Loan Loss Accounting Study Examines Impact of Pandemic Lending (2)

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A study commissioned by Congress into the biggest change to bank accounting in decades dodged the biggest question it faced, accusing the pandemic of making an answer impossible.

The study, conducted by the Treasury and released on Wednesday, concluded that an assessment of whether the current expected credit loss standard (CECL) would make lending more difficult in times of economic downturn “is currently not achievable.” due to the coronavirus pandemic.

“Drawing conclusions now regarding the impact of CECL since its initial implementation in early 2020 is difficult because CECL has not been fully implemented by all entities, and many market factors related to the global COVID-19 pandemic (including government responses) have affected the economy, financial institutions and borrowing and lending dynamics, ”the study said.

The Financial Accounting Standards Board, the authors of the accounting rule, said it was studying the report.

The study comes at a time when federal regulators like the Federal Reserve have gone out of their way to encourage lending and prevent banks – and the entire financial system – from collapsing at the same time they are being held back. implement the standard.

The standard, which most publicly traded banks began to follow in January, fundamentally changes the way public enterprises estimate and record loans and other financial instruments on their books. The CECL requires companies to account for their losses and reserve cash to cover those losses when making these loans, instead of waiting until they are likely to lose money. It is considered the central response of accounting lawmakers to the 2008 financial crisis.

Congress responds

Congressional advisers confirmed to Bloomberg Tax on Wednesday that they had received the study.

Rep. Brad Sherman (D-Calif.), A longtime critic of the standard, called the CECL “bad accounting” and that it is a “deviation from accounting for historical events and of an adventure in the prediction of the future “.

“In this new report from the Treasury Department, we are told that answering the key question that the Treasury is legally required to answer“ is currently not feasible. ”This is yet another indication that the implementation of the CECL standard should be discontinued, ”Sherman said in a statement to Bloomberg Tax.

Banks, credit unions and some lawmakers have opposed the new rule, saying it would force banks to dry up loans during an economic downturn, when customers need money most.

Lawmakers introduced several bills in 2019 to delay the new standard or remove it altogether. The inclusion of a requirement for the Treasury to study the accounting rule in Congressional year-end spending bill was seen as a key victory for opponents of the new standard.

The provision, tucked away in a committee report accompanying the year-end spending legislation (Public Law 116-93), required the ministry “to conduct a study on the need, if any, to change the capital requirements. required by the CECL, and submit the study to the Committee within 270 days.

Michael Gullette, senior vice president of the American Bankers Association, said he agreed with the assessment that it was too early to determine the full impact of the accounting standard, but it was clear that Estimates required under the CECL are complex and expensive.

The standard should be “considered throughout the business cycle to ensure that credit will remain available during times of stress, especially for low and moderate income borrowers,” Gullette wrote in an email.

The study

Although the Treasury study did not definitively determine whether accounting harmed banks, it said the Treasury “recognizes the seriousness of the concerns that have been raised about the potential effects of the CECL and the implications for capital. regulation, lenders, borrowers and the economy. . “

He also said the Treasury “supports the objectives of the ECSC, including providing users of financial statements with more forward-looking information and reporting assets on the financial statements in a way that reflects the amounts that should be collected.”

Notably, the report asked the FASB to explore the alignment of the timing of accounting recognition for costs associated with financial assets under GAAP with the earlier accounting recognition of potential credit losses under the CECL, a long-standing criticism. bankers with regard to the accounting rule.

“While CECL results in earlier recognition of potential credit losses, GAAP does not provide for early recognition of income associated with financial assets. Conceptually, the deferral and amortization of expense recognition, in particular, is not entirely consistent with the initial recognition of expected lifetime credit losses under the CECL, ”the report states.

The FASB has launched a post-mortem of the accounting standard and plans to hold a public meeting in early 2021 to hear questions and comments from bankers, accountants and investors on the new accounting rule. It also analyzes quarterly reports and listens to earnings calls to understand how accounting affects lenders, FASB officials said at an American Institute of CPA banking conference on Tuesday.

Small banks

While large institutions have already implemented the CECL, private banks, credit unions and small publicly traded banks have until 2023 to adopt the new accounting standard.

The FASB has said it will assess how well large banks are following the standard and determine whether it needs to make any changes before smaller institutions are required to.

The study claimed that CECL will affect financial institutions in different ways, depending on the business model of a given institution, as well as its credit modeling, risk management and related accounting practices, among other factors.

As a result, the financial institution’s implementation of CECL will also have an impact on its regulatory capital ratios, according to the study.

Ultimately, the ministry recommended that the FASB “expand its efforts to consult and coordinate with prudential regulators when considering possible future changes to the CECL.”

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