2. In this issue
3 Banks 10 Broker-dealers
Audit and accounting update Audit and accounting update
3 Update on the FASB’s Financial Instruments Project, 10 Derivatives reform legislation
including credit impairment and fair value 10 SEC assessment of customer assets and the impact
3 U.S. Department of Housing and Urban Development on FOCUS reports
(HUD): Financial statement requirements revised for 10 Amending Rule 17a-5 and report
parent-subsidy structures 11 SEC and PCAOB to place renewed focus on broker-
4 Deferral of troubled debt restructuring disclosures dealers’ financial statements
5 Grant Thornton issues updated guidance on 12 FASB proposes amended guidance on accounting
accounting for loan participations and securitizations for repos
5 Overview of the Small Business Lending Fund 13 Board proposes to converge offsetting of financial assets
5 OCC issues updated guidance on common and liabilities and derivatives
accounting issues for banks
5 The American Institute of Certified Public Financial Industry Regulatory Authority (FINRA), SEC,
Accountants (AICPA) issues Audit Risk Alert: Financial Public Company Accounting Oversight Board (PCAOB)
Institutions Industry Developments — Including and corporate governance updates
Depository and Lending Institutions and Brokers and 14 Retaining control over customer assets
Dealers in Securities 14 Regulatory Notice 10-33, Supplemental FOCUS
Information
SEC and Public Company Accounting Oversight 14 Regulatory Notice 10-22, Obligation of Broker-Dealers
Board (PCAOB) update to Conduct Reasonable Investigations in Regulation D
6 SEC staff describes common reporting issues for Offerings
financial institutions 14 Amendment to FINRA Rule 4560, Short Interest Reporting
6 SEC issues Proposed Rule on short-term borrowings 15 PCAOB: Interim audit inspection program and funding
and an Interpretive Release on liquidity disclosures rules proposed for broker-dealers
6 SEC letter addresses disclosure obligations for
mortgage and foreclosure activities Tax update
7 SEC issues Final Rules to regulate asset-backed 16 Cost-basis reporting
securities 16 State nexus issues
8 PCAOB Alert discusses litigation and other
contingencies related to mortgage activities 17 Resources
Tax update
9 Recent trends and opportunities
About this publication
Audit committees, management and boards of directors alike of banks and securities firms must keep pace with emerging
regulations, new rules stemming from the Dodd-Frank Wall Street Reform and Consumer Protection Act (Dodd-Frank Act), as well
as current and upcoming accounting pronouncements. Grant Thornton LLP’s Banking & Securities Update provides brief updates
on the key audit, accounting, regulatory and tax issues you need to know to fulfill your responsibilities.
3. Banks
Audit and accounting update
Update on the FASB’s Financial • The FASB/IASB agreed on a credit U.S. Department of Housing and
Instruments Project, including credit impairment model that would Urban Development (HUD): Financial
impairment and fair value recognize lifetime expected credit statement requirements revised for
The Financial Accounting Standards losses using a time-proportionate parent-subsidy structures
Board (FASB) and International approach for a good book and full A rule titled Federal Housing
Accounting Standards Board (IASB) recognition of lifetime expected Administration: Continuation of
continue to hold frequent meetings on losses for a bad book. Readers should FHA Reform — Strengthening Risk
the financial instruments project. These be aware that the boards issued an Management Through Responsible
deliberations are expected to continue exposure draft, which is available on FHA-Approved Lenders became
for most of the second quarter of 2011. the FASB website, to solicit feedback effective in May 2010. Under this rule,
As of Jan. 31, 2011, the following on Jan. 31, 2011. supervised mortgagees with fiscal years
tentative decisions have been reached by ending on or after Jan. 1, 2010, must
the boards in its re-deliberations of the • The boards have not yet discussed submit audited financial statements with
exposure draft: hedging; however, the IASB issued their 2011 renewal and must also submit
an exposure draft in December 2010, annual audited financial statements to
• The FASB decided to define when in which the FASB plans to issue a HUD within 90 days of their fiscal year-
financial assets should be classified discussion paper to solicit feedback end. This is a shorter timeframe than
and measured at amortized cost, on the IASB’s exposure draft. required by the bank and credit union
rather than at fair value. The FASB regulatory agencies, which typically
decided that such determination Further updates on the Financial require audited financial statements to be
should consider the entity’s business Instruments Project, including summaries submitted within 120 days of fiscal year-
activity and whether financial assets, of Board meetings, can be found in end. Annual audited financial statements
such as loans, are managed for the Grant Thornton’s weekly On the now are required for all supervised
collection of contractual cash flows. Horizon publication at mortgagees, including some institutions
www.grantthornton.com/onthehorizon. that otherwise are not required to have
an audit.
3 Banking & Securities Update – Winter 2011
4. HUD recently issued Mortgagee Deferral of troubled debt restructuring • For disclosures about activity that
Letter 2011-05, Revised Audited disclosures occurs during a reporting period, for
Financial Statement Reporting The FASB has issued Accounting the first interim or annual reporting
Requirements for Supervised Lenders Standards Update (ASU) 2011-01, period beginning on or after Dec. 15,
in Parent-Subsidiary Structures and Deferral of the Effective Date of 2010. For a public company with a
New Financial Reporting Requirements Disclosures about Troubled Debt calendar year-end, those disclosures
for Multifamily Mortgagees. The letter Restructurings in Update No. 2010-20, are initially required for the interim
permits supervised lenders in parent- which temporarily defers the date when period ending March 31, 2011.
subsidiary structures (subsidiaries) public-entity creditors are required to
approved by the Federal Housing provide the new disclosures for troubled For nonpublic entities, the effective
Administration (FHA) to submit the debt restructurings specified in ASU date for the troubled debt restructuring
audited consolidated financial statements 2010-20, Disclosures about the Credit disclosures in ASU 2010-20 continues to
of the parent company, accompanied Quality of Financing Receivables and the be for the first annual reporting period
by internally prepared consolidating Allowance for Credit Losses. The deferred ending on or after Dec. 15, 2011 — that
schedules, if one of the following effective date will coincide with the is, the annual period ending Dec. 31,
conditions is met: effective date for the clarified guidance 2011 for nonpublic entities that have a
about what constitutes a troubled calendar year-end.
• The subsidiary accounts for at least debt restructuring, which the Board
40 percent of the parent company’s is currently deliberating in a separate Potential impact
assets. project. That clarified guidance, expected The new disclosures on credit quality
• The subsidiary provides the FHA by March 31, 2011, is expected to apply and the allowance in ASU 2010-20
with an executed corporate guarantee for interim and annual periods ending are still required but requested new
agreement, acceptable to the secretary after June 15, 2011. Grant Thornton disclosures about troubled debt
of HUD, between it and the parent submitted a comment letter to the FASB restructurings have been deferred. All
company in which the parent on this matter. financial institutions should consider
company guarantees the ongoing net It is important to note, however, implementation issues associated with
worth and liquidity compliance of that the deferral in ASU 2011-01 applies these disclosures. In addition, it is
the subsidiary. only to the troubled debt restructuring important to note that non-calendar year
disclosures for public-entity creditors financial institutions must adopt the new
The letter also introduces in FASB Accounting Standards disclosures in ASU 2010-20 beginning
reporting requirements for mortgagees CodificationTM (ASC) 310-10-50-31 with the first interim period ending after
participating in FHA’s multifamily through 50-34, Receivables. The deferral Dec. 15, 2010. For example, a financial
programs by requiring them to report in ASU 2011-01 does not affect the institution with a June 30 year-end
loan fees earned in excess of five percent effective date of the other disclosure would need to apply the disclosures
of the insured loan amount on each requirements in ASU 2010-20. Public in ASU 2010-20 (as amended by ASU
FHA-insured loan of more than entities must initially provide those other 2011-01) beginning with the quarter
$2 million endorsed during the fiscal disclosures as follows: ended Dec. 31, 2010.
year period covered in their audited
financial statements. Such fees should be • For disclosures required as of the end
reported on a separate schedule included of a reporting period, for the first
with the annual audited financial interim or annual reporting period
statements submitted to HUD. ending on or after Dec. 15, 2010. The new disclosures on
In addition, HUD released a For a public company with a calendar credit quality and the
frequently asked questions document year-end, those disclosures are initially
allowance in ASU
to address common questions related to required for the year ended
Mortgagee Letter 2011-05. Dec. 31, 2010. 2010-20 are still required
The provisions of the Mortgagee but requested new
Letter are effective immediately. disclosures about troubled
debt restructurings have
been deferred.
4 Banking & Securities Update – Winter 2011
5. Grant Thornton issues updated Overview of the Small Business OCC issues updated guidance on
guidance on accounting Lending Fund common accounting issues for banks
for loan participations and Created by the Small Business Jobs Act, In November 2010, the office of the
securitizations the Small Business Lending Fund (SBLF) Comptroller of the Currency (OCC)
Grant Thornton recently issued is a $30 billion fund that encourages updated its Bank Accounting Advisory
expanded implementation guidance lending to small businesses by providing Series, which expresses the views of the
on FASB Statement 166, Accounting Tier 1 capital to qualified community OCC’s Office of the Chief Accountant
for Transfers of Financial Assets: An banks with assets of less than $10 billion. on accounting issues of interest to national
Amendment of FASB Statement No. 140. The price a bank pays for banks. The views in the series are neither
Effective Jan. 1, 2010, for calendar year- SBLF funding will be reduced as official rules nor regulations of the OCC.
end companies, Statement 166 changes the bank’s small business lending Rather, they represent either interpretations
the accounting for securitizations, loan increases. The U.S. Department of by the Office of the Chief Accountant
participations, and other transfers of the Treasury (Treasury) will purchase or interpretations of regulatory capital
financial assets. Tier 1-qualifying preferred stock or requirements by the OCC.
equivalents in each bank to provide the
capital. Small business lending is defined AICPA issues Audit Risk Alert: Financial
as providing certain loans of up to $10 Institutions Industry Developments
million to businesses with up to $50 — Including Depository and Lending
million in annual revenues. Institutions and Brokers and Dealers in
Banks can visit the Treasury website Securities
for information about the Small Business The AICPA recently released its Audit
Lending Fund. Information currently Risk Alert entitled Financial Institutions
only relates to C corporation depository Industry Developments — Including
institutions and holding companies. Depository and Lending Institutions
and Brokers and Dealers in Securities.
Next steps This alert provides an overview of recent
Please note that Treasury is working on economic, industry, technical, regulatory,
separate SBLF terms for S corporations, and professional developments that affect
mutual institutions and community audits and other engagements related to
development loan funds. Treasury will those industries. The alert is available
publish separate SBLF terms for these through the AICPA website.
institutions at a later date. As part of
the period certification to the Treasury,
the entity must provide its auditor’s
annual certification stating that the
processes and controls used to generate
supplemental reports to the Treasury are
satisfactory. It is still unclear what the
form of this certification will be.
5 Banking & Securities Update – Winter 2011
6. Banks
SEC, PCAOB and regulatory update
SEC staff describes common reporting The presentation also highlights SEC letter addresses disclosure
issues for financial institutions other issues with a special focus on obligations for mortgage and
The SEC published on its website a banks: foreclosure activities
presentation titled Areas of Frequent • Implications on risk factors The SEC’s Division of Corporation
Staff Comment – Financial Institutions • Loan accounting and allowance for Finance (CorpFin) recently sent a
to provide an overview of issues that loan losses letter to certain public companies as a
the staff of the Division of Corporation • Investments and other than reminder of their potential disclosure
Finance frequently encounters when temporary impairment obligations in SEC filings related to
reviewing filings for banks. Although • Modifications versus troubled debt representations and warranties made to
focused on banks, the information in restructuring purchasers of mortgages and mortgage-
the presentation could provide useful • Disclosures around liquidity backed securities, and reviews of loan
observations for all types of financial • Internal control over financial documentation and foreclosure practices,
services companies and their auditors. reporting including, in some cases, a temporary
Some of the significant areas halt of foreclosure proceedings. CorpFin
discussed in the presentation include: SEC issues proposed rule on short-term posted a sample letter on the SEC website
• Asset quality and loan accounting borrowings and interpretive release on to inform entities that may be impacted
• Loss contingencies liquidity disclosures by these issues but did not receive a letter.
• Securities and goodwill impairment The proposed rule is not effective The letter notes that the issues and
• Valuation allowance on deferred tax for Dec. 31, 2010, 10-K filers, but related disclosures addressed affect not
assets consideration of expanded liquidity only financial institutions, but also issuers
• Variable interest entities and disclosures, as noted in the interpretive engaged in activities related to residential
accounting for transfers of financial release, is necessary for all current mortgages, such as mortgage servicing,
assets filings. More information is available in mortgage insurance, and title insurance.
• Liquidity and risk management this Oct. 5, 2010, Grant Thornton New The letter lists examples of representations
• Mortgage- and foreclosure-related Developments Summary. Visit and warranties that issuers may have made
matters www.grantthornton.com/nds. to purchasers of mortgages or mortgage-
• Regulatory actions backed securities. It also reminds issuers
• Acquisition of troubled financial of their obligation under Regulation S-K,
institutions and FDIC-assisted Item 303, to disclose in Management’s
transactions Discussion and Analysis any known
trends or demands, commitments, events,
6 Banking & Securities Update – Winter 2011
7. or uncertainties that could reasonably The staff asks issuers to consider several SEC issues Final Rules to regulate
be expected to have a material impact points in drafting their disclosures, asset-backed securities
on operations, liquidity, and capital including, but not limited to, the The SEC recently issued two Final Rules
resources. In addition, the staff letter notes following: to implement various sections of the
that Regulation S-K, Item 103, requires Dodd-Frank Act relating to asset-based
disclosure of legal proceedings, including • Risks and uncertainties associated securities (ABS) offerings.
those known to be contemplated by with potentially higher repurchase
government authorities, while Part II, requests, as well as any changes to Disclosure of repurchases related to
Item 1 of Form 10-Q requires discussion the methodology or processes used outstanding ABS
of legal proceedings both when they first to estimate any repurchase reserve The Final Rule, Disclosure for Asset-
become a reportable event and when • Litigation risks and uncertainties Backed Securities Required by Section
material developments occur. These associated with any known or alleged 943 of the Dodd-Frank Wall Street
disclosures are in addition to those – Defects in the securitization Reform and Consumer Protection Act,
required under FASB ASC 450-20, process, including potential prescribes disclosure requirements
Contingencies: Loss Contingencies. defects in mortgage related to representations and warranties
The letter advises issuers to provide documentation or in the in ABS offerings. The Final Rule
clear and transparent disclosures about assignment of the mortgages, and requires securitizers of ABS to disclose a
representations and warranties made the potential effects of such defects security’s repurchase history.
in connection with mortgage sales and – Breach of pooling and servicing The Final Rule requires disclosure of the
securitization activities. In addition, criteria, including potential following information for ABS offerings:
it notes that issuers should discuss defects in the foreclosure process,
the implications associated with any and the potential effects of • For securitizers of ABS: For
foreclosure reviews, including potential such defects outstanding ABS subject to a covenant
delays in completing foreclosures. The • Potential impact to the issuer’s to repurchase or replace an underlying
disclosures should address an issuer’s liquidity and any effects on asset asset for breach of a representation or
role as a loan originator, securitizer, valuation and impairment resulting warranty, tabular disclosure of fulfilled
servicer, and investor, as applicable. from changes in the timing of sales and unfulfilled repurchase requests on
of loans, other real estate owned, and Form ABS-15G, regardless of whether
mortgage-backed securities the securities were issued in a transaction
registered with the SEC, to permit
Finally, the letter requests that filers investors to identify asset originators
consider disclosing a roll-forward of any with clear underwriting deficiencies.
reserve related to representations and In an initial filing by Feb. 14, 2012,
warranties associated with loans they securitizers are required to disclose
have sold. their repurchase history for the three
years ended Dec. 31, 2011. Thereafter,
securitizers are required to file updated
information quarterly that includes the
repurchase history for all outstanding
ABS and includes the history of all
Finally, the letter requests that filers consider disclosing fulfilled and unfulfilled repurchase
requests. Municipal securitizers have an
a roll-forward of any reserve related to representations additional three-year phase-in period
and warranties associated with loans they have sold. for these disclosure requirements. In
addition, there are disclosures required
to inform investors of an issuer’s
repurchase history in prospectuses and
ongoing reports, with the phase-in
period beginning Feb. 14, 2012.
7 Banking & Securities Update – Winter 2011
8. • For nationally recognized statistical Any registered ABS initially offered • gathering sufficient and appropriate
rating organizations (NRSROs): A after Dec. 31, 2011, must comply with evidence for litigation, claims, and
description of both of the following the new rules and forms. assessments;
in any report accompanying a credit The Final Rule is effective March 28, • auditing accounting estimates when
rating of ABS: 2011. relevant factors differ from those
– the representations, warranties, considered in the past;
and enforcement mechanisms PCAOB Alert discusses litigation • evaluating financial statement
available to investors; and and other contingencies related to presentation and disclosure to
– how the representations, mortgage activities determine whether management has
warranties, and enforcement The PCAOB recently issued Staff Audit omitted information required by
mechanisms differ from those in Practice Alert 7, Auditor Considerations GAAP or whether other information
issuances of similar ABS. of Litigation and Other Contingencies accompanying the financial
Arising from Mortgage and Other Loan statements is materially inconsistent
NRSROs are required to provide Activities, to inform auditors of public with the financial statements; and
that information for reports issued companies about their responsibilities • communicating with the audit
six months or more after the effective when auditing loss contingencies, committee about management’s
date of the Final Rule. disclosures, and related items associated judgments and accounting estimates
with mortgage and foreclosure activities. and on matters that significantly
The Final Rule is effective 60 days The staff issued the Practice Alert as impact representational faithfulness,
after its publication in the Federal a result of a report by the Congressional such as disclosures about
Register. Oversight Panel in November 2010, representations and warranties
which indicated that financial institutions related to securitization activities.
Review of underlying assets required in might have misrepresented the quality of
offerings of registered ABS loans sold for securitization and could
The Final Rule, Issuer Review of Assets be required to repurchase the affected Practice Alert 7 also observes that
in Offerings of Asset-Backed Securities, mortgages. The report also alleged that the December 2008 Staff Audit Practice
requires an issuer of registered ABS financial institutions might not have Alert 3, Audit Considerations in the
to perform a review of the underlying performed procedures legally required Current Economic Environment, which
assets that, at a minimum, provides to foreclose on homes. According to addresses matters related to the 2008
reasonable assurance that the disclosure the reports, estimates of potential costs, economic environment that might affect
in the prospectus is accurate in all including litigation, associated with audit risk, continues to apply.
material respects. The issuer is required mortgage repurchases and foreclosure
to disclose the nature, as well as the irregularities could represent a
findings and conclusions, of that review substantial exposure to the financial
in the prospectus. institutions involved. Please note: The statements contained in Staff Audit
Under the Final Rule, an issuer Practice Alert 7 discusses the Practice Alerts are not Board rules and are not Board
may engage a third party to perform professional guidance auditors judgments on the conduct of any firm, auditor, or other
person.
the review of the underlying assets. If a should consider when auditing loss
third party is used, disclosure must be contingencies and disclosures and
clear concerning whether the findings notes in particular how that guidance
and conclusions are those of the issuer relates to mortgage- and foreclosure-
or those of a third party. If the issuer related activities and exposures. Topics
attributes the findings and conclusions to addressed include the following:
the third party, the third party must be
named in the registration statement and
consent to being named as an expert.
8 Banking & Securities Update – Winter 2011
9. Banks
Tax update
Recent trends and opportunities • We continue to see more states
Banks, their boards, audit committees assert economic nexus, which
and management should be aware of a creates a liability when coupled
number of tax trends and opportunities. with the market state sourcing of
apportionment values.
• Various issues are emerging in
combined reporting for financial • Our professionals have had success
institutions, particularly in with clients obtaining significant
the treatment of broker-dealer refunds for the Texas margin tax,
subsidiaries in California and certain mostly due to significant reductions
other states. in apportionment factors.
• Market state sourcing for • With regard to real estate mortgage
apportionment purposes is an investment conduit (REMIC)
emerging trend. investments, banks should consider
taxation of excess inclusion income
• Seventeen states have adopted rules and the impact on state net operating
to source apportionment values loss (NOL) carryovers.
associated with asset management
fees from regulated investment • Our clients have had success in
companies (RICs), hedge funds and obtaining credits and incentives.
funds of funds based on shareholder
locations.
9 Banking & Securities Update – Winter 2011
10. Broker-dealers
Audit and accounting update
Derivatives reform legislation For accounting purposes, CDS are Under the proposed changes, assets
As part of efforts to reform the classified as derivatives and not insurance belonging to customers would be
U.S. financial system, the Obama contracts, and are subject to the Financial carved out and reported separately in
administration has proposed legislation Accounting Standards Board (FASB) an amendment to the Form X-17A-5,
that would bring the over-the-counter ASC 815, Derivatives and Hedging, Financial and Operational Combined
(OTC) derivatives market, including (formerly FASB Statement 133, Accounting Uniform Single Report (FOCUS report).
credit-default swaps (CDS), under for Derivative Instruments and Hedging Should this type of reporting become
federal regulation. The Dodd-Frank Activities). Under the rule, CDS are carried required, both auditors and broker-
Act would require the clearing of OTC at fair value. dealers must be prepared for additional
derivatives and would also institute work validating prices and reconciling
capital and margin requirements SEC assessment of customer assets the settlement-date stock record to the
for broker-dealers. The legislation and the impact on FOCUS reports trade-date customer position.
will continue to evolve as the SEC Currently, the value of a customer’s fully
and Commodity Futures Trading paid assets is not included in a broker- Amending Rule 17a-5 and report
Commission (CFTC) promulgates dealer’s financial statements. These assets Accounting firms should follow AT
additional rules; broker-dealers need to are reflected by quantity only in the Section 601, Compliance Attestation,
be aware of the legislation’s scope and stock record of the broker-dealer and which makes reference to Rule 17a-5,
unanswered questions that will remain released only on a memorandum basis. Reports to Be Made by Certain Brokers
until these rules are defined. and Dealers. However, while the 17a-5
Next steps and potential impact report does not meet AT 601 standards,
Next steps and potential impact Broker-dealers should be alert to the the types of compliance testing regarding
The legislation needs to determine response of the Securities Industry and safeguarding securities and practices and
whether CDS will be considered Financial Markets Association (SIFMA) procedures should be consistent with AT
derivatives or insurance contracts for to address regulators’ concerns. 601 standards and the audit guide. The
regulatory purposes — it is not clear if SEC expects to send out a proposal for
state insurance regulators could claim revisions and amendments to Rule 17a-5
oversight of these products. (potentially to require a compliance
examination report or an integrated audit
report) in the first half of 2011.
10 Banking & Securities Update – Winter 2011
11. SEC and PCAOB to place renewed The staff advises auditors to ensure
focus on broker-dealers’ financial that they comply with applicable SEC The letter states that
statements rules, as well as professional standards
the financial statement
The Dodd-Frank Act amended the including AICPA attestation standards,
Sarbanes-Oxley Act of 2002 (SOX), when planning and performing audits of audit and the auditor’s
authorizing the PCAOB to establish broker-dealers. compliance examination
auditing and related standards to be used by Rule 17a-5 demands a heightened procedures are critical
registered public accounting firms in their level of performance compared with
preparation and issuance of audit reports the level of assurance provided in
compliance elements of
that will be included in broker-dealer filings the internal control report that has the SEC’s oversight of
with the SEC pursuant to Rule 17a-5 under been previously used to meet this broker-dealers.
the Exchange Act of 1934. reporting requirement. The sample
On Sept. 24, 2010, the SEC released report on internal control, as published
interpretive guidance regarding these in the AICPA Audit and Accounting 2) The panel discussed views on how
auditing and related standards. The Guide — Brokers and Dealers in accounting firms should execute work
guidance states that references in SEC Securities, will be acceptable while and what guidance they can provide
rules and staff guidance in the federal the SEC considers changes to Rule to firms. The PCAOB said it thought
securities laws in GAAS (Generally 17a-5 and the PCAOB considers audit the existing requirements under 17a-5
Accepted Auditing Standards) or to standards for broker-dealers’ financial provide a very high level of assurance,
specific standards under GAAS, as they statements. In the interim, broker- and that nothing has changed — the
relate to non-issuer brokers or dealers, dealers and their auditors should plan board just wants all accounting firms
should continue to be understood to on providing clear documentation, as to have a consistent understanding
mean auditing standards generally well as conducting thorough reviews and of SEC rules and compliance
accepted in the U.S. plus any applicable testing of the accounting and internal requirements. Accounting firms
SEC rules. However, the SEC plans control procedures for compliance with should follow AT 601, which makes
to revisit this interpretation in light of safeguarding securities and net capital reference to 17a-5. However, while
its rulemaking project to update these computations. the 17a-5 report does not meet AT
requirements under the Dodd-Frank Act. The AICPA Stockbrokerage and 601 standards, the types of compliance
On Nov. 18, 2010, the SEC issued Investment Banking Expert Panel testing regarding safeguarding
a letter to the AICPA Stockbrokerage recently held a teleconference with the securities and practices and procedures
and Investment Banking Expert Panel PCAOB and the Office of the Chief should be consistent with AT 601
reminding auditors of the importance of Accountant of the SEC to discuss the standards and the audit guide.
complying with Rule 17a-5 requirements SEC’s Nov. 18 letter. Mark Ramler,
that apply when reviewing the Grant Thornton LLP Financial Services 3) Request for guidance on
accounting system and internal control Audit partner, is a member of the panel. measurement standards and views
procedures for safeguarding securities on material non-compliance and
for the annual audits of broker-dealer The four major themes discussed on material inadequacy. The PCAOB
financial statements. The letter states the December 2010 call are as follows: will consider this.
that the financial statement audit and
the auditor’s compliance examination 1) Since the 17a-5 is an attestation 4) The SEC said expects to issue a
procedures are critical compliance report, the Expert Panel believed proposal (content to be determined
elements of the SEC’s oversight that there should be assertion- — possibly a compliance examination
of broker-dealers. It also reminds type representation points in the report or an integrated audit report)
auditors that Rule 17a-5 requires that management representation letter. for revising and amending Rule 17a-5
the “scope of the audit and review… (The PCAOB was neutral on this in the first half of 2011.
shall be sufficient to provide reasonable point and did not provide a viewpoint
assurance that any material inadequacies either way.) The guidance and Potential impact
existing at the date of the examination… examples were expected in January In light of the increased scrutiny of
would be disclosed,” which is reiterated 2011 from Expert Panel members. The broker-dealers’ audits, broker-dealers
in the guidance in the AICPA Audit and management representation points on should expect a lengthier and potentially
Accounting Guide - Brokers and Dealers custody are very robust. more expensive audit process.
in Securities.
11 Banking & Securities Update – Winter 2011
12. FASB proposes amended guidance The proposed ASU follows the if the transferor has cash or collateral
on accounting for repos SEC’s recently issued Proposed Rule, sufficient to fund substantially all of the
The Board issued proposed ASU, Short-Term Borrowings Disclosure, cost of purchasing replacement securities.
Reconsideration of Effective Control for which addresses investors’ concerns The proposed guidance would
Repurchase Agreements, in November that disclosure of short-term borrowing remove this criterion and its related
2010 to improve and simplify the balances as of the balance sheet date implementation guidance from the
accounting for the assessment of effective may not provide an accurate picture of a Codification, thereby reducing the
control of repurchase agreements (repos) registrant’s liquidity position, especially criteria that transferors must satisfy
and similar instruments. The proposal if the registrant hides its actual liquidity to qualify for secured borrowing
responds to constituents’ concerns that needs by reducing short-term borrowings accounting and likely reducing the
current guidance does not adequately shortly before reporting dates. number of transfers accounted for as
address when transferors should account Currently under FASB ASC sales. The proposed amendments would
for repurchase agreements, or other 860-10-40-24, Transfers and Servicing, not affect other criteria that must be
agreements that both entitle and obligate a transferor must meet four criteria to satisfied to conclude that sale accounting
a transferor to repurchase or redeem maintain effective control of securities is appropriate.
financial assets before their maturity, as transferred in a repo and therefore The amended guidance would be
secured borrowings rather than as sales. account for the transfer as a secured effective for new transfers and existing
These concerns relate, in part, to reports borrowing rather than as a sale. One of transactions modified as of the beginning
that certain financial institutions had these criteria is that the transferor must of the first interim or annual period after
executed repos at the end of a reporting be able to repurchase or redeem the the Board issues the final ASU, which is
period and accounted for them as sales transferred securities on substantially expected in the first quarter of 2011.
under U.S. GAAP to reduce their short- the agreed terms, even if the transferee Comments on the proposed ASU
term borrowings, thereby lowering their is in default. This criterion for secured were due by Jan. 15, 2011.
leverage ratios at the reporting date. borrowing accounting is satisfied only
12 Banking & Securities Update – Winter 2011
13. Board proposes to converge offsetting The proposed ASU further Under new disclosure requirements
of financial assets and liabilities and clarifies that the right of offset must be that the proposed ASU would require,
derivatives enforceable under all circumstances, entities would disclose sufficient
Both the FASB and the IASB issued including during the normal course of information in tabular format about
proposals on Jan. 28, 2011, on a jointly business and on the default, insolvency, the rights of setoff and collateral
developed approach to converge the or bankruptcy of the counterparty. In arrangements associated with eligible
accounting guidance on when entities addition, the right of offset must be assets and eligible liabilities to enable
should offset eligible assets and unconditional, which means that its financial statement users to understand
eligible liabilities on the balance sheet. exercisability must not be contingent the effect of the rights and arrangements
Differences in offsetting requirements on the occurrence of a future event. on the entity’s financial position.
currently create the largest single The offsetting criteria in the proposed The proposed ASU does not specify
quantitative difference between guidance would apply to both bilateral an effective date, but it does indicate
statements of financial position prepared arrangements and to multilateral that the proposed guidance would be
under U.S. GAAP and those prepared arrangements that are between three or retrospectively applied to all periods
under International Financial Reporting more parties. It would also apply to the presented.
Standards (IFRS). offset of one or more eligible assets and The comment period on the
Under the proposed guidance, eligible one or more eligible liabilities. proposed ASU ends on
assets would be limited to financial assets If the criteria for offsetting are not April 28, 2011.
and derivative assets, and eligible liabilities met, eligible assets and eligible liabilities Additional information on the
would consist of financial liabilities would be presented separately, based on proposed guidance is located on the
and derivative liabilities. The proposed the nature of the asset and the liability. FASB website, including the newsletter
approach, presented in the FASB’s The proposed ASU also provides that FASB In Focus, “Exposure Draft:
proposed ASU, Balance Sheet (Topic 216): a reporting entity would not offset assets Offsetting of Financial Assets and
Offsetting, would require a reporting pledged as collateral, or an obligation Liabilities.”
entity to offset on its balance sheet a to return collateral, against the related
recognized eligible asset and a recognized eligible liabilities and eligible assets.
eligible liability if both of the following
conditions apply:
• It has an unconditional and legally
enforceable right to set off the
eligible asset and the eligible liability.
• It either intends to settle the eligible
asset and eligible liability on a
net basis or to realize the eligible
asset and settle the eligible liability
simultaneously. Simultaneous
settlement would occur only when The proposed ASU further clarifies that the right of
the transactions are executed at the
same moment.
offset must be enforceable under all circumstances,
including during the normal course of business and
on the default, insolvency, or bankruptcy of the
counterparty.
13 Banking & Securities Update – Winter 2011
14. Broker-dealers
FINRA, SEC, PCAOB and
corporate governance updates
Retaining control over customer assets their own due diligence testing. As part Next steps
A clearing broker must retain of this report, broker-dealers would have In order to conduct a reasonable
responsibility for the issuance of to perform an adequate sample test of investigation of securities, broker-dealers
instructions or actual movement of the outsourced activity to ensure it is in will have to develop procedures that
customer assets. In addition, the clearing compliance with service-level agreement address the risks associated with the
broker has a responsibility to perform terms. Learn more in Grant Thornton’s investments. Broker-dealers are now
due diligence on the capability of the Financial Bulletin on the topic. generally distributing and increasing
service provider, including compliance these Regulation D (or Reg D) offerings
with necessary business continuity and Regulatory Notice 10-33, Supplemental to qualified investors to generate profits.
retention requirements. FOCUS Information FINRA is concerned that there is a lack
In July 2010, FINRA released of due diligence being performed by
Potential impact and next steps Regulatory Notice 10-33, Supplemental brokers. RN 10-22 lists the due diligence
Broker-dealers will need to demonstrate FOCUS Information, which expanded best practices for brokers.
to both FINRA and the SEC that disclosure of revenue and expense items,
any movement of customer assets is as well as the disclosure of the top five Amendment to FINRA Rule 4560, Short
approved by the regulated broker and underwritings of unregistered offerings. Interest Reporting
completion of adequate due diligence An amendment to FINRA Rule 4560,
on the third-party provider. As a Regulatory Notice 10-22, Obligation of Short Interest Reporting, was recently
best practice, broker-dealers should Broker-Dealers to Conduct Reasonable proposed by the FINRA Board of
obtain a Service Organization Control Investigations in Regulation D Offerings Governors to ensure consistent reporting
Report (such as the AICPA SOC-2 As broker-dealers have been increasing (settlement date) and aggregate short
report for broker-dealers that already their distributions of private placements, reporting by trade desk. In addition,
have a thorough understanding of the FINRA has issued Regulatory Notice short interest reporting should not be
organization and its controls) to validate 10-22, Obligation of Broker-Dealers netted by trade desk within a firm, but
that applicable outsourced activities have to Conduct Reasonable Investigations should be reported on an aggregate basis
been completed, as well as to support in Regulation D Offerings or RN 10- for each individual trade desk.
22, reminding broker-dealers of their
obligation to conduct a reasonable
investigation of the offering.
14 Banking & Securities Update – Winter 2011
15. PCAOB: Interim audit inspection The PCAOB does not plan to issue Allocation of accounting support fees
program and funding rules proposed firm-specific inspection reports on The Proposed Rule, Proposal for
for broker-dealers procedures performed under the interim Allocation of the Board’s Accounting
The PCAOB recently released two program before the rules for a permanent Support Fee Among Issuers, Brokers, and
Proposed Rules to begin implementation inspection program take effect. It expects Dealers and Other Amendments to the
of provisions of the Dodd-Frank Act that insights gained through the interim Board’s Funding Rules, would establish
that expand its oversight to encompass inspection program will form the basis classes of broker-dealers for funding
audits of securities brokers and dealers. for determining the scope and elements purposes, describe the method for
The comment periods for both Proposed of a permanent inspection program, allocating the appropriate portion of the
Rules end Feb. 15, 2011. including whether to differentiate accounting support fee to each broker
classes of brokers and dealers, whether and dealer within each class, and address
Interim inspection program for to exempt any category of public the collection of assessed shares from
broker-dealer audits accounting firm, and what minimum brokers and dealers. The Proposed Rule
The Proposed Temporary Rule for an inspection frequency to establish. would also make certain revisions to the
Interim Program of Inspection Related The Proposed Temporary Rule Board’s existing rules for the allocation
to Audits of Brokers and Dealers would would not change the SEC rules or of the accounting support fee among
establish an interim inspection program professional standards that currently issuers. For example, it would amend the
for registered public accounting firms’ govern audits of broker-dealers. As the basis for calculating an issuer’s market
audits of securities brokers and dealers. SEC has previously explained, its rules capitalization to include the market
The Proposed Temporary Rule would continue to require those audits to be capitalization of all classes of the issuer’s
allow the PCAOB to begin inspecting carried out under generally accepted voting and nonvoting common equity.
auditors of brokers and dealers and auditing standards.
to address any significant issues in
those audits with the registered firms.
At least annually, the PCAOB would
issue public reports on the progress of
the interim inspection program and on
significant issues identified.
15 Banking & Securities Update – Winter 2011
16. Broker-dealers
Tax update
Cost-basis reporting Broker-dealers should identify
As of Jan. 1, 2011, broker-dealers and business processes and systems that will
other financial intermediaries are now need to be updated as a result of cost-
required to track and report not only basis data requirements — and should
cost-basis information, but also the prepare implementation strategies,
adjusted cost basis of any security that budgets, and project and staffing plans.
is sold. Applicable firms must have cost-
basis reporting implemented for: State nexus issues
States are increasing their collection
1) all stock transactions acquired on or procedures for points of revenue
after Jan.1, 2011; origination (i.e., customer location)
2) all mutual funds and dividend versus the state where the securities were
reinvestment plans acquired on or sold (i.e., branch location). It remains to
after Jan. 1, 2012; and be seen how this will be applied.
3) all financial instruments, such as debt
securities and options, acquired on or
after Jan. 1, 2013.
16 Banking & Securities Update – Winter 2011
17. Resources
We provide a number of articles and webcasts on the topic of financial reform and other topics About the publication
This Grant Thornton LLP bulletin
affecting the banking and securities industries.
provides information and comments
on current accounting issues
• White paper — Financial reform: How the Dodd-Frank Act affects securitization and developments. It is not a
and mortgage lending comprehensive analysis of the subject
matter covered and is not intended to
• Article — Financial reform and beyond: Key issues for broker-dealers provide accounting or other advice or
• Article — Financial reform: Top 10 considerations for broker-dealers guidance with respect to the matters
• Article — Financial reform and banks: Top 10 issues to consider addressed in the bulletin. All relevant
facts and circumstances, including
• Webcast playback — The Dodd-Frank Act and the impact on the banking and the pertinent authoritative literature,
securities industry need to be considered to arrive at
• FDIC-assisted transactions — Learn more about how to navigate the complexities of these conclusions that comply with matters
addressed in this document.
transactions from our white papers and webcast playbacks by visiting www.GrantThornton.com/
troubledbanks. Contact
For additional information on topics
covered in this document,
contact your Grant Thornton
You can also find these materials on our Financial Regulatory LLP adviser or one of the below
professionals:
Reform Resource Center at www.GrantThornton.com/
financialreform. Jack Katz
National Managing Partner
Financial Services
T 212.542.9660
E jack.katz@us.gt.com
The information contained herein is general in nature and based on authorities that are subject to change. It is not intended Nichole Jordan
and should not be construed as legal, accounting or tax advice or opinion provided by Grant Thornton LLP to the reader. This National Banking and Securities
material may not be applicable to or suitable for specific circumstances or needs and may require consideration of nontax and Industry Leader
other tax factors. Contact Grant Thornton LLP or other tax professionals prior to taking any action based upon this information. T 212.624.5310
Grant Thornton LLP assumes no obligation to inform the reader of any changes in tax laws or other factors that could affect E nichole.jordan@us.gt.com
information contained herein. No part of this document may be reproduced, retransmitted or otherwise redistributed in any
form or by any means, electronic or mechanical, including by photocopying, facsimile transmission, recording, re-keying or
using any information storage and retrieval system without written permission from Grant Thornton LLP.
This document supports the marketing of professional services by Grant Thornton LLP. It is not written tax advice directed at the
particular facts and circumstances of any person. Persons interested in the subject of this document should contact Grant Thornton
or their tax advisor to discuss the potential application of this subject matter to their particular facts and circumstances. Nothing
herein shall be construed as imposing a limitation on any person from disclosing the tax treatment or tax structure of any matter
addressed. To the extent this document may be considered written tax advice, in accordance with applicable professional regulations,
unless expressly stated otherwise, any written advice contained in, forwarded with, or attached to this document is not intended or
written by Grant Thornton LLP to be used, and cannot be used, by any person for the purpose of avoiding any penalties that may be
imposed under the Internal Revenue Code.
17 Banking & Securities Update – Winter 2011