The Financial Accounting Standards Board has rejected a proposal by some banks to revise the pending credit losses standard, due to take effect Jan. 1, 2020.
The standard, which requires all public companies to adopt a current expected credit losses approach to recognizing credit-based instruments in financial statements, would become even more complex under the approach some banks proposed, FASB determined. “I don’t believe the potential benefit that could come from this is justified by what I view as substantial incremental cost to do it,” said FASB Chairman Russ Golden during the board’s public meeting to deliberate the proposal.
Under Accounting Standards Codification Topic 326, the CECL model requires companies to use their own historic data as well as market information to estimate a lifetime expected loss on credit instruments and recognize that expected loss through net income, even as new instruments are originated, even when they are fully performing. As banks in particular are preparing to implement ASC 326, they are estimating potentially big increases in the reserves that will be necessary as well as the implications for regulatory capital under banking regulations. Banking regulators have indicated they will give banks three years to acclimate to the new reserve.
Some banks asked FASB to allow all entities to separate the projected loss calculated under CECL so that losses expected in the coming year would be recognized in net income and the rest would flow through “other comprehensive income,” which is a component of equity on the balance sheet. While all six members of FASB rejected the specific proposal brought forth by the group of banks, a few expressed some reservation about the current CECL model and indicated they support some notion of recognizing the projected loss in a different way.
“I support the concept of splitting the provision,” said FASB member Hal Schroeder. When the board considered the idea during the standard-setting process, however, it determined it was not operable, he said. If the board were to reconsider some change to recognizing the loss provision, said Schroeder, “I would focus on splitting between the provisions related to originations and changes in prior period estimates.”
Jim Kroeker, vice chairman of FASB, who dissented to the issuance of the CECL standard in 2016, says he also supports a different approach to recognizing the lifetime loss. He does not believe, however, that the approach recently proposed by the group of banks is the right path forward.
“I don’t see a cost-effective, viable solution in what’s proposed,” said Kroeker. While acknowledging concerns about the effect of the CECL approach on regulatory capital, those are concerns for banking regulators to address rather than FASB, he said.
FASB first learned of the proposal to alter CECL late in 2018 as members of Congress and an even larger group of banks called on the board to delay the CECL standard. During a public meeting to discuss the bank proposal and disclosure issues related to CECL, the board did not address any consideration of a delay in the effective date. A spokesman for FASB said the effective date remains the same.
Mike Gullette, senior vice president at the American Bankers Association, which called for a delay in the effective date so that the economic effects of CECL can be further studied, plans to continue advocating for a delay. “While FASB may not have accepted this specific proposal, that does not mean there is a consensus to move forward with CECL in its current form,” he said.
Banks are having concerns not only about the regulatory capital effects, but also the extent to which the CECL model may restrict their ability to lend, especially when economic conditions deteriorate. “This is why we continue to call for a delay until a quantitative impact study can be conducted to assess both financial reporting and regulatory capital concerns raised by CECL,” said Gullette.