The Coronavirus Aid, Relief, and Economic Security (CARES) Act was signed into law on March 27. Among other economic relief measures, the new law allows large public banks to temporarily postpone the controversial current expected credit loss (CECL) standard. Here are the details.
Updated accounting rules
The Financial Accounting Standards Board (FASB) issued Accounting Standards Update No. 2016-13, Financial Instruments — Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments, in response to the financial crisis of 2007–2008. The updated CECL standard relies on estimates of probable future losses. By contrast, existing guidance relies on an incurred-loss model to recognize losses.
In general, the updated standard will require entities to recognize losses on bad loans earlier than under current U.S. Generally Accepted Accounting Principles. It is scheduled to go into effect for most public companies in 2020. In October 2019, the deadline for smaller reporting companies was extended from 2021 to 2023, and, for private entities and non-profits, it was extended from 2022 to 2023.
Option to delay
Under the CARES Act, large public insured depository institutions (including credit unions), bank holding companies, and their affiliates have the option of postponing implementation of the CECL standard until the earlier of:
- The end of the national emergency declaration related to the coronavirus (COVID-19) crisis
- December 31, 2020
Many public banks have made significant investments in systems and processes to comply with the CECL standard, and they have communicated with investors about the changes. So, some may decide to stay the course, but many large banks are expected to take advantage of the option to delay implementation.
Congress decided to provide a temporary reprieve from implementing the changes for a variety of reasons. Notably, the COVID-19 pandemic has created a volatile, uncertain lending environment that may result in significant credit losses for some banks.
To measure those losses, banks must forecast into the foreseeable future to predict losses over the life of a loan and immediately book those losses. But making estimates could prove challenging in today’s unprecedented market conditions. In addition, once a credit loss has been recognized, it generally cannot be recouped on the financial statements. Furthermore, there is some concern that the CECL model would cause banks to needlessly hold more capital and curb lending when borrowers need it most.
So far, the FASB has not delayed the CECL standard. But the COVID-19 crisis has front-loaded concerns about the CECL standard, prompting critics in both the House and Senate to step up their efforts to block the standard. Contact us for the latest developments on this issue.