• Sourav Sekhar, Lead Consultant, Product Management & Strategy at Fintellix Solutions


• 18.11.2015 12:00 am
undisclosed , Sourav is a BFSI domain expert with seven years of experience spread across Investment Banking and IT Consulting for the BFSI Domain. A Finance graduate from the Indian School of Business and a Mechanical Engineer from the National Institute of Technology - Warangal, Sourav’s interests span across Risk, Compliance and Banking Decision Sciences.

Last week (on Nov. 11), the Financial Standards Accounting Board (FASB) voted to finalize the effective date of its proposed regulations on measuring loan-loss reserves. The sweeping regulations will require a forward-looking “expected loss” (CECL) approach instead of the “incurred loss” approach effective today. The board tentatively decided the effective dates as:

• Dec. 15, 2018, including interim periods – For Public Business Entities (PBE) which are SEC Filers
• Dec. 15, 2019, including interim periods – For PBE which are non-SEC Filers
• Dec. 15, 2020, including interim periods – For all other entities

The board also permitted early adoption of the guidance. Although, FASB is still making modifications to the guidance which is expected to be released during the first quarter of 2016, the confirmation of effective dates underscores FASB’s direction in moving forward with the proposed CECL guidelines.

Accounting for Troubled Debt restructuring (TDRs) and the model for Available For Sales (AFS) securities were two of the “fatal-flow” matters discussed during this meeting. The board reversed its previous decision of including a cost-basis adjustment to the modified asset based on the feedback received. As a result, credit losses for TDRs would be measured using the expected credit loss models only. However, as the decision is tentative, we expect further re-deliberations for TDR accounting as the pooling of TDRs is still not allowed.

Though the board decided to apply a fair value floor for AFS securities into the credit loss model, it decided to retain the clause which would require entities to decide whether they are required to sell the security before recovery of its amortized cost basis. While these were the two sweep issues discussed during the meeting, other external review comments would be dealt with either directly in the final guidance or in a separate meeting.

We believe the biggest takeaway from the Nov. 11 meeting is a confirmation of FASB’s direction in terms of CECL, by putting the effective dates of adoption in place. Although, smaller banks would have a 3 year time frame to implement the expected changes in calculations, the prep work needs to start as early as possible. Below are a few reasons that substantiate our thinking:

1. Pooling and Methodology: Current pools for ALLL calculation based on call codes might get redundant, as high concentration of credit might not deliver correct results. Moreover, if TDR pooling or pooling based on lower risk grades is mandated, banks might have to change the pooling criteria completely. Banks also need to determine which CECL methodology (Cohort, Vintage, PD-LGD, Discounted Cash Flow) is applicable to each pool separately.
2. Data: Based on the pooling criteria and selected calculation methodology, banks have to create a list of data elements required, both historical data and loan attributes.
3. Core Systems: Banks need to have further discussion with core banking vendors to check if the data required for CECL models is available or not. Furthermore, most core banking vendors have an interface to create data files. So, we expect work to be done on the core systems too.
4. Cost and Budget: Banks need to assess the cost of implementing the overall CECL project including the extra cost which core vendors would charge for creating the interface to provide data. Budgets need to be allocated for CECL projects and approved by senior management. Moreover, banks have to decide whether they want to build in-house, buy a vendor solution or work with an outsourced vendor.

Our deep-dive webinars on FASB’s Nov. 11 meeting and the upcoming Nov. 23 meeting, will explore the nuances of CECL regulations and outline a roadmap to a successful transition.

With a good amount of research and cost to be put into the expected guidelines, banks should think big and try solving other risk and analytics issues using the same spend. Start early to not just comply, but also to reap the benefits of the sweeping changes.