In October 2018, the Financial Accounting Standards Board (FASB) provided private firms a reprieve from the variable interest entity (VIE) guidelines. Private businesses have long considered Accounting Standards Codification (ASC) Topic 810, Consolidation, among the most complex aspects of U.S. Generally Accepted Accounting Principles (GAAP). With this development, a simpler financial reporting alternative is now available.

Should You Consolidate?

VIE guidance aims to ensure that companies do not conceal their liabilities in off-balance sheet vehicles. It requires businesses to consolidate their holdings in other entities on their balance sheets when they have a controlling financial interest in those entities.

In the past, companies would decide to consolidate based on whether they had control over a related legal entity. However, after the Enron scandal in 2003, the FASB revised the guidelines to strengthen the criteria for consolidation. The updated standard introduced the idea of VIEs.

Billy Atkinson, chair of the FASB's Private Company Council (PCC) from 2012 to 2015, said: "Enron figured out a way within the standard to create off-balance-sheet structures with financing that was completely guaranteed by the host company but yet was off the balance sheet — and the VIE guidance was written to fix that."

Under the VIE guidance, a business has a controlling financial interest if it possesses the authority to direct the activities that have the most significant impact on the entity's economic performance. Additionally, it must have the right to receive substantial benefits from the entity and the responsibility to absorb its losses.

Reporting Alternatives

Accountants often find it challenging to follow the VIE guidelines. Private companies argue that some of their regular business relationships might qualify as VIEs under ASC 810. However, these relationships are established for tax or estate planning reasons and not to deceive investors or manipulate stock prices.

Former PCC Chair Atkinson said, "We said, 'Look guys, we've had about ten years-plus of application of this guidance. Let's see if we can untangle it a bit for the impact on private companies that fall prey to the complicated structural guidance."

Private companies told the FASB that the VIE model forced them to consolidate multiple affiliated and subsidiary businesses onto a parent's balance sheet. Lenders and creditors, who prefer cleaner balance sheets, became frustrated. Additionally, determining who holds power is not always clear in companies where ownership is shared among close relatives.

In 2014, the FASB responded to these concerns with Accounting Standards Update (ASU) No. 2014-07, Consolidation (Topic 810): Applying Variable Interest Entities Guidance to Common Control Leasing Arrangements (a Consensus of the Private Company Council). The updated standard lets private companies ignore the VIE guidance for certain leasing transactions. Private companies applauded this update, but problems persisted with the consolidation guidance for transactions that didn't involve leases.

Topic 810: VIE Exceptions

Private companies now have the option to skip the Variable Interest Entities (VIE) guidance and use a less complex method to evaluate whether common brother-sister business transactions require consolidation. This is made possible by the recent FASB move, ASU No. 2018-17 Consolidation (Topic 810): Targeted Improvements to Related Party Guidance for Variable Interest Entities.

The revised standard applies to all private company common control transactions that fulfill specific requirements and replaces the amendments mentioned in ASU No. 2014-07. If a private company utilizes the most recent modifications to Topic 810, it must disclose its association with and exposure to the legal entity under common control in its financial statements.

"It provides private companies the choice to not apply VIE guidance to their common control arrangements — thereby reducing costs without compromising the relevance of the financial reporting information to financial statement users," FASB Chairman Russell Golden said in a statement.

Many private companies are expected to opt out of the VIE guidance as soon as possible to simplify financial statement preparation. Contact us with questions or for more information on our Accounting Services.