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Once a reporting entity has determined that all of the criteria to obtain hedge accounting hedge have been met, it must formally designate and document the hedge to qualify for hedge accounting. Without contemporaneous documentation, a reporting entity would not be permitted to use hedge accounting. For public business entities and financial institutions, certain elements of the documentation are required at inception (DH 5.7.1), and others are due either at the end of the first quarter after the hedge is initiated or before the hedge is terminated (DH 9.2.3). Private company documentation is addressed in DH 11.

5.7.1 Documentation requirements at hedge inception — general

At hedge inception, ASC 815-20-25-3(b) indicates that public business entities, public not-for-profit entities, and financial institutions need to document:
●   The hedging relationship
●   The risk management objective and strategy for undertaking the hedge, including identification of:
o   The hedging instrument
o   The hedged item or transaction
o   The nature of the risk being hedged
●   If the risk is interest rate risk, the benchmark interest rate or the contractually specified rate
●   If the risk is that of a contractually specified component in a nonfinancial item, the contractually specified component
●   The method that will be used to assess hedge effectiveness retrospectively and prospectively, whether qualitative or quantitative (see DH 9)

5.7.1.1 Documentation for fair value hedges

In addition to the general documentation requirements required at hedge inception, ASC 815-20-25-3(c) prescribes incremental documentation requirements for fair value hedges:
  • A reasonable method for recognizing in earnings the gain or loss on a hedged firm commitment
  • For a portfolio layer method hedging relationship, an analysis to support that the hedged item is anticipated to be outstanding as of the hedged item’s assumed maturity date
We believe that the reporting entities should also contemporaneously document the method of calculating changes in fair value due to the hedged risk and the reporting entity’s policy for amortizing basis adjustments. See DH 6.3.1.2 and 7.2.1.3.

5.7.1.2 Documentation for cash flow hedges

In addition to the general documentation requirements at hedge inception, ASC 815-20-25-3(d) prescribes incremental documentation requirements for cash flow hedges:
For a cash flow hedge of a forecasted transaction, the following must be documented:
  • The date or period when the forecasted transaction is expected to occur
  • The specific nature of asset or liability involved (if any)
  • Either (1) the expected currency amount for foreign currency hedges or (2) the quantity of the forecasted transaction for hedges of other risks
  • The current price of a forecasted transaction (to satisfy the criterion in paragraph ASC 815-20-25-75(b) for offsetting cash flows)
  • If the hedged risk is the variability in cash flows attributable to changes in a contractually specified component in a forecasted purchase or sale of a nonfinancial asset, the contractually specified component
  • If the hedged risk is the variability in cash flows attributable to changes in a contractually specified interest rate for forecasted interest receipts or payments on a variable-rate financial asset or liability, the contractually specified interest rate
If a forecasted sale or purchase is being hedged for price risk, the hedged transaction should not be specified (1) solely in terms of expected currency amounts or (2) as a percentage of sales or purchases during a period.
As discussed in for hedges of financial items and DH 7.3.2.1 for hedges of nonfinancial items, the hedged forecasted transaction needs to be described with sufficient specificity so that when a transaction occurs, it is clear whether that transaction is or is not the hedged transaction.
See DH 11 for private company documentation requirements. Documentation of hedge effectiveness is discussed in DH 9.
Question DH 5-1
Can a derivative be designated retroactively as a hedge?
PwC response
No. Designation of a derivative as a hedge should be consistent with management’s intent; therefore, the designation must take effect prospectively, beginning on the date that management has indicated (and documented) that the derivative is intended to serve as a hedging instrument. Absent this requirement, a reporting entity could retroactively identify hedged items, transactions, or methods of measuring effectiveness to achieve a desired accounting result.
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