Private companies often have transactions or arrangements with multiple legal entities that are under common ownership and/or management. Variable interest entity (VIE) rules require a reporting entity to consolidate in its financial statements a separate legal entity (the VIE), in which the reporting entity is the primary beneficiary. Standard setters have found that the rules are not being applied consistently in practice by private companies and that the informational needs of users of private company financial statements differ from those of public companies. It was determined that most private company stakeholders found VIE rules to be too complicated and costly to apply.
A few years ago, VIE rules were changed to allow private companies the option to not consolidate common control leasing entities that met certain criteria. More recently, in accordance with Accounting Standards Update (ASU) No. 2018-17, private companies can now elect an accounting policy alternative to not consolidate many other types of entities under common control (not just leasing arrangements) if certain criteria are met.
Under the new guidance, a reporting entity may make an election to not evaluate a legal entity under the VIE guidance if all of the following are met:
- The reporting entity and the legal entity are under common control.
- The reporting entity and the legal entity are not under common control of a public business entity.
- The legal entity under common control is not a public business entity.
- The reporting entity does not directly or indirectly have a controlling financial interest in the legal entity when considering the voting interest model (ownership by one reporting entity, directly or indirectly, of more than 50% of the outstanding voting shares of another entity).
If the election is made, the private reporting company must apply it to all current and future legal entities under common control that meet the above criteria. Guidance to determine whether common control exists did not change.
The following are required financial statement disclosures under the alternative:
- The nature and risks as a result of the reporting entity’s involvement with the legal entity under common control.
- How a reporting entity’s involvement with the legal entity under common control affects:
- financial position;
- financial performance; and
- cash flows.
- The carrying amounts and classification of the assets and liabilities in the reporting entity’s statement of financial position as a result of its involvement with the legal entity under common control.
- The reporting entity’s maximum exposure to loss based on its relationship with the legal entity under common control (if not quantifiable, then that fact should be disclosed).
- If the maximum exposure to loss exceeds the carrying amount of the assets and liabilities, that information is to be disclosed (including the terms of the arrangements).
The ASU can be adopted at any time, since early adoption is permitted, and should be applied on a retrospective basis with a cumulative-effect adjustment to retained earnings at the beginning of the earliest period presented in the financial statements.
If you have questions or would like more information, please contact Jessica Kober at jkober@windes.com or 844.4WINDES (844.494.6337).