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ASC 848 provides a number of optional expedients for cash flow hedging relationships affected by reference rate reform, as well as guidance on assessing probability when the forecasted transaction will be affected by reference rate reform.
3.3.1 Probability of the forecasted transaction
In order to apply cash flow hedging, entities are required to document the forecasted transaction in a cash flow hedge and to support that the documented forecasted transaction remains probable of occurring throughout the life of the hedge relationship (see DH 6.3.3.4). Additionally, a change in the probability of a forecasted transaction may require that a reporting entity discontinue hedge accounting and may affect the timing of recognizing amounts deferred in accumulated other comprehensive income in earnings. To alleviate stakeholder concerns over how meeting these requirements might be affected by reference rate reform, ASC 848 provides an optional expedient on how to evaluate probability when the forecasted transaction references LIBOR or another reference rate expected to be discontinued.
When the designated hedged risk in a cash flow hedge of a forecasted transaction is LIBOR, or another reference rate expected to be discontinued, ASC 848-50-25-2 allows a reporting entity to assert that the hedged forecasted transaction remains probable of occurring regardless of a modification or expected modification that:
  • directly replaces or has the potential to replace a reference rate within the scope of ASC 848-10-15-3 with a different interest rate index, and
  • does not modify a term that changes, or has the potential to change, the amount and timing of cash flows unrelated to the replacement of a reference rate (see ASC 848-20-15-2 through ASC 848-20-15-3).
That is, when a reporting entity modifies, or expects to modify, contractual terms that are related to the replacement of a reference rate in accordance with ASC 848, a reporting entity may continue to assert that the forecasted transaction (documented as the reference rate that will be replaced) continues to be probable of occurring (i.e., the hedge is not discontinued). The ability to continue to assess the forecasted transaction as probable of occurring applies when the change in contractual terms is expected to replace the reference rate (i.e., the rate designated in the cash flow hedge) with another reference rate. It would not, however, apply in circumstances when the underlying transaction (e.g., the forecasted interest payments) was probable of not occurring (e.g., a reporting entity expects to pay off its debt). This relief is limited to forecasted transactions involving LIBOR or another reference rate that is expected to be discontinued. Once a reporting entity has modified the hedged item or the hedge documentation such that the forecasted transaction no longer references LIBOR or another reference rate that is expected to be discontinued, the relief provided by ASC 848 relating to probability is no longer applicable.
3.3.2 Change in the forecasted transaction
ASC 848-30-25-5 permits a reporting entity, under certain circumstances, to change the forecasted transaction. For example, a reporting entity may be able to change a forecasted transaction from a hedge of quarterly three-month LIBOR payments to monthly payments based on overnight SOFR.

ASC 848-30-25-5

An entity may change the contractual terms of a hedging instrument, a hedged item, or a forecasted transaction designated in a fair value hedge, a cash flow hedge, or a net investment hedge that is affected or expected to be affected by reference rate reform and not be required to dedesignate the hedging relationship if the changes to the contractual terms meet the scope of paragraphs 848-20-15-2 through 15-3.

3.3.3 Change in the designated hedged risk
ASC 815-30-35-37A indicates that the designated hedged risk for a cash flow hedge of a forecasted transaction may change during a hedging relationship and a reporting entity may continue to apply hedge accounting if the hedge remains highly effective. ASC 848 expands how a reporting entity can evaluate whether a cash flow hedge relationship affected by reference rate reform remains highly effective. Specifically, upon a change in the designated hedge risk on a hedge impacted by reference rate reform (e.g., replacing LIBOR with SOFR), ASC 848 provides that an existing cash flow hedge relationship may continue hedge accounting subject to the hedging relationship remaining highly effective (ASC 848-50-25-3) based upon a reporting entity:
  • assessing hedge effectiveness in accordance with ASC 815-20 and ASC 815-30, or
  • electing an optional expedient method to assess hedge effectiveness in accordance with ASC 848-50.
3.3.3.1 Benchmark rate of a forecasted debt issuance or purchase
When hedging the forecasted issuance or purchase of fixed-rate debt, ASC 815-20-25-19A(a) and ASC 815-20-25-19B require that the reporting entity must designate the variability in cash flows attributable to changes in the benchmark interest rate as the hedged risk. ASC 848-50-25-3 states that if the hedging instrument references LIBOR or another rate expected to be discontinued due to reference rate reform (see ASC 848-10-15-3) and the referenced interest rate index changes (or a reporting entity changes the designated hedging instrument by combining two or more derivatives) in a hedge of a forecasted issuance or purchase of fixed rate debt, a reporting entity may change the benchmark interest rate being hedged as long as:
  • the replacement designated benchmark interest rate is an eligible benchmark rate in accordance with ASC 815-20-25-6A, and
  • the hedging relationship remains highly effective in accordance with ASC 815-20 or ASC 815-30.

If the reporting entity does not know at the inception of the hedging relationship whether the debt instrument that will be issued or purchased will be fixed rate or variable rate, this guidance also applies.
3.3.4 Hedging a group of forecasted transactions
When hedging a group of forecasted transactions, ASC 815-20-25-15(a)(2) requires that the individual transactions in the group share the same risk exposure. However, if the group of forecasted transactions references LIBOR or another reference rate expected to be discontinued due to reference rate reform, a reporting entity may elect to disregard that guidance based on the guidance in ASC 848-50-25-13 through ASC 848-50-25-14. However, the requirement prohibiting a forecasted purchase and a forecasted sale from both being included in a group continues to apply. As a result, forecasted interest receipts and forecasted interest payments are not permitted to be included in the same group, even if a reporting entity elects this optional relief.
3.3.5 Changing the designated method of assessing effectiveness
A reporting entity may elect to change the method designated for use in assessing hedge effectiveness in a cash flow hedge (ASC 848-50-35-1 through ASC 848-50-35-3) if both of the following criteria in ASC 848-30-25-8 are met:
  • Either the hedging instrument or the hedged forecasted transaction (but not both) references LIBOR or a reference rate expected to be discontinued due to reference rate reform.
  • The new designated method of assessing hedge effectiveness is an optional expedient specified in ASC 848-50 (see REF 3.3.6).

For a cash flow hedge with a hedging instrument that meets the scope of ASC 848-10-15-3A, a reporting entity that was previously using a subsequent effectiveness method that assumed perfect effectiveness at the time of the election of the optional expedient may (1) apply the corresponding available optional expedients for the subsequent assessment method for assuming perfect effectiveness in accordance with ASC 848-50-35-4 through ASC 848-50-35-9, or (2) switch to using a quantitative measure of assessing effectiveness in accordance with ASC 815-20 and ASC 815-30 after the election.
If a reporting entity applies this optional expedient and changes its method of assessing effectiveness, the replacement method is not required to be assessed to determine whether it is an improved method or if it is considered a preferable method.
Upon electing an optional expedient method, reporting entities are required to assess effectiveness using the newly designated method prospectively from the date in which the optional expedient method is elected to determine whether hedge accounting may continue to be applied. After the date on which the optional expedient is first applied (assuming the hedging relationship was highly effective), both retrospective and prospective hedge effectiveness need to be assessed using the optional expedient method.
3.3.6 Optional expedients—initial and subsequent hedge effectiveness
A reporting entity may perform its initial and subsequent hedge effectiveness assessment in a manner that adjusts how it applies certain guidance in ASC 815-20 and ASC 815-30 for cash flow hedges in which the hedged forecasted transaction or hedging instrument references LIBOR or a reference rate expected to be discontinued due to reference rate reform.
See REF 3.3.6.1 through REF 3.3.6.8 for the optional expedients for assessing initial and subsequent hedge effectiveness under ASC 848.
3.3.6.1 Applying the shortcut method (cash flow hedge)
ASC 815 provides a list of criteria that must be met in order to assume perfect hedge effectiveness in a cash flow hedge with an interest rate swap, which is referred to as the shortcut method (see DH 9.4). Under ASC 848, a reporting entity may elect to disregard the items in ASC 848-50-25-6 (and repeated in ASC 848-50-35-5 for subsequent assessments) when assessing whether the shortcut method can be applied. In order to be eligible for this expedient, the hedged forecasted transaction or hedging instrument must reference LIBOR or a reference rate expected to be discontinued due to reference rate reform.

Excerpt from ASC 848-50-25-6 and ASC 848-50-35-5

  1. the formula for computing net settlements under the interest rate swap is the same for each net settlement in accordance with paragraph 815-20-25-104(d).
  2. the terms are typical of those derivative instruments and do not invalidate the assumption of perfect effectiveness in accordance with paragraph 815-20-25-104(g).
  3. the repricing dates of the variable-rate asset or variable-rate liability and the hedging instrument must occur on the same dates and be calculated the same way in accordance with paragraph 815-20-25-106(d).
  4. the index on which the variable leg of the interest rate swap is based matches the contractually specified interest rate designated as the interest rate being hedged for that hedging relationship in accordance with paragraph 815-20-25-106(g).

3.3.6.2 Option’s terminal value (assuming perfect effectiveness)
When hedge effectiveness is based on an option’s terminal value, ASC 848 permits a reporting entity to disregard the criteria in ASC 848-50-25-7 (repeated in ASC 848-50-35-6 for subsequent assessments) when determining whether a hedging relationship is considered perfectly effective under ASC 815-20-25-126 through ASC 815-20-25-129A. In order to be eligible for this expedient, the hedged forecasted transaction or hedging instrument must reference LIBOR or a reference rate expected to be discontinued due to reference rate reform.

Excerpt from ASC 848-50-25-7 and ASC 848-50-35-6

  1. The underlying of the hedging instrument needs to match the underlying of the hedged forecasted transaction in accordance with paragraph 815-20-25-129(a).
  2. The strike price (or prices) of the hedging option (or combination of options) matches the specified level (or levels) beyond (or within) which the entity’s exposure is being hedged in accordance with paragraph 815-20-25-129(b).
  3. The hedging instrument’s inflows (outflows) at its maturity date due to the underlying reference rate and strike price (or prices) of the hedging option (or combination of options) completely offset the change in the hedged transaction’s cash flows for the risk being hedged in accordance with paragraph 815-20-25-129(c).

See DH 9.6 for further details on the terminal value method of assessing hedge effectiveness for options.
3.3.6.3 Option’s terminal value (not considered perfectly effective)
When hedge effectiveness is based upon an option’s terminal value but is not considered perfectly effective, a reporting entity may adjust the critical terms of the perfectly hypothetical hedging instrument in ASC 848-50-25-12 (repeated in ASC 848-50-35-18 for subsequent assessments) to match the hedging instrument. In order to be eligible for this expedient, the hedged forecasted transaction or hedging instrument must reference LIBOR or a reference rate expected to be discontinued due to reference rate reform.

Excerpt from ASC 848-50-25-12 and ASC 848-50-35-18

  1. The underlying reference rate
  2. The strike price (or prices) of the hedging option (or combination of options)
  3. The hedging instrument’s inflows (outflows) at its maturity date due to the underlying reference rate and strike price (or prices) of the hedging option (or combination of options).

In effect, the guidance permits a reporting entity to assume that certain attributes of the forecasted transaction are different than they may be for purposes of assessing hedge effectiveness.
3.3.6.4 Change-in-variable-cash-flows (assuming perfect effectiveness)
When applying the change-in-variable-cash-flows method in ASC 815, a reporting entity may disregard the terms in ASC 848-50-25-9 (repeated in ASC 848-50-35-8 for subsequent assessments) when assessing whether the hedge is perfectly effective in accordance with ASC 815-30-35-22. In order to be eligible for this expedient, the hedged forecasted transaction or hedging instrument must reference LIBOR or a reference rate expected to be discontinued due to reference rate reform.

Excerpt from ASC 848-50-25-9 and ASC 848-50-35-8

  1. The variable-rate leg of the interest rate swap and the hedged variable cash flows of the asset or liability are based on the same interest rate index in accordance with paragraph 815-30-35-22(a).
  2. The interest rate reset dates applicable to the variable-rate leg of the interest rate swap and to the hedged variable cash flows of the asset or liability are the same in accordance with paragraph 815-30-35-22(b).

A reporting entity may also disregard the guidance in ASC 815-30-35-22(c), which addresses other potential basis differences (e.g., caps or floors) that would preclude a hedge from being perfectly effective, when applying ASC 848 if the basis differences are due to differences in a cap or floor between the variable-rate leg of the interest rate swap and the variable-rate asset or liability.
See REF 3.3.6.6 for the application of the change-in-variable-cash-flow method when the hedge is not considered perfectly effective.
3.3.6.5 Hypothetical derivative (assuming perfect effectiveness)
When applying the hypothetical derivative method in accordance with ASC 815-30-35-25 through ASC 815-30-35-29, a reporting entity may elect to disregard the critical terms detailed in ASC 848-50-25-10 (repeated in ASC 848-50-35-9 for subsequent assessments) when determining whether the hypothetical derivative will result in a perfectly effective hedge. In order to be eligible for this expedient, the hedged forecasted transaction or hedging instrument must reference LIBOR or a reference rate expected to be discontinued due to reference rate reform.

Excerpt from ASC 848-50-25-10 and ASC 848-50-35-9

  1. The same repricing dates in accordance with paragraph 815-30-35-25(b)(2)
  2. The same index in accordance with paragraph 815-30-35-25(b)(3)
  3. Mirror image caps and floors (including a cap or floor that exists in a variable-rate asset or a variable-rate liability and does not exist in a hedging instrument or vice versa) in accordance with paragraph 815-30-35-25(b)(4).

See REF 3.3.6.6 for the application of the hypothetical derivative method when the hedge is not considered perfectly effective.
3.3.6.6 Applying a quantitative assessment method of effectiveness
When assessing hedge effectiveness quantitatively, a reporting entity may elect to make certain adjustments when applying the (1) change-in-variable-cash-flows method, (2) the hypothetical derivative method, or (3) the change-in-fair-value method. In applying these methods:
  • If both the hedged forecasted transaction and the hedging instrument reference LIBOR or another reference rate expected to be discontinued due to reference rate reform (see ASC 848-10-15-3), a reporting entity may assume the reference rates will not change for the remainder of the hedging relationship. This might be applied in situations when neither the hedged item nor the hedging instrument have been amended as a result of reference rate reform.
  • In a cash flow hedge of a forecasted purchase, sale, or issuance of a fixed-rate instrument, if (1) the designated hedged interest rate risk is the benchmark interest rate and (2) the hedging instrument has a reference rate that meets the scope of ASC 848-10-15-3, a reporting entity may assume the reference rates will not change for the remainder of the hedging relationship.
  • If either the hedged forecasted transaction or the hedging instrument references LIBOR or another reference rate expected to be discontinued due to reference rate reform, the terms of the hedged forecasted transaction may be altered to match the hedging instrument for the terms detailed in ASC 848-50-25-11 (repeated in ASC 848-50-35-17).

Excerpt from ASC 848-50-25-11 and ASC 848-50-35-17

  1. The referenced interest rate index,
  2. The reset period, reset dates, day-count conventions, business-day conventions, and repricing calculation (for example, forward-looking calculation or in-arrears calculation), and
  3. A spread adjustment for the difference between the existing reference rate and the replacement reference rate.
  4. A cap or floor (including a cap or floor that exists in a variable-rate asset or a variable-rate liability and does not exist in a hedging instrument or vice versa).

This might be applied if, for example, the referenced rate of the hedging instrument has been replaced, but the referenced rate of the hedged item has not yet been modified.
3.3.6.7 Applying a qualitative assessment method of effectiveness
ASC 848 provides an optional expedient when qualitatively assessing whether a hedging relationship is highly effective in periods subsequent to initial designation (i.e., after the initial hedge effectiveness assessment is performed applying ASC 815-20, ASC 815-30, or an optional expedient under ASC 848). A reporting entity may elect to disregard the guidance in ASC 815-20-35-2A through ASC 815-20-35-2F when assessing whether a cash flow hedging relationship is highly effective on a qualitative basis.
Under the optional expedient in ASC 848-50-35-10, a reporting entity may continue to assert qualitatively that it may continue to apply hedge accounting if the following criteria in ASC 848-50-35-11 are met:
  • The hedged forecasted transaction or the hedging instrument references a rate that meets the scope of ASC 848-10-15-3 (i.e., it references LIBOR or a reference rate that is expected to be discontinued as a result of reference rate reform).
  • There have been no changes to the terms of the hedging instrument or the forecasted transaction other than those specified in ASC 848-20-15-2 through ASC 848-20-15-3 (i.e., the only modifications made are to directly replace or have the potential to replace a reference rate (see REF 1.3.1.1)).
  • A reporting entity considers the likelihood of the counterparty’s compliance with the contractual terms of the hedging derivative that require the counterparty to make payments to the reporting entity.
If a qualitative assessment of effectiveness is applied, the reporting entity should verify and document whenever financial statements (or earnings) are reported, and at least every three months, that the facts and circumstances have not changed and that these criteria continue to be met. If the facts and circumstances have not changed and these criteria continue to be met, a reporting entity may continue to qualitatively assert that the hedging relationship continues to qualify for hedge accounting.
If the facts and circumstances have changed such that these criteria are no longer met, the reporting entity can no longer assert qualitatively that the hedging relationship continues to qualify for hedge accounting, the reporting entity should perform an assessment of effectiveness on a quantitative basis in accordance with ASC 815-20, ASC 815-30, or a quantitative optional expedient within ASC 848 (if eligible). A reporting entity may apply a method other than the method designated for use and documented at hedge inception but must update its hedge documentation as discussed in ASC 848-30-25-4.
If the date of the change in facts and circumstances that led to the criteria no longer being met cannot be identified, the reporting entity may begin performing their quantitative assessment from the beginning of the current period. Once a reporting entity has performed a quantitative assessment using an optional expedient for at least one period, the reporting entity may revert to a qualitative optional expedient assessment under ASC 848-50 if they qualify to do so.
Examples REF 3-3, REF 3-4, and REF 3-5 illustrate how to apply the various optional expedients within ASC 848 for a cash flow hedging relationship throughout the relief period.
EXAMPLE REF 3-3
Cash flow hedge applying the ASC 848 relief
On January 1, 20X1, Company A issues a five-year floating rate debt instrument that pays quarterly interest payments at USD LIBOR with no additional spread. Company A wants to hedge the variability in interest payments of the debt instrument due to the contractually specified USD LIBOR rate. Company A enters into a fixed-to-float interest rate swap with a maturity of five years where Company A will receive USD LIBOR and pay a fixed rate of 3%. The interest rate swap also pays quarterly interest. Company A designates this swap as a hedging instrument to hedge the variability of the forecasted interest payments due to changes in the contractually specified rate, which is LIBOR. Company A uses the hypothetical derivative method to assess effectiveness and determines that the terms of the hypothetical derivative exactly match the terms of the actual hedging instrument. As a result, Company A applies the guidance in ASC 815-20-25-3(b)(2)(iv)(01)(F), and qualitatively assesses that the hedge relationship is perfectly effective.
On December 31, 20X1, Company A becomes aware that USD LIBOR will be discontinued on June 30, 20X3 and that the hedge relationship is expected to be affected by reference rate reform since the forecasted interest payments on the debt and the interest rate swap continue through January 1, 20X6. However, as of December 31, 20X1, Company A has not yet modified the debt instrument or the interest rate swap, so both instruments continue to reference LIBOR.
Could Company A continue hedge accounting for its cash flow hedge relationship without dedesignating?
Analysis
Yes, Company A may utilize optional expedients within ASC 848 to continue hedge accounting.
Company A must first determine whether it is within the scope of ASC 848. ASC 848-30-15-1 notes that the scope of reference rate reform relief includes hedge relationships if the hedging instrument, the hedged item, or the hedged forecasted transaction in that hedge relationship references a rate that meets the scope of ASC 848-10-15-3. ASC 848-10-15-3 specifically notes that LIBOR is a reference rate expected to be discontinued that is within its scope. Therefore, Company A would be eligible to apply certain aspects of the relief within ASC 848 to this hedge relationship.
One of the requirements to hedge forecasted transactions in ASC 815, such as forecasted interest payments on an existing liability, is that the reporting entity must be able to assert that the forecasted transactions remain probable of occurring. In this hedge relationship, the forecasted transactions are the quarterly LIBOR payments through January 1, 20X6. Since Company A will not be making LIBOR payments past June 30, 20X3 due to LIBOR being discontinued on that date (and may cease sooner if the contract is modified), it would benefit from the relief provided by ASC 848.
Company A therefore could elect to apply the optional expedient within ASC 848-50-25-2 in which it could assert that the hedged forecasted transaction remains probable in accordance with ASC 815-20-25-15(b). To be eligible for this relief, Company A must conclude that any future modifications to the forecasted transaction will meet the contract modification relief under ASC 848-20-15-2 and ASC 848-20-15-3. The ability to adopt provisions of ASC 848 for hedge accounting relief prior to any modifications being made to the hedged item, hedging instrument, or forecasted transaction is unique to cash flow hedging relationships.
EXAMPLE REF 3-4
Cash flow hedge applying the ASC 848 relief
Assume the same facts as Example REF 3-3. In December 20X2, Company A modifies its interest rate swap to replace the floating leg of the swap with SOFR. However, as of December 31, 20X2, the debt instrument continues to reference LIBOR. It is expected that contractual fallback language that was included in the debt when it was issued will cause the interest rate on the debt to change to SOFR on June 30, 20X3.
Would Company A need to dedesignate its hedge relationship or could it adopt the provisions of ASC 848 to continue its hedge relationship?
Analysis
Company A may utilize certain provision within ASC 848 to continue its hedge relationship.
Company A has changed the critical terms of the hedge relationship by changing the contractual provisions of the hedging instrument (the interest rate swap). Under ASC 815, a change in the critical terms of a hedge relationship would require the hedge relationship to be dedesignated. However, ASC 848-30-25-3 provides an optional expedient that allows a reporting entity to change the critical terms of a hedge relationship and not dedesignate the hedge relationship if the only change in critical terms is due to reference rate reform. Since the only amendment Company A has made to the critical terms of the hedging instrument is to change the floating leg of the swap from LIBOR to SOFR, Company A would not be required to dedesignate the hedge relationship if Company A adopts the optional expedient in ASC 848-30-25-3. In accordance with ASC 848-30-25-4, Company A must update its hedge documentation for the change by the time it performs its next assessment of effectiveness. Assuming Company A performs its effectiveness assessment at quarter end, it would need to update its hedge documentation for the change by December 31, 20X2. Company A would also be allowed to continue to apply the probability of a forecasted transaction relief described in Example REF 3-4 since the hedged forecasted transaction remains LIBOR.
Company A must also now perform its effectiveness assessment as of December 31, 20X2 and notes that the floating rate of the hedging instrument (SOFR) no longer references the same rate as the hedged item (LIBOR). However, ASC 848 provides for an additional optional expedient in assessing hedge effectiveness. Since Company A uses the hypothetical derivative method to assess effectiveness, ASC 848-50-35-9 provides an optional expedient that a reporting entity may disregard the following critical terms in assessing whether the method will result in a perfectly effective hedge:
  • The same repricing dates in accordance with ASC 815-30-35- 25(b)(2)
  • The same index in accordance with ASC 815-30-35-25(b)(3)
  • Mirror image caps and floors (including a cap or floor that exists in a variable-rate asset or a variable-rate liability and does not exist in a hedging instrument or vice versa) in accordance with ASC 815-30- 35-25(b)(4)

While the hedging instrument and the hedged risk no longer reference the same index, the optional relief of ASC 848 allows Company A to disregard the criteria in ASC 815-30-35-25(b)(3) and continue to assert that the hedge is perfectly effective under the hypothetical derivative method. Company A elects to use this practical expedient and updates its hedge documentation.
EXAMPLE REF 3-5
Cash flow hedge applying the ASC 848 relief
Assume the same facts as Examples REF 3-3 and REF 3-4. On June 30, 20X3, the debt instrument issued by Company A switches from referencing LIBOR to referencing SOFR as a result of fallback language that was included in the debt agreement. The hedging instrument remains a receive SOFR, pay fixed rate interest rate swap.
How should Company A consider the guidance in ASC 848 for the hedge relationship?
Analysis
ASC 848 provides several optional expedients that Company A can utilize when the contractually specified interest rate being hedged in a cash flow hedge is modified due to reference rate reform.
ASC 848-30-25-3 provides an optional expedient that allows a reporting entity to change the critical terms of a hedge relationship and not dedesignate the hedge relationship if the change in critical terms was due to reference rate reform. Since the contractual cash flows of the hedged item changed due to reference rate reform, Company A elects to apply this relief and the change in the critical terms of the hedge relationship would not require dedesignation. In accordance with ASC 848-30-25-4, Company A should update its hedge documentation to reflect the updated hedged risk, which would now be the changes in cash flows of the quarterly SOFR interest payments due to changes in SOFR.
However, since the hedged risk is now SOFR and the hedging instrument references SOFR, the hedge relationship no longer is affected by (or expected to be affected by) reference rate reform. As a result, the hedge relationship no longer qualifies for the relief in ASC 848. ASC 848-50-35-19 notes that a reporting entity shall discontinue the use of the optional expedients for assessing cash flow hedge effectiveness in ASC 848-50-35-1 through ASC 848-50-35-18 if neither the hedged item nor the hedging instrument references a rate that meets the scope of paragraph ASC 848-10-15-3. Therefore, in order to assess effectiveness as of June 30, 20X3, Company A must follow the requirements of ASC 815. The updated hedge relationship (hedging the variability in cash flows due to changes in the contractually specified SOFR rate using a SOFR-based interest rate swap) must be deemed to be highly effective under the requirements of ASC 815 to continue as a hedge relationship. As permitted by ASC 848-50-35-20, Company A may choose any method to assess effectiveness upon leaving the ASC 848 relief. However, the method chosen to be used as of June 30, 20X3 (in this example) must be utilized for the remainder of the hedge relationship. In addition, Company A is no longer eligible to apply the relief on assessing the probability discussed in Example REF 3-3 and Example REF 3-4.
Company A chooses to continue applying the hypothetical derivative method. However, due to the fact that different SOFR products might have varying calculation methodologies, the terms of the hypothetical derivative may no longer exactly match the terms of the actual hedging instrument. In that scenario Company A would need to quantitatively assess effectiveness using the hypothetical derivative method. Refer to REF 3.4.2.1 for further discussion on creating the hypothetical derivative upon exiting the ASC 848 relief.

3.3.6.8 Applying simplified hedge account approach
For certain entities (e.g., private companies other than financial institutions) that are able to apply ASC 815-20-25-135, the criteria in ASC 848-50-25-8 (repeated in ASC 848-50-35-7) may be disregarded in determining whether a cash flow hedge of a variable rate borrowing with a receive-variable pay-fixed interest rate swap using the simplified hedge accounting approach (see DH 11.2) may be considered perfectly effective in accordance with ASC 815-20-25-133 through ASC 815-20-25-138. This guidance may be applied if either the hedging instrument or the hedged forecasted transaction references LIBOR or reference rate expected to be discontinued due to reference rate reform.

Excerpt from ASC 848-50-25-8 and ASC 848-50-35-7

  1. Both the variable rate on the swap and the borrowing are based on the same index and reset period in accordance with paragraph 815-20-25-137(a).
  2. The terms of the swap are typical in accordance with paragraph 815-20-25-137(b).
  3. The repricing and settlement dates for the swap and the borrowing match in accordance with paragraph 815-20-25-137(c).

3.3.7 Adjusting AOCI – the discounting transition
ASC 848-30-25-11C provides an optional expedient for a cash flow hedge to allow a reporting entity to adjust accumulated other comprehensive income for the amount of cash compensation paid or received related to the change in the interest rate used for margining, discounting, or contract price alignment using a reasonable approach. A reporting entity should use a similar method for similar hedges. If different approaches for similar hedges are used, the reporting entity must justify its rationale.
3.3.8 Hedging forecasted transactions – impact to AOCI
As discussed throughout this chapter, under certain circumstances, ASC 848 allows a reporting entity to update its hedge documentation following a change to the critical terms of that hedge relationship without dedesignating the hedge. For example, a reporting entity may change the forecasted transaction and the designated hedge risk from quarterly LIBOR payments to monthly payments based on overnight SOFR. This ability to update the hedge documentation also affects when a reporting entity may be required to reclassify amounts in AOCI related to that hedge relationship into earnings. These amounts are reclassified from AOCI to earnings based on the hedge documentation. As a result, if the hedge documentation is updated through the application of ASC 848, then reclassification of amounts from AOCI to earnings will be determined based on the updated hedge documentation.
ASC 815 states that amounts in AOCI should be reclassified immediately into earnings if a hedged forecasted transaction in a cash flow hedging relationship is probable of not occurring. Even if a hedge relationship is dedesignated, if the previously hedged forecasted transaction is not probable of not occurring, amounts in AOCI relating to that now dedesignated hedge relationship should continue to be reclassified into earnings as the forecasted transaction impacts earnings.
Questions may arise as to when amounts in AOCI need to be recognized in earnings when hedge relationships are modified due to reference rate reform. This may also include scenarios in which a hedged item or hedged forecasted transaction in a hedge relationship that was previously terminated/dedesignated is now being modified due to reference rate reform.
Examples REF 3-6, REF 3-7, REF 3-8, and REF 3-9 illustrate different scenarios involving active and dedesignated cash flow hedges of forecasted transactions that are modified due to reference rate reform and the impact to amounts in AOCI.
EXAMPLE REF 3-6
Cash flow hedge of a forecasted transaction where the hedged item is modified for changes both related and unrelated to reference rate reform
On January 1, 20X1, Company A issues a five-year floating rate debt instrument (Debt ABC) that pays quarterly interest at USD LIBOR with no additional spread. Company A wants to hedge the variability in interest payments of Debt ABC due to the contractually specified USD LIBOR rate. Company A enters into a fixed-to-float interest rate swap with a maturity of five years where Company A will receive USD LIBOR and pay a fixed rate of 3%. The interest rate swap also pays quarterly interest. Company A designates this swap as a hedging instrument to hedge the variability of the forecasted interest payments due to changes in the contractually specified rate, which is LIBOR. Company A states within its hedge documentation that it is hedging quarterly LIBOR-based payments based on the contractual payments from Debt ABC. Company A elects to apply the guidance in ASC 848-50-25-2 permitting it to continue to assert that Company A would make LIBOR-based interest payments on Debt ABC. The hedge documentation does not refer to any replacement debt; it is specific to interest payments required by a specific debt instrument.
In early 20X2, Company A negotiates with Debt ABC’s counterparty to amend the terms of Debt ABC. The modification to the terms of the debt includes replacing the quarterly USD LIBOR payments with monthly payments based on overnight SOFR in arrears and extending the maturity of the debt by one year (so that it would mature on January 1, 20X7 instead of January 1, 20X6).
Can Company A utilize the optional expedients in ASC 848 to change the critical terms of the hedge relationship and amend the hedge documentation without dedesignating the hedge relationship? Additionally, should Company A immediately reclassify amounts in AOCI related to the hedge relationship into earnings due to a hedged forecasted transaction being probable of not occurring?
Analysis
We believe Company A would not be eligible for the optional expedients in ASC 848 and would have to dedesignate its hedge relationship and immediately reclassify amounts in AOCI relating to this hedge relationship into earnings upon modification of Debt ABC.
ASC 848-30-25-5 states a reporting entity may change the contractual terms of a hedge relationship including a forecasted transaction without dedesignating the hedge relationship if the changes to the contractual terms meet the scope of ASC 848-20-15-2 and ASC 848-20-15-3. Additionally, ASC 848-50-25-3 permits a reporting entity to change the designated hedged interest rate risk in connection with reference rate reform. However, ASC 848-20-15-3 states that the relief in ASC 848 does not apply to contract modifications that include changes unrelated to reference rate reform, and if made contemporaneously with changes related to reference rate reform, the entire modification is not within the scope of ASC 848. One of the examples provided by ASC 848 of a change unrelated to reference rate reform is a change to the maturity date.
Since Company A’s hedge documentation is specific that it is hedging three-month LIBOR-based payments to be made on a specific debt instrument (Debt ABC), we believe the hedged forecasted transaction is solely linked to the Debt ABC contract. The debt instrument was amended in a manner (the extension of its maturity) that would make the modification ineligible for the relief in ASC 848-20-15-3. Therefore, this modification to the hedged item is not eligible for the relief in ASC 848-30-25-5, and Company A would have to dedesignate the hedge relationship.
Since Company A does not qualify for the ASC 848 relief, it would not be permitted to update its hedge documentation that states that it is hedging LIBOR-based payments to be made quarterly on Debt ABC. Once the debt modification is made, the forecasted transaction would no longer be a rate that is expected to be replaced due to reference rate reform, and Company A could no longer apply the relief in ASC 848-50-25-2. It would also be now probable that the hedged forecasted transaction of LIBOR-based payments would not occur (since Debt ABC would make overnight SOFR payments in the future). As a result, all amounts in AOCI related to Debt ABC should be immediately reclassified into earnings, and Company A has a missed forecasted transaction that would be required to be considered and disclosed in accordance with the provisions of ASC 815.
EXAMPLE REF 3-7
Cash flow hedge of a forecasted transaction with amounts in AOCI where the hedged item and hedging instrument are modified for changes both related and unrelated to reference rate reform
On January 1, 20X1, Company A issues a five-year floating rate debt instrument (Debt ABC) that pays quarterly interest at USD LIBOR with no additional spread. Company A wants to hedge the variability in USD LIBOR-based interest payments initially created by Debt ABC. Company A enters into a fixed-to-float interest rate swap with a maturity of five years where Company A will receive USD LIBOR and pay a fixed rate of 3%. The interest rate swap also pays quarterly interest. Company A designates this swap as a hedging instrument to hedge the variability of the forecasted interest payments due to changes in the contractually specified rate, which is LIBOR. Company A states within its hedge documentation that the initial source of the interest payments is Debt ABC, but the forecasted transaction could be any debt that replaces Debt ABC if it is refinanced. Company A elects to apply the guidance in ASC 848-50-25-2 permitting it to continue to assert that Company A would make LIBOR-based interest payments on Debt ABC.
In January of 20X2, Company A negotiates with Debt ABC’s counterparty to amend the terms of Debt ABC. The modification to the terms of the debt includes replacing quarterly payments of USD LIBOR with monthly payments of overnight SOFR in arrears and extending the maturity of the debt by one year (i.e., maturing on January 1, 20X7 instead of January 1, 20X6). Subsequent to modifying Debt ABC, Company A also modifies the interest rate swap used as the hedging instrument to switch the reference interest rate from LIBOR to SOFR and to extend the maturity to January 1, 20X7.
Can Company A utilize the optional expedients inASC 848 to change the critical terms of the hedge relationship and amend the hedge documentation without dedesignating the hedge relationship? Additionally, should Company A immediately reclassify amounts in AOCI related to the hedge relationship into earnings due to a hedged forecasted transaction no longer being probable of occurring?
Analysis
We believe Company A would be able to utilize the optional expedients in ASC 848 to continue hedge accounting and update its hedge documentation upon the modification to Debt ABC. While the hedge relationship would be dedesignated upon the modification to the hedging instrument, Company A would not have to immediately reclassify amounts in AOCI into earnings since the updated hedged forecasted transaction is still probable of occurring.
ASC 848-30-25-5 states a reporting entity may change the contractual terms of a hedge relationship including the forecasted transaction without dedesignating the hedge relationship if the changes to the contractual terms meet the scope of ASC 848-20-15-2 and ASC 848-20-15-3. Additionally, ASC 848-50-25-3 permits a reporting entity to change the designated hedged interest rate risk in connection with reference rate reform. ASC 848-20-15-3 states that the relief in ASC 848 does not apply to contract modifications that include changes unrelated to reference rate reform, and if made contemporaneously with changes related to reference rate reform, the entire modification is not within the scope of ASC 848. One of the examples provided by ASC 848 of a change unrelated to reference rate reform is a change to the maturity date.
Company A’s hedge documentation states that it is hedging LIBOR payments on Debt ABC or any debt that replaces Debt ABC. Company A’s hedge documentation contemplates forecasted transactions (LIBOR-based interest payments) under a currently existing contractual relationship (Debt ABC) as well as the potential that forecasted transactions may come from future contractual relationships that do not yet exist (refinanced debt). ASC 848-30-25-5 includes references to changes in contractual terms, but it also refers to forecasted transactions. Forecasted transactions may or may not be generated by existing contracts; they also may be generated by contracts that do not currently exist. As a result, we believe that it would be reasonable to conclude based on the nature of the documented forecasted transaction that the requirement to assess changes in the contractual terms under ASC 848-20-15-2 and ASC 848-20-15-3 would not be applicable. ASC 848-50-25-3 permits a reporting entity to change the designated hedged interest rate risk in connection with reference rate reform. The forecasted transactions and hedged risk are not linked to the contractual terms of any individual debt instrument (since the hedge documentation is not limited to one specific debt instrument but is documented to also include any debt instrument that may replace the existing debt). The only change to the critical terms of this hedge relationship is replacing quarterly LIBOR-based payments with overnight SOFR in arrears monthly payments. Since this change is directly related to reference rate reform, Company A could utilize the expedients in ASC 848-30-25-5 to update the critical terms of the hedge relationship, ASC 848-50-25-3 to change the hedged risk, and ASC 848-30-25-4 to update its hedge documentation. Company A would update its hedge documentation to state that it is hedging overnight SOFR in arrears monthly payments on Debt ABC, or any debt that replaces Debt ABC if refinanced.
However, subsequent to the modification of Debt ABC, Company A also modifies the interest rate swap used as the hedging instrument. The change to the contractual terms of the hedging instrument includes a change unrelated to reference rate reform (i.e., the extension of the maturity date). As a result, the modification to the derivative instrument would not be eligible for the contract modification relief in ASC 848, and the modification would be deemed a termination of the original derivative and the entering into of a new derivative. As a result, the hedge relationship must be dedesignated on the date the interest rate swap is modified.
Since Company A previously updated its hedge documentation to reflect that it is now hedging overnight SOFR in arrears payments, the forecasted transaction would still be expected to occur despite the hedge being dedesignated. Therefore, Company A would continue to reclassify amounts previously accumulated in OCI into earnings as the forecasted transactions (overnight SOFR in arrears payments) occur.
We believe a similar conclusion would be reached even if the interest rate swap was modified prior to the debt being modified. In that scenario, we believe the modification of the interest rate swap would cause the hedge relationship to be dedesignated since it includes a modification to a term unrelated to reference rate reform. However, as described further in Example REF 3-8 and REF 3-9, we believe the provisions of ASC 848 can apply to a dedesignated hedge. Therefore, when Company A modifies Debt ABC, it is able to use ASC 848 to modify the hedge documentation to reflect that the hedged forecasted transaction is now overnight SOFR in arrears payments and continue to reclassify amounts previously accumulated in OCI in earnings as the forecasted transactions (overnight SOFR in arrears payments) occur.
EXAMPLE REF 3-8
Dedesignated cash flow hedge of a forecasted transaction with amounts in AOCI where the hedged item is modified due to reference rate reform after the hedge was dedesignated
On January 1, 20X1, Company A issues a five-year floating rate debt instrument (Debt ABC) that pays quarterly interest based on USD LIBOR with no additional spread. Company A wants to hedge the variability in interest payments of Debt ABC due to the contractually specified USD LIBOR rate. Company A enters into a fixed-to-float interest rate swap with a maturity of five years where Company A will receive USD LIBOR and pay a fixed rate of 3%. The interest rate swap also pays quarterly interest. Company A designates this swap as a hedging instrument hedging the variability of the forecasted interest payments due to changes in the contractually specified rate, which is LIBOR. Company A’s hedge documentation states that it is hedging LIBOR-based payments to be made quarterly based on the contractual payments from Debt ABC. Company A elects to apply the guidance in ASC 848-50-25-2 permitting it to continue to assert that Company A would make LIBOR-based interest payments on Debt ABC.
On January 1, 20X2, Company A voluntarily dedesignates the hedge relationship and terminates the interest rate swap. Because Company A elected to apply the guidance in ASC 848-50-25-2, Company A assumes that hedged forecasted transactions are still expected to occur. As a result, amounts accumulated in OCI will continue to be reclassified into earnings as the forecasted transactions occur.
On January 1, 20X3, Company A negotiates with Debt ABC’s counterparty to amend the terms of Debt ABC. The only modification to the terms of Debt ABC is to replace quarterly USD LIBOR-based interest payments with monthly payments based overnight SOFR in arrears.
Given the modification of Debt ABC occurred subsequent to the hedge relationship being dedesignated, is Company A eligible to use the expedients in ASC 848 to amend the hedge documentation to avoid needing to immediately reclassify amounts in AOCI into earnings?
Analysis
We believe Company A is eligible to utilize the optional expedients in ASC 848 to update its hedge documentation so that it would not immediately need to reclassify amounts in AOCI into earnings.
Once Debt ABC’s terms are modified from LIBOR-based interest payments to SOFR-based interest payments, Company A would no longer be eligible to apply the guidance in ASC 848-50-25-2 and assume that LIBOR-based interest payments will continue. While not explicitly addressed in ASC 848, we believe certain provisions within ASC 848 can be applied to dedesignated hedge relationships. Although a hedging relationship may have been dedesignated, the hedge documentation would still impact the accounting of Company A as the documented hedged item governs how and when amounts in AOCI should be reclassified to current earnings. In addition, ASC 815 requires that amounts in AOCI be evaluated to determine if they should be reclassified to earnings because the forecasted transaction is probable of not occurring, even for dedesignated hedges.
ASC 848-30-25-5 states a reporting entity may change the forecasted transaction without having to dedesignate the hedge relationship if the changes to the contractual terms meet the scope of ASC 848-20-15-2 and ASC 848-20-15-3. A change solely related to reference rate reform, such as replacing a LIBOR-based reference rate with SOFR, is an eligible modification under ASC 848-20-15-2 and ASC 848-20-15-3. ASC 848-50-25-3 permits a reporting entity to change the designated hedged interest rate risk in connection with reference rate reform.
Therefore, the modification to the forecasted transaction and hedged risk to state that it is hedging monthly overnight SOFR in arrears payments on Debt ABC would be eligible for the relief in ASC 848-30-25-5 and ASC 848-50-25-3.
Since Company A updated its hedge documentation to reflect that it is now hedging overnight SOFR in arrears payments, the forecasted transaction would still be expected to occur despite the changes in the contractual terms of Debt ABC and the inability to apply ASC 848-50-25-2 (assuming Company A can demonstrate Debt ABC will remain outstanding). Therefore, Company A would reclassify amounts previously accumulated in OCI into earnings as the forecasted transactions (overnight SOFR in arrears payments) occur.
EXAMPLE REF 3-9
Dedesignated cash flow hedge of a forecasted transaction with amounts in AOCI where the hedged item is modified due to changes both related and unrelated to reference rate reform after the hedge was dedesignated
On January 1, 20X1, Company A issues a five-year floating rate debt instrument (Debt ABC) that pays quarterly interest based on USD LIBOR with no additional spread. Company A wants to hedge the variability in interest payments of Debt ABC due to the contractually specified USD LIBOR rate. Company A enters into a fixed-to-float interest rate swap with a maturity of five years where Company A will receive USD LIBOR and pay a fixed rate of 3%. The interest rate swap also pays quarterly interest. Company A has designated this swap as a hedging instrument to hedge the variability of the forecasted interest payments due to changes in the contractually specified rate, which is LIBOR. Company A states within its hedge documentation that it is hedging LIBOR-based payments to be made quarterly on Debt ABC or any debt replacing Debt ABC if refinanced. Company A elects to apply the guidance in ASC 848-50-25-2 permitting it to continue to assert that Company A would make LIBOR-based interest payments on Debt ABC or any debt replacing Debt ABC. On January 1, 20X2, Company A voluntarily dedesignates the hedge relationship and terminates the interest rate swap; however, Debt ABC is not modified. Because Company A elects to apply the guidance in ASC 848-50-25-2, Company A assumes that hedged forecasted transactions are still expected to occur. As a result, amounts accumulated in OCI will continue to be reclassified into earnings as the forecasted transactions occur.
On January 1, 20X3, Company A negotiates with Debt ABC’s counterparty to amend the terms of Debt ABC. The modification to the terms of the debt includes replacing quarterly USD LIBOR-based interest payments with monthly payments based on overnight SOFR in arrears and extending the maturity of the debt by one year (i.e., maturing on January 1, 20X7 instead of January 1, 20X6).
Given the modification of Debt ABC occurred subsequent to the hedge relationship being dedesignated, is Company A eligible to use the expedients in ASC 848 to amend the hedge documentation to avoid needing to immediately reclassify amounts in AOCI into earnings?
Analysis
We believe Company A is eligible to utilize the optional expedients in ASC 848 to update its hedge documentation so that it would not immediately need to reclassify amounts in AOCI into earnings.
Once Debt ABC’s terms are modified from LIBOR-based interest payments to SOFR-based interest payments, Company A would no longer be eligible to apply the guidance in ASC 848-50-25-2 and assume that LIBOR-based interest payments will continue. While not explicitly addressed in ASC 848, we believe certain provisions within ASC 848 can be applied to dedesignated hedge relationships. Although the hedging relationship may have been dedesignated, the hedge documentation still impacts the accounting of Company A as the documented hedged item governs how and when amounts in AOCI should be reclassified to current earnings. In addition, ASC 815 requires that amounts in AOCI be evaluated to determine if they should be reclassified to earnings because the forecasted transaction is probable of not occurring, even for dedesignated hedges.
ASC 848-30-25-5 states a reporting entity may change the contractual terms of a hedge relationship including the forecasted transaction without having to dedesignate the hedge relationship if the changes to the contractual terms meet the scope of ASC 848-20-15-2 and ASC 848-20-15-3. ASC 848-20-15-3 states that the relief in ASC 848 does not apply to contract modifications that are unrelated to reference rate reform, or contract modifications that contemporaneously modify terms both related and unrelated to reference rate reform. One of the examples provided by ASC 848 of a change unrelated to reference rate reform is a change to the maturity date.
Company A’s hedge documentation states that it is hedging LIBOR payments on Debt ABC or any debt that replaces Debt ABC. Company A’s hedge documentation contemplates forecasted transactions (LIBOR-based interest payments) that are governed by a currently existing contractual relationship (Debt ABC) as well as the potential that forecasted transactions may come from future contractual relationships that do not yet exist (refinanced debt). ASC 848-30-25-5 includes references to changes in contractual terms, but it also refers to forecasted transactions. Forecasted transactions may or may not be generated by existing contracts; they also may be generated by contracts that do not currently exist. As a result, we believe that it would be reasonable to conclude in this situation based on the nature of the documented forecasted transaction that the requirement to assess changes in the contractual terms under ASC 848-20-15-2 and ASC 848-20-15-3 would not be applicable. ASC 848-50-25-3 permits a reporting entity to change the designated hedged interest rate risk in connection with reference rate reform. The forecasted transactions and hedged risk are not linked to the contractual terms of any individual debt instrument (since the hedge documentation is not limited to one specific debt instrument but is documented to also include any debt instrument that may replace the existing debt). The only change to the critical terms of this hedge relationship is replacing quarterly LIBOR-based payments with overnight SOFR in arrears monthly payments. Since this change is directly related to reference rate reform, Company A could utilize the expedients in ASC 848-30-25-5 to update the critical terms of the hedge relationship, ASC 848-50-25-3 to change the hedged risk, and ASC 848-30-25-4 to update its hedge documentation. Company A would update its hedge documentation that it is hedging overnight SOFR in arrears monthly payments on Debt ABC, or any debt that replaces Debt ABC if refinanced. If Company A had not documented the original hedge relationship to include forecasted transactions related to replacement debt and only was hedging interest payments on Debt ABC, we believe that ASC 848-30-25-5 would not be able to be applied since a contractual change occurred unrelated to reference rate reform that impacted the documented hedged forecasted transaction.
Since Company A updated its hedge documentation to reflect that it is now hedging overnight SOFR in arrears payments, the forecasted transaction would still be expected to occur despite the changes in the contractual terms of Debt ABC and the inability to apply ASC 848-50-25-2 (assuming Company A can demonstrate Debt ABC will remain outstanding). Therefore, Company A would reclassify amounts previously accumulated in OCI into earnings as the forecasted transactions (overnight SOFR in arrears payments) occur.
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