The Financial Accounting Standards Board staff issued a proposed position Tuesday, dubbed Proposed FSP FAS 140-b, outlining its concerns over whether 12b-1 fees are a sellable asset or a future flow. The Board calls into question the current practice of treating sold fee collection rights as sold assets as opposed to deferred income. It is unlikely, however, to have much of a negative impact on mutual fund fee ABS due to the small chance that mutual fund managers would suspend broker fees because of the changed accounting status, sources said.
The limited impact seen for the 12b-1 fee sector is primarily at the individual fund level, noted Moody's Investors Service Senior Vice President Michael O'Connor. "This shouldn't negate the true sale status of the assets, just how the [sold] fees are accounted for in the fund's financials," O'Connor said. Furthermore, the funds would not need to restate previously filed financial statements, but would instead report the cumulative effect in financial statements going forward.
Speaking of the accounting treatment of sold 12b-1 fees, FASB states, "these exchanges may include some level of recourse and various indemnities that protect the third party in the event that the 12b-1 plan is rescinded by the fund's board."
The waiving of a fund's broker fees, its non-asset appreciation income, is something that is viewed as improbable, as the sale of 12b-1 fee collection rights is the primary source of liquidity for mutual funds.
"It's very, very, very rare - it has only happened once, and then only for a couple of months - that a mutual fund manager would willingly forgo its brokerage fees," one source said. "From an accounting standpoint, FASB is debating whether the transfer of 12b-1 fees should be debt and, in a bankruptcy situation, get clawed back into the bankrupt estate."
FASB proposes that "the classification of the cash received from a third party should be based on the provisions of EITF Issue No. 88-18, Sales of Future Revenues,' that is, as debt or deferred income. Some distributors entering into such exchanges have accounted for the exchange as a sale of an unrecognized financial asset or as the receipt of fees resulting in full revenue recognition of the future 12b-1 fees and the corresponding recognition of previously deferred expenses."
Additionally, most expected the two remaining 12b-1 fee financiers, Citigroup Global Markets and Societe General unit Constellation Finance, would easily weather the added debt incurred from any accounting changes.
This is an issue mainly for mutual funds "that have done 12b-1 sales in the past and recorded them as sales and recognized income, rather than deferred the income and recorded debt. The funds will not be able to do that anymore, and the deals in which they had done so in the past will have to be re-accounted for as debt if and when this is issued in final form," said one anonymous accounting source.
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