OREO Initial Investment Must Demonstrate Commitment

9/2/2010

By Ryan Pospeck, CPA

In accordance with FASB codification guidance, one of the key criteria that must be met before profit can be recognized using the full accrual method on a bank-funded sale of OREO is that the buyer’s initial investment must be adequate to demonstrate a commitment to pay for the property. In connection with guidance, the buyer’s initial investment shall include only the following:

• Cash paid as a down payment
  
• The buyer’s notes supported by irrevocable letters of credit from an independent, established lending institution, that is, an unrelated institution such as a commercial bank unaffiliated with the seller
  
• Payments by the buyer to third parties to reduce existing indebtedness on the property
  
• Other amounts paid by the buyer that are part of the value

While the amount of initial investment required for recognition of profit depends on the specific type of property, the initial investment should be calculated based upon the sales price alone, and shall not include any of the following:

• Payments by the buyer to third parties for improvements to the property
• A permanent loan commitment by an independent third party to replace a loan made by the seller
• Any funds that have been or will be loaned, refunded, or directly or indirectly provided to the buyer by the seller or loans guaranteed or collateralized by the seller for the buyer.

As OREO sales through bank financing likely have unique facts and circumstances, contact your accounting advisors to discuss your specific situation.