Loan Origination Fees & Costs Life
The accounting standard ASC 310-20 requires the deferral of all loan origination fees and costs and the application of this accounting standard is straightforward. As stipulated in the standard, the amortization should be calculated based on the contractual cash flows over the term of the loan using the effective interest method (although the straight-line method is commonly utilized). Factoring anticipated pre-payments into the calculation is explicitly not allowed under the standard unless one of the possible exceptions can be applied.
Key to determining the amortization period is the economic substance of the transaction. For example, some loans periodically see drastic changes in terms at fixed points (i.e. balloon and bullet loans) where there’s an additional underwriting process, and even new loan fees, at a specified date. This is functionally replacing the original loan with a new one. If this is the practice of the bank, then fees and costs should be amortized over the life of the original loan, with the replacement loan incurring its own fees and costs.
One exception to the general rule involves purchased loans that have become impaired, in which case the affected amortization is on the premium or discount of that loan. Additionally, ASC-310-20-35-26 allows for the prepayment of a loan to play a part in the amortization. If the bank “holds a large number of similar loans for which prepayments are probable and the timing and amount of prepayments can be reasonably estimated, [then] the entity may consider estimates of future principal prepayments.” The analysis required to use this exception may be prohibitive and prone to challenge. Also, most core systems will automatically apply costs based on the maturity date, so implementing different lives based on loan type may be difficult.
Topic 2D, Origination Fees and Costs (Including Premiums and Discounts) of the OCC’s Bank Accounting Advisory Series (updated on an annual basis), contains their interpretation of the application of this standard in a simple question and answer format. Of course there’s no exception to every rule having its exceptions, therefore, please don’t hesitate to contact the experts at Fortner, Bayens, Levkulich, & Garrison, P.C. with any questions and further guidance on the proper deferral of loan origination fees and costs.