includes specific scenarios when a debt security may be classified as held to maturity (or when sale or transfer of a held-to-maturity security will not call into question an investor’s stated intent to hold other debt securities to maturity in the future).
Specific scenarios in which a debt security may be classified as held to maturity (or where sale or transfer of a held-to-maturity security will not call into question an investor’s stated intent to hold other debt securities to maturity in the future) are as follows:
a. Although its asset-liability management may encompass consideration of the maturity and repricing characteristics of all investments in debt securities, an entity may decide that it can accomplish the necessary adjustments under its asset-liability management without having all of its debt securities available for disposition. In that case, the entity may choose to designate certain debt securities as unavailable to be sold to accomplish those ongoing adjustments deemed necessary under its asset-liability management, thereby enabling those debt securities to be accounted for at amortized cost on the basis of a positive intent and ability to hold them to maturity.
b. The sale of one or more held-to-maturity securities if an entity chooses to downsize to comply with a significant increase in the industry’s capital requirements would not call into question the classification of other held-to-maturity securities.
c. In some circumstances it may not be possible to hold a security to its original stated maturity, such as when the security is called by the issuer before maturity. The issuer’s exercise of the call option effectively accelerates the security’s maturity and shall not be viewed as inconsistent with classification in the held-to-maturity category.
d. A puttable debt security shall be classified as held-to-maturity only if the entity has the positive intent and ability to hold it to maturity.
e. If a transfer of a held-to-maturity debt security is accounted for as a sale under Subtopic 860-20
and it is transferred for a reason other than those specified in paragraphs 320-10-25-6
, and 320-10-25-14
, then the transfer would taint the held-to-maturity portfolio. However, if the transfer is accounted for as a secured borrowing, then the transfer would not taint the held-to-maturity portfolio. Transactions involving held-to-maturity securities that are not accounted for as sales under Subtopic 860-20
would not contradict an entity’s stated intent to hold a security to maturity and, therefore, do not call into question the entity’s intent to hold other debt securities to maturity. Examples of such transactions are as follows:
1. Held-to-maturity securities pledged as collateral, provided that the transaction is not accounted for as a sale under Subtopic 860-20
and the entity intends and expects to be able to satisfy the obligation and recover access to its collateral
2. Held-to-maturity securities subject to a repurchase agreement or a securities lending agreement, provided that the transaction is accounted for as a secured borrowing under Subtopic 860-20
and the entity intends and expects to be able to repay the borrowing
3. Beneficial interests classified as held-to-maturity that are desecuritized in a transaction that is not accounted for as a sale if the financial assets received in or that continue to be held after the desecuritization are held to maturity. Unless the debt instrument received or retained as a result of the transaction is held to maturity, the transaction would call into question the entity’s intent to hold other debt securities to maturity. Desecuritizations are not specifically included within the scope of this paragraph. Nevertheless, that guidance is also appropriate for desecuritizations that are not accounted for as sales.
Question LI 3-10
Can a puttable debt security be classified as held to maturity?
If the terms of a puttable debt security require an investor to surrender the security in exchange for cash upon exercise of its put option (as is typically the case), the puttable security may be classified as held to maturity only if the investor has the positive intent and ability to hold it to maturity (i.e., does not expect to exercise the put option prior to maturity). If a put option can be net cash-settled (i.e., the issuer simply pays the investor the difference between the face amount of the debt and the put price), exercise of the put option would not represent a contradiction to the investor’s stated intent, as long as it continues to hold the debt instrument after the option is exercised. The cash-settled put option in this example is a freestanding financial instrument because the debt instrument continues to exist after the put option is exercised. Consideration should be given to whether the put option is required to be accounted for under the derivatives guidance in ASC 815
Question LI 3-11
Can a callable debt security be classified as held to maturity?
Yes. A callable debt security can be classified as held to maturity. The issuer’s exercise of the call option is considered an effective acceleration of the security’s maturity. Provided a reporting entity has the positive intent and ability to hold a callable debt security to maturity or until the issuer exercises its call option, it may classify the security as held to maturity. However, if a reporting entity intends to sell a callable debt security if the issuer does not exercise its call option, classification as held to maturity would be precluded.
Question LI 3-12
Does a reporting entity’s acceptance of a tender offer for a held-to-maturity security call into question its intent and ability to hold securities to maturity?
Yes. A tender offer is an offer by an issuer or another bidder to purchase its securities directly from investors. It is usually at a premium and for cash. The investor may choose whether to accept the offer. A tender offer is not the same as a callable debt security in which the investor is obligated to sell the security. An investor’s acceptance of the tender offer is equivalent to a sale of the security, which will call into question the reporting entity’s classification of the investment.
However, if the investor is required to sell the security due to a “squeeze out merger” (i.e., the investor is forced to tender the security), that disposition would not taint the reporting entity’s held-to-maturity assertion.
Question LI 3-13
Can transferred debt securities subject to a repurchase agreement be accounted for as held-to-maturity securities if the reporting entity (transferor) concludes that the transfer and repurchase agreement should be accounted for as a secured financing based on the guidance in ASC 860
Yes. Debt securities subject to a repurchase agreement that are not accounted for as a sale of assets may be accounted for as held-to-maturity securities provided the reporting entity has the positive intent and ability to hold those securities to maturity. The ability to hold the securities to maturity is predicated upon the reporting entity’s expectation that it can repay the borrowing, as discussed in ASC 320-10-25-18
For accounting purposes, debt securities subject to repurchase agreements that are not accounted for as sales are considered to be collateral that is pledged to secure a loan (i.e., the proceeds received from the transfer of the securities). Refer to PwC’s Transfers and servicing of financial assets
guide for further information.
Question LI 3-14
Does an intercompany sale of held-to-maturity securities between subsidiaries call into question the held-to-maturity classification in the consolidated financial statements?
No, an intercompany sale of a held-to-maturity security between subsidiaries does not call into question the held-to-maturity classification in the consolidated financial statements. However, if a subsidiary that has an intercompany sale of a held-to-maturity security (that qualifies as a sale under ASC 860
) prepares stand-alone financial statements, the intercompany sale would call into question that subsidiary’s intent or ability to hold other debt securities to maturity.
Convertible debt securities
Convertible debt securities are debt instruments that either require or permit the investor to convert the instrument into equity shares of the issuer. Investors typically accept a lower stated interest rate on convertible debt securities in exchange for the right to participate in the potential appreciation of the underlying equity shares. For purposes of ASC 320
, a convertible debt security is a debt security. The conversion option should be evaluated under ASC 815
to determine if it is an embedded derivative that should be accounted for separate from the host debt instrument. See DH 4.2.1
for guidance on identifying embedded derivatives.
If a convertible debt security is separated into a conversion option and a host debt instrument by the investor based on the guidance in ASC 815
, the host debt instrument should be accounted for under ASC 320
. When the debt security is converted into equity shares, the shares must be measured in accordance with ASC 321
subsequent to the conversion. Refer to LI 2
for additional information.
Because a convertible debt security is often purchased with the intent to convert the security into equity shares, it should be carried on the balance sheet at fair value and not at amortized cost. Given the unique opportunities for profit embedded in a convertible security in exchange for a lower interest rate, it is generally contradictory to assert the positive intent and ability to hold a convertible debt security to maturity and forego the opportunity to exercise the conversion feature. Therefore, a convertible debt security cannot be classified as held to maturity.
Question LI 3-15
If a reporting entity holds a convertible debt security in which it is required to separate the embedded conversion option from the debt host under ASC 815
, can it elect to classify the host debt instrument as a held-to-maturity security?
No. The exercise of the option by the reporting entity would require it to tender the host debt instrument upon exercise of the option. This would be inconsistent with the entity’s assertion that it has the intent and ability to hold the convertible debt security to maturity.