ASC 815 Simplified Hedge Accounting for Private Company Swaps: Eligibility, Entries and Audit Tests

A bank lends a private company money at a floating rate and requires a swap that fixes it. The company wants hedge accounting without a quarterly effectiveness regression and a valuation that depends on credit models. The FASB's Private Company Council recommended a relief for this exact situation, and ASU 2014-03 delivered it.

This guide covers who qualifies, the six conditions the swap must meet, how the swap is measured, what happens when the relationship ends, a worked set of entries and the evidence an auditor should ask for. For the standard cash flow hedge model, see /us/blog/asc-815-interest-rate-swap-cash-flow-hedge-entries.

What does the simplified approach do?

Many private companies borrow at floating rates and use receive-variable, pay-fixed swaps to turn the debt into fixed-rate debt. The simplified approach lets a private company assume perfect effectiveness for a qualifying swap in a cash flow hedge, and it relaxes the documentation requirements. The result on the income statement is interest expense that approximates what a fixed-rate borrowing would have produced.

The election is optional and can be made swap by swap. A company that does not elect it applies the general cash flow hedge guidance, or records the swap at fair value through earnings.

Who is eligible?

ASU 2014-03 excludes public business entities, not-for-profit entities, employee benefit plans and financial institutions. KPMG puts it as: a private company is any entity that is not a public business entity, a not-for-profit entity or an employee benefit plan, and a financial institution is a bank, savings and loan association, savings bank, credit union, finance company or insurance entity.

A company that later becomes a public business entity loses the approach, and KPMG says it must then retrospectively remove the effects of the private company guidance. The same applies where the private company's statements are incorporated into an SEC registrant's filing. A client with a sale or IPO on the horizon should weigh that before electing.

The ASU took effect for annual periods beginning after December 15, 2014, and interim periods within annual periods beginning after December 15, 2015, with early application permitted. Private companies could apply it on a modified retrospective or a full retrospective basis.

What are the six conditions?

The swap must be receive-variable, pay-fixed and designated as a cash flow hedge. It must also meet all six of these:

1. The swap and the borrowing use the same index and reset period.
2. The swap is plain vanilla. Any floor or cap on the swap matches one on the borrowing.
3. Repricing and settlement dates match, or differ by only a few days.
4. The swap's fair value at inception is at or near zero.
5. The swap's notional matches the hedged principal. The hedged amount can be less than total principal.
6. All interest payments on the borrowing over the swap's term are designated as hedged, in total or proportionally.

The standard gives no bright line for "a few days." The FASB said the phrase is a way to deal with administrative or practical concerns, not a blanket or extended exception, and chose not to set a threshold such as five days. A swap with off-market terms, a significant premium or a significant fair value at designation does not qualify. For an existing swap, the fair value test applies when the entity entered into or acquired the swap, not when it first applies the approach.

How is the swap measured?

A private company can carry the swap at settlement value instead of fair value. Settlement value excludes nonperformance risk. One way to estimate it is a present value calculation of the swap's remaining cash flows using a valuation technique that is not adjusted for nonperformance risk.

With perfect effectiveness, changes in the swap's settlement value go to other comprehensive income (OCI), and swap accruals go to interest expense. Fair value disclosures under ASC 820 still apply to swaps measured at settlement value, and they are kept separate from other fair value disclosures. The ASC 815 presentation and disclosure requirements continue to apply. See /us/blog/asc-820-fair-value-measurement.

When must the documentation be done?

Under the simplified approach, the required documentation can be completed by the date the first annual financial statements are available to be issued after hedge inception. A swap entered into on January 1, 20X1 can be documented by the issuance date of the 20X1 annual statements. The formal documentation content still applies: the hedged item, the risk, the method of assessing effectiveness and the expected interest payment dates.

Document early anyway. If a swap fails the criteria, hedge accounting cannot be applied retroactively.

Worked journal entries

An illustration with round numbers. A private company borrows $1,000,000 at a variable rate and enters a pay-fixed swap on the same notional, index, reset dates and term. The swap has zero fair value at inception, and the company elects the simplified approach.

Quarterly interest on the loan at the variable rate, $12,500. The swap settles with the company paying a net $2,500, the difference between the fixed and variable legs. Annual totals are $50,000 and $10,000:

Interest expense of $60,000 equals a 6 percent fixed rate on $1,000,000.

Year end. Rates fall, and the settlement value of the swap is a liability of $18,000:

The loan is repaid early in the next period, so the hedged payments will not occur. The relationship is discontinued from that date. The ASU gives this exact case, a borrowing prepaid without terminating the swap, as one where the amount in AOCI is reclassified to earnings. Assume the accumulated balance in AOCI is an $18,000 loss:

If instead the forecasted payments remain probable, as in a refinancing into a loan that no longer matches the swap's index but still bears interest, AOCI stays deferred and is released as the interest payments affect earnings. In both cases the general hedge accounting guidance applies from the date of change. The swap is measured at fair value on that date, KPMG notes the difference between fair value and settlement value goes to AOCI, and later fair value changes go to earnings unless the company redesignates a new hedge under the general guidance. The example above ignores the difference between fair value and settlement value, which would need its own entry.

Audit angle

The auditor tests eligibility first, because every other conclusion follows from it.

1. Entity status. Check that the client is not a public business entity, not-for-profit entity, employee benefit plan or financial institution. Ask about any pending sale or IPO, and whether its statements feed an SEC registrant.
2. Condition-by-condition test. Agree each of the six conditions to the loan agreement and the swap confirmation, and keep a checklist in the file. Confirm the swap with the counterparty under /us/standards/au-c-505.
3. Inception value. Obtain support that the fair value at entering into or acquiring the swap was at or near zero.
4. Documentation date. Compare it with the issuance date of the first annual statements after inception.
5. Settlement value. Recompute from the remaining cash flows, or agree to the counterparty statement after understanding the counterparty's method, since a statement may include credit adjustments.
6. Ongoing monitoring. Look for evidence that critical terms did not change, that forecasted payments stay probable and that counterparty and company credit were assessed.
7. Disclosures. Check the derivative disclosures and the separate fair value disclosures.

Common misstatements: using the approach on a swap with a cap that the loan lacks, an index mismatch after a refinancing, no documentation by the deadline, a counterparty valuation booked as settlement value, and no discontinuance entry after the loan was repaid. A swap that fails the conditions goes back to /us/blog/asc-815-interest-rate-swap-cash-flow-hedge-entries or to fair value through earnings. For other contracts that may be derivatives, see /us/blog/asc-815-derivative-scope-and-embedded-derivatives.

CORAA prepares ready-to-review audit files for US CPA firms from QuickBooks books; you review and sign. See /us.

Sources

• FASB, Accounting Standards Update 2014-03, Accounting for Certain Receive-Variable, Pay-Fixed Interest Rate Swaps, Simplified Hedge Accounting Approach (eligibility, conditions, documentation timing, discontinuance, effective date): https://storage.fasb.org/ASU%202014-03.pdf
• KPMG, Handbook: Derivatives and hedging, section 16.2 (simplified hedge accounting): https://kpmg.com/us/en/frv/reference-library/2026/handbook-derivatives-hedging.html
• PwC Viewpoint, Derivatives and hedging guide, 11.2 Simplified hedge accounting approach: https://viewpoint.pwc.com/dt/us/en/pwc/accounting_guides/derivatives_and_hedg/derivatives_and_hedg_US/chapter_11_private_c_US/112_simplified_hedge_US.html
• PwC Viewpoint, Derivatives and hedging guide, 11.1 Derivatives private company guidance overview: https://viewpoint.pwc.com/dt/us/en/pwc/accounting_guides/derivatives_and_hedg/derivatives_and_hedg_US/chapter_11_private_c_US/111_chapter_overview__1_US.html
• PwC Viewpoint, Derivatives and hedging guide, 11.3 Private company hedge documentation requirements: https://viewpoint.pwc.com/dt/us/en/pwc/accounting_guides/derivatives_and_hedg/derivatives_and_hedg_US/chapter_11_private_c_US/113_private_company__US.html
• 415 Group, Guide for first Private Company Council-developed ASUs: https://www.415group.com/guide-for-first-private-company-council-developed-asus
• Baker Tilly, FASB accounting standards offer GAAP relief for private companies: https://www.bakertilly.com/insights/fasb-accounting-standards-offer-gaap-relief-for-private-companies

AU-C references are to AICPA Professional Standards, paraphrased here; read the standard itself before relying on a requirement. This page is guidance, not professional advice. Report an error