Accounting Standards Update Aims for Consistency in Fair-Value Disclosures

An Accounting Standards Update (ASU) will impact how your not-for-profit organization reports on its investment holdings.

In April, the Financial Accounting Standards Board (FASB) issued ASU 2015-07, Fair Value Measurement (Topic 820): Disclosures for Investments in Certain Entities That Calculate Net Asset Value Per Share (or Its Equivalent), to address diversity in practice regarding reporting certain kinds of investments.

Many not-for-profit organizations have invested in a wide range of investments, and often these investment portfolios make up the majority of the assets held by the organization. If your organization has an investment portfolio that includes debt and equity securities, hedge funds, private equity, or limited partnerships (to name a few), it’s highly likely you use net asset value (NAV) to measure their fair value. As a result, this accounting standards update will directly impact your organization’s financial statement disclosures.

About the Preexisting Standard

The fair-value guidance in FASB Accounting Standards Codification® (ASC) Topic 820, Fair Value Measurement, permits entities, as a practical expedient, to measure the fair value of certain investments using the NAV per share of the investment. Before organizations had the ability to use NAV as a practical expedient, determining the fair value of certain investments required the organization to analyze and adjust the NAV provided by fund managers or partnerships. This was usually a complex, difficult, and time-consuming process. Using NAV as a practical expedient has eliminated many of the complexities investors faced in determining the fair value of their alternative investments.

Under current guidance, investments valued using the practical expedient are categorized within the fair-value hierarchy based on whether they’re redeemable at NAV on the measurement date, never redeemable at NAV, or redeemable at NAV at a future date. If your not-for-profit holds investments that are redeemable at a future date, you must take into account the length of time until those investments become redeemable to determine their level within the fair-value hierarchy as either level two or three. This is where the diversity in practice has arisen.

What Does the ASU Change?

The ASU removes the requirement to categorize within the fair-value hierarchy all investments for which fair value is measured using the NAV-per-share practical expedient. Investments for which you don’t apply the practical expedient—even if they calculate NAV per share or its equivalent—will continue to be included in the fair-value hierarchy.

This means that the types of investments that are included in levels two and three in the fair value hierarchy will be more consistent from organization to organization. In the past, one organization may have presented a specific investment as level two while another organization presented it as level three.

For financial statement preparers, this amendment eliminates the analysis and estimation that has been necessary to determine whether investments measured at NAV (as a practical expedient) are a level two or level three. While a change in disclosures always requires more of your time in the year of adoption, this amendment should reduce the time you’ll need to spend preparing your financial statement disclosures in future years. Depending on the types of investments held by your organization, this ASU may even greatly reduce the length of the fair-value disclosures in your financial statements.

Now’s a good time to look at your investment portfolio and segregate investments that are measured using NAV as a practical expedient. This will help you gauge the impact this amendment will have on your financial statements.

When Does the ASU Take Effect?

For public business entities, the ASU is effective for fiscal years beginning after December 15, 2015, and interim periods within that year. For all other entities, the ASU is effective for fiscal years beginning after December 15, 2016, and interim periods within those years. Note that neither a not-for-profit entity nor an employee benefit plan is a “business entity” as defined by the FASB.

The amendments should be applied retrospectively to all periods presented. Under the retrospective approach, investments for which fair value is measured using NAV as a practical expedient should be removed from the fair-value hierarchy in all periods presented in your financial statements.

Early adoption is permitted, and it’s most likely to be beneficial for entities whose only assets or liabilities measured at fair value are their investments for which fair value is measured using the NAV practical expedient. For these entities, early adoption will result in wholly eliminating fair-value hierarchy tables. Entities that hold other types of investments in addition to those addressed by the ASU won’t see as much of an impact from early adoption.

What Will the New Disclosures Look Like?

Note that although investments measured using NAV as a practical expedient will be removed from the fair-value hierarchy and instead have their fair values shown separately, you’ll still be required to disclose the class of these investments. This can be done in tabular format or it can be done through a description in the notes.

This sample document demonstrates what you can expect the disclosures to look like once the ASU is adopted in your financial statements.

The ASU doesn’t change the requirement that an entity disclose information that helps users understand the nature, characteristics, and risks of the investments by class and whether the investments, if sold, are probable of being sold at amounts different from NAV per share (or its equivalent).

Stay Ahead of Change

Not-for-profits that currently use the practical expedient in their financial reporting should start examining whether early adoption could streamline the cost and complexity of their financial reporting. Even if you decide not to adopt early, start looking at which investments are impacted by this amendment. Once your organization adopts this ASU, the changes must be applied retrospectively. Taking the time now to segregate the investments measured using the practical expedient can save you the headache of doing it when you’re busy with year-end financial close and reporting.

To learn more about the ASU or fair-value disclosure requirements in general, contact your Moss Adams not-for-profit professional.