#cecl

The development of Current Expected Credit Loss (CECL) solutions is underway to address the requirements of a new accounting standard set forth by the Financial Accounting Standards Board (FASB). This standard aims to facilitate the rapid calculation of estimated future credit losses throughout the lifespan of various financial instruments such as loans, debt securities, trade receivables, and purchased credit deteriorated (PCD) assets.

Previously, financial institutions (FIs) relied on traditional methods that primarily focused on incurred losses, marking loans as impaired only when they were deemed unrecoverable. These losses were then accounted for as expenses within the allowance for loan and lease losses (ALLL). Additionally, the determination of bad debts by FIs was often based on previous year's losses, with the same amount earmarked for potential credit impairment in the subsequent year.

However, the updated guidance from FASB mandates a shift towards incorporating predictive information into the calculation of bad debt. This necessitates the implementation of the CECL model, which enables companies to anticipate and account for potential credit losses more effectively. By doing so, FIs can address the inherent delay in recognizing credit losses across all financial assets.

The CECL model fundamentally requires organizations to take a proactive approach in assessing their exposure to credit losses. Rather than relying solely on historical data, companies must now factor in forward-looking information to better anticipate potential losses and subsequently adjust their financial records accordingly. This entails recording impairment, thereby deducting from revenues to reflect the impact of these anticipated losses.

By embracing the CECL model, FIs can enhance their risk management practices by gaining deeper insights into the potential credit risks associated with their portfolios. This proactive approach enables institutions to allocate appropriate reserves for expected credit losses, thereby strengthening their financial position and resilience against economic downturns or unforeseen events.

Furthermore, the Current Expected Credit Loss model encourages greater transparency and accountability in financial reporting. By requiring companies to incorporate forward-looking information into their calculations, stakeholders are provided with a more comprehensive understanding of the potential risks and uncertainties inherent within the institution's financial statements.

Implementing CECL solutions involves leveraging advanced analytical tools and methodologies to effectively model and predict future credit losses. This may include the utilization of statistical techniques, machine learning algorithms, and scenario analysis to assess various factors that could impact creditworthiness and repayment abilities.

Moreover, the adoption of CECL solutions necessitates a collaborative effort across different functional areas within an organization, including finance, risk management, and IT. By fostering cross-functional collaboration, companies can ensure the successful integration of CECL methodologies into their existing processes and systems.

Despite the benefits offered by CECL solutions, their implementation may pose certain challenges for FIs. These challenges may include data availability and quality issues, complexity in modeling forward-looking information, and the need for ongoing monitoring and validation of CECL models to ensure their accuracy and effectiveness.

The Allowance for Loan and Lease Losses (ALLL) is a calculated reserve established by financial institutions in connection to the expected credit risk within the institution's assets. It indicates the charge-offs that will most likely be incurred against an institution's operational income as of the end date of the financial statements. This decreases the book value of the institution's loans and leases to the amount that the institution expects to receive. The ALLL's objective was to indicate expected credit losses within a bank's loan and lease portfolio.

The 2007-2008 financial crises exposed the ALLL accounting standard's shortcomings, which included its inability to quantify credit losses depending on future events. It was based on losses that had been suffered but not realized. As a result, on June 16, 2016, the Financial Accounting Standards Board (FASB) issued the Current Expected Credit Losses (CECL) accounting model. The CECL standard is concerned with estimating predicted losses over the life of loans, whereas the existing standard is concerned with experienced losses. The method used to detect impairment losses on financial assets has long been regarded as a serious flaw, resulting in delayed identification and increasing scrutiny.

The CECL model's objectives are to:

Reduce the complexity in US GAAP (Generally Accepted Accounting Principles) by reducing the number of credit impairment models that entities use to account for debt instruments

Credit losses recognized in time with the use of an expected loss model instead of an incurred loss model

Require an entity to set aside an allowance for predicted credit losses over time

A specific method for entities not required to estimate expected credit losses

CECL standard applies to commonly held assets including:

Certain debt instruments held to maturity

Recognition of trade receivables and contract assets under ASC 606

Lease receivables that are a result of sales-type or directing-financing leases

Reinsurance receivables from insurance transactions

Financial guarantee contracts

Loan commitments

The CECL model does not apply to available-for-sale debt securities

A financial crisis will not be averted by CECL. Rather, it seeks to correct flaws in the reporting of financial data, which is crucial during times of economic hardship. CECL also consolidates today's credit impairment regulations, which span many standards, into a single standard that applies to the vast majority of credit transactions.

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En USA el Congreso aplaza, pero los reguladores no. El análisis técnico de la contabilidad CECL (US GAAP) no es asunto sencillo para quienes no están inmersos en la misma. En un contexto IFRS el sistema es ECL. Hay algunas diferencias importantes. En Colombia, por ejemplo, las cosas son un poco más complicadas dado que, en el Grupo 1, los bancos e instituciones financieras están sometidas a un régimen prudencial (que no es el mismo de los IFRS), mientras que otras entidades sí aplican los IFRS. Las cosas se complican más porque el IFRS para Pymes (Grupo 2) no contempla el sistema ECL.

Por Samuel Mantilla, léalo en: https://www.samuelmantilla.com/post/cecl-por-supuesto

Credit Squeeze May Loom As CECL Takes Root

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In finance, accounting is everything.

Accounting for everything, especially when it comes to credit — in other words, taking stock and measure of where lending activities have been concentrated, where risk is and where losses may loom — is as much art as science.

For lenders large and small, a new accounting rule could start to…

Credit Squeeze May Loom As CECL Takes Root

[ad_1]

Share

Tweet

Share

Share

Share

Print

Email

In finance, accounting is everything.

Accounting for everything, especially when it comes to credit — in other words, taking stock and measure of where lending activities have been concentrated, where risk is and where losses may loom — is as much art as science.

For lenders large and small, a new accounting rule could start to…