Principles of Troubled Debt Restructuring

Issue/Inquiry

The Bank requests guidance regarding Troubled Debt Restructurings (“TDR”).

Response Summary

A TDR occurs when a creditor, for economic or legal reasons related to a borrower’s financial difficulty, grants a concession to the borrower that it would not otherwise consider. Whether a restructuring is a concession depends on the context within which it is made. The types of financial difficulties that would indicate that a concession had been granted include: defaults in the terms of the loan made by the creditor or other creditors, a declaration of bankruptcy, or serious doubts whether the borrower can continue business. The type of restructuring that would indicate that a TDR had been made would include extensions in the maturity or reductions in the rate of interest to a rate below the market rate for debt with a similar risk. Taking additional collateral that is not adequate compensation for other terms of the restructuring, when the creditor does not expect to be paid in full, may also indicate a TDR.

Response Detail

A Troubled Debt Restructuring, or TDR, is the restructuring of a loan in which a creditor, in response to the borrower’s financial difficulties, grants concessions that it would not otherwise consider.

Not all modifications or restructurings are TDR loans. The borrower’s financial capacity and the modified or restructured terms must meet the definition of a TDR.

The financial difficulties that would be considered in determining whether a loan is a TDR include:

• The borrower is in default on any of its debt, or will probably be in payment default in the foreseeable future without the modification
• The borrower has or is declaring bankruptcy
• There is substantial doubt about the business as a “going concern”
• Securities have been delisted or are in the process of or threatened with being delisted
• The creditor forecasts that the borrower’s entity-specific cash flows will be insufficient to service any of its debt in accordance with contractual terms for the foreseeable future
• Without the modification, the borrower cannot obtain funds from sources other than the existing creditors at an effective interest rate equal to the current market interest rate for similar debt for a non-troubled borrower. ASC 310-40 (Troubled Debt Restructuring by Creditors)-15-20.

The restructuring of a loan under a TDR may include:

• The transfer from the borrower to the creditor of real estate, receivables from third parties, other assets, or an equity interest in the borrower in full or partial satisfaction of the loan
• Modification of loan terms, such as a reduction of the stated rate (absolute or contingent), principal, or accrued interest, or an extension of the maturity date or stated interest rate lower than the current market rate for new debt with similar risk
• Extension or renewal at a stated interest rate lower than the current interest rate for new debt with similar risk
• Some combination of the above. ASC 310-40-15-9.

A creditor has granted a concession when, as a result of the restructuring, it does not expect to collect all amounts due, including interest accrued at the original contract rate. In that situation, and if the payment of principal at original maturity is primarily dependent on the value of collateral, a creditor shall consider the current value of that collateral in determining whether the principal will be paid. If a creditor restructures a debt in exchange for additional collateral or guarantees from the borrower, it has granted a concession when the nature and amount of that additional collateral or guarantees do not serve as adequate compensation for other terms of the restructuring. ASC 310-40-15-14.

If a debtor does not otherwise have access to funds at a market rate for debt with similar risk characteristics as the restructured debt, the restructuring would be considered at a below-market rate, which may indicate that the creditor has granted a concession. In such case, the creditor would consider all aspects of the restructuring in determining whether it has granted a concession. ASC 310-40-15-15.

A restructuring that results in only a delay in payment that is insignificant is not a concession. Factors indicating that a delay in payment is insignificant include:

• The amount of the restructured payments subject to the delay is insignificant relative to the unpaid principal or collateral value of the debt and will result in an insignificant shortfall in the contractual amount due.
• The delay in timing of the restructured payment period is insignificant relative to any one of the following: (1) the frequency of payments due under the loan; (2) the loan’s contractual maturity; or (3) the loan’s expected duration. ASC 310-40-15-17; ASC 310-35 (Impairment Measurement)-35-10.

This entry was posted on Tuesday, January 19th, 2016 at 2:00 pm.