Special Purpose Entities

FASB (Financial Accounting Standards Board) has provided Accounting for Transfers of Financial Assets in preparation for a meeting about its plan to limit the use of special purpose vehicles.  You will recall that SPVs played a large role in Enron, as the corporation used the bright-line FASB rules to claim that various assets were "sold" even though it still retained various obligations and interests in the assets.

FASB is now planning to remove the qualifying special purpose entity concept out of two of its standards, in particular the one dealing with securities, to provide more consistent financial reporting and better information to investors.  Under the proposal, assets would be considered sold only if the transferor surrendered control, which would only exist if the assets were beyond the reach of creditors in bankruptcy; and the transferor doesn't retain control through a right or obligation to repurchase (except through a permitted clean-up call) or a restriction against further thansfers by the purchaser.

This looks like a move in the right direction.  Note that it has taken years after Enron for FASB to deal with this question. 

Will it take us that long to develop appropriate regulatory controls over investment banks, mortgage brokers and the other players whose excessively risky behavior has led to the current credit crisis?  I heard a representative of ISDA (International Swaps and Derivatives Association) on NPR last night in a discussion of the Paulson proposal.  (Paulson's proposal at least starts us talking about the right issue, but it represents a DE regulation, rather than the needed RE regulation of investment banks, derivatives, and broker dealers.)  The ISDA representative kept repeating that credit default swaps and similar derivatives aren't the guilty culprits in our crisis because they "merely" permit financial institutions to better hedge their risks.  Now, folks, that's a bit of a stretch.  Used correctly, credit default swaps are good hedging instruments.  But they can also be used to make financial bets.  And the trillions of dollars of growth in those instruments over the last few years has been partly fueled by the power of the bet.  There is a major need for regulating the investment banks and the derivatives that they deal in.  We shouldn't let the special interest lobbyists sway us from that task.