board of Governors, the Federal Deposit Insurance Corporation, the National Credit Union Administration, the Office of the Comptroller of the Currency, the Consumer Financial Protection Bureau and state banking regulators on April 7. This guidance doesn’t change the accounting treatment for loan modifications and TDR classifications under ASC Topic 310-40.
Instead, it interprets the existing accounting rules and encourages financial institutions to work with borrowers that are struggling to meet their payment obligations. The agencies confirmed with FASB staff that short-term modifications made in good faith to borrowers experiencing short-term operational or financial problems as a result of COVID-19 won’t automatically be considered TDRs if the borrower was current on making payments before the relief. Borrowers are considered current if they’re less than 30 days past due on their contractual payments at the time a modification program is implemented.
This relief applies to short-term:
- Modifications from payment deferrals,
- Extensions of repayment terms,
- Fee waivers, and
- Other payment delays that are insignificant compared to the amount due from the borrower or to the original maturity/duration of the debt.
In addition, loan modifications or deferral programs mandated by a federal or state government in response to COVID-19, such as financial institutions being required to suspend mortgage payments for a period of time, wouldn’t be within the scope of ASC Topic 310-40. The guidance also includes provisions relating to exceptions for financial institutions’ regulatory reporting of past due loans and loans being reported as nonaccrual assets as a result of COVID-19.
Other relief measures
The CARES Act, which was enacted on March 27 to provide financial relief during the COVID-19 pandemic, is consistent with the statement issued by the financial institution regulators. Specifically, Section 4013 of the CARES Act permits financial institutions not to classify a COVID-19-related loan modification as a TDR if:
- It was made between March 1, 2020, and the earlier of December 31, 2020, or 60 days after the end of the public health emergency, and
- The underlying loan wasn’t more than 30 days past due as of December 31, 2019.
In general, the CARES Act encourages financial institutions to consider short-term debt modifications that can ease cash flow pressures on affected borrowers, improve their capacity to service debt, increase the potential for financially stressed residential borrowers to keep their homes and facilitate the financial institution’s ability to collect on its loans. These concessions may help mitigate the long-term impact of the pandemic on borrowers by avoiding delinquencies and other adverse consequences.
Financial institution regulators understand that the COVID-19 pandemic is an extraordinary, evolving situation that continues to present challenges to creditors and borrowers alike. Contact your CPA for help negotiating and accounting for loan modifications.
SIDEBAR: Goodbye, LIBOR
In March, the Financial Accounting Standards Board (FASB) issued guidance to help borrowers transition from expiring reference rates, including the London Inter-bank Offered Rate (LIBOR), to new benchmark rates that are more transaction-based and observable. Accounting Standards Update (ASU) No. 2020-04, Reference Rate Reform (Topic 848): Facilitation of the Effects of Reference Rate Reform on Financial Reporting, applies to contracts, instruments, hedging relationships and other transactions that reference LIBOR or other reference rates expected to be discontinued.
Under existing U.S. Generally Accepted Accounting Principles (GAAP), modifications would have to be assessed and remeasured to determine whether they would be accounted for as continuation of the existing contract or as if they were a new contract. The update is designed to help reduce transition costs and simplify accounting for modifications to contracts and financial arrangements that refer to rates that are being phased out.
There are several nuances of how and when to apply the different amendments for interim periods, contract modification dates and hedging relationship dates. The update provides optional expedients and exceptions, including:
- Allowing eligible contracts (including debt, leases and derivatives) that are modified and meet qualifying criteria to be accounted for as a continuation of those contracts,
- Permitting companies to preserve their hedge accounting relationships during the transition period upon certain changes in critical hedge terms due to reference rate reform, and
- Enabling companies to make a one-time election to transfer or sell held-to-maturity debt securities that are affected by rate reform.
The updated guidance may be applied at any time during the rate reform transition period, which extends from March 12, 2020, through December 31, 2022.