Days, weeks, months, and years – nowadays, especially in what may be the “new normal”, time seems to be moving faster than ever. We blinked and, unfortunately, summer was already over.
One of the most important dates that we at Wolf & Company, P.C. are looking to is January 1, 2023, which is the effective date for adoption of Accounting Standards Update 2016-13 – Financial Instruments – Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments (“CECL”), and its related amendments, for:
- Non-public entities
- Public entities that met the United States Securities and Exchange Commission’s criteria for a smaller reporting company (public float of less than $250 million, or annual revenue of less than $100 million and either no public float or a public float of less than $700 million)
If your financial institution falls into the above categories, you do not want to blink and have January 1, 2023 be here and not have taken the appropriate steps to prepare for implementation.
In recent discussions with our clients and others within the industry, many institutions have already identified a project team and an internal champion(s) for the implementation of CECL. This may have included determining an initial project plan. However, given the delay of the effective date to January 1, 2023 by the Financial Accounting Standards Board (“FASB”) in late 2019 and the subsequent pressing issues that the novel coronavirus (“COVID-19”) pandemic has caused the industry to react to, when is the last time that your institution brought that project team together and dusted off the project plan? Has your institution turned that project plan into a timeline with actionable milestones to provide enough time to run both models parallel for a couple quarters prior to implementation?
Over the next 15 short months and beyond, below are some considerations, and recommended timing, for institutions as you continue to work towards implementation:
As Soon As Possible – Decide if your institution will be performing the calculation internally, or if the institution will need to outsource to a third-party vendor. If you decide to outsource to a third-party vendor, you do want to allow for enough time to complete a comprehensive due diligence process prior to selecting the desired vendor.
Within the Next Six Months (Completed On or Around March 31, 2022) –
- Scope the asset classes on your balance sheet and determine relevant accounting policies
- What asset classes on your institution’s balance sheet will be within the scope of the new CECL standard? What asset classes will not be within scope, and why?
- What accounting policy elections provided in subsequent amendments of ASU 2016-13 will the institution be adopting, and which ones will you not?
- How will individually evaluated loans be identified and measured?
- Select a model and identify the key data points required to be applied within the model
- Will you use a discounted cash flow model with probability of default and loss given default assumptions applied? Will you use the weighted-average remaining maturity (“WARM”) method that the FASB has allowed for? Will you use another method?
- How will you segment your assets into pools that have similar key risk characteristics?
- What data points are going to be needed within the selected model and where will that data come from?
- Determine how the selected model will incorporate reasonable and supportable forecasts, as well as a reversion back to historical information
- What is the source of the economic forecast? What is the length of the reasonable and supportable forecast, and how was that determined?
- If using a third-party vendor, review any model testing or validation reports that has been performed by the vendor to date. Determine if additional model testing or validation needs to be completed by the institution.
Within the Next Nine Months (Completed On or Around June 30, 2022) –
- Determine how any qualitative factors will be applied to the quantitative results of the model
- Any limitations of the model that need to be adjusted qualitatively?
- Determine how qualitative factors will be evaluated and analyzed going forward
- What additional data might management need? What will be the process to adjusting qualitative factors subsequent to adoption?
Within the Next Fifteen Months (Completed On or Around December 31, 2022) –
- Internal controls over financial reporting
- Design the applicable key internal controls over financial reporting around the calculation of the allowance for credit losses
- If your institution is subject to an integrated audit of internal controls over financial reporting, ensure that your control documentation is updated accordingly
- What controls are in place to ensure that any data/reports being used within the model are complete and accurate?
- If using a third-party vendor, obtain and review applicable SOC 1 reports. Ensure that your institution has processes in place to address relevant user control considerations.
- Design the applicable key internal controls over financial reporting around the calculation of the allowance for credit losses
- Parallel runs of CECL calculation
- Best practice would be to have two parallel runs completed to identify any hurdles that need to be addressed before full implementation
- Allows for presentation to and analysis from the institution’s Board of Directors or Audit Committee
- Best practice would be to have two parallel runs completed to identify any hurdles that need to be addressed before full implementation
- Other business considerations
- Determine the level of testing to be performed by the institution’s internal audit function
- Determine how the adoption of CECL will need to be incorporated into regulatory reporting (i.e. call report)
- Determine what periodic reporting to the Board of Directors, and any subcommittees will look like
By December 31, 2022, the cumulative-effect adjustment that needs to be recorded upon adoption on January 1, 2023 needs to be completed.
Within the Next Twenty-Four Months (Completed On or Around September 30, 2023)–
- Draft pro-forma financial statement disclosures
- Determine the source of relevant information needed for disclosures, and how management will be able to be ensure the information is complete and accurate
Based on the above, you can see that there are many milestones that need to be reached before you get to January 1, 2023. We strongly encourage that if you have not brought the internal implementation team back together at this point, that you do so soon. If you already have a project timeline, are there additional considerations above that you may need to add to your timeline?
At Wolf & Company, P.C., we are eager to continue to work with our clients through implementation of CECL. If you have any questions on the above, or on your institution’s implementation plan, please contact your engagement principal or manager.
