While the current expected credit losses standard is expected to be delayed by the FASB, it will have a sizeable effect on financial institutions in the near future. In a preview of their presentation at the Sept. 17 PICPA Financial Institutions Conference, Allison Minnis of Crowe LLP and Tim McPeak of Abrigo join us to talk implementation status among industry sectors, common difficulties confronted during the process, and the prospects of the aforementioned FASB delay.

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By: Bill Hayes, Pennsylvania CPA Journal Managing Editor

Podcast Transcript

CECL, or the current expected credit losses standard, is set to impact the profession in significant ways, but is the profession prepared to implement the standard, and for those who have, what have been some of the difficulties that have been faced? These are questions that our guests, Allison Minnis of Crowe LLP and Tim McPeak of Abrigo are set to address during their presentation at the September 17th PICPA Financial Institutions Conference. Today, they give us a preview of their presentation.

Allison, what would you say are one or two of the biggest ways by which the current expected credit losses standard, or CECL, again as we'll be referring to it a bunch here most likely, is going to affect the accounting industry and financial institutions in particular?

[Minnis] I'll take this question two ways. Obviously, there's a lot of different ways that it's going to impact the industry, and I’ll talk a little bit specifically for finance institutions in the market right now, and there's a lot of articles being published right now talking about the long-term impacts CECL's going to have on credit decisions and pricing in the future for finance institutions and other institutions as they take on receivables. A loan that has a higher risk and requires a higher day-one reserve is going to pay a premium for that. Now, that isn't to say that today that's not the case, but it's going to shift, with the shift to their reserve being required for the life of the loan banks will need to monitor the credit worthiness closely, especially as institutions manage their capital ratios.

Then another thing to add from an accounting industry standpoint is that anytime you have a change in significant estimates, the industry is going to see a shift, and I think that's going to cause a shift in internal finance reporting. So, for internal finance reporting, there's a lot of committees that approve when it's a significant estimate, and those committees are going to now need more information with the estimate now not being as comparable to prior years. Also, peer data comparisons are going to be hard with the new CECL implementation, depending upon the way that they think or institutions opt to implement, and what models and assumptions they choose to use.

Tim, where is the industry in terms of implementation of the standard? Is it it ahead of schedule? Is it behind?

[McPeak] It's a bit of a mixed bag and I think we'll talk probably a little more in a couple of minutes about the proposed delay in the implementation of the standard that FASB has recently come out with, looks like it's likely going to take place. As per the original standard, it was really broken into three different buckets in terms of sort of a staggered implementation. The first bucket, this is going to remain the case, is going to be essentially the larger SEC filers. You can think of that as the larger financial institutions in the market. I would say by and large those institutions are fairly ready and fairly far along. Our client base at Abrigo, we work as a vendor on both the software and consulting side and we do have a large number of SEC filers.

Again speaking broadly, I think that most of them are pretty far along in the process in terms of a fairly tight parallel run at this point. Working through some of the thornier issues around documentation and policies and procedures. So I feel like that part of the market is in pretty good shape. I think the smaller part of the market, and that would be more like more traditional community banks and credit unions and other slices of the market, I think that this proposed extra time for implementation is actually appropriate. I think that there were large parts of the market that really were just not moving forward. So I think that, and this may come up again in conversation, but my sincere hope is that institutions are going to use this time to not only follow how this first wave goes for the SEC filers, but to use that time to kind of keep pushing ahead in their own preparations and working toward that transition. So again, it's kind of a mixed bag.

What have been some of the common difficulties that have been confronted during the implementation of this?

[Minnis] I think breaking this up again as we talk about the implementation date, you kind of have to break this up a little bit into public versus nonpublic and what are the difficulties they've encountered now and what are they looking at at this point. So I'll give an example for each one, for difficulties. For nonpublic institutions specifically, the difficulty is the data. I'm on the Crowe external audit side, we don't necessarily give an internal audit opinion on nonpublic. But we do assess the design appropriateness of their controls. Most banks we do find have no controls over the input information. But the question is going to be, are they going to be using different drivers than they use now?

So example, if a bank decides to use a credit score and that was something that they previously had not either captured or they just continued to override and update the credit score in their system, they might not have that data historically. Going forward they can add the fields and monitor them. But it may limit the methods the bank's able to use, and/or might require outside data. So I think for the smaller banks it's determining what information, did they have a process over what information they were monitoring, and what do they want to have going forward with CECL?

For public institutions, the difficulty right now is that most at this point like Tim had said are running parallel models and finalizing their thought process. But now they have to shift to, hey, what are they going to disclose? So disclosures are meant to provide, obviously, transparency, more information for the investors. So with CECL, the question is how much information is needed? The more institutions segment their portfolio, the longer the disclosures may need to be.

As a firm, Crowe did put out some illustrated CECL disclosures, prepping institutions a few weeks ago, and that's available. But it still doesn't address every possible scenario. Institutions will need to evaluate their specific model and hopefully we might see some margins enhance their disclosures maybe in Q2. We still have some that haven't been out yet, Q3 that may be able to help some other public institutions that are waiting until December 31st to disclose additional information.

Tim, you touched upon earlier, FASB's proposed a delay of CECL for some institutions at this point. What institutions have been affected by this delay and could you give a little more on how it changes how they should approach this standard?

[McPeak] I would argue that one of the potential flaws of the first standards, I thought the transition dates were actually really confusing. I found that a lot of our clients and prospects in the market, various financial institutions did find it confusing with the staggered dates and with sort of the PVE versus non-PVE versus SEC. So, I think in this case this is actually a much cleaner cut, and really essentially what the proposal would be is that all SEC filers, except for smaller reporting companies would continue on the current path. That is essentially at the end of this year, as they go into January 2020, they would be making this accounting transition. Then essentially the smaller reporting companies, we can call those the SRCs within the SEC group, along with all other entities get grouped into the January 2023 buckets.

It's a pretty big change, even though the group of the latest transition date previously now gets an extra year. Then, for that middle transition group, you've actually got an extra couple of years tacked on to this. So again, I think that, one, it's a little bit cleaner. I think it's a little easier to understand, and because this is sort of an existing cut within SEC filers, institutions, I think, are already aware whether they're going to qualify as a smaller reporting company. So again, I think that makes this a little bit easier. Then, in terms of the extra time, you know, my sense, and I think this was somewhat messaged from the FASB, is that they want the market to be able to really absorb more fully what can be learned from this first wave of institutions going through the transition, kind of the larger SEC filers.

I have the interpretation they also want the rest of the market to get this right when the time comes. So to really be able to have a little bit more time to prepare, to build out their data sets, to work through a lot of issues that Allison already talked through in terms of their controls and the governance around the process, and hopefully make a smooth transition.

One thing I do think is an interesting concept though is it will be interesting to see if there are some institutions that elect to early-adopt along the way. I can see some case for that. I think most institutions are happy to have the extra time, but in some cases I think if they're already fairly far down the road or feel like they can get there and they maybe just want to be able to lock in the effect of the accounting change and just go ahead and make the transition to the new standard, I can see a case down the road for some institutions to potentially do an early adoption. Allison, curious if you have any thoughts on that?

[Minnis] From an external side, we’re working with our clients now, and so some still have to implement as of January 1st, 2020, but we do have some that say they were ready to implement, and now they're deciding, "Hey, what do we do? Do we kind of wait, do we early-adopt? Maybe not yet, but maybe early-adopt next year." They're going to work with their regulators too, what is their expectation? Also try to find out what their investors think. If their peer groups early-adopt, that might encourage other banks to early-adopt. Depending upon who the bank sees as their peer group, we might see some not take that full delay.

In the long run, Allison, what segments of the accounting industry will be most effected by CECL, and are there other sectors that are going to experience minimal impact?

[Minnis] This kind of goes into the first question. I answered, too, a little bit about internal reporting is going to change, and the mix of how banks are going to decide their credit worthiness. But the other thing I didn't talk about was capital intact. So right now there is the option to phase in over three years. Obviously, there's some discussion still about if that's going to change. At this point, we are going with they had the option to phase in three years, for other institutions, one thing that most people don't talk about as much, but the held-to-maturity debt securities are also impacted by CECL, too.

They must consider assessment for expected credit loss on risks for held-to-maturity debt securities, which is a shift from the current GAAP, which only requires assessment of potential credit loss. So evaluating the held-to-maturity securities is another new thing. Also trade receivable, lease receivable, depending upon the type. So trade receivables, a lot of those are usually using an aging category currently, but they'll need to make sure they consider also reasonable and supportable forecasts and evaluate expected loss on day one even if the receivable's not past due.