settled in such a way that the holder would not recover substantially all of its
recorded investment (except for instruments that are within the scope of FAS 133)
shall be recognized like an investment in debt securities classified as available-for-
sale or trading under Statement 115. Accordingly, changes in the value of these in-
struments will be included in equity (other comprehensive income) until realized
when they are considered available-for-sale. However, if the instruments are desig-
nated as trading, changes in fair value will be included in income immediately. Fi-
nancial assets subject to prepayment risk may not be classified as held-to-maturity
securities.
In late 2000, EITF Issue No. 99-20, “Recognition of Interest Income and Impair-
ment on Purchased and Retained Beneficial Interests in Securitized Financial As-
sets,” was issued which discusses how a transferor/originator that retains an interest
in securitized financial assets or an enterprise that purchases a beneficial interest in
securitized financial assets, should account for interest income and impairments
while the assets are held.
EITF 99-20 adopts the prospective method for recognizing interest income. Under
EITF 99-20, the holder of a beneficial interest should recognize the excess of all fu-
ture cash flows estimated at the initial transaction date over the initial carrying
amount as interest income over the life of the beneficial interest using the effective
yield method. The holder of a beneficial interest should continue to periodically (e.g.,
quarterly) update the estimate of future cash flows attributable to the beneficial in-
terest. If such evaluation results in a change (favorable or adverse taking into account
both the timing and amount) in cash flows from the cash flows previously projected,
then the amount of accretable yield should be recalculated and recognized prospec-
tively as a change in the amount of periodic accretion recognized over the remaining
life of the beneficial interest.
The interest must also be assessed for impairment each period. If there is an ad-
verse change in the estimated future cash flows and the fair value is lower than the
carrying amount, an impairment has occurred. The asset should be written down with
the amount reflected in the income statement.
In the example above, the residual interest would be accounted for like a debt in-
strument classified under FAS 115 and the income and impairments would be ac-
counted for in accordance with EITF 99-20.
FAS 140 requires that a servicing asset or liability be amortized to income or ex-
pense in proportion to and over the period of estimated net servicing income or net
servicing loss. However, if the fair value of a servicing liability subsequently in-
creases above the carrying amount (e.g., because of significant changes in the amount
or timing of actual or expected future cash flows from the cash flows previously pro-
jected), the servicer should revise its earlier estimates and recognize the increased ob-
ligation as a loss in earnings. A servicing asset or liability should be assessed for
impairment.
For a more detailed example of the initial gain-on-sale accounting and the subse-
quent accounting refer to the Appendix.
(i) Consolidation of SPEs. As discussed earlier, securitization transactions typically
involve the use of a QSPE, however due to the requirements of certain deals, the SPE
cannot qualify as a QSPE. This is commonly found with transactions which actively
manage the assets such as arbitrage deals.
21.6 ACCOUNTING 21 • 17