FASB ASC 310-20: Accounting for Loan Fees and Costs

The Financial Accounting Standards Board’s (FASB) guidance in Accounting Standards Codification (ASC) 310-20 sets the rules for how lenders account for nonrefundable fees and costs from loan origination. The standard requires that income and expenses directly related to creating a loan are recognized over the loan’s life, not all at once. This method ensures that a lender’s financial performance is represented accurately over the term of the loan.

Scope and Key Definitions

The guidance in ASC 310-20 applies broadly to all entities that engage in lending, including commercial banks and finance companies. It covers a wide spectrum of lending products, from residential mortgages to auto loans, and addresses fees and costs from originating or acquiring loans and commitments to lend.

Loan origination fees are nonrefundable payments from a borrower to a lender for initiating a loan, such as application or underwriting fees. A common example is “points,” a form of prepaid interest a borrower pays upfront for a lower interest rate. These fees are not treated as immediate income but as an adjustment to the loan’s overall yield.

The standard provides a strict definition for direct loan origination costs. These are the specific, incremental costs incurred by the lender that are directly tied to a completed loan transaction. To qualify, a cost must be one that the lender would not have incurred if that particular loan had not been successfully originated.

These costs fall into two main categories: incremental direct costs from transactions with third parties, like appraisal fees, and costs related to specific employee activities. Qualifying employee-related costs are limited to activities such as:

• Evaluating the prospective borrower’s financial condition
• Assessing and recording collateral
• Negotiating loan terms
• Processing the final loan documents

Costs that do not qualify as direct origination costs include advertising, soliciting potential borrowers, servicing existing loans, and general administrative overhead.

Commitment fees are what a lender charges for a binding agreement to make funds available to a borrower at a future date under specified terms. The accounting for these fees depends on the likelihood that the commitment will result in a loan.

Recognition and Measurement of Fees and Costs

The core principle of ASC 310-20 is the deferral of loan origination fees and direct origination costs. Instead of being recognized immediately, these items are deferred when the loan is made. The guidance requires that the total origination fees received from a borrower be offset against the direct origination costs incurred for that same loan, resulting in a net deferred fee or cost.

This resulting net amount is recorded on the balance sheet as an adjustment to the loan’s carrying amount. If origination fees exceed direct costs, the net fee reduces the loan’s carrying amount. Conversely, if direct costs are greater than fees, the net cost increases the loan’s carrying amount.

The deferred net fee or cost is then amortized into income over the life of the loan using the interest method. The objective of this method is to produce a constant effective yield on the loan’s carrying value. The effective interest rate is the rate that discounts the loan’s expected future cash flows to the initial loan amount, adjusted for the net deferred fees or costs.

For example, consider a lender issuing a $200,000 loan with a 6% stated interest rate and a five-year term. The lender charges the borrower a $4,000 origination fee and incurs $1,500 in direct origination costs. The net fee is $2,500 ($4,000 fee – $1,500 cost), which reduces the initial carrying amount of the loan to $197,500.

Because the lender receives the same contractual payments on a lower initial investment, the effective interest rate on the loan is now higher than the stated 6%, at approximately 6.55%. In the first year, while contractual interest received might be $12,000, the interest income recognized for financial reporting would be roughly $12,940. The difference represents the portion of the deferred net fee amortized into income for that period.

Accounting for Specific Loan Scenarios

For loan commitments, the accounting treatment hinges on the likelihood that the commitment will be exercised. If it is determined that the commitment will likely not be exercised, the commitment fee is recognized as service fee income over the commitment period. If the commitment is expected to be exercised, the fee is deferred.

Once the loan is made from an exercised commitment, the deferred commitment fee is treated as a loan origination fee. It becomes part of the calculation of the net deferred fees and costs for the new loan and is amortized as an adjustment to the loan’s yield over its life.

In loan syndications, a lead lender originates a loan and then sells portions to other lenders, known as participants. Fees earned from this syndication activity are recognized as income when the syndication is complete, as the fee is compensation for arranging the financing. An exception occurs if the yield on the portion of the loan retained by the lead lender differs from the participants’ yield, in which case a portion of the fee must be deferred to adjust the yield.

If a borrower prepays a loan, any unamortized balance of net deferred fees or costs must be recognized in full in the income statement. For loan modifications, all are evaluated under a single framework. If a modification’s terms are considered more than minor, it is accounted for as a new loan, which requires writing off any remaining unamortized fees from the original loan and deferring any new fees and costs over the life of the modified loan.

Financial Statement Presentation and Disclosure

On the balance sheet, the unamortized balance of net deferred fees or costs is not a separate line item. It is included as part of the loan receivable’s carrying amount, reflecting the net investment in the loan.

In the income statement, the periodic amortization of these net fees and costs is reported as a component of interest income. It is not segregated as a separate revenue or expense line, as it directly adjusts the loan’s yield.

Lenders must disclose their accounting policy for recognizing income from loan fees and accounting for direct origination costs. Disclosures must also include the net amount of loan origination costs deferred and amortized for the period. For some entities, information about loan modifications and write-offs by origination year is also required to provide transparency.