Loan participations vs. syndications: What’s the deal?
Although the terms “loan participation” and “loan syndication” are frequently used interchangeably to refer to lending arrangements involving multiple lenders, they are two distinct types of transactions with different considerations and issues for accounting and reporting purposes. We have devoted time to this topic in our eLearning series, which is accessible on the Revolution, our online learning platform, in response to the questions we frequently receive from participants in our classroom Banking Industry Fundamentals training programs.
Although multiple lenders are involved in both loan participations and syndications, the structure of each leads to different accounting issues, such as derecognition under ASC 860 and recognition of fees under ASC 606 and/or ASC 310.
In a loan participation, a bank will originate a loan to a borrower. This is the only loan the borrower enters into. Subsequently, or concurrently, with the origination of this loan, the originating bank arranges a participation with other lenders. Under the participation arrangement, the participating banks agree to assume the risks and rewards of a portion of this loan by transferring funds to the originating bank in return for the rights to cash payments for that portion of the loan participated out to the participating bank.
The originating bank enters into multiple lending arrangements in a loan participation. The first transaction is the loan origination to the borrower. This transaction will be recorded in accordance with ASC 310’s standard loan accounting. The assignment of a segment of the loan to banks that are involved signifies a “transfer of a financial asset” (i e. the loan, or a portion of the loan), and ASC 860 derecognition assessment is required. The goal of this analysis is to ascertain whether the participating loan qualifies as a “participating interest” under ASC 860 and whether the original bank still retains control over the loan.
The bank that has a “relationship” with the borrower in a loan syndication probably does not want to take on the risk of making such a big loan. Consequently, the lead bank functions as a “syndicate”, connecting the borrower with several lenders, each of whom underwrites and originates its own loan to the borrower, instead of underwriting the entire loan and trying to participate it out to other banks. This leads to multiple loans being given to the same borrower by multiple banks.
Since each loan in a syndication is between the borrower and the respective originating bank, loan syndications do not involve any “transfers of financial assets.” Consequently, there is no problem with ASC 860 and the derecognition analysis. But there are some problems with revenue recognition for the lead syndicate bank because of the fees it gets from the borrower. Some of these costs might be “syndication fees” for putting the deal together and standard lender fees for the loan that it underwrote. Additionally, under these arrangements, the lead syndicate may be responsible for servicing the loan series on behalf of the syndicate banks. Apart from the loan that it originated, the lead syndicate must identify a servicing asset (or liability) in compliance with ASC 860 for these loans.
How do you tell the difference?
As demonstrated above, despite achieving the same economic outcome, these two arrangements—a loan participation and syndication—have different terms. Consequently, careful consideration should be given to the legal underwriters and parties to the contract, contractual terms of the instruments, and other conditions to make a final analysis. The only way to determine whether you are dealing with a participation or syndication is to READ the loan agreements!
Whether it is a loan participation or syndication is frequently determined by law. After this decision has been made, the accounting analysis can begin!
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FAQ
What is the term loan participation?
A loan participation is the selling or sharing of loan interests. Loan participations are a crucial component of depository institutions’ lending operations. Banks may choose to sell participations in order to improve capital and earnings, liquidity, and interest rate risk management.
What is the loan participation process?
By means of a participation loan, lenders share the risk associated with a loan with other lenders. This kind of risk division helps to lower risk for all parties involved by giving each lender a smaller share of the possible loss.
What is the difference between a loan participation and a loan syndication?
In contrast to syndications, where financing is provided to the borrower by each syndicat member in accordance with a common negotiated agreement, each syndicat member has a contractual relationship that runs from the lead bank to the participants and from the borrower to the lead bank.
Is a loan participation a true sale?
The form of participation agreements that The Loan Syndications and Trading Association, Inc. has established (LSTA), are recognized as trustworthy channels for transferring loan ownership interests from a lender to a participant in the US as “true sales.”
Read More :
https://www.occ.treas.gov/topics/supervision-and-examination/credit/commercial-credit/loan-sales.html
https://www.gaapdynamics.com/insights/blog/2021/06/29/loan-participations-vs-syndications-whats-the-deal/