On April 30, 2025, the Financial Accounting Standards Board (FASB) proposed updated guidance on reporting certain debt exchanges under U.S. Generally Accepted Accounting Principles. Here’s an overview of what would change if the proposal is approved and how the changes might affect your business.
Need for change
Under U.S. Generally Accepted Accounting Principles (GAAP), if a business modifies a loan or exchanges one loan for another, management must decide whether the change should be treated as either:
- A modification of the old loan, which calls for the original debt to remain on the books with adjusted terms, or
- A new loan, which would require the old loan to be extinguished (retired) and a new liability to be recorded.
The second treatment applies if the terms are “substantially different” based on a quantitative analysis of the change in cash flows. In practice, this analysis is called the 10% cash flow test. If the change exceeds 10%, the old debt is derecognized, and the new debt is recorded at fair value. Any difference between the carrying amount of the old debt and the fair value of the new debt is recognized as a gain or loss.
This issue can be challenging when more than one lender is involved, especially if the lenders agree to swap debt or change terms simultaneously. Currently, there’s no specific guidance on how to handle these group exchanges, resulting in diversity in accounting practice for similar transactions and confusion among investors, lenders and other financial statement users.
Proposed changes
Proposed Accounting Standards Update No. 2025-ED200, Debt — Modifications and Extinguishments (Subtopic 470-50) and Liabilities — Extinguishments of Liabilities (Subtopic 405-20): Accounting for Debt Exchanges, would make the accounting rules for debt exchanges clearer and more consistent, enhancing comparability in financial reporting. Specifically, it states that when two key conditions are met, a debt exchange should be accounted for as the extinguishment of the old debt and the issuance of new debt. The criteria could apply to any exchange where the conditions are satisfied, but it’s especially useful for transactions involving multiple creditors.
This proposal would simplify reporting for companies that:
- Negotiate restructured debt with several lenders,
- Participate in debt-for-debt exchanges, or
- Seek new financing involving creditor groups.
If approved, the updated guidance could affect how these entities report income and liabilities and compliance with debt covenants. It would be particularly relevant for entities in capital-intensive industries, such as manufacturing, real estate and energy, where large-scale financing is common.
Criteria for extinguishment treatment
Under the proposal, a debt exchange should be accounted for as an extinguishment of the existing debt and the issuance of new debt when two conditions are met:
- The existing debt obligation has been repaid in accordance with its contractual terms or repurchased at market terms, and
- The new debt has been issued with terms that follow the issuer’s customary marketing process.
If the new debt obligation doesn’t meet those conditions, the business would evaluate whether the existing and new debt instruments have substantially different terms using the 10% cash flow test. If the change is less than 10%, the debt exchange would simply be treated as a modification of the existing debt obligation. With debt modifications, the debt remains on the books, and any fees or costs are amortized over the remaining term.
The updated guidance differs from current GAAP because, if the two conditions are met, the business would account for the satisfaction of an existing debt obligation as an extinguishment without needing to perform the 10% cash flow test. As a result, more debt exchanges would be accounted for as the issuance of new debt obligations.
Work in progress
The FASB is currently reviewing public comments on the proposed guidance to determine whether to approve the changes or go back to the drawing board. However, if your business frequently restructures debt or deals with multiple lenders, you may want to speak with your CPA to understand how the updated guidance, if approved, could affect your financial reporting in the future.
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