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PostPosted: Fri Aug 08, 2008 4:12 am 
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Loss Carryforwards are now allowed for up to 20 years and FASB says to record the full amount of Loss Carryforwards as a deferred tax asset. So, if Freddie Mac and Fannie Mae have huge losses to carry forward, or Citicorp or Lehman Bros. have huge losses to be carried forward this causes their current losses to be reduced significantly. I can see allowing such assets to be recorded on the books for up to maybe 5 years if the company is not in danger of bankruptcy, but beyond that is simply not predictable or reliably known, in my opinion, and should not be capitalized as an asset. I usually agree with FASB, but this is one instance where I do not.

Anyone else see it differently?


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PostPosted: Fri Aug 08, 2008 5:16 am 
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dp1903 wrote:
I can see allowing such assets to be recorded on the books for up to maybe 5 years if the company is not in danger of bankruptcy, but beyond that is simply not predictable or reliably known, in my opinion, and should not be capitalized as an asset. I usually agree with FASB, but this is one instance where I do not.

I agree. I can't even begin to understand the rationality. Like the tax code, the more complicated the rules, the greater the likelihood that someone (like those at Enron and others) will find and make a killing on the loopholes. In the long run, it's Joe Sixpack that gets stuck with the bill.

That's my 2¢,

Rob


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PostPosted: Fri Aug 08, 2008 8:07 am 
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(1) The going concern concept of accounting is one of the more important concepts in accounting. Otherwise there would be no depreciation or classification of long versus short term assets or liabilities. Therefore financial statements must recognize the value or future benefit of a loss carryforward since it is assumed the company will be in a position to take advantage of the carryforward in the future.

(2) The FASB recognizes that the value of a deferral may be impaired Therefore they provide that you must reduce deferred tax assets by a valuation allowance if, based on the weight of available evidence, it is more likely than not (a likelihood of more than 50 percent) that some portion or all of the deferred tax assets will not be realized. The valuation allowance should be sufficient to reduce the deferred tax asset to the amount that is more likely than not to be realized. That adjustment is recognized in current year income.

(3) Financial statements are meant to be utililized by informed users. You are free to make any assumptions or make any allowances you feel appropriate in utilizing financial statements.


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PostPosted: Fri Aug 08, 2008 8:38 am 
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I appreciate your input, IRSfixer. FASB's logic is credible and I can understand why they made the decision they did. But, I stand by what I said. There are problems with this logic as can be seen by Freddie Mac and Fannie Mae presently. The problem is that many companies, Freddie Mac and Fannie Mae included, do not realisticly value their assets in this situation. No valuation allowance has been placed on their deferred tax assets even though they are in danger of going belly up and thus would not realize the tax assets. Their financial statements in many respects are fantasy.

It's also uncertain at present if Fannie Mae and Freddie Mac will be around another 2 years without government intervention. In such a case, under current FASB guidelines, valuation allowances for a significant portion of their deferred tax assets should be created. Their very existence is currently in question. The going concern concept may not should apply to them under current circumstances, in my opinion.

The problem is that companies are breaking the guidelines. Fannie and Freddie should be creating valuation allowances but they are not. In such a case I think FASB needs to "help" them ethically simply by being more conservative and changing and reducing the amount of years a company may calculate deferred assets for. There was a time when only 7 years was aloud. By doing so you help insure the assets are not hugely overstated as a result of unethical decision making or simply not being able to predict the future.

The principle of conservatism states that when in doubt choose the solution that will be least likely to overstate assets and income. Future benefits of the deferred tax assets are recorded in today's dollars rather than discounting future values based upon the time value of money, are they not? Shouldn't these future values be discounted? But on what basis would they be discounted? When would their benefits be realized? That's the problem, we don't know when or if they will be realized. The uncertainty of the value of the loss carryforward in any year makes it impossible to discounts the future values. They may have value for the company, they may not if the company does not produce a profit, we simply do not know. Plus, tax laws change over time making the value of the loss carryforwards more or less than what is currently recorded. The farther out to twenty years you go, the less predictable is the value of such assets for any given year.


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PostPosted: Wed Sep 10, 2008 8:01 am 
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I have not seen their balance sheet. But, given their recent financial performance I don't see how the recognition of the loss carryforward was in compliance with FAS 109. FAS 109 requires the recognition of deferred tax assets (including tax loss carryforwards) only when, in management's opinion (an this opinion must be sustantiated and documented), it is more likely than not that the company will realize the tax benefit associated with the deferred tax assets. If these enities were generating losses, and were forecasting losses over the next few years (which seems to have been the case, though I haven't been following the specifics of their performance and projections) they should not have recognized the assets on the balance sheet. In the footnotes to the financial statements they would have shown the assets, but should have shown a full valuation allowance against them so that the net book value is zero.

Though you can federal tax losses forward for up to 20 years, most successful companies utilize them in their tax returns much faster. When I was in public accounting I saw very few loss carryforwards expire unused. Usually they were fully used within four or five years because the losses were a result of a specific event and were not an ongoing phenomina (otherwise the company goes out of business or is acqured). If this is the case (i.e. the company expects to use them in the next few years and can show a reasonable business model and forecast to back up that contention) then the deferred tax asset associated with the loss carry forwards is proper.

I expect that once someone dives into the financial statements and company records there will be some interesting issues will come to light, like how can you justify not providing a full valuation allowance against those DTA's. I believe Deloitte audits at least one of these companies (though not 100% certain). It will be interesting to see what they have to say. I have recent experience with their audit of deferred taxes in the past few years, and it is very rigorous and detailed. We were challenged very thoroughly on our justification for recognizing DTA's. However, these companies are larger clients and have a different office/audit team assigned to them. It's may be kind of like the Enron thing where big clients and big fees may have swayed the sign-off. If so, the auditors should be sanctioned.


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PostPosted: Wed Sep 10, 2008 2:30 pm 
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I have lost about 14% of the money I invested into mutual funds after the market hit 12500, and 12100. Much of it is due to investments the fund had in Fannie, Freddie, and Lehman. One fund was more heavily into the financial sector and has lost over 20% since I got in.

If auditors did not challenge the absence of valuation allowances at Fannie and Freddie, then there is still a lot the accounting profession needs to correct if we want to regain the trust and credibility we once had. I hope the big guys get the message. Trust is hard to earn and it has to be earned. You want to be moral and ethical and risk the loss of an audit client or you want to lose trust and credibility in the eyes of investors and creditors and destroy your profession all together?


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PostPosted: Wed Sep 10, 2008 2:42 pm 
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Quote:
Accounting Magic

By the time the government moved in, Freddie had accumulated $34.3 billion of paper losses on mortgage-related securities that it excluded from its calculations of regulatory capital. All Freddie had to do was say the losses were ``temporary,'' and they could be kept out of the company's capital figure. It didn't seem to matter how ridiculous the claim was.

Fannie played the same game. As of June 30, it had $11.2 billion of supposedly temporary losses on mortgage-related securities, which it excluded from its calculations of core capital, as the government calls it. (A better name would be ``kore kapital,'' like the imitation krab sticks on a sushi bar menu.)

The so-called temporary losses had the warped effect of inflating a line item on both companies' balance sheets called deferred-tax assets. The bigger the companies' losses got, the more these tax assets grew, based on the premise that someday the companies would be able to use the losses to offset future income-tax bills.

The catch is that if a company doesn't expect to have enough profits to use these assets, it's supposed to record a valuation allowance on its balance sheet to reduce their size. Freddie and Fannie didn't let this requirement get in the way. They never set up any allowances.


This is from Bloomberg, Sept. 9, by Jonathan Weil. I don't get why the auditors didn't challenge this for 2007 statements and refuse to give the GSEs an unqualified opinion?


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