The Financial Accounting Standards Board is likely to adopt a relative fair value approach as the solution to its purchased mortgage servicing rights project, according to a Fannie Mae accounting and tax vice president.

FASB decided on Oct. 20 to undertake a limited scope project to revisit FAS 65, the existing accounting standard on mortgage servicing rights that is widely considered outmoded.

Critics say generally accepted accounting principles results in asymmetrical accounting that doesn't recognize the leading mortgage banking asset on the the balance sheet.

GAAP now distinguishes between originated servicing and purchased servicing. For originated servicing, origination costs are expensed currently or when loans are sold. For purchased servicing, the costs of acquiring these rights is capitalized if there is a definitive plan to sell the related loans or if purchased separately.

The board decided to limit its project to ftve questions, the first of which is: Should originated servicing be recognized as a separate asset? As FASB Chairman Dennis Beresford has observed, the mere fact that the board is undertaking the projects suggests that the answer to this question is a foregone conclusion.

Given that accounting standards are preparlng to catch up with the real world and recognize servicing rights as a separate asset, the next question is, How will this be done?

Two main ways in which standard setters could capitalize originated servicing, according to James T. Parks, vice president for financial standards and corporate taxes at Fannie Mae in Washington, are the incremental-direct-cost method and the relative-fair-value method. Parks said the route FASB chooses win not affect Fannie Mae directly, but the agency monitors it closely because of its importance to its clients.

The incremental-direct-cost method is based on the theory that the costs to originate servicing represent an economic sacrifice to obtain the servicing asset. Under this method, two kinds of costs would be capitalized: incremental direct origination costs paid to third parties; and certain other lender costs related to loan origination.

Motivated in part by this efficiency issue, Parks expects FASB to adopt the relative-fair-value approach. Under this method, the purchase price is allocated between the loan and its servicing based on the relative fair value of each. This approach is consistent with the notion that the loan and its servicing are two separate assets.

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