CECL Compliance: What Your Regulators Are Saying
Even before final CECL Guidance was released by FASB, lenders were scrambling to understand what would be required by the new allowance accounting standard. What must they do to comply? Preparations include finding sufficient data of sufficient quality, a methodology or methodologies that accommodate their loan portfolios, the most efficient way to implement a CECL solution, and how to minimize the impact of CECL on profitability. But the bottom line is compliance – how to start and maintain a path of preparation that ensures compliance. If the method doesn’t fit, your efforts are for naught.
One recommendation we have heard from auditors and regulators alike is to communicate early, and if not often, at least regularly with your regulators along your path to CECL readiness. While they too are learning the nuances of CECL, they will be able to provide guidance based on their internal and cross-agency discussions.
“All the regulatory agencies have been really active,” FDIC Deputy Chief John Rieger told bank CFOs gathered September 21 in Charleston for the annual American Bankers Association CFO Exchange convention. “An interagency steering group meets weekly. We’re working on getting our arms around CECL. We’ve been meeting with examiners, state regulators, vendors and the PCOAB (Public Company Accounting Oversight Board).”
So what are the regulators talking about and how will that translate to what your regulators will talk about with you? Rieger shared the list:
- Remove the concept of probability and incurred . . . CECL requires financial institutions to shift from basing ALLL estimates strictly on historical experience to modifying historical experience with expectations of what will happen in the future. Those predictions will have to be data based, well supported.
- Leverage existing credit risk practices . . . Examiners will not expect you to start from scratch to determine a methodology for CECL, but to begin with your existing, proven credit risk practices and build from there.
- No particular estimation method prescribed . . . A point of FASB emphasis is that there is no prescribed methodology. The methodology or methodologies you choose should be based on your asset pools. That doesn’t mean the banking agencies are not concerned with methodologies. Rieger told attendees the agencies were reviewing methodologies with the intention of seeking FASB’s input on the appropriateness of various approaches. (Grant Thornton’s Graham Dyer told the conference, “The vintage approach was what FASB had in mind when developing CECL.”)
- Small banks’ current methodologies will be allowed . . . But lenders will need to employ more data than typically required under the incurred loss model to develop the “reasonable and supportable” forecasts required by CECL.
- Allowance must be directionally consistent . . . CECL forecasts must be consistent with other forecasts, such as those used for capital planning and budgeting.
- Examiners will look at segments and similar risk characteristics . . . That goes to the issue of pooling. Pooling loans based on type and verifiable risk experience is a critical early step toward CECL compliance – and choosing an estimation methodology.
- Not saying you can or can’t use vendors . . . Most financial institutions will need external support to organize and qualify their data as well as to provide the economic data they will use in projecting future portfolio performance. But there is no regulatory requirement to do so.
- No benchmarks or floors . . . Examiners will not expect an allowance amount related to the size of a loan portfolio.
- Do not build up reserves in anticipation of CECL . . . Lenders must continue to estimate and reserve according to the incurred loss model until their CECL implementation date.
- Talk to your examiners . . . Examiners will expect to discuss your progress toward a CECL methodology and address issues of concern. Such informal dialogue will have you and your examiners working together and on the same page. Rieger noted that examiners will be instructed to discuss your CECL preparations with you.
- Read the standard . . . Your regulators will want to know that you have educated yourself on the standard and understand its requirements. Click here to read the standard.
- Review your existing data and data accessibility . . . While there is no prescribed number of years of loan level data you will need to comply with CECL, you will need to have access to sufficient data for this more demanding estimation process – and you will have to go through the process of ensuring your data is accurate and consistent. Access the loan element data worksheet.
- Document your assumptions . . . Again, your regulators won’t prescribe your path to compliance, but you will have to demonstrate, that is, document, how you are getting there.
Finally, CECL is intended to be scalable. Regulators understand the challenge of smaller institutions that have kept manual records and determine their allowances manually. But that doesn’t mean they will allow even the smallest lender to be out of compliance. Which should be all the encouragement you need to determine your path toward compliance and begin preparing.