An impending set of U.S. accounting rules for the tax-exempt market may bring significant new bookkeeping burdens and associated costs to governmental derivative end-users, and that has dealers fearing muni issuers will pull back usage. The Governmental Accounting Standards Board's new set of regulations will be a tall hurdle, according to Peter Shapiro, managing director of the Swap Financial Group in South Orange, N.J., who says they are more difficult to comply with than the current regime.
Randal Finden, a GASB project manager in Norwalk, Conn., said the board is looking to FAS 133--which requires companies to value derivative positions at market value--as a model from which to develop the municipal accounting rules. The board is debating whether to enforce a hedge accounting approach or a context-based method.
Current rules require government users to disclose in their financial reports what derivatives they hold, their structure, mark-to-market value and a general numeration of risk. The information is strictly a footnote and has no impact on a municipality's balance sheet or income statement, Shapiro said.
Finden explained the context-based approach requires a derivative be valued according to its associated asset or liability so long as they are clearly and closely related. Investment-related derivatives would be measured at fair value and debt-related ones at historic price. If a relationship does not exist, the derivative would be reported at fair value, he said. This approach is less burdensome than the hedge methods whereby municipalities would measure derivatives on the balance sheet at fair value and recognize ineffective hedges as gains or losses. Hedge accounting allows for a shift of income statement volatility to the balance sheet, he added.
The board will continue its debate on which method to adopt in February. It expects to issue a document for comment by spring and hopes to have a derivatives accounting standard by end 2006. Shapiro said, "This has been a burgeoning market for the swap community and these new rules could put a crimp in its future."
