Auditing Group Looks to Tighten Partnership Rules

Accounting rule makers plan to accelerate their effort to make it more difficult for companies to create the type of partnerships that Enron Corp. used to shift billions of dollars in debt off its books.

The rules under review by the Financial Accounting Standards Board allowed Enron to create off-balance-sheet partnerships by finding investors who took as little as 3% of the risk.

New guidelines to be proposed next month will focus on who controls such entities and whose capital is at risk, rather than just their stated ownership, board members said at a meeting Wednesday.

“We have to make absolutely sure that the outside investor can lose the entire amount and that there is no implicit or explicit guarantee” for the investor’s debts, board member Catherine Schipper said. One test could be whether the “entity could obtain ... a commercial bank loan without the support” of the company that set it up, she said.

The new guidelines would seek to determine if the financing vehicles are independent of their sponsors and who will benefit from any income the entities generate.

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The FASB, a private group that sets the generally accepted accounting principles used by U.S. corporations, had planned to propose rules by the end of June. But as Congress investigates Enron’s collapse, Securities and Exchange Commission Chairman Harvey L. Pitt has told the FASB to make proposals to close the accounting loopholes on so-called special-purpose entities in 60 to 90 days.

Enron, which created more than 3,000 off-balance-sheet partnerships, used just three of them to keep $2.6 billion in debt off its books.

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Special-purpose entities are widely used by U.S. companies. In a typical case, a company sells an income-generating asset to the entity, which then borrows against it and pays the sponsoring company.

To meet standards for off-balance-sheet treatment under the current rules, the assets of such an entity must be legally isolated from the parent company and an independent third party must have a substantive investment at risk.

Many experts say the accounting board’s new standards should avoid setting a specific minimum level of outside investment, such as 3%, that is sufficient to allow a company to move a partnership off its books.

Schipper said the board should consider keeping a percentage, possibly 10%, as a “rule of thumb,” while making it clear that the percentage of outside investment at risk is only one of several guidelines used by auditors.