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What Is Variable Interest Entity?

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  • Written By: Malcolm Tatum
  • Edited By: Bronwyn Harris
  • Last Modified Date: 01 December 2016
  • Copyright Protected:
    2003-2016
    Conjecture Corporation
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The variable interest entity (VIE) is a legal business structure that allows an investor to hold a controlling interest in the entity, without that interest translating into possessing enough voting privileges to result in a majority. Somewhat similar to the special purpose entity, the variable interest entity has been defined by the United States Financial Accounting Standards Board. Essentially, three elements must be present in some form if any investment enterprise can rightly be identified as a VIE.

First, the investor or group of investors that hold the equity on the entity do not have the privilege or responsibility of controlling the company. This means that the leverage of owning such a large bloc of equity will not automatically translate into making major decisions about the operation of the company, or the ability to reorganize the executive levels of the company. However, the investors in a variable interest entity will receive the same benefits in terms of realizing a return on their investment as any other investor.

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Next, a variable interest entity may be somewhat thinly capitalized. That is, the equity at risk is not enough to finance the overall operations of the venture. Other sources of funding, such as product sales, will carry the burden of meeting the expenses associated with the ongoing operation of the business. This is actually one of the reasons that the voting privileges of the equity holders is limited, since their interest is not the primary asset that keeps the company going.

Last, current economic conditions do not necessarily compliment the voting interests of the equity at risk holders. In order to comply with this condition, which is sometimes understood as the anti-abuse rule, voting privileges are somewhat limited. This condition makes it possible for a company to ride through a period where demand for the goods and services of the company is low, but better times are anticipated. During this temporary depressed market, the setup of a variable interest entity makes it more difficult for the equity at risk holders to attempt to shut down the company and sell off assets. Legal business structures of this type help to keep industries as well as investment markets somewhat more stable even during a temporary downturn.

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anon74167
Post 3

To clarify mdt's (#2)comment - By lending, banks become creditors, not equity holders. The obligation shows up in assets/liabilities of the respective companies, not equity. I don't know about banking rules, but I think mdt is right in the presumption that banks are generally prohibited from taking ownership interest in lending partners.

mdt
Post 2

I don't believe that it is possible for a bank to function as a VIE. Think of it this way - when a bank makes a loan to a corporation, the bank does not become the corporation.

My understanding is that investors do hold the equity. I do not think it is possible to be an investor in a VIE and not hold equity.

oldbjren
Post 1

To be considered as VIE, the investor(s) have to be equity holders, correct? In any condition, can the bank who only provides loan to an entity be considered as VIE?

Thanks!

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