Banner Image

Bank of the Future

Faced with the Multi-GAAP Reporting Challenge? An Automated IT Solution is the Answer

 
August 17, 2016

In the wake of the 2008 financial crisis, the Financial Accounting Standards Board (FASB) and the International Accounting Standards Board (IASB) had undertaken joint efforts to improve and converge the accounting and reporting of financial instruments. However, this project did not progress as desired. Meanwhile, in July 2014, the IASB published the final version of IFRS 9 – the standard on Financial Instruments. As a result, the differences between the US GAAP and the IFRS have become even more pronounced. Therefore, financial institutions with global operations must meet multiple compliance and reporting requirements that prevail across jurisdictions.

The differences between both these accounting norms, US GAAP and IFRS, especially with respect to the accounting of loans and upfront or origination fees are many, and call for entirely different calculations and accounting treatments. This has resulted in differences in reporting of carrying values and income under both standards, which in turn has made the process fairly complex. Though both these standards mandate the usage of the Effective Interest Rate (EIR) method for calculation of amortized cost and interest income, only US GAAP provides specific guidance and some leeway on certain types of loans, and the fees applicable for such loans. By and large, the US GAAP allows the usage of contractual terms for EIR calculation, whereas the IFRS lets this be done only as an exception.

Apart from this, there are many scenarios where the treatment of origination fees under the two standards is different. For example, in case of impaired loans, the amortization of origination fees has been discontinued under the US GAAP, which is not the case with the IFRS. In the case of revolving lines of credit and demand loans, the US GAAP allows fees or costs to be calculated on a straight-line basis over the full term of the line of credit. Also, the amortization of fees happens regardless of whether the credit limit has been fully utilized or not.

In scenarios where actual cash flows differ from respective estimates, the US GAAP mandates the recalculation of EIR; the IFRS on the other hand does not insist on this. Under the US GAAP, if a loan is restructured on favorable terms, it is treated as a new loan and the unamortized fees or costs are treated as income. However, there is no special accounting treatment for restructured loans in the IFRS; any change in cash flow estimates needs to be adjusted into the carrying value of the loan as profit or loss.

Given these differences, and the enormous volume of loan-related transactions, coupled with the complexities arising from ever-changing products, business rules, and accounting standards, it is a daunting task for global financial firms to report accurate and reliable information to internal and external stakeholders to ensure timely compliance.

For large financial institutions with globally-spread operations, meeting multi-jurisdictional requirements is a not easy. Since the IT systems in most companies have not been able to keep pace with fast-changing regulations, increasing business demands, and multi-GAAP reporting needs, spreadsheet based manual processes have typically been employed to generate the required reports. Such methods are inefficient, prone to error, and likely to raise concerns about the security and integrity of data. Therefore, organizations need to deploy a sophisticated IT solution that can tackle the complexities of diverse accounting standards and ensure on-time reporting across the board. This calls for a large investment of time, effort, and money. However, when weighed against the cost of error in income recognition and the corresponding adverse impact on asset valuation that almost always result in regulatory penalties and reputational damage, it seems like the best way forward. Thus, the business case for a comprehensive IT solution that performs the required calculations off line, only for reporting purposes, without interfering with other transaction systems like core banking, treasury management, and so on, seems compelling enough.

Ashwini Kamat is a Senior Consultant with the Banking and Financial Services (BFS) business unit at Tata Consultancy Services (TCS). A qualified Chartered Accountant, she has over 26 years of industry experience and currently leads the Finance and Reporting practice of the business unit.