Introduction

BC1. The following summarizes the Board’s considerations in reaching the conclusions in this Update. It includes reasons for accepting certain approaches and rejecting others. Individual Board members gave greater weight to some factors than to others.

Background Information

BC2. In 2014, the Board began actively monitoring the reference rate reform initiative undertaken globally to identify suitable alternatives to unsecured market benchmarks based on interbank offered rates. At that time, the Federal Reserve Board and the Federal Reserve Bank of New York (Fed) convened the Alternative Reference Rates Committee (ARRC) to identify a suitable alternative to the U.S. Dollar London Interbank Offered Rate (LIBOR) and to create an adoption plan to facilitate the acceptance and use of one or more alternative reference rates. In 2017, the ARRC identified the Secured Overnight Financing Rate (SOFR) as its preferred alternative reference rate.

BC3. During the project that led to the issuance of Accounting Standards Update No. 2017-12, Derivatives and Hedging (Topic 815): Targeted Improvements to Accounting for Hedging Activities, the Fed requested that the overnight index swap rate based on SOFR be considered eligible as a U.S. benchmark interest rate for purposes of applying hedge accounting under Topic 815. In December 2017, the Board added a project to its agenda to consider that request. The Fed began publishing the daily SOFR rate on April 3, 2018, and announced a transition plan for its integration into the financial markets.

BC4. In 2018, the Board issued Accounting Standards Update No. 2018-16, Derivatives and Hedging (Topic 815): Inclusion of the Secured Overnight Financing Rate (SOFR) Overnight Index Swap (OIS) Rate as a Benchmark Interest Rate for Hedge Accounting Purposes. The Board limited the scope of the amendments in Update 2018-16 to newly designated hedging relationships based on SOFR to expedite the issuance of that new guidance. However, during the course of that project, stakeholders communicated to the Board that the reference rate reform initiative was expected to affect the ability to retain hedge accounting under Topic 815 for hedging relationships and asked the Board to consider potential relief to allow hedge accounting to continue in that circumstance. In addition, stakeholders indicated that reference rate reform was expected to create potential operational challenges in applying other areas of GAAP related to modifications of financial instruments. Because of those emerging issues, concurrently with the issuance of Update 2018-16, the Board added a project to its agenda to consider the need for potential accounting relief for hedging relationships and other areas of financial reporting beyond hedge accounting that may be affected by reference rate reform. The Board’s objective for the project is to broadly consider changes to GAAP to facilitate the market-wide transition from LIBOR and other interbank offered rates (collectively referred to as IBORs).

BC5. The Board solicited feedback from preparers, auditors, and other stakeholders to identify the specific accounting issues in relation to the market-wide transition from IBORs. Stakeholder feedback indicated that one primary issue relates to the operational costs to preparers when assessing significant volumes of contract modifications under the guidance for accounting for contract modifications in accordance with various areas of GAAP. A second issue relates to the potential inability to retain hedge accounting for existing hedges due to anticipated changes to the critical terms of hedging relationships, which would require automatic dedesignation of a hedging relationship in accordance with current GAAP, as well as the potential inability to qualify for hedge accounting due to reference rate reform.

BC6. Addressing those issues presents several challenges from a standard-setting perspective, including determining the scope of contracts requiring relief, the nature of the appropriate relief from existing accounting requirements, and the timing of issuing guidance to coincide with the timing of contract amendments occurring in the marketplace.

BC7. Regarding the nature of contracts requiring relief from accounting requirements, a challenge of reference rate reform is the pervasiveness of expected modifications across various types of contracts, including derivatives, investments, debt instruments, and leases.

BC8. In terms of timing, the Board understands that both:

BC9. For cash instruments, the Board understands that the ARRC has developed fallback language for certain financial products. However, the Board also acknowledges that contract modifications (for cash instruments as well as over-the-counter derivatives) are a result of negotiation and agreement between the counterparties to the contract and, therefore, it is difficult to predict both the timing of certain contract modifications and the terms that may be amended as a result of reference rate reform. In undertaking this project, the Board determined that any relief related to applying existing accounting requirements would need to be effective at the earliest time that contract modifications are occurring in the marketplace to achieve the cost-benefit objective of issuing any final guidance. Accordingly, the Board expedited the issuance of this Update with the objective of providing final guidance in time for use by market participants to apply the guidance as contracts are being modified.

BC10. Furthermore, after issuance of this guidance, the Board will continue to monitor developments in the marketplace about how contract modifications due to reference rate reform will be effectuated and is prepared to consider whether those future developments warrant changes to this guidance or additional guidance, as appropriate.

BC11. On September 5, 2019, the Board issued proposed Accounting Standards Update, Reference Rate Reform (Topic 848): Facilitation of the Effects of Reference Rate Reform on Financial Reporting, with comments due on October 7, 2019. The Board received 40 comment letters on that proposed Update. Overall, respondents supported the amendments in the proposed Update and said that the proposed amendments would ease the potential burden in accounting for reference rate reform. Some respondents made suggestions to clarify specific aspects of the proposed amendments, which are described below in the basis for conclusions section.

Benefits and Costs (or Cost Savings)

BC12. The objective of financial reporting is to provide information that is useful to present and potential investors, creditors, donors, and other capital market participants in making rational investment, credit, and similar resource allocation decisions. However, the benefits of providing information for that purpose should justify the related costs. Present and potential investors, creditors, donors, and other users of financial information benefit from improvements in financial reporting, while the costs to implement new guidance are borne primarily by present investors. The Board’s assessment of the costs and benefits of issuing new guidance is unavoidably more qualitative than quantitative because there is no method to objectively measure the costs to implement new guidance or to quantify the value of improved information in financial statements.

BC13. The Board concluded that the amendments in this Update reduce or mitigate the costs and complexity of accounting for contract modifications and hedging relationships affected by reference rate reform by providing elective optional expedients and exceptions to existing accounting requirements. For contract modifications, hedging relationships, and other transactions affected by reference rate reform, the amendments provide temporary guidance that achieves the following:

BC14. Given the pervasiveness of IBOR-based contracts, the Board notes that those elective optional expedients and exceptions provide cost savings to a wide array of financial statement preparers. Furthermore, the amendments in this Update result in financial reporting that reflects the intended continuation of contracts and hedging relationships due to the replacement of a reference rate. Overall, the Board concluded that the expected benefits, including cost savings for financial statement preparers, justify any expected costs of adopting the amendments.

Basis for Conclusions

General Principles

BC15. The Board concluded that the amendments in this Update result in financial reporting that captures the economic substance of contract modifications occurring in the marketplace because of reference rate reform. That is, a qualifying modification should not be considered an event that requires contract remeasurement at the modification date or reassessment of a previous accounting determination. In contrast, the Board concluded that the application of existing guidance for changes to a hedging relationship and for assessing whether contract changes should be accounted for as a contract modification or as a contract extinguishment could be burdensome given the quantity of IBOR-based contracts and could result in financial reporting that is not reflective of an entity’s business strategy or intent. Specifically, because reference rate changes relate to a market-wide reform initiative that is outside the control of an entity, thereby compelling an entity to make modifications to contracts or hedging strategies, the Board determined that the financial reporting outcomes of discontinuing such contracts (and treating the modified contract as an entirely new contract) and hedging relationships would not provide decision-useful information to users of financial statements. Therefore, the Board concluded that accounting relief should be broadly available to enable entities to continue accounting for affected contracts and hedging relationships through the period of market transition in a manner that would continue the previous accounting determinations for such arrangements before the effects of reference rate reform.

BC16. For contract modifications, current GAAP for loans and debt instruments broadly requires that an entity assess both qualitatively and quantitatively whether a modified contract substantially differs from the contract before the modification to a degree that it is in substance a new contract rather than a continuation of an existing contract. The Board understands that loans and debt instruments that are modified solely to reflect the effects of reference rate reform may pass those tests if they are applied on an individual contract basis. However, stakeholders indicated that given the significant volume of contracts that are expected to be modified as a result of reference rate reform, applying those requirements on an individual contract basis would result in significant operational costs.

BC17. Other areas of GAAP, including Topic 840 or 842 on leases and Topic 815 on derivatives and hedging, require similar assessments of contract modifications or previous accounting determinations due to changes in terms. Given its view that financial reporting outcomes of discontinuing such contracts and hedging relationships would not necessarily provide decision-useful information to users of financial statements, the Board concluded that the expected benefit of applying existing accounting requirements for contract modifications on an individual contract basis likely will not justify the expected costs. Similarly, the Board determined that considering reference rate reform to be an event that requires reassessment of a previous accounting determination under GAAP on an individual contract or a transaction basis likely will not justify the expected costs. Therefore, the amendments in this Update provide various optional expedients and exceptions to applying certain accounting requirements to contracts, transactions, and hedging relationships affected by reference rate reform.

BC18. The Board concluded that because the amendments in this Update are intended to provide relief related to the accounting requirements in GAAP due to the effects of the market-wide transition away from IBORs, the relief provided by the amendments is temporary in its application in alignment with the expected market transition period.

Overall Scope of Reference Rate Reform Guidance

BC19. The amendments in this Update establish the overall scope of the guidance for contract modifications, hedging relationships, or other transactions that are eligible to apply optional expedients or exceptions to accounting requirements in GAAP.

BC20. The overall scope is that the contract must reference LIBOR or a reference rate that is expected to be discontinued as a result of reference rate reform. The Board decided to explicitly reference LIBOR in this criterion because it determined that the primary objective of the amendments in this Update is to facilitate the market-wide transition away from LIBOR as a consequence of the United Kingdom’s Financial Conduct Authority announcing that it would no longer persuade, or compel, banks to submit to LIBOR as of the end of 2021. This applies to LIBOR in all jurisdictions and in all currencies.

BC21. However, the Board included within the scope guidance other reference rates that are expected to be discontinued because of reference rate reform and observed that, in applying that provision, judgment may be required to identify those rates. The Board observed that certain reference rates (for example, the Singapore Dollar Swap Offer Rate) use an IBOR that is expected to be discontinued as an input into the calculation of the reference rate. The Board notes that contracts referencing interest rates that are computed using reference rates expected to be discontinued as an input also should be considered to meet the scope. In addition, the Board understands that for certain reference rates (for example, the Euro Interbank Offered Rate) there may be an effort to reform the production method of how the published reference rate is calculated, rather than discontinuing the publishing of the reference rate, which may be assessed by market participants to be a fundamental change in the reference rate such that in substance the previous reference rate is considered discontinued. The Board added that if such an assessment is made, those rates also should meet the scope guidance.

BC22. In developing the scope guidance, the Board considered providing a prescriptive list of reference rates that would qualify for optional expedients for contract modifications. The Board decided not to include such a list within the scope guidance on the basis that it would have required the Board to maintain and update that list on an ongoing basis as other reference rates undergo review. The Board understands that in addition to LIBOR, there are other rate reform initiatives that have recommended reducing reliance on certain other IBORs and other reference rates and that work is under way in multiple jurisdictions to transition away from those rates. The Board determined that it may be difficult to compile a complete list of all reference rates undergoing reform because some jurisdictions are still evaluating whether certain reference rates should be discontinued and that could affect its ability to provide relief in a timely manner.

BC23. The Board also considered restricting the replacement reference rate to one that is designated or endorsed by a regulator or private-public sector working group convened by the regulator. The Board received feedback from stakeholders that such a restriction may significantly limit the scope of the relief. There are various existing reference rates and potentially new reference rates that may replace the discontinued reference rates. The Board noted that it should be neutral on that matter and does not want to restrict the optional expedients in a manner that could influence the market-wide transition away from discontinued reference rates toward specific replacement rates. Therefore, the Board decided not to specify eligible replacement rates in the scope guidance.

Scope of Contract Modifications That Are Eligible for Accounting Relief

BC24. The amendments in this Update provide the scope of modifications to contracts that are eligible to apply optional expedients for the accounting requirements in GAAP to contract modifications. The scope is intended to distinguish those contract modifications occurring solely because of reference rate reform from other contract modifications that occur in the ordinary course of business or for reasons unrelated to reference rate reform.

BC25. The Board decided that the scope of contract modifications that are eligible for the optional expedients should include only changes being made to the terms that include the direct replacement of a reference rate or the potential to replace a reference rate from one variable rate to another variable rate. For the purpose of the amendments in this Update, the Board determined that the terms that are permitted to be modified are those that affect or have the potential to affect the amount or timing of future cash flows of a financial instrument. The potential to affect the amount or timing of contractual cash flows includes terms such as fallback provisions in a contract that are triggered upon a contingent event (such as the discontinuance of the rate). In addition, contemporaneous changes to terms that do not affect or have the potential to affect the amount or timing of future cash flows are permitted by the amendments.

BC26. The Board observed that modifications of fallback protocols as a result of reference rate reform are captured within the scope of the amendments in this Update because they are modifications to the terms of a contract that have the potential to change the amount or timing of contractual cash flows. The Board recognizes that (a) changes to contract terms to change fallback protocols could occur before the discontinuance of the actual rate and (b) optional expedients could apply at that time. Given the varied types of contracts that could be affected by reference rate reform and the differing processes and timelines that may be followed to amend such contracts, the Board decided that the amendments should not provide restrictions on how far in advance of the anticipated reference rate discontinuance an entity may modify a contract to qualify for the optional expedients.

BC27. To qualify for the optional expedients for contract modifications, other terms being contemporaneously modified need to be related to the replacement of a reference rate because of reference rate reform. Modifications to terms that are considered related to the replacement of the reference rate are those made to effectuate the transition away from LIBOR or another reference rate expected to be discontinued and are not the result of a business decision that is separate from or in addition to changes to the terms of a contract to effect that transition. For example, the replacement of LIBOR with an overnight rate may require not only a change to the reference rate but also an additional spread adjustment and changes to the reset period. The amendments in this Update do not permit the optional expedients to be elected for contracts that are modified by changes to the terms of a contract that are unrelated to the replacement of the reference rate due to reference rate reform.

BC28. In deciding that entities should be required to consider whether modifications of terms that affect or have the potential to affect the amount or timing of future cash flows are related to reference rate reform, the Board was intentionally broad such that this criterion would capture any changes in terms that could have a potential effect on future cash flows in certain circumstances. Such changes in terms that could affect the timing or amount of cash flows in future periods have economic consequences and that a business decision to change those terms that are driven by factors unrelated to reference rate reform should not be within the scope of this Update.

BC29. The amendments in this Update provide examples of changes to terms that are considered related to and unrelated to the replacement of the reference rate. The examples in paragraphs 848-20-15-5 through 15-6 are not an exhaustive list of all the changes to terms that may be considered related to and unrelated to the replacement of the reference rate. After considering stakeholder feedback, the Board decided to clarify that the list of examples of changes to terms that are related to reference rate reform include changes that are necessary to comply with laws or regulations or to align with market conventions for the replacement rate. The Board decided to make this change to acknowledge that there remains uncertainty about how the market-wide transition will be effectuated across different types of contracts affected by reference rate reform. Because market conventions will likely evolve over time, the Board wanted to provide flexibility in the guidance to accommodate those emerging market conventions.

BC30. A change from a variable rate to a stated fixed rate is not eligible for application of the optional expedients for contract modifications. The Board made that decision because the change from a variable-rate exposure to a negotiated stated fixed rate in a loan, debt instrument, or over-the-counter derivative could include components that reflect a business decision that is separate from or in addition to changes to the terms of a contract to effect the transition for reference rate reform. However, the Board does not intend to exclude modifications of the reference rate from applying the optional expedients if a fixed rate is predetermined on the basis of the most recent reset of a variable rate affected by reference rate reform.

BC31. Changes to fallback terms that are consistent with fallback terms developed by a regulator or a private-sector working group convened by a regulator (for example, the ARRC or ISDA) are presumed to be related to reference rate reform. This would include incorporating fallback terms that are qualitatively assessed to be substantially similar to the fallback terms developed by a regulator or a private-sector working group convened by a regulator. The fallback terms developed by those groups are generally developed after consulting with a wide range of market participants and considering stakeholder feedback. The fallback terms developed by those groups also contemplated industry-accepted rates in the related market or other market conventions.

BC32. If the revised terms are not consistent with fallback terms developed by a regulator or by a private-sector working group convened by a regulator, then an entity should assess whether those terms include, or have the potential to include, any changes unrelated to reference rate reform. If such revised fallback terms include, or have the potential to include, a change that is unrelated to reference rate reform, the entity must disregard that change in the terms for the purposes of applying the relief if it is considered not probable of occurring. For example, if the replacement rate included a predefined sequence and the last step in that sequence is a rate to be negotiated and agreed upon at a future date, it is possible that a stated fixed rate could be selected at that future date (absent any terms or provisions to the contrary). The entity may apply the amendments in this Update if that last term in the predefined sequence of replacement methods is not probable of being the actual replacement rate method when the fallback terms are triggered and in effect.

BC33. In the case of a loan, some examples of changes in terms that generally would be considered unrelated to the replacement of a reference rate are changes in the maturity date and changes in the loan amount. The Board considers such changes in terms to be unrelated to reference rate reform because they would generally require a new business decision by a lender. For the same reason, the Board considers a concession granted by a lender to a borrower for the purposes of recovering its investment to be unrelated to reference rate reform, and, therefore, the amendments in this Update provide no optional expedient to the guidance in Subtopic 310-40, Receivables—Troubled Debt Restructurings by Creditors. Similarly, for a lease, the addition or removal of a right-of-use lease asset or change to the lease term involves a separate business decision, and, therefore, the Board considers those changes in terms to be unrelated to reference rate reform.

BC34. The Board chose to include an in-the-money cap or floor in the list of examples of changes in terms that are considered unrelated to a change in a reference rate because there could be some immediate transfer of value associated with that feature that is unrelated to reference rate reform. However, the Board notes that the addition of an out-of-the-money cap or floor should be considered related to a change in a reference rate because entities may be uncertain about the level of volatility associated with a new reference rate for which there is no history and may want protection from that exposure.

BC35. The Board also chose to include a change in the counterparty in the list of examples of changes in terms that are considered unrelated to a change in a reference rate because a change in the counterparty is a fundamental change to a contract and in some cases could change the risk profile of the contract (for example, changing the debtor specified in a borrowing agreement). After considering stakeholder feedback, the Board decided to clarify that it did not intend to change existing GAAP in relation to a change in the counterparty of a derivative designated in a hedging relationship and that such a change in the counterparty is not considered to be a change in the critical terms of the hedging relationship or a termination of the derivative contract.

BC36. The Board recognizes that there may be modifications to terms of a contract or an arrangement made concurrently with modifications due to reference rate reform that are administrative in nature and that do not affect or have the potential to affect the amount or timing of future cash flows. The amendments in this Update allow changes to those terms to be made without having to assess whether such changes are related to reference rate reform.

BC37. In place of a principle with examples, the Board considered creating a prescriptive list of terms that would be eligible or ineligible for the optional practical expedients in this Update. The Board observed that a prescriptive list would be more straightforward to apply and would reduce implementation questions, thereby facilitating the market-wide transition by minimizing accounting analysis and judgments. However, on the basis of stakeholder feedback, the Board determined that because of uncertainty about how the market-wide transition would be effectuated across the various types of contracts affected by reference rate reform, it would be difficult to identify a sufficiently complete list of terms that may be changed in the time frame necessary for accounting relief to be available to entities as the market transition occurs. The Board therefore determined that a prescriptive list results in the optional expedients being more restrictive than otherwise intended.

Optional Expedients for Accounting for Contract Modifications

BC38. The amendments in this Update result in qualifying contract modifications being considered a continuation of the existing contract rather than an extinguishment of the existing contract and the establishment of a new contract. Similarly, the amendments result in a contract modification to which the optional expedient is being applied not being considered an event that requires reassessment of a previous accounting determination.

BC39. The Board determined that the qualitative criteria in the amendments in this Update are less operationally burdensome than the application of existing modification accounting guidance for a high volume of contract modifications. If a contract modification does not meet the criteria to apply the optional expedient, the contract modification should continue to be assessed using the guidance in the relevant Topic applicable to that contract.

BC40. The amendments in this Update provide specific optional expedients for accounting for contract modifications within the scope of Topic 310 on receivables, Topic 470 on debt, and Topic 840 or 842 on leases. On the basis of stakeholder feedback, the Board determined that the most significant number of contract modifications expected to be made for reference rate reform would otherwise be required to be evaluated in accordance with the accounting guidance in those Topics. Therefore, the Board decided to tailor the amendments to those areas to provide explicit guidance on practical expedients that are easily understandable in the context of the requirements of each of those Topics. The optional expedients for Topics 310 and 470 result in applying the provisions of those Topics related to the accounting for a continuation of the original contract rather than an extinguishment of the original contract and the issuance of a new contract.

BC41. The amendments in this Update allow for contract modifications that would otherwise be assessed under the contract modification guidance in Topic 840 or 842 to be accounted for as if no lease modification occurred. For lessees, this results in no reassessment of the lease classification and no remeasurement of the lease liability or the right-of-use asset. For lessors, this similarly results in no reassessment of the lease classification or remeasurement of any lease asset or liability.

BC42. In deciding to provide an optional expedient, the Board determined that the expected costs to preparers of following current GAAP for lease modifications outweigh the potential benefits to users. In addition, the expected benefits of what effectively would be a gross-up to the balance sheet (that is, because the change in the lease liability for changes in the reference rate would result in a corresponding change to the right-of-use asset) do not justify the expected costs to preparers of recording the gross-up. The Board noted that the total lease-related expenses recognized in profit or loss by a lessee would be the same for operating leases and substantially the same for finance leases, regardless of whether the lessee remeasures the lease liability for changes to the rate. The Board further concluded that users are able to reasonably assess the effect of future rent increases dependent upon the replacement rate on the basis of the disclosures provided by Topic 842 on (a) variable lease expense each period and (b) the terms and conditions of the variable lease payment arrangement.

BC43. Under the amendments in this Update, contract modifications that apply the optional expedient are not subject to an embedded derivative analysis under Subtopic 815-15. An embedded derivative in which the only underlying is an interest rate that alters net interest payments that otherwise would be paid or received on an interest-bearing host contract is generally considered to be clearly and closely related to the host contract unless it meets either of the conditions in paragraph 815-15-25-26(a) and (b). To determine the existence of those conditions, a reporting entity should perform an embedded derivative analysis at the date the hybrid instrument is acquired (or incurred) either at issuance of the hybrid instrument or upon acquisition in the secondary market. The Board concluded that an entity’s conclusions before the modification of a hybrid instrument on whether to bifurcate the embedded derivative from the host contract are maintained if the hybrid instrument meets the criteria to apply the practical expedient. The Board concluded that clarifying that no embedded derivative reassessment is required for the purposes of this guidance reduces expected costs to preparers but does not reduce the usefulness of financial reporting.

BC44. The Board acknowledged that there may be contract modifications due to reference rate reform that would not be accounted for under Topics 310, 470, 840, and 842 and Subtopic 815-15. Therefore, the Board decided that the amendments in this Update should include a principle that may be applied to determine whether contract modifications accounted for in accordance with other relevant Topics or Industry Subtopics are eligible for an optional expedient to the accounting requirements of other relevant Topics or Industry Subtopics. The Board decided to provide this principle because stakeholder feedback indicated that entities may encounter issues other than those for which explicit relief is provided when transitioning away from IBORs. The Board expected that these issues would be less pervasive than those for which explicit relief is provided and decided that a principle should provide flexible relief that generally guides entities to account for in-scope contract modifications as events that do not require contract remeasurement at the modification date or reassessment of a previous accounting determination. Such accounting is consistent with the intent of the optional expedients explicitly provided in the amendments.

BC45. The amendments in this Update allow an entity to elect the optional expedients for contract modifications on a Topic or Industry Subtopic basis. For example, if an entity elects the lease modification expedient, it must apply the optional expedient to all its lease contract modifications arising from reference rate reform that would otherwise be accounted for in accordance with Topic 840 or 842. The Board considered but rejected an alternative that would have mandatorily required an entity to apply the optional expedients for contract modifications arising from reference rate reform across all Topics because a mandatory requirement would preclude an entity from applying current GAAP, which in certain circumstances may be operationally less burdensome for entities. The Board also considered but rejected allowing an application on a contract-by-contract basis because the Board wanted to preclude an entity from selectively applying the optional expedients on the basis of the effect to earnings.

Hedge Accounting

BC46. The amendments in this Update provide several exceptions and optional expedients for applying hedge accounting guidance. Stakeholders requested the following relief to address potential challenges for applying hedge accounting for hedging relationships expected to be affected by reference rate reform:

Exceptions to Accounting Requirements for a Change in Critical Terms of a Hedging Relationship

BC47. Generally, under current GAAP, hedge accounting must be discontinued if critical terms of a hedging relationship are modified. If an entity wishes to continue to apply hedge accounting, it may do so by designating a new hedging relationship. As a result of amendments to Topic 815 in Update 2017-12, current GAAP includes a narrow exception to this requirement that allows a change to the hedged risk in a cash flow hedge of a forecasted transaction without dedesignation of the hedging relationship if the hedging instrument continues to be highly effective at offsetting the revised hedged risk. That guidance has limited applicability and does not apply to a change to the terms of a hedging instrument or a change to any terms of fair value hedging relationships or net investment hedging relationships.

BC48. Stakeholders requested that entities be permitted to continue applying hedge accounting for hedging relationships for which a hedging instrument, a hedged item, or a forecasted transaction is modified because of reference rate reform. Stakeholders indicated that the following changes are expected to occur as a result of reference rate reform:

BC49. In the ordinary course of business, modifications of contractual terms are initiated by two or more counterparties that are acting in their respective interests to make changes to the terms. As a result of reference rate reform, the counterparties are being compelled to amend the contractual terms, including those designated as hedging instruments, or hedged items, or forecasted transactions, because the reference rate is discontinued. The Board determined that the financial reporting outcome of forcing a discontinuance of hedge accounting does not provide decision-useful information to users of financial statements, particularly because entities will, in most circumstances, continue to use the modified derivative for the same risk management purposes as the contract before the modification. The Board concluded that a dedesignation of a hedging relationship due to a change in critical terms and potential designation of a new hedging relationship due to the discontinuation of a rate outside the entity’s control without an accompanying change in a risk management objective will result in financial reporting that is not informative to users.

BC50. Therefore, the amendments in this Update provide an exception to the guidance on changes in the critical terms of a hedging relationship to allow the hedging relationship to continue without dedesignation if the changes to the contractual terms of the hedging instrument, the hedged item, or the forecasted transaction meet the criteria for contractual modifications related to the replacement of the reference rate. The Board decided that the amendments on the optional expedient for changes in critical terms apply to fair value hedges, cash flow hedges, and net investment hedges because any type of hedging relationship could be affected by reference rate reform.

BC51. The amendments in this Update provide an exception to the guidance on changes in the critical terms of a hedging relationship to allow a change to the method of assessing hedge effectiveness documented at hedge inception without requiring dedesignation of the hedging relationship. The optional expedient is eligible if the critical terms of the hedging instrument or the hedged item or hedged transaction references LIBOR or another rate that is expected to be discontinued and the new method designated for assessing hedge effectiveness is an optional expedient in the amendments. The Board determined that this exception should be allowed to enable an entity to continue hedge accounting for hedging relationships using the optional expedients for fair value hedges and cash flow hedges without hedge dedesignation.

BC52. On the basis of stakeholder feedback, the Board understands that it may be necessary to rebalance the hedge ratio for duration-weighted fair value hedges that transition to a different eligible replacement benchmark interest rate to adjust for the changes in the hedged risk and instrument terms. Similarly, the Board understands that on the basis of stakeholder feedback there are a number of potential methods that an entity may use to manage its transition of a hedging relationship from a discontinued reference rate to a replacement rate, such as adding a new interest rate basis swap to an existing interest rate swap designated as the hedging instrument in a cash flow hedge. The Board agreed that it may be necessary for hedging relationships to be adjusted because of changes in the terms of hedging instruments and hedged items resulting from reference rate reform.

BC53. The amendments in this Update provide exceptions to the guidance on changes in critical terms that allows entities to rebalance hedging relationships as needed. The amendments allow an entity to change either the proportion of a designated hedging instrument or the proportion of the hedged item (or both) designated in a fair value hedge or a cash flow hedge to apply the optional expedients for hedge accounting. Similarly, the amendments allow an entity to change the designated hedging instrument to combine two or more derivative instruments in a hedging relationship eligible to apply the optional expedients for hedge accounting.

Optional Expedient for Excluded Components

BC54. In feedback on the proposed Update, some stakeholders asked that the Board consider providing optional relief to allow a change to the systematic and rational method used to recognize excluded components into earnings for hedging relationships affected by reference rate reform. When a hedging instrument’s contractual terms change because of reference rate reform, that change may affect the value of the component excluded from the assessment of hedge effectiveness. To allow the excluded component to continue to be recognized into earnings on a systematic and rational basis, the Board decided to provide optional relief to amend the method and continue hedge accounting. If an entity does not apply the optional relief, the entity’s current systematic and rational method may result in a required cumulative catch-up at the end of the hedging relationship to ensure that no excluded components remain in accumulated other comprehensive income at the end of the hedging relationship.

BC55. The amendments in this Update provide an optional expedient to change the systematic and rational method used to recognize the components excluded from the assessment of hedge effectiveness into earnings if the derivative designated as the hedging instrument meets certain criteria. In addition, if the changes to the contractual terms of the designated derivative cause a change in the fair value of the excluded component, an entity may elect to recognize the change in fair value of the excluded component into earnings in the same income statement line item that is used to present the earnings effect of the hedged item.

Optional Expedient for Fair Value Hedges: Change in the Designated Benchmark Interest Rate

BC56. The amendments in this Update allow an optional expedient to change the designated benchmark interest rate in a fair value hedge if the derivative designated as the hedging instrument references LIBOR or another rate that is expected to be discontinued as a result of reference rate reform and if certain criteria are met. The Board decided to provide this optional expedient for circumstances in which a hedging instrument has a change to its reference rate that could affect the effectiveness of the hedging relationship for the remainder of its term. For example, if a LIBOR swap was designated as the hedging instrument in a fair value hedge and an entity selected the LIBOR swap rate as its designated hedged interest rate risk, the change in fair value of the swap and the change in fair value of the hedged item based on a LIBOR swap rate would diverge if the swap’s variable rate changes to another rate, such as SOFR.

BC57. The Board decided that it is appropriate to allow an entity to bring such hedges into realignment by allowing a change to the benchmark interest rate to a different eligible benchmark interest rate, assuming that the hedging instrument is expected to be highly effective in offsetting changes in fair value attributable to the revised hedged risk. The Board determined that the financial reporting outcome of forcing an entity to discontinue fair value hedge accounting because of changes in the terms of the hedging instrument will not result in decision-useful information to users of financial statements. The Board also determined that dedesignation of a fair value hedge and potential designation of a new hedging relationship without an accompanying change in a risk management objective will result in financial reporting that could be uninformative to users.

BC58. There is no guidance on how to calculate the change in fair value attributable to a change from one benchmark interest rate to another eligible benchmark interest rate. Stakeholders provided feedback on multiple possible methods. Some of those methods would maintain the cumulative fair value hedge basis adjustment to be carried forward by adjusting the hedged benchmark cash flows or by adjusting the rate used to discount the original hedged benchmark cash flows to include a spread adjustment. Other methods would adjust the cumulative fair value hedge basis adjustment to be carried forward as a result of changing the hedged benchmark cash flows and the subsequent discount rate. The Board decided that the method selected needed to be reasonable and that an entity should be required to use a similar method for similar hedges. The Board considered but rejected prescribing a specific method because different methods may be reasonable for different entities depending on their facts and circumstances.

BC59. The amendments in this Update require that the change in fair value of a hedged item attributable to a change from one benchmark interest rate to another eligible benchmark interest rate be presented in the same line item that is used to present the earnings effect of the hedged item if the entity applies an approach that adjusts the hedged item’s cumulative fair value hedge basis adjustment. The Board determined that this is consistent with its basis for conclusions in Update 2017-12 that if an entity designates a hedging instrument, all effects of that hedging instrument should be presented together with the earnings effect of the hedged item.

BC60. The amendments in this Update require that an entity recognize in current earnings any change in fair value attributable to a change in an eligible benchmark interest rate. The Board considered allowing an adjustment to opening retained earnings but rejected that alternative on the basis that allowing a retained earnings adjustment is inconsistent with accounting for the modified contract as a continuation of the original contract. In addition, changes to the critical terms of hedging instruments in fair value hedges that would drive a change in the designated benchmark interest rate may occur across different reporting periods, particularly if an entity has derivatives designated as fair value hedges with various reference rates that may be replaced at different times. The Board notes that allowing retained earnings adjustments across multiple reporting periods could be confusing to users.

BC61. The Board also considered allowing the adjustment of the cumulative fair value hedge basis adjustment (if the entity applies an approach that adjusts the hedged item’s cumulative fair value hedge basis adjustment) to be recognized over time in the same manner as other components of the carrying amount of the hedged asset or liability. In feedback received on the proposed Update, some stakeholders indicated that applying an approach that adjusts the cumulative fair value hedge basis adjustment and recording an offsetting entry to the carrying amount of the hedged asset or liability essentially maintain the hedged asset’s or the hedged liability’s cumulative basis adjustment immediately before the change in the designated benchmark interest rate, which is already provided for in a separate election. Some stakeholders also noted that recording an offsetting entry to the carrying amount of the hedged asset or liability is inconsistent with current GAAP recognition requirements for basis adjustments arising from fair value hedge accounting in Subtopic 815-25. On the basis of the feedback received, the Board decided to remove that option in this Update.

Optional Expedient for Fair Value Hedges: Shortcut Method

BC62. Current GAAP allows an entity to apply the shortcut method for assessing hedge effectiveness of fair value hedges if certain conditions are met. For fair value hedges applying the shortcut method, the amendments in this Update provide an optional expedient to allow an entity to continue to use the shortcut method if the reference rate in the hedging instrument is replaced by another eligible benchmark interest rate. For an entity that qualifies for and elects to use the optional expedient, the entity would continue to use the shortcut method and recognize the change in fair value of the hedging instrument as a fair value hedge basis adjustment of the hedged asset or hedged liability.

BC63. In the Board’s view, an entity that applies the shortcut method should not be penalized because the entity is compelled to change the terms of a derivative because of reference rate reform. While a change in a derivative’s reference rate does not meet the condition for the shortcut method of accounting because the settlements of the swap would not be computed in the same manner in all periods, the Board decided that the condition may be disregarded in this circumstance and that an entity could elect to continue to apply the shortcut method for the remainder of the hedging relationship.

Eligibility of Cash Flow Hedges: Probability of the Hedged Forecasted Transaction and Change in the Designated Hedged Interest Rate Risk

BC64. For a cash flow hedge to qualify for hedge accounting in accordance with GAAP, an entity must assert that the hedged forecasted transaction is probable of occurring. A change in the probability of the forecasted transaction may require that an entity discontinue hedge accounting and may affect the timing of recognizing in current earnings amounts deferred in accumulated other comprehensive income.

BC65. The amendments in this Update clarify that if the designated hedged risk in a hedged forecasted transaction references LIBOR or another rate that is expected to be discontinued because of reference rate reform, an entity may assert that the hedged forecasted transaction remains probable of occurring if the reference rate is expected to be replaced with another rate. However, the amendments require that an entity assess whether the underlying hedged forecasted transaction (that is, the future interest receipts of a financial asset or the future interest payments of a financial liability or the forecasted issuance or purchase of a debt instrument) remains probable of occurring. For example, if the hedged forecasted transaction is the future interest payments on specific debt and the entity prepays that identified debt and does not replace the debt, the hedged forecasted transaction would be probable of not occurring.

BC66. In addition, the amendments in this Update clarify that a change to the designated hedged interest rate risk (for example, a change from LIBOR to another variable rate) does not require a dedesignation of a cash flow hedge of a forecasted transaction if the hedge is expected to be highly effective, which may be asserted if an entity applies an optional expedient for cash flow hedges that is in the amendments. The Board adds that it is important to clarify that in applying the amendments, an entity is not required to dedesignate a cash flow hedge for a technical reason related to the designation and documentation of the hedge. That is, the Board wanted to clarify that both:

Optional Expedients for Cash Flow Hedges: Application of Cash Flow Hedge Accounting

BC67. For a cash flow hedge to qualify for hedge accounting in accordance with current GAAP, an entity must assess that the hedging instrument is expected and is actually shown to be highly effective in offsetting the changes in cash flows due to changes in the hedged risk during the period that the hedge is designated. An entity is required to perform hedge effectiveness assessments at hedge inception and on an ongoing basis to continue to qualify for hedge accounting. Current GAAP describes various methods for assessing hedge effectiveness for the initial assessment and subsequent assessments. Certain methods permit an entity to assume that the hedge is perfectly effective if certain qualifying conditions are met.

BC68. Similar to its reasoning for fair value hedges, the Board concluded that existing cash flow hedges that are affected by reference rate reform should be permitted to continue without dedesignation because those hedging relationships continue to reflect an entity’s intended risk management strategy. The Board also concluded that new cash flow hedges that are affected by reference rate reform because either the hedging instrument or the hedged item references LIBOR or another rate expected to be discontinued should be permitted to qualify for hedge accounting because those hedging strategies also would reflect an entity’s intended risk management strategy.

BC69. The Board concluded that without the optional expedients in the amendments in this Update, there would be an increased level of complexity in performing hedge effectiveness assessments for cash flow hedges that are expected to be affected by reference rate reform. For example, in a cash flow hedge that qualifies for hedge accounting, the reference rate in the hedging instrument and the reference rate in the hedged forecasted transaction may be replaced at different times during the hedging relationship. An entity would need to estimate the expected timing of when the hedging instrument and the hedged forecasted transaction will transition to the replacement rates—including for hedges of groups of forecasted transactions in which individual forecasted transactions in the group may have different transition timing—and incorporate those timing estimates into the hedge effectiveness assessment.

BC70. In addition, without the amendments in this Update, there may be periods of time during the transition to replacement rates in which a cash flow hedge would not be considered highly effective for the purposes of Subtopic 815-20 because of the basis differences between the reference rates in the hedging instrument and the reference rates in the hedged forecasted transaction. The Board determined that the discontinuance of hedge accounting in those cases will not provide decision-useful information to users of financial statements.

BC71. In providing the optional expedients for cash flow hedges affected by reference rate reform, the Board placed importance on several other provisions in hedge accounting guidance as a counterbalance to the flexibility that is provided by those optional expedient methods. First, the amendments in this Update rely on the guidance in Subtopic 815-20 that was added in Update 2017-12 to remove the concept of separately measuring and recognizing hedge ineffectiveness. Accordingly, if a hedging relationship qualifies for cash flow hedge accounting, all changes in the fair value of the derivative designated as the hedging instrument are deferred into accumulated other comprehensive income and recognized in earnings when the hedged forecasted transaction affects earnings.

BC72. Second, the amendments in Update 2017-12 added presentation guidance for hedging relationships such that the effects of the hedging instrument are required to be recorded in the same line item as the earnings effect of the hedged item. The Board considers that presentation guidance to be a safeguard for the application of the optional expedients for cash flow hedges. That is, the Board acknowledges that cash flow hedges for which an entity elects the optional expedients may not satisfy the requirement in which the hedging instrument is expected and actually shown to be highly effective in offsetting changes in cash flows due to changes in the hedged risk during the period that the hedge is designated. The Board understands that hedging relationships that are not highly effective may qualify for hedge accounting as an outcome of providing relief provisions that enable an entity to continue to reflect its intended risk management strategies in the financial statements for the period that reference rates are expected to transition to replacement rates.

BC73. Third, the Board observes that the guidance can be applied for a limited time, and it does not apply to hedging relationships entered into or evaluated after December 31, 2022. An entity is required to revert to the cash flow hedge accounting requirements in Subtopics 815-20 and 815-30 for any cash flow hedging relationships that would remain in place.

Subsequent Hedge Effectiveness Assessments for Cash Flow Hedges

BC74. For cash flow hedges, if either the hedged forecasted transaction or the hedging instrument references LIBOR or another rate expected to be discontinued because of reference rate reform, the amendments in this Update allow an entity to effectively suspend subsequent hedge effectiveness assessments as long as the entity determines qualitatively that the following conditions continue to be met each period:

BC75. The Board decided that an entity may switch to the shortcut method to assess subsequent hedge effectiveness if it elects to apply that optional expedient for the cash flow hedge. However, the Board decided not to provide similar relief for fair value hedges. The Board reasoned that under the fair value shortcut method, a change in fair value of a swap designated as the hedging instrument would be used as a proxy for the change in fair value of the hedged item, and if the variable rate on the swap did not match the designated benchmark interest rate, there would be a true fair value difference. However, because all changes in a swap designated as a hedging instrument in a cash flow hedge are recorded in other comprehensive income, there is no difference between the reporting effect of a cash flow shortcut method and the reporting effect of a quantitative method if the hedge is highly effective.

BC76. An entity also may elect optional expedients that allow it to adjust the methods for assessing subsequent hedge effectiveness in current GAAP so that the entity could remove from its assessment the differences between the hedged forecasted transaction and the hedging instrument that are due to the changes in the reference rates and the timing of when the rates reset. The Board determined that an entity should have the option to adjust existing quantitative methods of assessing subsequent hedge effectiveness rather than assuming perfect hedge effectiveness or qualitatively assessing certain conditions each period, which introduces a new process for hedging relationships affected by reference rate reform. The Board anticipates that some entities may want to adjust existing quantitative methods and processes for subsequently assessing hedge effectiveness for hedging relationships that extend beyond the December 31, 2022 expiration of the optional expedients and are required to revert to existing GAAP.

BC77. The Board observes that cash flow hedges that have already qualified for hedge accounting by (at a minimum) satisfying an initial hedge effectiveness assessment in accordance with the requirements of Subtopics 815-20 and 815-30 have already passed a high hurdle to apply hedge accounting. Therefore, in the Board’s view, it is unlikely that the hedging relationship will significantly deviate from the results of those previous hedge effectiveness assessments and that a change in the terms as a result of reference rate reform will not be expected to introduce excessive levels of hedge ineffectiveness. The Board adds that for the periods of an expected or actual mismatch in reference rates between the hedging instrument and the hedged item, an entity should be able to continue to portray in its financial statements the continuation of its original risk management strategy, especially considering that any mismatch will be reflected in earnings.

BC78. For similar reasons, the Board decided that an entity may disregard the shared risk exposure guidance in Subtopic 815-20 for a group of individual forecasted transactions in a cash flow hedge if a single forecasted transaction in the hedged group of forecasted transactions references LIBOR or another rate that is expected to be discontinued. However, an entity is not allowed to group interest receipts with interest expenses or forecasted purchases (including debt issuances) with forecasted sales.

BC79. The amendments in this Update require that an entity discontinue its use of the optional expedients for assessing hedge effectiveness at the earlier of any of the following events:

BC80. On the basis of stakeholder feedback, the Board notes that those provisions for discontinuing the application of optional expedients are sufficient to allow hedging relationships to continue until the effects of reference rate reform are resolved. Upon one of those events occurring, an entity may change the method of assessing subsequent hedge effectiveness. The Board decided that an entity should be allowed to continue hedge accounting without disruption by changing from an optional expedient method to a method of assessing hedge effectiveness in accordance with Subtopics 815-20 and 815-30 without dedesignation of the hedge.

Initial Hedge Effectiveness Assessments for Cash Flow Hedges

BC81. The amendments in this Update allow an entity to apply optional expedients for the purpose of assessing initial hedge effectiveness for cash flow hedges if either the hedged forecasted transaction or the hedging instrument references LIBOR or another rate that is expected to be discontinued as a result of reference rate reform. The amendments allow cash flow hedges to apply the same optional expedient methods for the initial assessment of hedge effectiveness as for subsequent assessments of hedge effectiveness, with the exception of the optional expedient for a qualitative method that may only be applied for subsequent assessments of hedge effectiveness.

BC82. The Board decided that extending relief to new cash flow hedges affected by reference rate reform is appropriate during the period of transition to replacement reference rates because an entity may enter into cash flow hedging relationships during that period that could have an immediate mismatch in rates. Because of the uncertainty on how reference rate reform will be effectuated in the respective markets, including across different derivatives and other financial instrument products, the immediate mismatch may be because of market-wide developments outside the control of an entity’s risk management activities, such as the lack of liquidity of certain derivatives to match the underlying reference rate index of a replacement reference rate. The Board determined that the lack of hedge accounting should not hinder the development of those new markets. The Board also notes that given the uncertainty about the timing of the transition of different instruments and products, it is unclear whether an entity would be able to obtain derivatives referencing desired rates.

BC83. The amendments in this Update do not include incremental criteria for determining whether an optional expedient for new cash flow hedges may be elected. The Board notes that it is challenging to create criteria that do not diminish the objective of providing relief for application of the hedge accounting requirements during the period of market transition to replacement reference rates. The Board considered an approach that would limit the reference rates that could be incorporated into a hedging relationship that qualifies for optional expedients. However, as noted in paragraph BC23, in the Board’s view, the amendments should remain neutral on eligible replacement rates, which creates a challenge for introducing such a limitation.

BC84. As an alternative, the Board considered requiring an initial assessment of hedge effectiveness using an existing method in Subtopics 815-20 and 815-30. However, the Board recognizes that when the reference rate of the hedging instrument and the hedged item differ at the inception of the hedging relationship, the requirement of an expectation that the hedge will be highly effective may not be satisfied. The Board observed that this is no different in the case of an initial assessment for a new hedge as compared with a subsequent assessment for an existing hedge.

BC85. As noted in paragraph BC70, the Board acknowledges that cash flow hedges for which an entity elects the optional expedients for initial assessment of hedge effectiveness may not be highly effective during the period that the hedge is designated. The Board accepts that as an outcome of providing temporary relief provisions enabling an entity to continue to reflect its intended risk management strategies in the financial statements during the transition period.

BC86. The Board noted that it was important to provide entities with the option to apply the expedients for initial assessment of hedge effectiveness to new cash flow hedges using either a method that assumes perfect effectiveness or quantitative methods to enable entities of all levels of sophistication to take advantage of the relief. The Board observed that without this option, an entity that applies only the simplified method would be required to use a “long haul” method to apply the relief when it potentially would have not applied that method in practice before.

BC87. The Board also considered developing criteria for cash flow hedges similar to the criteria for contract modifications that would have required an assessment of the terms of hedging instruments and hedged items that would qualify for the optional expedients. That would be similar to the requirement to apply the qualifying criteria for contract modifications to derivatives designated as hedging instruments in cash flow hedges when electing the optional expedient related to a change in critical terms. The Board ultimately decided against that approach for several reasons.

BC88. First, the Board expects that an entity employs derivatives as hedging instruments to execute a particular risk management strategy, and there are natural limitations, including internal risk management guidelines, to incorporating speculative features into hedging relationships. Second, the results of an entity’s hedging relationships are reflected in an income statement line item that is typically an important metric for entities that have significant interest rate risk hedging programs. Therefore, in the Board’s view, the results of systematically entering into drastically ineffective hedges would raise questions on the part of users of financial statements.

BC89. Third, the Board designed the initial assessment of hedge effectiveness to qualify for the optional practical expedient to be constrained in that it allows only a mismatch in the base rate, but not the introduction of unrelated risks or other features (such as a leverage factor) to avoid introducing elements into a hedging relationship that may be speculative in nature. For example, if the hedged forecasted transaction references three-month LIBOR but the derivative hedging instrument references a non-LIBOR rate and a leverage factor, an entity that elected to apply the optional expedient in paragraph 848-50-25-11(b) should model the hedged forecasted cash flows using the non-LIBOR interest rate index; however, the derivative instrument’s leverage factor should not be used to model the hedged forecasted cash flows. As noted in paragraph BC72, the Board considers the income statement presentation requirements in Topic 815 to be an important safeguard. The Board also notes that detailed scope requirements may impose costs to an entity to qualify for the relief that outweigh the expected benefits of the relief.

Option to Apply Exceptions and Expedients for Hedge Accounting

BC90. The amendments in this Update allow an entity to elect each of the optional expedients for hedge accounting on an individual hedging relationship basis. If an entity elects the optional expedients, it may apply them for each individual hedging relationship and is not required to apply the elections to the hedging programs or other hedging relationships. The Board determined that an entity may want to continue to use its existing hedge assessment processes for certain hedging relationships if the optional expedients are not needed to maintain hedge accounting. The Board decided that an entity should be free to determine whether the hedging relationship continues to qualify for hedge accounting using either current GAAP in Topic 815 or one or more optional expedients in the amendments. Furthermore, the Board concluded that if an entity did not elect an optional expedient to maintain hedge accounting and that resulted in a discontinuance of hedge accounting in Topic 815, the same outcome as if the entity had voluntarily discontinued hedge accounting under current GAAP would occur.

One-Time Election to Sell or Transfer Debt Securities Classified as Held to Maturity

BC91. In feedback on the proposed Update, some stakeholders asked the Board to consider providing optional relief to allow a one-time election to sell or transfer debt securities classified as held to maturity that reference a rate that is expected to be discontinued. The anticipated discontinuance of a reference rate is not explicitly included in the events or other circumstances that may justify the sale or transfer of a security classified as held to maturity without calling into question an entity’s intent to hold other debt securities to maturity in the future. In addition, some stakeholders were uncertain on whether reference rate reform would meet the conditions in paragraph 320-10-25-9.

BC92. In the Board’s view, accounting constraints should not be an impediment to an entity’s strategy for managing certain risks associated with reference rate reform. Such strategies may include selling debt securities affected by reference rate reform or hedging the interest rate risk of those debt securities, and the Board recognizes that Topic 320, Investments—Debt and Equity Securities, includes constraints for employing such strategies for debt securities classified as held to maturity. Therefore, the amendments in this Update allow an entity to make a onetime election to sell, transfer, or both sell and transfer debt securities that meet certain eligibility criteria from held to maturity to available for sale and/or trading. An entity may sell, transfer, or both sell and transfer any of those held-to-maturity debt securities that meet the eligibility criteria on the date of application of the onetime election.

BC93. The one-time election applies to debt securities that refer to a rate affected by reference rate reform and that were classified as held to maturity before January 1, 2020. The Board considered alternative dates that were earlier than January 1, 2020, such as securities classified as held to maturity as of the announcement by the United Kingdom’s Financial Conduct Authority in 2017. However, the Board considered that there have been several subsequent significant milestones made toward the discontinuation of LIBOR since that announcement and for other IBORs.

BC94. The one-time election may be made at any time but no later than December 31, 2022. The Board determined that a one-time election should result in fewer reporting periods being affected by sales from held to maturity or transfers from held to maturity than an alternative that allowed for an election on a security-by-security basis at any time.

Sunset Provision

BC95. The Board decided that an entity will no longer be permitted to apply the provided exceptions and optional expedients for contract modifications and hedging relationships for reporting periods after December 31, 2022. The Board notes that reference rate reform is expected to be temporary in nature, and the objective of the amendments in this Update is to facilitate the effects of the reform on financial reporting for the market-wide transition period in which an entity replaces the use of reference rates with alternative reference rates. Therefore, after it stops applying the amendments, an entity should apply existing accounting requirements for contract modifications and hedging relationships.

BC96. As noted in paragraph BC20, while LIBOR is expected to be discontinued by the end of 2021, there are still uncertainties about when LIBOR and other reference rates will cease being published. Therefore, the Board decided to provide an extra year beyond the expected discontinuation date of LIBOR. The Board will monitor the market-wide IBOR transitions. As noted in paragraph BC10, the Board will consider whether future developments warrant any changes, including changes to the end date of the application of the amendments in this Update.

Transition and Disclosures

BC97. The Board decided that the amendments in this Update are effective for all entities upon issuance of this final Update on March 12, 2020. An entity may elect to apply the amendments for contract modifications by Topic or Industry Subtopic as of any date from the beginning of an interim period that includes or is subsequent to March 12, 2020 (that is, the date of issuance of this Update), or prospectively from a date within an interim period that includes or is subsequent to March 12, 2020, up to the date that the financial statements are available to be issued. Once elected for a Topic or Industry Subtopic, the amendments must be applied prospectively for all eligible contract modifications for that Topic or Industry Subtopic.

BC98. An entity may elect to apply the amendments in this Update to eligible hedging relationships existing as of the beginning of the interim period that includes March 12, 2020 and to new eligible hedging relationships entered into after the beginning of the interim period that includes March 12, 2020. If an entity elects to apply any of the amendments for an eligible hedging relationship existing as of the beginning of an interim period that includes March 12, 2020, any adjustments as a result of those elections must be reflected as of the beginning of that interim period. If an entity elects to apply any of the amendments for a new eligible hedging relationship entered into between the beginning of the interim period that includes March 12, 2020 and March 12, 2020, any adjustments as a result of those elections must be reflected as of the beginning of the hedging relationship.

BC99. For private companies that are not financial institutions as described in paragraph 942-320-50-1 and not-for-profit entities (except for not-for-profit entities that have issued, or are a conduit bond obligor for, securities that are traded, listed, or quoted on an exchange or an over-the-counter market), an entity must update its hedge documentation noting the changes made before the next interim (if applicable) or annual financial statements are available to be issued. For all other entities, an entity must update its hedge documentation noting the changes made no later than when the entity performs its first quarterly assessment of effectiveness after the election.

BC100. The amendments do not apply to:

BC101. As a practical matter, the Board anticipates that the amendments in this Update will be issued contemporaneously with the time frame in which an entity may begin modifying contracts for reference rate reform. Therefore, the Board notes that prospective application from the beginning of the interim period of issuance provides an entity with the ability to temporarily simplify or suspend application of certain areas of current GAAP for contracts and hedging relationships affected by reference rate reform.

BC102. The Board decided that the optional expedients for hedge accounting should be allowed if an entity has adopted the amendments in Update 2017-12. As noted in paragraph BC72, the Board considers the income statement presentation requirements in Topic 815 to be an important safeguard. Furthermore, the amendments in Update 2017-12 removed the requirement to separately measure and report the amount by which a hedging instrument does not offset a hedged item, generally referred to as the “ineffective” amount. The amendments on hedge accounting in this Update are in contemplation of those significant changes in Update 2017-12.

BC103. In feedback on the proposed Update, some stakeholders asked the Board to consider providing certain optional expedients for hedge accounting to nonpublic business entities that have not adopted the amendments in Update 2017-12. The Board decided that there are certain optional expedients for hedge accounting that are not dependent on the changes made in Update 2017-12 and therefore decided to allow an entity to elect the following optional expedients for hedge accounting if it has not yet adopted the amendments in Update 2017-12:

BC104. The Board decided that an entity should disclose the nature of and reason for electing the optional expedients in each interim and annual financial statement period in the fiscal year of application. A majority of the Board indicated that this disclosure (a) highlights for users of financial statements that an entity is encountering the effects of reference rate reform and (b) helps users understand an entity’s decision to apply relief to specific types of contracts and hedging relationships.

BC105. The Board considered whether private entities and not-for-profit entities should have a delayed effective date compared with that of public entities. The Board decided not to have a delayed effective date for private entities and not-for-profit entities because the guidance is optional and is aimed at providing expedients and exceptions to reduce accounting analyses and related costs that are triggered when the contracts or hedging relationships are modified. The Board determined that reference rate reform is a market-wide initiative that affects all entities that have contract modifications and hedging relationships that reference the discontinued reference rates and that the optional expedients should be available to all entities during the same effective period.

BC106. The Board considered including additional disclosures for entities that elect to apply the optional expedient for a change in the designated benchmark interest rate for fair value hedges. The amendments in this Update allow an entity to use a method to change the designated benchmark interest rate that results in a change to the hedged item’s cumulative fair value basis adjustment and recognize that amount in current earnings. Although some Board members favored an approach that would require that the amount recognized in current earnings be reported separately because the amount may be viewed as additional information related to the effect of reference rate reform, the Board decided not to require that this amount be reported separately because the disclosures for hedge accounting in current GAAP include the amounts that would be recognized because an entity used the optional expedients for hedge accounting.

BC107. Given that the objective of this project was limited to providing accounting relief to ease the operational burden of reference rate reform, the Board considered whether additional required disclosures would be beneficial to financial statement users to understand the effects of reference rate reform on a reporting entity’s current contracts (as of a reporting date) that are affected by reference rate reform and, if so, whether those disclosures would be considered part of a separate project. Additional disclosures related to existing contracts that are currently in the financial statements may be particularly useful to a user because reference rate reform could alter future cash flows related to those contracts. An improved understanding of those future cash flow changes could be helpful to users’ analyses. However, the expectation that cash flows would be altered in a significant and predictable way is inconsistent with the basis for providing a practical expedient. That is, if cash flows are expected to change significantly, the Board should not have provided an alternative to assessing contracts for modifications.

BC108. An example of qualitative disclosures could include a description of management’s approach and its progress on addressing an entity’s exposure to anticipated discontinued reference rates. An example of quantitative disclosures could include identifying (a) the broad categories of existing financial instruments that reference those rates as of the reporting date and (b) the percentage or dollar amounts of those existing financial instruments (based on the notional amounts or the carrying amounts of the financial instruments) that contain contract provisions that adequately contemplate the discontinuance of the reference rate and the percentage or dollar amounts of those existing financial instruments that do not contain contract provisions that adequately contemplate the discontinuance of the reference rate and would require some degree of additional negotiation. Over time, a reporting entity could quantitatively disclose those contracts that have replaced the reference rate with an alternative rate. Those disclosures would be required only during the period of the market-wide transition and could have an expiration date that is aligned with the sunset provision in the amendments in this Update or another date.

BC109. A reporting entity’s exposure to specific variable interest rates, such as IBORs, is not required under current GAAP; therefore, in the absence of requiring such a disclosure, it may be difficult and costly for a user to understand a reporting entity’s exposure to reference rate reform. Using a management approach to provide these types of quantitative and qualitative disclosures should minimize the expected costs of providing the information for preparers of financial statements.

BC110. In providing feedback on the amendments in the proposed Update, financial statement preparers were generally not supportive of the Board requiring additional disclosures for the application of the optional expedients (beyond those in the proposed Update) or entity exposures to interest rates affected by reference rate reform. Those stakeholders responded that other regulatory disclosure requirements (for example, disclosures required by the U.S. Securities and Exchange Commission for public entities) would meet the objectives and that the additional cost to require such disclosures in the financial statements does not provide sufficient additional benefits to users of financial statements. Feedback from users of financial statements indicated that those disclosures would be used to adjust GAAP net income as nonrecurring items. An entity’s exposure to reference rates anticipated to be discontinued would provide an indication of the entity’s progress in addressing the business risks related to the transition. Some stakeholders provided feedback that pervasive business risks for reference rate reform are concentrated to a limited number of entities in certain industries, and a disclosure requirement would add additional costs across all entities to demonstrate that reference rate reform is not expected to be material to the financial statements.

BC111. Although some Board members favored adding disclosure requirements, ultimately the Board concluded that the expected benefits of additional disclosures would not outweigh the expected costs, particularly when other regulatory disclosure requirements already exist to address risks presented by reference rate reform when material to a public entity, and, therefore, did not support adding a separate disclosure project to its agenda. For private companies not subject to other regulatory disclosure requirements, the Board considered the Private Company Decision-Making Framework: A Guide for Evaluating Financial Accounting and Reporting for Private Companies, which indicates that users of private company financial statements have continuous access to management and the ability to obtain financial information throughout the year. Therefore, in the Board’s view, the expected benefits for the users of those private company financial statements did not outweigh the expected costs to preparers of private company financial statements to provide additional disclosures on the application of the optional expedients or exposures to certain interest rates.

International Financial Reporting Standards (IFRS Standards)

BC112. In September 2019, the International Accounting Standards Board (IASB) published Interest Rate Benchmark Reform: Amendments to IFRS 9, IAS 39 and IFRS 7. The IASB amendments provide exceptions to specific hedge accounting requirements in IFRS 9, Financial Instruments, IAS 39, Financial Instruments: Recognition and Measurement, and IFRS 7, Financial Instruments: Disclosures.

BC113. In its outreach with stakeholders, the IASB identified the following two groups of accounting issues that could have financial reporting implications:

BC114. The IASB decided to prioritize the prereplacement issues because they are more urgent. The IASB amendments provide exceptions to the following hedge accounting requirements that are based on forward-looking analyses:

BC115. Other than the specific amendments listed, no other changes were made to IFRS Standards hedge accounting requirements as part of this phase of the project. The IASB is currently considering potential replacement issues on the basis of input gathered from research activities as well as the feedback received in comment letters on the IASB’s May 2019 Exposure Draft, Interest Rate Benchmark Reform, addressing the prereplacement issues. The IASB has started its analysis and deliberations of potential replacement issues as part of its second phase of the project.