What changed
RBI issued guidelines on uniform accounting standards for Asset Reconstruction Companies (ARCs), effective from the accounting year 2014-15. Pre-acquisition due diligence costs must be expensed immediately, while post-acquisition costs recoverable from trusts must be reversed if not realized within 180 days or if SR net asset value falls below 50% of face value. Revenue recognition is restricted: yield and upside income can only be recognized after full redemption of the principal amount of Security Receipts (SRs). Management fees may be accrued but must be realized within 180 days, or reversed if unrealized or if SR NAV drops below 50%.
What it means for you
ARCs must tighten expense and revenue recognition practices, impacting profit reporting and cash flow management. The strict revenue recognition rule delays income booking until full principal recovery, potentially reducing reported earnings in early years. Valuation rules require ARCs to provide for net depreciation on SRs without offsetting net appreciation, increasing provisioning needs. Banks and lenders dealing with ARCs should expect more conservative financial statements from these entities, affecting their own asset quality assessments.
What you must do
- Review and update accounting policies for ARC investments to align with the new uniform standards.
- Ensure pre-acquisition costs are expensed immediately and post-acquisition costs are tracked for reversal within 180 days or upon NAV triggers.
- Adjust revenue recognition practices: defer yield and upside income until full principal redemption of SRs.
- Monitor management fee realization timelines and reverse any unrealized fees beyond 180 days or if SR NAV drops below 50%.
- Reclassify SR investments as available-for-sale and provide for net depreciation without netting appreciation.
Who it affects
All registered Securitisation Companies and Reconstruction Companies (ARCs), Banks and financial institutions investing in or transacting with ARCs, Auditors and accounting professionals handling ARC financials
When do these accounting standards become effective?
The guidelines are effective from the accounting year 2014-15, as per the RBI circular dated April 23, 2014.
How should management fees be treated under the new rules?
Management fees can be recognized on an accrual basis, but must be realized within 180 days from the end of the planning period or from recognition date. Unrealized fees must be reversed, and also reversed if SR NAV falls below 50% of face value before realization.
What is the 'planning period' referred to in the guidelines?
The planning period is a maximum of twelve months allowed for formulating a plan to realize non-performing assets acquired for reconstruction, as defined in RBI Notification No. DNBS.2/CGM(CSM)-2003 dated April 23, 2003.