Banking Practice Exam 2026 - Free Banking Practice Questions and Study Guide

Under FASB 157, Level 3 asset valuations are determined using management's best judgment of value. This approach is applied to situations where there are no observable market prices or market activity for the asset being valued. Level 3 inputs are unobservable and reflect the entity's own assumptions about how market participants would price the asset. This may include extrapolating from historical data or applying models to assess value based on underlying characteristics and risk factors.

In contrast, observable market prices for identical instruments correspond to Level 1 inputs, while observable prices for similar assets or liabilities relate to Level 2 inputs. Active market transactions are also characteristic of Level 1 inputs, as they indicate readily available prices based on actual trades. Thus, the reliance on management's judgment for assessing Level 3 valuations is a crucial aspect of FASB 157, especially in environments where market data may not be accessible.