The implementation guidance for guarantees within the scope of this Topic is organized as follows:
- a
Financial guarantees, which contains scope guidance for paragraph
460-10-15-4(a) - b
Performance guarantees, which contains scope guidance for paragraph
460-10-15-4(b) - c
Indemnifications, which contains scope guidance for paragraph
460-10-15-4(c) - d
The lists that follow are not intended to be all-inclusive. A put option is a market value guarantee because it gives the holder the right to sell a specified quantity of an asset related to the
underlying to the writer of the option at a specified price (strike price) up to the expiration date.
For example, paragraphs address the interaction of various Subtopics (including this Subtopic) in accounting for transactions that involve sale of a marketable security to a third-party buyer, with the buyer's having an option to put the security back to the seller at a specified future date or dates for a fixed price. The following are examples of contracts of the type described in paragraph
460-10-15-4(b):
- a
- b
Bid bonds
- c
Performance bonds
- d
Other contracts that are similar to performance standby letters of credit.
The following are examples of contracts of the type described in paragraph
460-10-15-4(c):
- a
An indemnification agreement (contract) that contingently requires the indemnifying party (guarantor) to make payments to the indemnified party (guaranteed party) based on an adverse judgment in a lawsuit or the imposition of additional taxes due to either a change in the tax law or an adverse interpretation of the tax law.
- b
A lessee's indemnification of the lessor for any adverse tax consequences that may arise from a change in the tax laws, because only a legislative body can change the tax laws, and the lessee therefore has no control over whether payments will be required under that indemnification. In contrast, as discussed in paragraph 460-10-55-18(a), when a lessee indemnifies a lessor against adverse tax consequences that may arise from acts, omissions, and misrepresentations of the lessee, that indemnification is outside the scope of this Topic because the lessee is, in effect, guaranteeing its own future performance. - c
A seller's indemnification against additional income taxes due for years before a business combination, because the indemnification relates to the seller-guarantor's past performance, not its future performance.
The following is an example of a contract of the type described in paragraph
460-10-15-4(d).
The following are examples of contracts that are outside the scope of this Topic because they are not of any of the types described in paragraph
460-10-15-4:
- a
Commercial letters of credit and other loan commitments, which are commonly thought of as guarantees of funding, are not included in the scope of this Topic because those instruments do not guarantee payment of a money obligation and do not provide for payment in the event of default by the account party. - b
A noncontingent forward contract for which net settlement could involve a net settlement payment from either party is not included in the scope of this Topic. However, as discussed in paragraph 460-10-55-9, a contingent forward contract may meet one of the characteristics in paragraph 460-10-15-4 and be included in the scope of this Topic. - c
A guarantee provision in a financial instrument that is commonly thought of as a market value guarantee of the other terms of that same financial instrument is not within the scope of this Topic unless that guarantee provision is accounted for separately as a derivative under Topic 815 (see paragraph 460-10-25-1(a)). For example, a put option that is embedded in a puttable bond (but is not accounted for separately as a derivative) could be viewed by the investor (the guaranteed party) as a guarantee against the fair value of the remaining instrument (a bond absent the put option) declining below the put price. The embedded put option does not meet the characteristic in paragraph 460-10-15-4(a) because the guaranteed party's asset is an investment in the entire contract, a puttable bond, and not an investment in a nonputtable bond. However, as noted in paragraph 460-10-55-6, if the investor purchased a freestanding put option on a nonputtable bond and accounted for them separately, that guarantee would be within the scope of this Topic. - d
An arrangement, such as a securitization, that involves the subordination of the rights of some investors (or creditors) to the rights of others is commonly thought of as a guarantee issued by the subordinated investors. For example, the investors in one (subordinated) class or tranche of an entity's securities might not receive any cash flows until the investors in another (priority) class or tranche are fully paid. Although that type of subordination provides credit protection by the subordinated investors, it does not meet any of the characteristics in paragraph 460-10-15-4 and, thus, is not included in the scope of this Topic. - e
A written option that does not directly guarantee another entity's performance or the fair value of the guaranteed party's assets (such as a weather derivative) is not included in the scope of this Topic unless that written option is used as an indirect guarantee of the indebtedness of others. - f
A take-or-pay contract is not included in the scope of this Topic because the minimum payments under a take-or-pay contract are not contingent. A take-or-pay contract requires certain minimum payments irrespective of whether the buyer accepts delivery. Even if a take-or-pay contract were analyzed as though it were a guarantee by the buyer to pay for the portion of the minimum quantity of product or output of the guaranteed party for which the buyer refuses to order or accept delivery, a take-or-pay contract would not be included in the scope of this Topic because it would be a guarantee related to the buyer's future performance under the contract. (Take-or-pay contracts are further discussed in the Unconditional Purchase Obligations Subsections of Subtopic 440-10.) - g
A weather derivative is not included in the scope of this Topic because the climatic or geological variable is not an asset or liability of the guaranteed party. The characteristic in paragraph 460-10-15-4(a) requires payments to be based on changes in an underlying that is related only to an asset or liability of the guaranteed party.
The following is an example of a contract that is outside the scope of this Topic because it is of the type described in paragraph
460-10-15-7(g).
- a
- b
- c
A transaction that involves sale of a marketable security to a third-party buyer with the buyer having an option to put the security back to the seller at a specified future date or dates for a fixed price, if the existence of the put option prevents the transferor from accounting for the transaction as a sale, as described in paragraphs . - d
- e
The following are examples of contracts that are outside the scope of this Topic because these contracts are of the type described in paragraph
460-10-15-7(i):
- a
A lessee will often indemnify a lessor for any adverse tax consequences that may arise from acts, omissions, and misrepresentations of the lessee (for example, using the leased asset outside the United States or subleasing to a tax-exempt entity). The lessee is, in effect, guaranteeing that its own future performance and actions with respect to the lease and the leased property will not result in adverse tax consequences to the lessor. Thus, that lessee's indemnification is not within the scope of this Topic. In contrast, as discussed in paragraph 460-10-55-13(b), a guarantee by a lessee regarding the effect of future changes in the tax law on the guaranteed party's tax liability is within the scope of this Topic because the lessee cannot change the tax law (or prevent a change) and thus cannot control whether payments will be required under the guarantee. - b
An entity's guarantee of its own future performance, such as that entity's completion of a contract by a specified deadline is not within the scope of this Topic.
- c
In consolidated financial statements, a parent's guarantee of a subsidiary's debt to a third party would simply be a guarantee of the consolidated entity's own performance to make the scheduled payments on that consolidated liability, which is not a guarantee within the scope of this Topic for the consolidated reporting entity.
The following is an example of a contract that is not subject to the General Subsections of Sections
460-10-25 and
460-10-30 because it is of one of the types described in paragraph
460-10-25-1. The contract is subject to the
General Subsection of Section 460-10-50.
Although paragraph
460-10-25-4 does not prescribe a specific account, the following illustrate a guarantor's offsetting entries when it recognizes the liability at the inception of the guarantee:
- a
If the guarantee were issued in a standalone transaction for a premium, the offsetting entry would be consideration received (such as cash or a receivable).
- b
If the guarantee were issued in conjunction with the sale of assets, a product, or a business, the overall proceeds (such as the cash received or receivable) would be allocated between the consideration being remitted to the guarantor for issuing the guarantee and the proceeds from the sale. That allocation would affect the calculation of the gain or loss on the sale transaction.
- c
If the guarantee were issued in conjunction with the formation of a partially owned business or a venture accounted for under the equity method, the recognition of the liability for the guarantee would result in an increase to the carrying amount of the investment.
- d
- e
If a guarantee were issued to an unrelated party for no consideration on a standalone basis (that is, not in conjunction with any other transaction or ownership relationship), the offsetting entry would be to expense.
This implementation guidance addresses the application of this Subtopic to the recognition and initial measurement of a tax indemnification provided by a lessee to a lessor.
Paragraph 460-10-25-4 requires that the lessee (guarantor) account for a tax indemnification provided to the lessor by recognizing a liability at lease inception (which is also the inception of the indemnification clause). Section 460-10-30 requires that the measurement objective of that initial recognition be the fair value of the lessee's obligation under the indemnification agreement.Entity A operates a shipping center in Local City. In 19X0, Entity A decided to raise money for modernization of facilities through a debt offering. In order for the offering to take place, Entity B, a local manufacturer, agreed to guarantee the bonds if Entity A's revenues were insufficient to pay debt service. In May 19X4 (four years later when the bonds had an outstanding balance of $55 million), Entity A lost two of its major shipping customers, constituting 35 percent of its prior-year revenues, to a competitor in a neighboring port. At Entity B's June 30, 19X4, year end, Entity A was directing substantial efforts toward finding new customers. It is reasonably possible, however, that Entity A will not replace the lost revenue in time to pay debt service installments at December 30, 19X4, and June 30, 19X5, totaling $6 million.
Entity B would make the following disclosure.
In 19X0, Entity B guaranteed the Series AA debt of Entity A, which operates a shipping center within Local City. Entity B continues as guarantor of such debt totaling $55 million. In May 19X4, Entity A lost two of its major customers. Although Entity A is directing substantial efforts toward obtaining new customers, it is at least reasonably possible that Entity A will not replace lost revenues sufficient to make its December 19X4 and June 19X5 debt service payments totaling $6 million. If so, Entity B will become responsible for repayment of at least a portion of that amount and possibly additional amounts over the debt term. A liability of $XX has been reported in Entity B's financial statements pending the outcome of Entity A's efforts during the next fiscal year.
This Example illustrates the application of the scope of this Topic to a licensee indemnification.