Recognition of Income Examples

Accelerated Market Discount recognizes deferred market discount and cost adjustments on principal repayments for securities purchased at a discount. When the system processes any of these repayments, the Accelerated Market Discount method first reduces amortization. Then, once fully reduced to zero, cost is reduced to zero. Once cost is reduced to zero by principal repayments, the remaining proceeds are recognized as a gain or loss. See examples.Example 1 – Remaining Deferred Exceeds Paydown Proceeds

As principal payments occur, the entire principal payment is applied to income when the amount of deferred market discount on the tax lot is greater than or equal to the amount of the principal payment (Example 1).

Proceeds are less than remaining deferred amortization (i.e. 1,000) so the entire proceeds will be recorded as amortization income and book cost will remain unchanged.

The remaining deferred amortization will be reduced by the recorded amortization.

Ledger Postings

Example 2 – Paydown Proceeds Exceeds Remaining Deferred

When the principal payment is greater than the remaining amount of deferred market discount, record the remaining amount as a reduction of current original cost (Example 2).

Proceeds are greater than remaining deferred amortization so the entire deferred amount will be recorded as amortization income and book cost will be reduced by the remainder. The remaining deferred amortization will be reduced by the recorded amortization and will end at 0.

Ledger Postings

Example 3 – Paydown Proceeds Exceeds Remaining Deferred and Cost

If the principal payment is greater than the remaining cost and deferred market discount, record the remaining amount as a capital gain (Example 3).

Proceeds are greater than remaining deferred amortization and the remaining book cost so the entire deferred amount will be recorded as amortization income and book cost will be reduced to zero and the remainder will be recorded as a capital gain.

Ledger Postings

Recognition of Paydown Loss/Recovery

For ABS paydowns that have proceeds and principal loss factors in the same coupon cycle the principal loss factors are applied first, followed by the paydown cash received. Apply loss factor quantity as a straight par reduction to the extent that there is sufficient unamortized discount to absorb the quantity without reducing any deferred market discount or original cost.

Unamortized discount = Par – Original Cost – Deferred Amortization

If the loss quantity is greater than the unamortized discount then apply the remaining quantity to the accumulated deferred market discount.  This amount is stored on the open lot (Prior Deferred Amort Reduction Local/Base).

If the loss quantity is greater than the total unamortized discount and accumulated deferred market discount the lot will be at par before applying the remaining par quantity.  Apply the remaining quantity to cost and Short Term Loss.  This amount is stored on the open lot (Prior Cost Reduction Local/Base).

Once the principal loss factor has been applied and reduced the appropriate quantity (and deferred market discount and cost when applicable), the cash portion of the paydown should be applied to the position in the manner described in the prior section.

Example 4 - Loss factor is less than the amount of unamortized discount (excluding deferred amortization)

Apply full unit reduction as a decrease in quantity and do not impact the remaining amount of deferred market discount.

No ledger entries are required for the principal loss component as there is no impact on cost.

Pre Paydown Totals