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Minority interests in certain REITs and conversion of a loan into a debt security in a debt restructuring.

Statement on Auditing Standards no. 69, The Meaning of "Present Fairly in Conformity With Generally Accepted Accounting Principles" in the Independent Auditor's Report, identifies Financial Accounting Standards Board emerging issues task force (EITF) consensuses as sources of established generally accepted accounting principles.

This month's column includes our annual roundup of EITF issues covering the January 20 through November 17, 1994, meetings (see the sidebar on page 86). In addition, two consensuses on the treatment of minority interests in certain real estate investment trusts (REITs) and accounting for the conversion of a loan into a debt security in a troubled debt restructuring are summarized. The summaries are presented in the order of importance from broad to narrow applicability.

EITF Abstracts, copyrighted by the FASB, is available in soft-cover and loose-leaf versions and may be obtained by contacting the FASB order department at 401 Merritt 7, P.O. Box 5116, Norwalk, Connecticut 06856-5116. Phone: (203) 847-0700.

ISSUE NO. 94-2

Typical umbrella partnership real estate investment trust (UPREIT) transactions include the formation of an operating partnership by a sponsor that contributes real estate properties and related debt to the operating partnership in exchange for a limited partnership interest. At the same time, a REIT is formed that raises funds in the public market and invests the net proceeds in exchange for a majority interest (general partner) while the sponsor retains a minority interest in the operating partnership. Because of its controlling financial interest the REIT must consolidate the operating partnership. The REIT reports the assets and liabilities controlled by the sponsor in its consolidated financial statements at the sponsor's historical cost basis in accordance with Securities and Exchange Commission Staff Accounting Bulletin no. 48, Transfer of Assets by Promoters and Shareholders.

EITF Issue no. 94-2, Treatment of Minority Interests in Certain Real Estate Investment Trusts, provides guidance for reporting, in the REIT's consolidated financial statements, the sponsor's interest in the operating partnership.

Questions have been raised about whether the sponsor's minority interest should be displayed as a minority interest or as one of two classes of ownership interests reflected in shareholder's equity. A corollary question is how to determine the amount of the sponsor's interest. Some believe that the sponsor's minority interest should be calculated after reflecting the proceeds of the REIT's purchase because the operating partnership had been 100% owned by the sponsor before the purchase of the majority interest. This would create a larger amount than if the sponsor's interest had been calculated before reflecting the proceeds.

The issue is how, and at what amount, should the sponsor's interest in the operating partnership be reported in the REIT's consolidated financial statements?

The EITF reached a consensus that the sponsor's interest in the operating partnership should be reported as a minority interest in the REIT's consolidated financial statements. The EITF agreed the net equity of the operating partnership, after the contributions of the sponsor and the REIT, multiplied by the sponsor's ownership percentage in the operating partnership, represents the amount to be reported initially as minority interest in the REIT's consolidated financial statements.

The EITF also reached a consensus that provides implementation guidance for UPREIT transactions completed before this consensus. See EITF Abstracts for details.

ISSUE NO. 94-8

EITF Issue no. 94-8, Accounting for Conversion of a Loan into a Debt Security in a Debt Restructuring, addresses an issue that may arise in debt restructuring transactions in the future due to the application of FASB Statement no. 115, Accounting for Certain Investments in Debt and Equity Securities.

Statement no. 115, which applies to marketable equity securities and all debt securities, requires that securities classified as available for sale or trading be reported at fair value. According to FASB Technical Bulletin no. 94-1, Application of Statement 115 to Debt Securities Restructured in a Troubled Debt Restructuring, securities received in connection with a debt restructuring are subject to Statement no. 115.

In some restructurings the creditor receives a debt security issued by the original debtor with a fair value that differs from the creditor's basis in the loan on the date of the restructuring. Statement no. 115 does not specify how to treat a difference between the basis in the loan being restructured and the fair value of the debt security received on the date of restructuring--in other words, how to treat a recovery or further write-down in value that exists at the restructuring date.

The issues are determining (1) the creditor's initial cost basis of the debt security received in the restructuring of a loan and (2) how the creditor should account for any difference between its basis in the loan and the security's fair value at the restructuring date.

The EITF reached a consensus that the creditor's initial cost basis of a debt security received as part of a debt restructuring should be the security's fair value at the restructuring date. Any excess of the security's fair value received over the net carrying amount of the loan should be recorded as a recovery on the loan. Any excess of the net carrying amount of the loan over the fair value of the security received should be recorded as a charge-off to the allowance for credit losses.

The EITF also reached a consensus that a security received in a restructuring in settlement of a claim for only the past-due interest on a loan should be measured at the security's fair value at the restructuring date and accounted for in a manner consistent with the entity's policy for recognizing cash received for past-due interest.

For both consensuses, subsequent to the restructuring, the security should be accounted for according to the provisions of Statement no. 115.

EXECUTIVE SUMMARY

* EITF Issue no. 94-2

Accounting problem: Should the REIT, in its consolidated financial statements, report the sponsor's interest in the operating partnership as a minority interest?

Consensus: Yes.

* EITF Issue no. 94-8

Accounting problem: (1) Should the creditor's initial cost basis of a debt security received in the restructuring of a loan be the security's fair value at the restructuring date and should any excess/(deficit) of the security's fair value received over/(under) the loan's net carrying amount be recorded as a recovery of the loan or a charge-off to the allowance for credit losses? (2) Should a security received in a debt restructuring in settlement of a claim for only the past-due interest on a loan be measured at the security's fair value at the restructuring date and accounted for in a manner consistent with the entity's policy for recognizing cash received for past-due interest?

Consensuses: (1) Yes. (2) Yes.

ANNUAL ROUNDUP OF EITF ISSUES DISCUSSED IN 1994 (JANUARY 20, 1994 THROUGH

NOVEMBER 17, 1994)

Issue no.

93-17

Title

Recognition of Deferred Tax Assets for a Parent Company's Excess Tax Basis in the Stock of a Subsidiary That Is Accounted for as a Discontinued Operation

Status

Consensus reached 1/20/94

Issue no.

93-18

Title

Recognition of Impairment for an Investment in a Collateralized Mortgage Obligation Instrucment or in a Mortgage-Backed Interest-Only Certificate

Status

Consensus reached on issue (1) 1/20/94; consensuses reached on issues (2) and (3) 3/24/94

Issue no.

94-1

Title

Accounting for Tax Benefits Resulting from Investments in Affordable Housing Projects

Status

Tentative conclusions reached 9/21-22/94; consensuses reached on certain of the tentative conclusions 11/17/94; to be discussed at a future meeting

Issue no.

94-2

Title

Treatment of Minority Interests in Certain Real Estate Investment Trusts

Status

Consensus reached 9/21-22/94; consensus reached 11/17/94 on applicability of the 9/21-22/94 consensus; implementation issues to be discussed at a future meeting

Issue no.

94-3

Title

Liability Recognition for Certain Employee Termination Benefits and Other Costs to Exit an Activity (including Certain Costs Incurred in a Restructuring)

Status

Consensuses reached 5/19/94 on employee termination costs; 5/19/94 consensuses modified 11/17/94; consensuses reached 11/17/94 on other exit costs

Issue no.

94-4

Title

Classification of an Investment in a Mortgage-Backed Interest-Only Certificate as Held-to-Maturity

Status

No consensus reached

Issue no.

94-5

Title

Determination of What Constitutes All Risks and Rewards and No Significant Unresolved Contingencies in a Sale of Mortgage Loan Servicing Rights under Issue No. 89-5

Status

Consensuses reached 9/21-22/94; implementation issues to be discussed at a future meeting

Issue no.

94-6

Title

Accounting for the Buyout of Compensatory Stock Options

Status

Consensus reached 9/21-22/94; 9/21-22/94 consensus extended and consensus reached 11/17/94

Issue no.

94-7

Title

Accounting for Financial Instruments Indexed to, and Potentially Settled in, a Company's Own Stock

Status

To be discussed at a future meeting

Issue no.

94-8

Title

Accounting for Conversion of a Loan into a Debt Security in a Debt Restructuring

Status

Consensuses reached 9/21-22/94

Issue no.

94-9

Title

Determining a Normal Servicing Fee Rate for the Sale of an SBA Loan

Status

To be discussed at a future meeting

Issue no.

94-10

Title

Accounting for the Income Tax Effects of Transactions between (and with) Stockholders That Have Tax Effects for the Company

Status

To be discussed at a future meeting

The application of EITF consensuses (category c of the GAAP hierarchy) effective after March 15, 1992, is mandatory under SAS no. 69. EITF consensuses issued before March 16, 1992, become effective in the hierarchy for initial application of an accounting principle after March 15, 1993. See the JofA, May92, pages 103--110, for a complete discussion of the new GAAP hierarchy and EITF consensuses.

Accounting changes from another accounting principle to an EITF consensus may be reported in accordance with Accounting Principles Board Opinion no. 20, Accounting Changes, or may be applied prospectively to future transactions unless otherwise stated in the consensus.
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Title Annotation:real estate investment trusts
Author:Delahanty, Linda C.
Publication:Journal of Accountancy
Date:Feb 1, 1995
Words:1620
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