Spring 2007-08 A loan is a sale because we say it is

Number 67
Spring 2007

A loan is a sale because we say it is

Act Number 13 of February 23, 2007, provides that a contract’s classification of a transaction as a “sale” makes it one, regardless its characteristics.

Name a four-legged animal that wags its tail and barks. “A fish.” Right! Now name a contract whereby a person gives money to another, with the recipient’s obligation to return it with interest. “A sale.” Right again!

Unless you just woke up from a long, long sleep, or your only source of news is The Airhead Journal-Tribune, you are most likely aware of what several local banks have gone-and in some cases still are going-through as a result of the need to restate their financial statements. One of the issues, you also may know, is their classification in the accounting books as “sales” and “purchases” transfers of mortgages that second guessers have concluded are indeed loans. Even though the contracts called the transactions “sales,” the second guessers found that they more resembled loans and were to be booked as such. Well, someone lobbied, and our legislature responded. Or did it?

Act Number 13 of February 23, 2007, provides that if the parties to a contract transferring “financial assets” (a snobby name for mortgages, commercial paper, promissory notes-you get the idea) state that the transaction is a “sale,” then it is one, even if it lives in the water, breathes through gills and its name is “Nemo.”

But wait! The law also lays down exceptions. Just three:

1- the law does not apply to repurchase agreements nor to reverse repurchase agreements;

2- the law does not affect the tax treatment to be afforded to these “sales”;

3- the law does not affect the accounting treatment to be given to them either.

So, what’s left, other than the good feeling that the legislature pleased the lobbyist? Think about it and drop us a note if you can come up with something.

Oh, by the way, Act 13 does not have retroactive effect. So it can’t help the local banks in trouble. But on the other hand, it probably wouldn’t have, even if its effects had been made retroactive.

Substance over form is an accounting concept where the entity is accounting for items according to their substance and economic reality and not merely their legal form. This concept is one of the key determinants of reliable information. For most transactions there will be no difference, so no issue arises. In some cases however, the two diverge and the choice of how to present the transactions can give very different results. This difference occurs when an asset or liability is not recognized in the accounts even though benefits or obligations may result from the transaction, or oppositely.

Source: www.financial-dictionary.com

© 2007 Goldman Antonetti & Cordova,