Insights

Credit Unions (and Other Non-Public Entities): CECL is Coming

Current Expected Credit Losses (CECL) may be the most sweeping accounting change to ever hit the financial services industry. CECL impacts virtually every regulated and non-regulated financial institution (FI) in the U.S., plus non-financial institutions that carry assets at amortized cost.

Securities and Exchange Commission (SEC) filer public business entities (PBEs) have already implemented CECL; beginning January 1, 2023, credit unions must comply with CECL to ensure that the standard is in effect for their year-ends. Implementation of CECL for credit unions, small reporting companies, and non-SEC filers was delayed, allowing these typically smaller and less complex entities more time to comply and to benefit from lessons learned by the first round of adoptees. A year-and-a-half may seem like a lot of time, but as we all know, time flies and there is much to do. Even if the impact on the allowance is minimal, credit unions should now begin the process of implementing and adopting CECL.

To help get started, here are four key questions management should be currently thinking about in order to be ready for CECL compliance in 2023:

 

1. Modeling Approach

Will you use a third-party model? Or will you use or develop an in-house model application to estimate expected credit losses over the contractual life of the instrument?

CECL is not prescriptive, and similar entities may select different modeling approaches. You might decide to use different modeling approaches depending on portfolio types. However, you must be prepared to assess, document, and defend why the approach your entity selects is most representative of your expected credit loss estimate for that portfolio.

 

2. Data Availability

What data do you have? What additional data do you need? How reliable and controlled is your data?

Estimating the allowance under the CECL approach requires more data. Data needs are dependent on the modeling approach used to estimate expected losses under CECL. You will likely need more historical information to cover an entire economic lifecycle, as well as forecast data, regardless of the modeling approach selected. CECL requires a forecast of expected credit losses over the contractual life of the asset.

 

3. Parallel Model Runs

How comfortable are you that your CECL results are reasonable and supportable?

Regardless of the modeling approach selected, you need to analyze the results and be able to conclude that your expected credit loss estimates are reasonable and supportable. This assessment is harder under CECL. CECL results are not readily comparable to allowance results under the old incurred loss model. SEC filers found that running the CECL model results, in parallel with the incurred loss results, was key in refining the model. Many CECL adopters say if they could change one thing, they would begin parallel runs earlier because they provided the most useful information for being able to adjust the model.

 

4. Regulatory Impacts

How will the adoption of CECL impact capital and regulatory implications?

For most entities, CECL adoption resulted in higher levels of reserves and thus potentially lower levels of capital available to meet regulatory requirements. The federal banking regulators permitted a three-year capital phase-in option for banks under their supervision. Last summer, the National Credit Union Association proposed a similar phased-in capital rule for credit unions, which is still pending. If finalized, this provision would ease the transition, but the overall capital impact could still be significant for many credit unions. Earlier testing of parallel model runs will help credit unions consider their capital positions under CECL.

 

CECL is coming, and soon! If you have not already, it’s time to begin your CECL implementation. This is the first of our series focusing on CECL implementation and compliance targeted to credit unions and other non-PBEs. Next, we will concentrate on CECL modeling selection.

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