When preparing for periodic or annual reporting under GASB 53, the definition of what constitutes a derivative may vary. According to the Governmental Accounting Standards Board (GASB), Statement 53 defines derivatives as financial arrangements with values or cash payments that are based on what happens in separate transactions, agreements, or rates, and have these characteristics:
- The financial arrangements are leveraged. This means they require minimal or no initial investment on the part of a government but nevertheless achieve changes in fair value that would have required a far larger initial investment. These changes can be magnified based on the amount of leverage involved.
- The financial arrangements can be settled early with a cash payment or the transfer of an equivalent asset.
Financial Instruments Not Covered by GASB 53
There are also certain financial instruments that are not covered by GASB 53. The list below identifies several kinds of instruments to which its requirements do not apply:
- Normal purchases and sales contracts—typical transactions in which it is probable that a government will receive or deliver the purchased commodity, such as electricity or natural gas. In other words, the transaction takes place with an expectation that the commodity will actually be used by the purchaser. These can include agricultural products, fuel supplies, steel or anything else that a governmental entity may take delivery.
- Insurance contracts that are accounted for under GASB Statement No. 10, Accounting and Financial Reporting for Risk Financing and Related Insurance Issues
- Financial guarantee contracts under which the holder is reimbursed when a specified debtor fails to make required payments
- Contracts that are not traded on an exchange and have rates based on (a) climate, geological, or other physical attribute, or (b) the price or value of an asset that cannot be readily converted to cash
- Loan commitments, such as to first-time home buyers for mortgages.
If you are interested in learning more about GASB 53 reporting, you can download a GASB 53 white paper.
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