A financial institution may originate a loan on which it obtains a Small Business Administration (SBA) guarantee. The SBA will guarantee up to 90 percent of the loan. After origination, the institution may sell (transfer) the guaranteed portion of the SBA loan on the secondary market. At the date the guaranteed portion of the SBA loan is sold, the institution certifies that: (a) the institution has no knowledge of default by the borrower or likelihood of default; (b) the institution has paid the SBA the guaranty fee; (c) the loan is properly closed and fully disbursed; and (d) the institution acknowledges that it has no authority to unilaterally repurchase the guaranteed interest.
The guaranteed portion of the loan may be sold at par, at a premium, or at a discount. When an SBA loan is sold at a premium, there are accounting consequences that should be considered. Under the standard SBA loan sale agreement (SBA Form 1086), there is a 90-day warranty period during which the institution would be required to refund any premium received. For example, if the borrower prepays the loan for any reason within 90 days, the institution must refund any premium received. Also, if the borrower fails to make the first three monthly payments due after the sale (transfer) date and the borrower enters uncured default within 275 calendar days, the institution must refund any premium received.
FASB Statement No. 166, Accounting for Transfers of Financial Assets – an amendment of FASB Statement No. 140, (FASB ASC Topic 860) as its title implies, amends FASB Statement No. 140, Accounting for Transfers and Servicing of Financial Assets and Extinguishments of Liabilities. Among the many changes made by this amendment to Statement No. 140, one change in particular may impact the ability of the institution to recognize the transfer of a receivable until after the 90-day warranty period has expired. That change specifically requires that the portion transferred qualify as a participating interest. Paragraph 26G of Statement No. 140 as amended (ASC 860-10-55-17L) states, “In certain transfers, recourse is provided to the transferee that requires the transferor to reimburse any premium paid by the transferee if the underlying financial asset is prepaid within a defined time frame of the transfer date. Such recourse would preclude the transferred portion from meeting the definition of a participating interest. However, once the recourse provision expires, the transferred portion shall be reevaluated to determine if it meets the participating interest definition.”
When financial institutions adopt Statement No. 166 in the first quarter of 2010, they likely will not be able to recognize gain on sales of the guaranteed portion of SBA loans when those loans are sold at a premium since in that case the recourse precludes the transferred portion from meeting the definition of a participating interest. The transaction should be accounted for as a borrowing. After the expiration of the warranty period, the transfer should be re-evaluated to determine whether the conditions in Statement No. 140 have been met in order to achieve sales treatment. The gain on sale could be recognized at that point.
All sales of SBA guaranteed loans need to be evaluated in accordance with the guidance in amended Statement No. 140 to determine the appropriate accounting treatment. The amendments to Statement No. 140 that are contained in Statement No. 166 are effective at the beginning of the first annual reporting period that begins after November 15, 2009.
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