Off-balance sheet, or Incognito Leverage, usually means an asset or debt
or financing activity not on the company's balance sheet.
Some companies may have significant amounts of off-balance sheet assets and
liabilities. For example, financial institutions often offer asset
management or brokerage services to their clients. The assets managed or
brokered as part of these offered services usually belong to the
individual clients directly or in trust, although the company provides
management, depository or other services to the client. The company itself has no
direct claim to the assets, so it does not record them on its balance sheet,
while usually has some basic fiduciary duties with respect to the client.
Financial institutions may report off-balance sheet items in their
accounting statements formally, and may also refer to "assets under management,"
a figure that may include on and off-balance sheet items.
Under current accounting rules both in the United States and internationally,
operating leases are off-balance-sheet financing. Financial obligations of
unconsolidated subsidiaries may also be off-balance sheet. Such obligations were
part of the accounting fraud at Enron. The formal accounting distinction
between on and off-balance sheet items can be quite detailed and will depend to
some degree on management judgments, but in general terms, an item should appear
on the company's balance sheet if it is an asset or liability that the company
owns or is legally responsible for; uncertain assets or liabilities must
also meet tests of being probable, measurable and meaningful. For example,
a company that is being sued for damages would not include the potential legal
liability on its balance sheet until a legal judgment against it is likely and
the amount of the judgment can be estimated; if the amount at risk is
small, it may not appear on the company's accounts until a judgment is
rendered. Differences between on- and off-balance
sheets Traditionally, banks lend to borrowers
under tight lending standards, keep loans on their balance sheets and retain
credit risk—the risk that borrowers will default. In contrast, securitization
enables banks to remove loans from balance sheets and transfer the credit
risk associated with those loans. Therefore, two types of items are of
interest: on-balance sheet and off-balance sheet. The former is
represented by traditional loans, since banks indicate loans on the asset side
of their balance sheets. However, securitized loans are represented off
the balance sheet, because securitization involves selling the
loans to a third party. Banks disclose details of securitized assets only in
notes to their financial statements. The Banking Example
A bank may have substantial sums in off-balance sheet accounts, and the
distinction between these accounts may not seem obvious. For example, when a
bank has a customer who deposits $1 million in a regular bank deposit
account, the bank has a $1 million liability. If the customer chooses to
transfer the deposit to a money market mutual fund account sponsored by the
same bank, the $1 million would not be a liability of the bank, but an amount
held in trust for the client. If the funds are used to purchase stock, the
stock is similarly not owned by the bank, and do not appear as an asset or
liability of the bank. If the client subsequently sells the stock and
deposits the proceeds in a regular bank account, these would now again appear as
a liability of the bank. As an example UBS has CHF 60.31 billion
Undrawn irrevocable credit facilities off its balance sheet in 2008
Citibank has USD $960 billion in off-balance sheet assets in 2010, which
amounts to 6% of the GDP of the United States.
References External References
Off-Balance-Sheet Entities: The Good, The Bad And The Ugly - Investopedia
Risk Glossary explanation