Assr Bdo Knows Cecl Final

An Accounting Guide From BDO’s Professional Practice Group
BDO KNOWS:
CECL
FASB Topic 326, Financial Instruments – Credit Losses
AUGUST 2022
Table of Contents
INTRODUCTION................................................. 3 OFF-BALANCE-SHEET
CREDIT EXPOSURES.........................................33
SCOPE.................................................................4
ZERO-RISK OF LOSS VERSUS
RECORDING EXPECTED CREDIT LOSSES........... 6
REMOTE RISK OF LOSS..................................... 35
POOLING FINANCIAL ASSETS WITH
NET INVESTMENT IN LEASES...........................36
SIMILAR RISK CHARACTERISTICS...................... 7
AVAILABLE FOR SALE DEBT SECURITIES.......... 37
CONTRACTUAL TERM AND IMPACT
OF PREPAYMENT CONSIDERATIONS................. 9 ACCRUED INTEREST RECEIVABLE....................39
THE CECL MODEL.............................................. 10 TRANSFERS BETWEEN CLASSIFICATIONS
FOR LOANS AND DEBT SECURITIES.................40
METHODOLOGIES UNDER ASC 326-20........... 21
DISCLOSURE CONSIDERATIONS.....................40
TROUBLED DEBT RESTRUCTURINGS............... 29
EFFECTIVE DATES AND TRANSITION...............43
FINANCIAL ASSETS
SECURED BY COLLATERAL................................ 29 TAX IMPLICATIONS...........................................44
EFFECT OF CREDIT ENHANCEMENTS OTHER CONSIDERATIONS...............................45
ON EXPECTED CREDIT LOSSES........................30
CONTACT US....................................................48
PURCHASED FINANCIAL ASSETS WITH
CREDIT DETERIORATION................................. 31
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Introduction
As a result of the 2007-2008 financial crisis, there were concerns established a Transition Resource Group (TRG) for credit losses.
regarding the adequacy of loan loss reserves given that entities,
including financial institutions, were restricted under U.S. GAAP CECL reflects management’s estimate of all credit losses that
from recording “expected” credit losses that did not yet meet they expect from the financial assets as of the balance sheet
the “probable” threshold as required at that time. date (and on certain off-balance sheet commitments). Said
differently, the standard requires lifetime losses to be recorded
In response, the FASB and its counterpart, the London-based on the date of origination or acquisition. The estimate is not a
International Accounting Standards Board (“IASB”), set out to worst-case scenario nor a best-case scenario, but rather should
develop a new accounting standard that incorporated forward- be based on an entity’s assessment of current conditions and
looking information to determine future losses. The IASB and reasonable and supportable forecasts about the future. The
FASB could not agree on a converged standard. IASB issued FASB expects that an entity’s estimate of expected credit
International Financial Reporting Standards (“IFRS”) 9 in July losses would be informed by historical loss experience for
2014, while the FASB developed a framework to replace the similar assets, coupled with adjustments for current conditions
existing incurred loss methodology in U.S. GAAP. and reasonable and supportable forecasts about the future
that inform management’s judgment about how the current
In June 2016, the FASB issued Accounting Standards Update conditions may differ from its historical experience. There are
(“ASU” or “Standard”) 2016-13, codified within Accounting no minimums or triggering events.
Standards Codification (“ASC”) Topic 326 (ASC “326” or “Topic
326”). The ASU significantly changes the impairment model Legacy incurred loss methodology recognizes credit losses
for most financial assets that are measured at amortized when it is probable such losses have been incurred. CECL
cost (and certain other instruments) from an incurred loss removes the concept of “probable” and requires recognition of
model to an expected loss model that will be based on an credit losses when such losses are “expected.”
estimate of current expected credit loss (“CECL”). The ASU also
provides targeted improvements on evaluating impairment ASC 326 does not require an entity to probability weight
and recording credit losses on available-for-sale (AFS) debt multiple economic scenarios when developing an estimate
securities through an allowance account. The standard also of expected credit losses. An entity may determine that a
requires certain incremental disclosures. Subsequently, the probability weighted approach is appropriate; however, the
FASB issued ASU 2018-19, ASU 2019-04, ASU 2019-05, standard allows flexibility for entities to evaluate and reach a
ASU 2019-10, ASU 2019-11, ASU 2020-03 and ASU 2022- conclusion on the best approach to use.
02 to clarify and improve ASU 2016-13. Additionally, the FASB
Below is a summary highlighting key changes:
EXISTING GUIDANCE NEW CECL MODEL

When to recognize When probable that loss has been incurred, When losses are expected, in almost all cases
credit losses generally after initial recognition of the asset upon initial recognition of the asset
Period to consider Not an explicit input to incurred loss model Contractual term
Information to consider Historical loss and current Historical loss, current economic conditions,
economic conditions reasonable and supportable forecasts about
future conditions (with reversion to historical
loss information for future periods beyond
those that can be reasonably forecast)
Unit of Account Pooling generally not required, but permitted Pooling required when assets share similar
risk characteristics
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Scope
ASC 326 applies to all entities. ASC 326-20 is applicable to financial assets measured at amortized cost, net investments in leases
recognized by a lessor and off-balance sheet credit exposures not accounted for as insurance.
EXAMPLE OF SCOPED-IN FINANCIAL ASSETS PER A financing receivable is a financing arrangement that has both
ASC 326-20-15-2A: of the following characteristics:
X Financing receivables, X It represents a contractual right to receive money in either
X Held-to-maturity debt securities, of the following ways:
X Receivables that result from revenue transactions • On demand.

within the scope of ASC 605 on revenue recognition, • On fixed or determinable dates.
ASC 606 on revenue from contracts with customers, X It is recognized as an asset in the entity’s statement of
and ASC 610 on other income, and financial position.
X Receivables that relate to repurchase agreements
and securities lending agreements within the scope
of ASC Topic 860 – Transfers and Servicing
The scope of CECL is broad and includes the following:
ITEM NATURE
Loan Receivables/Notes Receivable Financial Assets measured at amortized cost
Held-to-maturity debt securities Financial Assets measured at amortized cost
Trade receivables and contract assets that result
Financial Assets measured at amortized cost
from revenue transactions or other income
Receivables that relate to repurchase agreements
Financial Assets measured at amortized cost
and securities lending agreements
Loans to officers and employees Financial Assets measured at amortized cost
Cash equivalents Financial Assets measured at amortized cost
Receivables arising from time-sharing activities Financial Assets measured at amortized cost
Receivables resulting from sales-type or direct financing leases Net investments in leases recognized by a lessor
Loan commitments, standby letters of credit, Off-balance-sheet credit exposures not accounted for
financial guarantees, and other similar instruments as insurance or derivatives
All reinsurance recoverables, regardless of the measurement

Reinsurance recoverables
basis of those recoverables
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Credit card receivables may require a CECL reserve on the ASC 326 does not apply to:
outstanding balance and a CECL reserve on the unfunded X Loans held for sale;
portion of the line based on probability of funding if they are
not unconditionally cancellable by the entity. X Operating lease receivables;
X Policy loan receivables of an insurance entity;
ASC 326-20 also applies to net investments in leases
recognized by a lessor in accordance with ASC 842 – Leases, X Promises to give of a not-for-profit entity;
off-balance-sheet credit exposures not accounted for as X Financial assets measured at fair value through net
insurance and reinsurance recoverables that result from income; and
insurance transactions within the scope of ASC 944 – Financial X Loans and receivables between entities under
Services – Insurance. Off-balance-sheet credit exposure common control.
refers to credit exposures on off-balance-sheet loan
commitments, standby letters of credit, financial guarantees
BDO OBSERVATION: Although operating leases
not accounted for as insurance, and other similar instruments,
appear to meet the definition of financial assets
except for instruments within the scope of ASC 815 –
within the scope of the ASU, the FASB clarified that
Derivatives and Hedging1.
operating lease receivables accounted for by a lessor in
Preferred stock that by its terms either must be redeemed by accordance with the new leasing guidance in Topic 842
the issuing entity or is redeemable at the option of the investor are not in the scope of the CECL model. Impairment of
is a debt security for accounting purposes, regardless of its receivables from operating leases should be accounted
legal form. Therefore, the CECL model would apply if such for in accordance with Topic 842, Leases. Further,
preferred stock is carried at amortized cost by the investor, and being an operating lease, the leased asset remains on
irrespective of how it is classified by the issuer. In practice, to the lessor’s books and is assessed for impairment like
be considered redeemable at the option of the investor, that any other similar asset under Topic 360, Property, Plant
investor must have a unilateral right to redeem. and Equipment.
ASC Subtopic 326-30 applies to debt securities classified as Additionally, while CECL is not applicable to an equity
available-for-sale, including loans that meet the definition of method investment, other financial support that may
debt securities and are classified as available-for-sale. be provided to the investee e.g., loans to equity method
investees are within the scope of the CECL model.
1 ASC 326-20-15-2c
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Recording Expected Credit Losses

The objective of CECL is to provide financial statement users with an estimate of the Changes to the expected credit losses
net amount the entity expects to collect on its financial assets. In determining these reserve are recognized in the current
estimates of expected losses, the calculation should include consideration of historical period net income as either credit loss
experience, current conditions as well as reasonable and supportable forecasts. expense or a reversal of credit loss
expense depending on the movement
Expected recoveries should be included when estimating the expected credit loss of the reserve from the previous period.
at each reporting period and should not exceed the aggregate amounts previously
written off and/or expected to be written off by the entity.
BDO OBSERVATION:
ASC 326-20 does not mandate a model to determine CECL reserves. Entities can In general, since ASC 326-20
choose a model that makes sense for their specific facts and circumstances and is focused on recording the
based on the data available to the entity. Examples of models that result in a CECL- lifetime expected credit losses
compliant reserve are discussed further in this publication. at the point of origination, or
at acquisition, the associated
EXCERPT FROM ASC 326-20 reserve balances are generally
expected to be higher under an
ASC 326-20-30-1 STATES: The allowance for credit losses is a valuation expected credit losses model as
account that is deducted from, or added to, the amortized cost basis of the compared to the legacy incurred
financial asset(s) to present the net amount expected to be collected on the loss model. If the calculations
financial asset. Expected recoveries of amounts previously written off and result in less allowance under the
expected to be written off shall be included in the valuation account and shall expected loss model compared
not exceed the aggregate of amounts previously written off and expected to the incurred loss model,
to be written off by an entity. At the reporting date, an entity shall record an entities should be mindful of
allowance for credit losses on financial assets within the scope of this Subtopic. whether this is contradictory
An entity shall report in net income (as a credit loss expense) the amount evidence that requires further
necessary to adjust the allowance for credit losses for management’s current investigation related to
estimate of expected credit losses on financial asset(s). assumptions being used.
ASC 326-20-30-7 STATES: When developing an estimate of expected credit

losses on financial asset(s), an entity shall consider available information
relevant to assessing the collectibility of cash flows. This information may
include internal information, external information, or a combination of both
relating to past events, current conditions, and reasonable and supportable
forecasts. An entity shall consider relevant qualitative and quantitative factors
that relate to the environment in which the entity operates and are specific
to the borrower(s). When financial assets are evaluated on a collective or
individual basis, an entity is not required to search all possible information
that is not reasonably available without undue cost and effort. Furthermore,
an entity is not required to develop a hypothetical pool of financial assets.
An entity may find that using its internal information is sufficient in
determining collectibility.
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Pooling Financial Assets with Similar

Risk Characteristics
ASC 326-20 requires in scope assets sharing similar risk characteristics to be grouped in pools for applying the methodology
selected and estimating the lifetime expected credit losses. In situations where a specific asset does not share the same risk
characteristics with other assets, entities are to separate and measure that asset individually. A similar pooling approach should
be used when estimating the expected credit losses for off-balance sheet credit exposures.
EXCERPT FROM ASC 326
ASC 326-20-30-2 STATES: ASC 326-20-55-5 STATES: ASC 326-20-35-2 STATES:

An entity shall measure expected In evaluating financial assets on a An entity shall evaluate whether a
credit losses of financial assets collective (pool) basis, an entity should financial asset in a pool continues
on a collective (pool) basis when aggregate financial assets on the basis to exhibit similar risk characteristics
similar risk characteristic(s) exist of similar risk characteristics, which with other financial assets in the
(as described in paragraph 326- may include any one or a combination pool. For example, there may be
20-55-5). If an entity determines of the following (the following list is changes in credit risk, borrower
that a financial asset does not not intended to be all inclusive): circumstances, recognition of
share risk characteristics with its X Internal or external (third-party) write-offs, or cash collections that
other financial assets, the entity credit score or credit ratings have been fully applied to principal
shall evaluate the financial asset on the basis of nonaccrual practices
for expected credit losses on an X Risk ratings or classification that may require a reevaluation
individual basis. If a financial X Financial asset type to determine if the asset has
asset is evaluated on an individual X Collateral type migrated to have similar risk
basis, an entity also should not characteristics with assets in
include it in a collective evaluation. X Size another pool, or if the credit loss
That is, financial assets should X Effective interest rate measurement of the asset should
not be included in both X Term be performed individually because
collective assessments and the asset no longer has similar
individual assessments. X Geographical location risk characteristics.
X Industry of the borrower
X Vintage
X Historical or expected credit
loss patterns
X Reasonable and supportable
forecast periods
Determining pools of assets does not only occur upon adoption or when new assets are originated/acquired post-adoption. Entities
are expected to continuously evaluate pooling decisions for financial assets and adjust as needed as risk characteristics change.
BDO OBSERVATION: Management will need to clearly define the risk characteristics used in determining the pooling
decisions and periodically re-assess whether facts and circumstances have changed that require revisiting how pools are
determined. Assets can migrate between pools.
8 / BDO Knows: CECL
The following example provides an illustration from the standard when an entity might pool certain assets and evaluate others
individually. As time passes and circumstances change assets may move from being evaluated collectively to being evaluated
individually, and vice versa.
Example 4: Estimating Expected Credit Losses Using both a Collective Method and an Individual Asset Method from
ASC 326-20-55-32 through 55-36
55-32 This Example illustrates a situation in which loans 55-34 One loan program from Bank D provides
with credit deterioration are evaluated individually because unsecured commercial loans of up to $75,000 to
they no longer exhibit risk characteristics similar to other small businesses and entrepreneurs. Given the relative
loans. There is no requirement to evaluate financial assets homogeneity of the borrowers (in terms of credit risk)
individually when a certain level of credit deterioration has and loans (in terms of type, amount, and underwriting
occurred. However, the assessment of whether financial standards) in the program, Bank D manages this
assets exhibit similar risk characteristics should be based loan program on a collective basis. However, Bank
on the relevant and appropriate facts and circumstances. D concludes that the loss estimates for loans with
credit deterioration is based on borrower-specific facts
55-33 An entity may estimate expected credit losses for and circumstances because the repayment of those
some financial assets on a collective (pool) basis and may loans depends on facts and circumstances unique to
estimate expected credit losses for other assets on an each borrower. Therefore, Bank D estimates expected
individual basis when similar risk characteristics do not credit losses on an individual basis for loans that no
exist. As a result, the method used to estimate expected longer exhibit similar risk characteristics because of
credit losses for a financial asset may change over time. credit deterioration. A loss-rate method for estimating
For example, a pool of homogeneous loans may initially expected credit losses on a pooled basis is applied for
use a loss-rate method, but certain individual loans no the loans in the portfolio segment that continue to
longer may have similar risk characteristics because of exhibit similar risk characteristics.
credit deterioration. When a financial asset no longer
shares similar risk characteristics with the original pool of 55-35 To estimate expected credit losses for individual
financial assets, an entity should evaluate that financial loans without similar risk characteristics, Bank D uses a
asset to determine whether it shares risk characteristics discounted cash flow method for each loan. Frequently,
similar to other pools of loans. Expected credit losses of Bank D has insight into the likelihood of a credit loss as
that financial asset should be measured individually if a result of information provided by the borrower and
there are no similar risk characteristics with other loans. A recent discussions with the borrower given the elevated
discounted cash flow approach is one method to estimate credit risk for these loans. Under a discounted cash flow
expected credit losses of individual loans, but it is not a method, the allowance for credit losses is estimated as
required method. Paragraphs 326-20-55-34 through 55-36 the difference between the amortized cost basis and the
illustrate those concepts. present value of cash flows expected to be collected.
55-36 To estimate expected credit losses for the

remainder of the loans that continue to exhibit similar
risk characteristics, Bank D considers historical loss
information (updated for current conditions and
reasonable and supportable forecasts that affect
the expected collectibility of the amortized cost basis
of the pool) using a loss-rate approach.
BDO Knows: CECL / 9
Contractual Term
EXCERPT FROM ASC 326 The determination of prepayment assumptions is not only
determined as part of the initial adoption of ASC 326 but
ASC 326-20-30-6 STATES: An entity shall estimate should be updated periodically as facts and circumstances
expected credit losses over the contractual term of the change and as actual prepayment information deviates from
financial asset(s) when using the methods in accordance expectations. As changes arise, an entity should adjust the
with paragraph 326-20-30-5. An entity shall consider prepayment assumptions used, including in determining the
prepayments as a separate input in the method or effective interest rate(s) for the discounted cash flows model.
prepayments may be embedded in the credit loss Furthermore, if an entity has reason to believe that future
information in accordance with paragraph 326-20-30-5. prepayment conditions are likely to change, revision should be
An entity shall consider estimated prepayments in the made to the prepayment assumptions used. In either situation,
future principal and interest cash flows when utilizing a it is critical to ensure that these assumptions are reasonable
method in accordance with paragraph 326-20-30-4. and supportable and sufficient evidence to support the
An entity shall not extend the contractual term for assumptions used is maintained.
expected extensions, renewals, and modifications unless
the extension or renewal options (excluding those that Credit card receivables generally do not have a contractual
are accounted for as derivatives in accordance with Topic term and customer payments can relate to interest, principal,
815) are included in the original or modified contract fees or subsequent purchases. Allocating the payments is
at the reporting date and are not unconditionally therefore a key input when estimating the contractual life
cancellable by the entity. of the receivable. The FASB concluded that entities will need
to make a policy election how they will allocate expected
future payments when estimating the contractual life of
Credit losses are required to be estimated over the
the receivable. Entitles can choose to include all payments
contractual term of the financial asset (considering estimated
expected to be collected from the borrower as paydowns on
prepayments) from the date of initial recognition of that
the period end outstanding balance, to include a portion of the
instrument. Prepayment assumptions should be considered
payments as paydowns on the period end outstanding balance
as they reduce the estimated contractual term. For example,
or apply another reasonable method as long as it consistent
prepayment assumptions may result in a 30-year mortgage
with the objectives in the ASC and is applied consistently.
having an expected 10-year term.
Any extension or renewal options (except those recognized BDO OBSERVATION: Determining the appropriate
as derivatives) that are not unconditionally cancellable by the contractual term and any relevant prepayment
entity and included in the original agreement or subsequent assumptions requires judgment. The level of judgment
modifications should be considered in the contractual term. may increase or decrease depending on the specifics
For example, there may be situations where a lender or of the financial assets evaluated. When significant
borrower can extend or renew the term of the financial asset judgment is associated with making a significant
through an option within the terms of the agreement. Entities estimate, it is important that management maintain
should consider how these contractual options impact their support for the conclusions, including consideration of
determination of the contractual term. contradictory evidence.
10 / BDO Knows: CECL
Componets of CECL Model

The following illustrates the components in the estimate for expected credit losses:
+ + + =
Historical Current Reasonable Reversion Expected
Loss Conditions & Supportable to History Credit Loss
Information Forecasts
Segments or pools To reflect current The forecast period Entities are to revert The result should
are created based asset-specific risk to project expected to historical loss represent the current
on common loan characteristics, credit losses should information when expected credit loss
characteristics. adjustments to the be reasonable and unable to make over the remaining
A combination of both historical data will supportable. Document reasonable and contractual term
internal and external need to be considered. the rationale and provide supportable forecasts. of the financial
information, including These adjustments are evidence supporting the The reversion method asset or group of
macroeconomic usally done through reliability and accuracy applied must be well financial assets.
variables, are used to a combination of of economic scenarios documented and is not
establish a relationship both qualitative and and forecasts. a policy election.
between historical losses quantitative factors.
and other variables.
BDO Knows: CECL / 11
HISTORICAL LOSS INFORMATION

Estimating expected lifetime credit losses should start by An entity should consider both the appropriate historical
considering relevant past events, which will most often be period and the appropriate length of the period when
accomplished by considering historical loss information. This developing those estimates. Further, application of the new
serves as the baseline for which other adjustments will be guidance may result in the creation of new or revised pools
made to arrive at the estimate for expected credit losses. The due to the ASUs requirement that an entity shall measure
FASB has indicated that historical loss information alone will expected credit losses of financial assets on a collective (pool)
not be sufficient to determine the estimate for expected credit basis when similar risk characteristics exist. Therefore, an
losses. The historical period(s) used for the respective pools, entity may further need to consider how to correlate historical
will impact the nature and magnitude of adjustments that are loss information for assets earlier assessed individually, or that
required to adjust the historical information for current events, were in another pool, to those new or revised pools. When
reasonable and supportable forecasts, and any other qualitative there is no historical loss information present, such as a new
and quantitative adjustments that may be deemed necessary. class of asset type, it may be appropriate that the entity look
to external historical loss information.
An entity must first analyze the available historical loss
information and identify the period(s) that is representative of
the relevant historical loss information for the specific pool(s).
An entity does not have to use historical information from the
most recent periods and may also use historical losses that are
nonsequential. The appropriate historical loss period can vary
between asset portfolios, products, pools, and inputs.
ASC 326-20-30-8 AND 30-9 STATE:

30-8 Historical credit loss experience of financial assets
with similar risk characteristics generally provides a
basis for an entity’s assessment of expected credit
losses. Historical loss information can be internal or
external historical loss information (or a combination of
both). An entity shall consider adjustments to historical
loss information for differences in current asset specific
risk characteristics, such as differences in underwriting
standards, portfolio mix, or asset term within a pool at
the reporting date or when an entity’s historical loss
information is not reflective of the contractual term of
the financial asset or group of financial assets.
30-9 An entity shall not rely solely on past events to

estimate expected credit losses. When an entity uses
historical loss information, it shall consider the need
to adjust historical information to reflect the extent
to which management expects current conditions and
reasonable and supportable forecasts to differ from
the conditions that existed for the period over which
historical information was evaluated. The adjustments
to historical loss information may be qualitative in
nature and should reflect changes related to relevant
data (such as changes in unemployment rates, property
values, commodity values, delinquency, or other factors
that are associated with credit losses on the financial
asset or in the group of financial assets). Some entities
may be able to develop reasonable and supportable
forecasts over the contractual term of the financial
asset or a group of financial assets. However, an entity
is not required to develop forecasts over the contractual
term of the financial asset or group of financial assets.
Rather, for periods beyond which the entity is able to
make or obtain reasonable and supportable forecasts
of expected credit losses, an entity shall revert to
historical loss information determined in accordance
with paragraph 326-20-30-8 that is reflective of the
contractual term of the financial asset or group of
financial assets. An entity shall not adjust historical
loss information for existing economic conditions or
expectations of future economic conditions for periods
that are beyond the reasonable and supportable period.
An entity may revert to historical loss information
at the input level or based on the entire estimate.
An entity may revert to historical loss information
immediately, on a straight-line basis, or using another
rational and systematic basis.
To assist entities with their implementation efforts and help further their
understanding of the CECL model, the FASB staff issued a series of Q&As, available BDO OBSERVATION:
on the designated Credit Losses page on the FASB website, addressing questions Whenever external data is used
related to using historical loss information, making reasonable and supportable there is added risk related to
forecasts and reversion to historical loss information (Q&A2)2. The following Q&A the relevance and reliability of
relates to determining which historical loss information to use when estimating the data. Careful consideration
expected credit losses. should be given each time
external data is used either
EXCERPT FROM FASB Q&A2 in place of, or to supplement,
internal data to ensure such
Question 4: How should an entity determine which historical loss external data is relevant to
information to use when estimating expected credit losses? the entity. In instances when
external data is used, an entity
Response: In determining what historical loss period information best
should evaluate the sufficiency
represents the financial assets, an entity may use historical loss information
of internal data as asset pools
that is nonsequential (such as historical loss percentages based for each year
mature. For example, if the
since origination as opposed to an average 5-year historical loss percentage).
entity has a new pool of assets
The appropriate historical loss period can vary between loan portfolios,
where there is no historical loss
products, pools, and inputs. An entity should consider both the appropriate
information available internally,
historical period and the appropriate length of the period when developing
it may look to peer group data
those estimates.
for similar entities. As the
An entity should use judgment in determining which period or periods pool of assets matures and
to consider when determining which historical loss information is most as historical loss information
appropriate for estimating expected credit losses. An entity does not have to becomes available, an entity
use historical losses from the most recent periods. For example, an entity may will need to periodically re-
determine that the historical loss information that best represents the specific evaluate whether external
risk characteristics of the entity’s current portfolio relates to periods from data is still more relevant than
20X2–20X5. Using the historical loss information from 20X2–20X5 as an input internal data. Additionally, if
to the measurement of expected credit losses, an entity would then consider external data is being used
how current conditions and reasonable and supportable forecasts affect because internal data was
the estimate of expected credit losses. Once the historical period has been not previously tracked and
chosen, an entity should consider adjustments to historical loss information maintained, entities will need to
for differences in current asset specific risk characteristics, such as underwriting evaluate when the internal data
standards, portfolio mix, or asset term within a pool at the reporting date or is able to be tracked, analyzed
when an entity’s historical loss information does not reflect the contractual and used prospectively.
term of the financial asset or group of financial assets. For periods beyond the
reasonable and supportable forecast period, an entity should revert to historical
loss information that may not be from the same period used to estimate its
reasonable and supportable forecast and should reflect the contractual term
of the financial asset or group of financial assets. In other words, an entity
should use historical loss information that is more reflective of the remaining
contractual term of the financial assets for periods beyond the reasonable and
supportable forecast period.
2 Staff Q&A Topic 326, No. 2: Developing an Estimate of Expected Credit Losses on Financial Assets
CURRENT CONDITIONS
Historical loss information used in the pool(s) must then be adjusted for current conditions specific to the entity for developing an
estimate for expected future losses. These adjustments can be quantitative or qualitative in nature. Adjustments made to reflect
current asset-specific risk characteristics may be influenced by the periods selected for the historical loss data. Examples of current
conditions that may require adjustment to historical losses follow (not meant to be all inclusive):
X Updates to previous underwriting standards that may have contributed to historical losses;
X Changes in terms of existing assets as compared to those in the periods where the historical losses existed; or
X Shifts in the mix of assets that exist presently compared to concentrations that may have existed during the periods when the
historical losses were recorded.
The below excerpt from ASC 326-20 list relevant factors for entities to consider. Reasonable and supportable forecasts are discussed
further in the publication.
ASC 326-20-55-4 STATES: Because historical experience may not fully reflect an entity’s expectations about the future,
management should adjust historical loss information, as necessary, to reflect the current conditions and reasonable and
supportable forecasts not already reflected in the historical loss information. In making this determination, management
should consider characteristics of the financial assets that are relevant in the circumstances. To adjust historical credit loss
information for current conditions and reasonable and supportable forecasts, an entity should consider significant factors that
are relevant to determining the expected collectibility.
Examples of factors an entity may consider include any of the following, depending on the nature of the asset (not all of these
may be relevant to every situation, and other factors not on the list may be relevant):
X The borrower’s financial condition, credit rating, X The quality of the entity’s credit review system
credit score, asset quality, or business prospects X The experience, ability, and depth of the entity’s
X The borrower’s ability to make scheduled interest or management, lending staff, and other relevant staff
principal payments X The environmental factors of a borrower and the
X The remaining payment terms of the areas in which the entity’s credit is concentrated,
financial asset(s) such as:
X The remaining time to maturity and the timing and • Regulatory, legal, or technological environment to
extent of prepayments on the financial asset(s) which the entity has exposure
X The nature and volume of the entity’s • Changes and expected changes in the general
financial asset(s) market condition of either the geographical area or
X The volume and severity of past due financial the industry to which the entity has exposure
asset(s) and the volume and severity of adversely • Changes and expected changes in international,
classified or rated financial asset(s) national, regional, and local economic and business
X The value of underlying collateral on financial conditions and developments in which the entity
assets in which the collateral-dependent practical operates, including the condition and expected
expedient has not been utilized condition of various market segments.
X The entity’s lending policies and procedures, including

changes in lending strategies, underwriting standards,
collection, write-off, and recovery practices, as well
as knowledge of the borrower’s operations or the
borrower’s standing in the community
Entities may continue to consider the nine qualitative factors REASONABLE AND SUPPORTABLE FORECASTS
set forth in the 2006 Interagency Policy Statement on each
loan pool to reflect current asset-specific risk characteristics The forecast period represents the period from the current
that are not otherwise captured within the historical data for period end through the point in time management can
the period(s) selected. Like many of the other decisions in the reasonably forecast and support entity and environmental
model development process, determining which adjustments factors (e.g., economic indicators such as unemployment
are needed and the amount of the adjustments will require data) that are expected to impact the asset or pool of assets
significant judgment by management. These will need to be being measured. As the contractual term increases, the
updated each reporting period to reflect the current asset- ability to prepare a forecast that is considered reasonable and
specific risk characteristics. supportable and that would cover the entire contractual term
becomes more difficult or may not be possible. While an entity
Adjustments to the historical losses should be reflective of may be unlikely to develop forecasts for the entire contractual
adjustments relevant to those respective pools. For example, term (as adjusted for estimated prepayments) for longer-term
if an entity that was in the financial services industry had a assets, there should be a period of time when the entity can
significant change to its underwriting practices for commercial reasonably estimate and support their forecast. For example,
loans, these changes in underwriting practices may not be considering the short-term nature of the trade receivables, it
relevant to residential mortgages, unless there were similar is expected that entities will generally have reasonable and
changes to underwriting policies in those respective segments supportable forecasts over the entire period of the receivable.
as well (even then, the impact of such changes may have Other assets may have longer durations, depending on the
different impacts on expected losses given the difference in nature of the arrangement. For example, an entity may be
loan products and the borrowers). There is the potential for able to reasonably estimate and forecast a 30-year mortgage
double counting based on what the historical loss information with a 10-year expected term, for two years. In this example
represents. If it includes elements of the economic forecast or the reasonable and supportable period would be two years,
other potential qualitative considerations, then a subsequent and the remaining 8 years would be in the reversion period
adjustment to further account for those items may not be (explained later in this publication).
necessary. For example, if management had a period of time
with significant turnover in the lending group and higher BDO OBSERVATION: Significant judgment will be
losses in those periods and those periods are not included in needed to determine the entity’s reasonable and
the historical loss component, we would not generally expect supportable forecast period. Management will need to
management to further adjust the historical loss information document their rational for the period(s) determined
to reflect the improvement in the lending resources since it is to be appropriate. Additionally, significant judgment
already factored into the historical loss information. will be required to determine what, if any, adjustment
(upward or downward) is needed to the historical loss
Depending on the period(s) selected, there may be a need to
information, as adjusted for current conditions for the
make negative adjustments to the historical loss information.
effects of the reasonable and supportable forecast(s).
An example of this would be when the entity is using a
peak loss period and reducing the historical losses based on
the expectation that the current environment is not in the
same state of deterioration as the historical losses in the
period selected.
BDO OBSERVATION: Management will need to give

careful consideration to the data that is used within
the historical loss information and what, if any, asset-
specific risk characteristics not present within that data
that would need to be factored so the historical loss
information represents management’s expectation for
the current environment.
The following FASB Q&As relates to reasonable and supportable forecasts when
estimating expected credit losses from Q&A2.
EXCERPT FROM FASB Q&A2

Question 8: May the length of reasonable and supportable forecast
periods vary between different portfolios, products, pools, and inputs?
Response: Yes. The duration or length of the reasonable and supportable

forecast period is a judgment that may vary based on the entity’s ability
to estimate economic conditions and expected losses. The reasonable and
supportable forecast may vary between portfolios, products, pools, and
inputs. However, specific inputs (such as unemployment rates) should be
applied on a consistent basis between portfolios, products, and pools, to the
extent that the same inputs are relevant across products and pools. It also is
acceptable to have a single reasonable and supportable period for all of an
entity’s products. An entity is to disclose information that will enable users
to understand management’s methods for developing its expected credit
losses, the information used in developing its expected credit losses, and the
circumstances that caused changes to the expected credit losses among other
disclosures about the allowance for credit losses.
Question 9: Does an entity need to include the full contractual period

(adjusted for prepayments) in its estimate of the reasonable and supportable
forecast period?
Response: No. Some entities may be able to apply reasonable and supportable
forecasts over the estimated contractual term (that is, the contractual term
adjusted for prepayments). However, the guidance does not require an entity
to develop forecasts over the contractual term (adjusted for prepayments) of
the financial asset or group of financial assets (paragraph 326-20-30-9).
For example, three separate lenders, each based in three different

communities, loaned money to borrowers employed by a manufacturer that
has operations in three separate communities. Many borrowers in each of
the three communities are employed by one of the manufacturing plants in
their community. The manufacturer has announced plans to close one of its
manufacturing plants in 18 months. However, it is not yet known which plant
the manufacturing company will close. Each entity should apply judgment in
developing reasonable and supportable forecasts when considering the effect
of a possible plant closure on its ability to collect any principal and interest
on outstanding loan balances from those borrowers who work at this plant.
Each of the three entities may have different estimates of expected credit
losses, including the inputs, assumptions, or durations for their reasonable and
supportable forecast period. For example, entities may be able to reasonably
forecast losses beyond the period of the plant closure or may determine that
their forecasts are reasonable only up to the period of the plant closure.
Another example is when a wholesaler has short-term receivables from a

retailer in a local mall that is experiencing financial difficulty. This wholesaler
may be able to forecast all expected credit losses on the receivable, and,
therefore, the reasonable and supportable forecast period would include the
contractual term of the receivable.
The reasonable and supportable The FASB Q&A2 also addressed questions raised related to a perceived requirement
forecast period should be reevaluated to include macroeconomic data.
at each reporting period:
EXCERPT FROM
FASB Q&A2 Question 11: Is an entity required to correlate reasonable and supportable
forecasts to macroeconomic data, such as nationwide or statewide data?
Question 10: Should an entity
reevaluate its reasonable and Response: No. An entity is not required to correlate or reconcile reasonable
supportable forecast period and supportable forecasts to macroeconomic data, such as the national
each reporting period? unemployment rate. Instead, when developing an estimate of expected credit
losses on financial assets, the entity should consider available information
Response: Yes. An entity should relevant to assessing the collectibility of cash flows.
consider the appropriateness of
its reasonable and supportable For example, a business closure may not correlate to any macroeconomic
forecast period, as well as other phenomena. Instead, an entity may decide to move to another state to receive
judgments applied in developing a more lucrative tax treatment. In this instance, the macroeconomic factors
estimates of expected credit may indicate a very strong job market with low nationwide or statewide
losses each reporting period. If unemployment rates, but the business closure may have a significant effect for
the reasonable and supportable the entity in the local economic environment when assessing the collectibility
period does not cover the full of amounts owed by its borrowers. In this instance, correlating a local
expected contractual term economic event to macroeconomic data may not be appropriate because the
(adjusted for prepayments), macroeconomic data are not relevant.
an entity should consider the
In other instances, an entity may consider whether a national trade agreement
appropriateness of the duration
will have a favorable or unfavorable effect on its ability to collect contractually
of its reversion period (that
owed cash flows from its borrowers. The entity may decide to review its
is, the periods beyond the
internal information that has not indicated any changes in employment to
reasonable and supportable
date, but based on a government decision, there may be an effect on the
period) and the methodology
entity’s local economy that will result in a change to expected credit losses.
applied when reverting back
to historical loss information.
For example, an entity may BDO OBSERVATION: Determining the relevance and reliability of the data
determine that it is appropriate being used in the forecasting process may be challenging for entities.
to shorten or lengthen its
reasonable and supportable Developing a forecast that is both reasonable and supportable may consider
forecast period from prior both publicly available information and involve subject matter experts which
periods because of changes in may be from internal or external third-party resources. Internal controls will
the uncertainty of some or all vary depending on how the information is derived. For third-party provided
of the inputs and assumptions data, management may consider control activities to validate its integrity,
used to measure expected relevance and reliability. Understanding the source of the data and how the
credit losses. data will be used in developing the forecast will be critical to avoid placing
inadvertent reliance.
The FASB Q&A2 also addressed
questions raised related to a
perceived requirement to include
macroeconomic data.
REVERSION TO HISTORY
Entities are to revert to historical loss information when they
are unable to make reasonable and supportable forecasts over
the contractual term, adjusted for prepayments. The reversion
technique applied must be well documented and may not
be a policy election. Therefore, the entity must separately
evaluate each pool of assets when determining which reversion
technique is most appropriate.
Examples of reversion techniques that might be used are

immediate reversion and straight-line reversion. Immediate
reversion is accomplished by reverting to the full historical
loss rate at the point that forecasts are no longer reasonable
and supportable. Whereas straight-line reversion is done by
adjusting the reasonable and supportable forecasted loss rate
in increments to revert back to the historical loss rate and
will require judgment as to the length of time over which the
straight-line period should be. Other reversion techniques may
be used as long as they are rational and systematic.
Regardless of the reversion technique selected, it is important

to note that the historical loss rates being reverted to may
only be adjusted for differences in current asset-specific risk
characteristics such as:
X Updates to previous underwriting standards that may
have contributed to historical losses;
X Changes in terms of existing assets as compared to those in
the periods where the historical losses existed; or
X Shift in the mix of assets that exist presently compared
to concentrations that may have existed during the periods
when the historical losses were recorded.
While the standard does not indicate the point at which

an entity should revert to historical loss information it does
indicate that it is not appropriate to revert to historical loss
information for periods that can be reasonably forecasted.
BDO OBSERVATION: Reversion methods, like

many of the judgments and assumptions in the CECL
methodology, are not one size fits all. Depending on
the risk characteristics of the asset pools, the reversion
methods may differ for each pool. Supporting the
considerations for the most appropriate time to revert
to historical loss information is essential not only to
comply with the standard but also to support the
specific disclosures required on reversion approaches.
The reversion method is not a policy election; an entity
should support the reversion methodology.
The FASB Staff Q&A2 publication highlights specific matters related to reversion to historical information.

Question 14: What should an entity do if it cannot Question 15: Can an entity adjust the historical loss
forecast estimated credit losses over the entire information used in the reversion period for existing
contractual term (adjusted for prepayments)? economic conditions or expectations of future
economic conditions when developing estimates
Response: An entity is not required to develop forecasts of expected credit losses?
over the entire contractual term (adjusted for prepayments)
of the financial asset or group of financial assets. For Response: No. For periods beyond which an entity is
periods beyond which the entity is able to make or obtain able to make or obtain reasonable and supportable
reasonable and supportable forecasts of expected credit forecasts of expected credit losses, it should revert to
losses, it is required to revert to historical loss information historical loss information determined in accordance with
that reflects expected credit losses during the remainder paragraph 326-20-30-8 that reflects expected credit
of the contractual term (adjusted for prepayments) of the losses during the remainder of the contractual term
financial asset or group of financial assets. (adjusted for prepayments) of the financial asset or group
of financial assets. The entity should not adjust historical
Update 2016-13 provides entities with flexibility to loss information for existing economic conditions or
determine the expected credit losses and does not require expectations of future economic conditions for periods that
an entity to develop reasonable and supportable forecasts are beyond the reasonable and supportable period.
for the entire expected remaining life of a loan (that is,
contractual term adjusted for prepayments), such as a The Board decided to require that an entity revert to
30-year mortgage. Therefore, the Board included guidance historical loss information without adjusting historical
on how an entity should estimate expected credit losses loss information for economic conditions beyond
for those periods beyond the reasonable and supportable the reasonable and supportable period to simplify
forecast period. The periods after the reasonable and the estimation process. However, this historical loss
supportable forecast periods are often referred to as information should be adjusted for differences in current
the “reversion period” and “post-reversion period,” as asset-specific risk characteristics in accordance with
applicable. When reverting to historical loss information, paragraph 326-20-30-8. The Board understands that an
an entity should (1) consider whether the historical loss entity may need additional guidance on how to measure
information is still relevant to estimating expected credit expected credit losses as it estimates losses in periods
losses (that is, in accordance with paragraph 326-20- of increasing uncertainty and decreasing precision.
30-8, an entity may consider adjusting its historical The reversion to an entity’s historical loss information
loss information for differences in current asset-specific emphasizes the relevance of known loss experience
risk characteristics) and (2) not adjust historical loss that has occurred in the past on similar financial assets
information in the reversion period and post-reversion or groups of financial assets and addresses preparers’
periods for existing economic conditions or expectations of concerns about the reliability of estimating those credit
future economic conditions. losses in periods of declining precision.

Question 16: Is an entity required to revert to historical loss information on a straight-line basis?
Response: No. Although an entity is required to The expected contractual term (adjusted for
revert to historical loss information for periods prepayments) of remaining loans exceeds the two-
that cannot be forecasted based on reasonable and year reasonable and supportable forecast period, and,
supportable information, the Board did not prescribe therefore, the entity will need to revert to historical loss
a single methodology for reverting to historical loss information. The entity decides to apply a straight-line
information. Instead, the Board stated that an entity technique when reverting to historical loss information
may revert to historical loss information immediately because the factory closing will continue to affect the
on a straight-line basis or using another rational and collectibility of outstanding loan balances for periods
systematic basis. In addition, the guidance permits an beyond the reasonable and supportable forecast
entity to apply different reversion methods for different period. In this instance, it may not be appropriate to
inputs and asset classes. immediately revert to historical loss information because
there may be a prolonged effect on the entity’s ability
The Board understands that an entity may need to collect on contractually owed cash flows because
additional guidance on how to measure expected credit employees of the factory may be unemployed for a long
losses as it estimates losses in periods of increasing time. Alternatively, an entity may capture the extended
uncertainty and decreasing precision. The reversion to impact of the closure in its qualitative adjustments.
an entity’s historical loss information emphasizes the
relevance of known loss experience that has occurred In contrast, an immediate reversion methodology could
in the past on similar financial assets and addresses be appropriate when an entity may be able to develop a
preparers’ concerns about the reliability of estimating reasonable and supportable forecast only for a market-
those credit losses in periods of declining precision. based input (such as home prices) that covers one year.
Ultimately, an entity should use judgment in determining The reversion method is not a policy election but
which reversion technique is most appropriate at the rather a component of the overall estimate of expected
reporting date. For example, an entity identifies that credit losses. Like other components used to measure
a factory in its local economy will be closing in two expected credit losses, an entity should support the
years. As part of the entity’s reasonable and supportable reversion methodology and period it uses to develop
forecast, it considers the effect the closure will have on its estimates of expected credit losses. Additionally,
collecting its outstanding loan balances. reversion to historical loss information, whether
immediately or on a straight-line basis or using another
reasonable methodology, is required only for periods
that cannot be forecasted based on reasonable and
supportable information.
Methodologies Under ASC 326-20

ASC 326-20-55-7 STATES: Because of the subjective nature of the estimate, this Subtopic does not require specific
approaches when developing the estimate of expected credit losses. Rather, an entity should use judgment to develop
estimation techniques that are applied consistently over time and should faithfully estimate the collectibility of the financial
assets by applying the principles in this Subtopic. An entity should utilize estimation techniques that are practical and relevant
to the circumstance. The method(s) used to estimate expected credit losses may vary on the basis of the type of financial
asset, the entity’s ability to predict the timing of cash flows, and the information available to the entity.
The standard does not provide prescriptive guidance for an entity to follow when developing its estimate for expected credit losses.
The FASB instead has provided entities with the ability to use judgment in developing a methodology that is able to be applied on a
consistent basis from one period to the next and considered reasonable and supportable. The method(s) used to estimate expected
credit losses may vary based on the type of financial asset, the entity’s ability to predict the timing of cash flows, and the information
available to the entity
However, the FASB highlighted several potential models, which include discounted cash flow methods, loss-rate methods, roll-rate
methods, probability-of-default methods, or methods that utilize an aging schedule. ASC 326-20-55 provides illustrative guidance
for many of these models:
MODEL EXAMPLE REFERENCE IN ASC 326-20-55

Loss-rate approach (collective evaluation) ASC 326-20-55-18 through 55-22
Loss-rate approach (individual evaluation) ASC 326-20-55-23 through 55-27
Vintage-Year Basis ASC 326-20-55-28 through 55-31
Expected credit losses using both a collective method and an individual
ASC 326-20-55-32 through 55-36
asset method (includes discounted cash flows example)
Trade receivables using an aging schedule ASC 326-20-55-37 through 55-40
Practical expedient for collateral-dependent financial assets ASC 326-20-55-41 through 55-44
Practical expedient for financial assets with collateral ASC 326-20-55-45 through 55-47
maintenance provisions
Potential default is greater than zero, but expected nonpayment is zero ASC 326-20-55-48 through 55-50
Recognizing write-offs and recoveries ASC 326-20-55-51 through 55-53
Unconditionally cancellable loan commitments ASC 326-20-55-54 through 55-56
Recognizing purchased financial assets with credit deterioration ASC 326-20-55-61 through 55-65
Loss rate approach on purchased financial assets with credit deterioration ASC 326-20-55-66 through 55-71
Discounted cash flows approach on purchase financial assets with
ASC 326-20-55-72 through 55-78
credit deterioration
Identifying similar risk characteristics in reinsurance receivables ASC 326-20-55-81 through 55-85
ASC 326-20-30-3 STATES: The allowance for credit losses may be determined using various methods. For example, an
entity may use discounted cash flow methods, loss-rate methods, roll-rate methods, probability-of-default methods,
or methods that utilize an aging schedule. An entity is not required to utilize a discounted cash flow method to estimate
expected credit losses. Similarly, an entity is not required to reconcile the estimation technique it uses with a discounted cash
flow method.
ASC 326-20-55-6 STATES: Estimating expected credit losses is highly judgmental and generally will require an entity to
make specific judgments. Those judgments may include any of the following:
X The definition of default for default-based statistics. X The methods of utilizing historical experience.
X The approach to measuring the historical loss amount X The method of adjusting loss statistics for recoveries.
for loss-rate statistics, including whether the amount is X How expected prepayments affect the estimate of
simply based on the amortized cost amount written off expected credit losses.
and whether there should be adjustments to historical
credit losses (if any) to reflect the entity’s policies for X How the entity plans to revert to historical credit loss
recognizing accrued interest. information for periods beyond which the entity is able
to make or obtain reasonable and supportable forecasts
X The approach to determine the appropriate historical of expected credit losses.
period for estimating expected credit loss statistics.
X The assessment of whether a financial asset exhibits risk
X The approach to adjusting historical credit loss characteristics similar to other financial assets.
information to reflect current conditions and reasonable
and supportable forecasts that are different from
conditions existing in the historical period.
The following table provides information related to two common methodologies:
CECL METHODOLOGY DESCRIPTION

Discounted Cash Flow Based on the present value of expected future cash flows discounted at an effective interest rate
applicable to the asset/asset pool. Expected cash flow assumptions used should be based on best
estimates of reasonable and supportable assumptions and projections.
The effective interest rate includes the accretion or amortization of premiums and discounts.
The FASB provides several examples within ASC 326-20-55 “Implementation Guidance and
Illustrations” that have been presented below when applying discounted cash flows to existing
financial assets as well as assets purchased with credit deterioration.
Loss Rate The average charge-off method is an approach commonly used for evaluating impairment on
pools of financial assets under the incurred loss model. This method is used for calculating an
estimate of losses based primarily on experience, and the data needs of this method are modest
compared to those of other methods.
The FASB provides several examples within ASC 326-20-55 “Implementation Guidance and
Illustrations” that are presented below when applying a loss rate approach to a normal pool
of assets on a collective, individual, and vintage method as well as assets purchased with
credit deterioration.
ASC 326-20-30-5 STATES: If an entity estimates

expected credit losses using a method other than a
discounted cash flow method described in paragraph
326-20-30-4, the allowance for credit losses shall
reflect the entity’s expected credit losses of the
amortized cost basis of the financial asset(s) as of the
reporting date. For example, if an entity uses a loss-rate
method, the numerator would include the expected
credit losses of the amortized cost basis (that is,
amounts that are not expected to be collected in cash
or other consideration, or recognized in income). In
addition, when an entity expects to accrete a discount
into interest income, the discount should not offset
the entity’s expectation of credit losses. An entity
may develop its estimate of expected credit losses by
measuring components of the amortized cost basis
on a combined basis or by separately measuring the
following components of the amortized cost basis,
including all of the following:
X Amortized cost basis, excluding premiums,
discounts (including net deferred fees and costs),
foreign exchange, and fair value hedge accounting
adjustments (that is, the face amount or unpaid
principal balance).
X Premiums or discounts, including net deferred fees
and costs, foreign exchange, and fair value hedge
accounting adjustments. See paragraph 815-25-
35-10 for guidance on the treatment of a basis
adjustment related to an existing portfolio layer
method hedge.
X Applicable accrued interest. See paragraph 326-20-
30-5A for guidance on excluding accrued interest
from the calculation of the allowance for credit losses.
ASC 326-20-55-2 STATES: In determining its estimate

of expected credit losses, an entity should evaluate
information related to the borrower’s creditworthiness,
changes in its lending strategies and underwriting
practices, and the current and forecasted direction of
the economic and business environment. This Subtopic
does not specify a particular methodology to be
applied by an entity for determining historical credit
loss experience. That methodology may vary depending
on the size of the entity, the range of the entity’s
activities, the nature of the entity’s financial assets, and
other factors.
The next two sections take a deeper look at two of the more common CECL methodologies: discounted cash flows and loss-rate.
DISCOUNTED CASH FLOWS METHOD
EXCERPT FROM ASC 326 The effective interest rate is the rate
of return implicit in the financial asset,
ASC 326-20-30-4 AND 30-4A STATE: 30-4 If an entity estimates expected that is, the contractual interest rate
credit losses using methods that project future principle and interest cash flows adjusted for any net deferred fees or
(that is, a discounted cash flow method), the entity shall discount expected cash costs, premium, or discount existing
flows at the financial assets effective interest rate. When a discounted cash flow at the origination or acquisition of the
method is applied, the allowance for credit losses shall reflect the difference financial asset. Although the concept
between the amortized cost basis and the present value of the expected cash of the effective interest rate exists in
flows. If a financial asset is modified and is considered to be a continuation of legacy U.S. GAAP as part of ASC 310
the original asset, an entity shall use the post-modification contractual interest for the purpose of recognizing interest
rate to derive the effective interest rate when using a discounted cash flow income in financial assets, the rate
method. See paragraph 815-25-35-10 for guidance on the treatment of a basis that was applicable for the purpose
adjustment related to an existing portfolio layer method hedge. If the financial of accounting for financial assets
asset’s contractual interest rate varies based on subsequent changes in an under ASC 310 may not be the same
independent factor, such as an index or rate, for example, the prime rate, the rate as required for the purpose of
London Interbank Offered Rate (LIBOR), or the U.S. Treasury bill weekly average, discounting projected future principal
that financial asset’s effective interest rate (used to discount expected cash and interest cash flows for the purpose
flows as described in this paragraph) shall be calculated based on the factor as of estimating expected credit losses
it changes over the life of the financial asset. An entity is not required to project for the same financial asset under
changes in the factor for purposes of estimating expected future cash flows, it ASC 326. One of the more common
shall use the same projections in determining the effective interest rate used variables that will result in a different
to discount those cash flows. In addition, if the entity projects changes in the effective interest rate under ASC 326
factor for the purposes of estimating expected future cash flows, it shall adjust as compared to legacy U.S. GAAP
the effective interest rate used to discount expected cash flows to consider is the ability of an entity to include
the timing (and changes in the timing) of expected cash flows resulting from assumptions regarding estimated
expected prepayments in accordance with paragraph 326-20-30-4A. Subtopic prepayments when determining the
310-20 on receivables-nonrefundable fees and other costs provides guidance on effective interest rate under ASC 326.
the calculation of interest income for variable rate instruments. ASC 326, however, does put some
30-4A As an accounting policy election for each class of financing receivable restriction on the use of prepayment
or major security type, an entity may adjust the effective interest rate used to assumptions. Regarding variable rate
discount expected cash flows to consider the timing (and changes in timing) of instruments, the ASC allows, but does
expected cash flows resulting from expected prepayments. not require, entities to forecast changes
in interest rates when determining
an appropriate effective interest rate.
If an entity does forecast changes in
future interest rates, it should use the
same assumptions in determining the
effective interest rate used to discount
the expected cash flows.
LOSS-RATE METHOD
Certain entities may find that using a loss-rate approach is more appropriate for estimating credit losses by starting with historical
loss information and adjusting for certain factors that may exist but not be reflected in the historical loss information for the
respective period selected. The key difference is the loss-rate approach under CECL will require an element of forward-looking
considerations to capture expected losses.
Example 1: Estimating Expected Credit Losses Using a Loss-Rate Approach from ASC 326-20-55-18 through 55-22:
55-18 This Example illustrates one way an entity may Based on current conditions and reasonable and
estimate expected credit losses on a portfolio of loans with supportable forecasts, Community Bank A expects that
similar risk characteristics using a loss-rate approach. there will be an additional decrease in real estate values
over the next one to two years, and unemployment
55-19 Community Bank A provides 10-year amortizing rates are expected to increase further over the next one
loans to customers. Community Bank A manages to two years. To adjust the historical loss rate to reflect
those loans on a collective basis based on similar risk the effects of those differences in current conditions
characteristics. The loans within the portfolio were and forecasted changes, Community Bank A estimates
originated over the last 10 years, and the portfolio has an a 10-basis-point increase in credit losses incremental to
amortized cost basis of $3 million. the 1.5% historical lifetime loss rate due to the expected
55-20 After comparing historical information for similar decrease in real estate values and a 5-basis-point increase
financial assets with the current and forecasted direction in credit losses incremental to the historical lifetime loss
of the economic environment, Community Bank A believes rate due to expected deterioration in unemployment
that its most recent 10-year period is a reasonable rates. Management estimates the incremental 15-basis-
period on which to base its expected credit-loss-rate point increase based on its knowledge of historical
calculation after considering the underwriting standards loss information during past years in which there were
and contractual terms for loans that existed over the similar trends in real estate values and unemployment
historical period in comparison with the current portfolio. rates. Management is unable to support its estimate of
Community Bank A’s historical lifetime credit loss rate expectations for real estate values and unemployment
(that is, a rate based on the sum of all credit losses for a rates beyond the reasonable and supportable forecast
similar pool) for the most recent 10-year period is 1.5%. period. Under this loss-rate method, the incremental
The historical credit loss rate already factors in prepayment credit losses for the current conditions and reasonable and
history, which it expects to remain unchanged. Community supportable forecast (15 basis points) are added to the
Bank A considered whether any adjustments to historical 1.5% rate that serves as the basis for the expected credit
loss information in accordance with paragraph 326-20-30- loss rate. No further reversion adjustments are needed
8 were needed, before considering adjustments for current because Community Bank A has applied a 1.65% loss rate
conditions and reasonable and supportable forecasts but where it has immediately reverted into historical losses
determined none were necessary. reflective of the contractual term in accordance with
paragraphs 326-20-30-8 through 30-9. This approach
55-21 In accordance with paragraph 326-20-55-4, reflects an immediate reversion technique for the loss-
Community Bank A considered significant factors that rate method.
could affect the expected collectibility of the amortized
cost basis of the portfolio and determined that the primary 55-22 The expected loss rate to apply to the amortized
factors are real estate values and unemployment rates. As cost basis of the loan portfolio would be 1.65%, the sum of
part of this analysis, Community Bank A observed that real the historical loss rate of 1.5% and the adjustment for the
estate values in the community have decreased and the current conditions and reasonable and supportable forecast
unemployment rate in the community has increased as of of 15 basis points. The allowance for expected credit losses
the current reporting period date. at the reporting date would be $49,500.
Inputs used, and adjustments within the calculation, should be made in a manner that reflects the estimate of expected lifetime
credit losses. This is key in properly designing a methodology that will comply with the requirements of CECL. Adjustments to
historical loss information to reflect current conditions as well as those representative of expected future conditions will require
significant judgment. The forward-looking analysis should be derived from forecasted information that is both reasonable and
supportable. The reversion technique used above is specific to the fact pattern presented; an entity’s actual technique should reflect
its specific facts and circumstances.
VINTAGE MODEL METHOD

A vintage model would also constitute an available loss rate model under ASC 326-20. The following example is found within
the standard related to estimating expected credit losses using a vintage-year basis.
Example 3: Estimating Expected Credit Losses on a Vintage-Year Basis from ASC 326-20-55-28 through 55-31:
55-28 The following Example illustrates one way an entity might estimate the expected credit losses on a vintage-year basis.
55-29 Bank C is a lending institution that provides financing to consumers purchasing new or used farm equipment throughout
the local area. Bank C originates approximately the same amount of loans each year. The four-year amortizing loans it originates
are secured by collateral that provides a relatively consistent range of loan-to-collateral-value ratios at origination. If a borrower
becomes 90 days past due, Bank C repossesses the underlying farm equipment collateral for sale at auction.
55-30 Bank C tracks those loans on the basis of the calendar year of origination. The following pattern of credit loss
information has been developed (represented by the nonshaded cells in the accompanying table) based on the amount of
amortized cost basis in each vintage that was written off as a result of credit losses.
Year of Origination Loss Experience in Years Following Origination

Year 1 Year 2 Year 3 Year 4 Total Expected
20X1 $ 50 $ 120 $ 140 $ 30 $ 340 –
20X2 $ 40 $ 120 $ 140 $ 40 $ 340 –
20X3 $ 40 $ 110 $ 150 $ 30 $ 330 –
20X4 $ 60 $ 110 $ 150 $ 40 $ 360 –
20X5 $ 50 $ 130 $ 170 $ 50 $ 400 –
20X6 $ 70 $ 150 $ 180 $ 60 $ 460 $ 60
20X7 $ 80 $ 140 $ 190 $ 70 $ 480 $ 260
20X8 $ 70 $ 150 $ 200 $ 80 $ 500 $ 430
20X9 $ 70 $ 160 $ 200 $ 80 $ 510 $ 510
55-31 In estimating expected credit losses on the remaining outstanding loans at December 31, 20X9, Bank C considers its
historical loss information. It notes that the majority of losses historically emerge in Year 2 and Year 3 of the loans. It notes
that historical loss experience has worsened since 20X3 and that loss experience for loans originated in 20X6 has already
equaled the loss experience for loans originated in 20X5 despite the fact that the 20X6 loans will be outstanding for one
additional year as compared with those originated in 20X5. In considering current conditions and reasonable and supportable
forecasts, Bank C notes that there is an oversupply of used farm equipment in the resale market that is expected to continue,
thereby putting downward pressure on the resulting collateral value of equipment. It also notes that severe weather in recent
years has increased the cost of crop insurance and that this trend is expected to continue. On the basis of those factors, Bank
C determines adjustments to historical loss information for current conditions and reasonable and supportable forecasts. The
remaining expected losses (represented by the shaded cells in the table in paragraph 326-20-55-30 in each respective year)
reflect those adjustments, and Bank C arrives at expected losses of $60, $260, $430, and $510 for loans originated in 20X6,
20X7, 20X8, and 20X9, respectively. Therefore, the allowance for credit losses for the reporting period date would be $1,260.
AGING SCHEDULE METHOD

ASC 326-20 also presents an example specific to trade receivables, using an aging schedule methodology.
Example 5: Estimating Expected Credit Losses for Trade Receivables Using an Aging Schedule from ASC 326-20-55-37
through 55-40:
55-37 This Example illustrates one way an entity may 55-40 At the reporting data, Entity E develops the
estimate expected credit losses for trade receivables using following aging schedule to estimate expected credit losses.
an aging schedule.
Past-Due Amortized Credit Expected
55-38 Entity E manufactures and sells products to a broad
Status Cost Basis Loss Rate Credit Loss
range of customers, primarily retail stores. Customers Estimate
typically are provided with payment terms of 90 days
Current $5,984,698 0.27% $16,159
with a 2% discount if payments are received within 60
days. Entity E has tracked historical loss information for 1-30 days past 8,272 7.2% 596
its trade receivables and compiled the following historical due
credit loss percentages: 31-60 days 2,882 23.4% 674
X 0.3% for receivables that are current past due
X 8% for receivables that are 1–30 days past due 61-90 days 842 52.2% 440
past due
X 26% for receivables that are 31–60 days past due
More than 90 1,100 73.8% 812
X 58% for receivables that are 61–90 days past due days past due
X 82% for receivables that are more than 90 days $5,997,794 $18,681
past due.
55-39 Entity E believes that this historical loss information While the above example provides a straight-forward
is a reasonable base on which to determine expected approach to the estimation of expected losses for trade
credit losses for trade receivables held at the reporting receivables that have standard terms, an entity should
date because the composition of the trade receivables carefully evaluate the different contractual terms for
at the reporting date is consistent with that used in customers and the impact on estimating credit losses
developing the historical credit-loss percentages (that under CECL. For example, customers may need to be
is, the similar risk characteristics of its customers and further disaggregated based on the credit terms extended
its lending practices have not changed significantly over in addition to the aging of the receivables.
time). However, Entity E has determined that the current
Additionally, entities must also consider contracts
and reasonable and supportable forecasted economic
with customers that offer credit commitment terms that
conditions have improved as compared with the economic
may qualify as off-balance-sheet provisions, or other
conditions included in the historical information.
types of guarantees to be evaluated (i.e., in-scope vs. out
Specifically, Entity E has observed that unemployment
of scope) under the terms of ASC 326-20. Consultation
has decreased as of the current reporting date, and
with legal resources may be necessary for more complex
Entity E expects there will be an additional decrease in
contractual arrangements. Refer to the Off-balance sheet
unemployment over the next year. To adjust the historical
credit exposure section for further discussion.
loss rates to reflect the effects of those differences in
current conditions and forecasted changes, Entity E
estimates the loss rate to decrease by approximately 10%
in each age bucket. Entity E developed this estimate based
on its knowledge of past experience for which there were
similar improvements in the economy.
WEIGHTED-AVERAGE REMAINING The FASB Q&A includes an illustrative example of a credit

MATURITY METHOD loss estimate using a WARM method, which has been
summarized below:
The weighted average remaining maturity method (WARM)
uses an average annual charge-off rate and includes historical Step 1: Calculate the annual charge-off rate, which is done
loss experience over several vintages that are weighted. The by taking the actual net charge-offs divided by the average
average annual charge-off rate is applied to the contractual amortized cost for the specific year (e.g., Actual charge-offs
term, adjusted for prepayment considerations, to arrive at the of $15 on an average balance for two years of $1,500 would
unadjusted historical charge-off rate for the remaining balance be an annual charge-off rate of 1.00%). Take the sum of the
of the financial assets. The entity then adjusts for current annual charge-off rates for all periods in scope and determine
conditions and reasonable and supportable forecasts as deemed the average.
necessary to arrive at an estimate for expected credit losses.
Step 2: Estimate the allowance for credit losses by applying
In response to questions whether this method is in accordance the average annual charge-off rate from Step 1 to the
with ASC 326-30 the FASB staff issued a Q&A document titled projected amortized cost over the expected term and
Topic 326, no. 1: whether the weighted-average remaining projected amortized cost amounts (e.g., Average annual
maturity method is an acceptable method to estimate charge-offs from Step 1 for 5 years is 0.67% multiplied by the
expected credit losses. This publication has 5 questions projected amortized cost of $15,000 for 2020 would be an
specific to the WARM method. allowance for credit losses of $100.5 for the first year, which
would then get added to the other periods to determine the
The first question addressed by the FASB Q&A was whether total unadjusted allowance associated with historical charge-
WARM is an acceptable method to estimate allowance for credit off information).
losses under ASC 326-20. The answer is it may be acceptable.
The FASB states “The WARM method is one of many methods that Step 3: Take the amount calculated using the WARM method
could be used to estimate an allowance for credit losses for less and then further adjust for reasonable and supportable forecasts
complex financial asset pools under Subtopic 326-20.” as well as other qualitative and quantitative adjustments that
may be necessary to determine the estimate for expected credit
The FASB Q&A also addresses the types of factors to consider losses for that specific pool. If multiple pools are using a WARM
when determining whether to use the WARM method. In method, the Steps would be repeated until the total allowance
summary, it will be based on facts and circumstances for each for expected credit losses has been estimated.
entity when choosing the best model to estimate expected
credit losses. The complexity and resources of the credit risk
management processes should be commensurate with the loss
estimate model(s) employed. In less complex entities, the use
of a WARM method may be appropriate for some or all of the
pools of assets.
The FASB Q&A cited the following challenges that exist when
using a WARM method, but notes that these challenges are
present regardless of the model(s) selected:
“Certain common challenges can exist regardless of the loss

rate method selected by an entity. These include, but are not
limited to, situations involving minimal loss history, losses that
are sporadic with no predictive patterns, low numbers of loans in
each pool, data that is only available for a short historical period,
a composition that varies significantly from historical pools of
financial assets, or changes in the economic environment.”
Troubled Debt Restructurings

ASU 2022-023 removed the TDR accounting model for creditors under ASC 310-40. Consistently, the guidance in ASC 326-20-30-
6 regarding reasonably expected TDR was also removed. Consequently, expected extensions, renewals and modifications are not
included in the contractual term unless the extension or renewal options are included in the original or modified contract at the
reporting date and are not unconditionally cancellable by the entity.
Financial Assets Secured by Collateral

A financial asset is collateral dependent when the borrower FINANCIAL ASSETS SECURED BY COLLATERAL
is experiencing financial difficulty and repayment is expected MAINTENANCE PROVISIONS
to be provided substantially through the sale or operation of
the collateral. The FASB provided another practical expedient (ASC 326-
20-35-6) when the borrower has a contractual obligation
When foreclosure of the collateral is probable, ASC 326-20- to continually adjust the amount of collateral securing a
35-4 requires that an entity measure the expected credit financial asset due to changes in the fair value of the collateral.
losses by comparing the fair value of the collateral with the These agreements are commonly referred to as collateral
amortized cost at each respective reporting period, regardless maintenance provisions.
of the asset’s initial measurement method for estimating
credit losses. If repayment is dependent upon the sale of the An entity may determine that the expectation of nonpayment
collateral, then the fair value would need to be adjusted for the of the amortized cost basis is zero if the borrower continually
undiscounted estimated costs to sell. However, if it is based replenishes the collateral securing the financial asset such that
on continuing operation of the collateral rather than sale, the fair value of the collateral is equal to or exceeds the amortized
estimated costs to sell should be excluded. Any embedded cost basis of the financial asset and the entity expects the
credit enhancements, as defined at 326-20-30-12, should be borrower to continue to replenish the collateral as necessary.
considered as well.
The FASB clarified that an entity may apply the practical
When foreclosure is not probable, but repayment is expected expedient only if it reasonably expects that the borrower will
to be provided substantially through the operation or sale be able to continually replenish the collateral necessary to
of the collateral and the borrower is experiencing financial secure the financial asset.
difficulty as of the reporting date, ASC 326-20-35-5 provides
If the fair value of the collateral at the reporting date is less than
entities with a practical expedient election to follow the same
the amortized cost basis of the financial asset, the allowance for
reserve methodology as outlined when foreclosure is probable.
credit losses is limited to the unsecured portion (i.e., the difference
between the fair value of the collateral at the reporting date and
the amortized cost basis of the financial asset).
BDO OBSERVATION: Management will need to

maintain adequate documentation to support the
requirement in the standard to have a reasonable
expectation that the borrower will continue to provide
collateral as needed to maintain the necessary
collateral coverage required by the agreement.
3 Financial Instruments—Credit Losses (Topic 326): Troubled Debt Restructurings and Vintage Disclosures.
Effect of Credit Enhancements on Expected

Credit Losses
Under ASC 326, consideration is to be given to the nature of the credit enhancements. The key distinction that will determine
what, if any, impacts credit enhancements will have on an entity’s estimated expected credit losses rests on the whether the credit
enhancement is a “freestanding contract” as defined within the standard.
An example of a common credit enhancement that may not be a “freestanding contract” is private mortgage insurance (“PMI”)
associated with a mortgage loan that is a requirement under the loan agreement as a condition of making the loan and, therefore,
not separable from the loan agreement. On the other hand, an example of a “freestanding contract” would be a purchased credit
default swap since it is entered into separate from the loan to help mitigate credit losses, but it does not reduce the credit risk of the
loan itself. Instead, it mitigates the potential exposure through a separate arrangement.
EXCERPT FROM ASC 326 For those credit enhancements that are not “freestanding
contracts”, an entity will need to identify the loss mitigation
ASC 326-20-30-12 STATES: The estimate of expected provided by the enhancement to determine the impact on the
credit losses shall reflect how credit enhancements overall estimate for expected credit losses. It is expected that
(other than those that are freestanding contracts) credit enhancements would generally reduce the reserve.
mitigate expected credit losses on financial assets,
including consideration of the financial condition of the In reaching the determination of whether a credit
guarantor, the willingness of the guarantor to pay, and/ enhancement is “freestanding” entities should use the two
or whether any subordinated interests are expected to criteria within the definition above to apply a decision matrix
be capable of absorbing credit losses on any underlying for each enhancement and:
financial assets. However, when estimating expected 1. Determine whether the enhancement is part of a contract
credit losses, an entity shall not combine a financial that was entered into separately and apart from the asset, or
asset with a separate freestanding contract that serves
to mitigate credit loss. As a result, the estimate of 2. Determine whether the contract was entered into in
expected credit losses on a financial asset (or group of conjunction with some other transaction and is legally
financial assets) shall not be offset by a freestanding detachable and separately exercisable.
contract (for example, a purchased credit-default If the answer is “yes” to either of these criteria, then the
swap) that may mitigate expected credit losses on the contract is freestanding and should not be included in the
financial asset (or group of financial assets). entity’s estimate for expected credit losses model. The
GLOSSARY expected benefits from freestanding credit enhancements
may be recognized at the same time as the loss is recognized
Freestanding contract in earnings; however, the expected benefit should not be
A freestanding contract is entered into either: reported as a reduction to the provision for credit losses.
X Separate and apart from any of the entity’s other Rather, the benefit should be reported in other income.
financial instruments or equity transactions
X In conjunction with some other transaction and is BDO OBSERVATION: Those responsible for the CECL
legally detachable and separately exercisable. modeling process may need to seek legal advice from
internal or external resources in reaching the conclusion
on whether the contract is freestanding.
Purchased Financial Assets with

Credit Deterioration
Subtopic 326-20 replaces the legacy U.S. GAAP concept of purchase credit impaired (PCI) assets with a new term, purchased financial
assets with credit deterioration (PCD).
A PCD asset is an acquired individual financial asset (or acquired group of financial assets with similar risk characteristics) that as of
the date of acquisitions have experienced a more-than-insignificant deterioration in credit quality since origination, as determined
by the acquirer’s assessment. Financial assets in scope include loans and debt securities classified as HTM or AFS. ASC 326 does not
define “more-than-insignificant deterioration in credit quality since origination”. The entity will need to use judgment to determine
whether a purchased asset meets the definition of a PCD asset.
The following table provides the primary distinctions between legacy U.S. GAAP and ASC 326-20.
PCI PCD
Narrowly focused on those assets acquired that have PCD assets include any acquired asset that as of the date of
evidence of impairment indicators that meet the “probable” acquisition has experienced a more-than-insignificant deterioration
threshold, at acquisition, that the acquirer will not be able in credit quality since origination based on the acquirer’s
to collect all contractually required payments receivable. assessment at acquisition.
Assets are evaluated individually for whether they meet Assets may be evaluated individually or at the portfolio level for
the definition a PCI and can be either pooled or evaluated whether they meet the definition of a PCD. If the evaluation is at the
individually for impairment. portfolio level the assets should have similar risk characteristics.
No allowance measured at acquisition. The allowance recorded at acquisition results in a gross-up of both
the amortized cost basis of the asset and the associated allowance.
After identification, Assets should be pooled based on similar risk

characteristics for evaluating impairment or individually if there are
no other assets with similar risk characteristics to allow for pooling.
Credit loss model based on discounted cash flows. Expected credit losses are estimated under any of the available
methods in Subtopic 326-20.
Subsequent favorable adjustments are recorded on an Subsequent changes (favorable or unfavorable) in assumptions
effective yield basis, whereas subsequent unfavorable are recognized in the period they are identified as part of the
adjustments are recorded in the period of identification via overall adjustment to the estimate for expected credit losses (i.e.,
an additional reserve. immediate recognition of the change).
The SEC staff clarified in December 2018 that upon the adoption of the standard entities would not be able to apply the PCD
accounting model to non-PCD assets by analogy as they were able to do under the legacy PCI model. There are also distinct
differences in the accounting treatment for PCD assets when compared to how legacy U.S. GAAP treated those assets identified
as PCI.
The allowance for credit losses for PCD assets should reflect expected recoveries of amounts previously written off and expected to
be written off by the entity, not exceeding the aggregate amounts of amortized cost basis previously written off and expected to be
written off. If a method other than a discounted cash flow method is used to estimate expected credit losses, expected recoveries
should exclude any amounts that result in an acceleration of the noncredit discount and entities may include increases in expected
cash flows after acquisition.
Following is the ASC excerpt related to the initial After the adoption of ASC 326, one key difference between
measurement of the PCD allowance. the treatment of PCD and non-PCD assets at the time of
acquisition is that PCD assets will require a gross up for the
EXCERPT FROM ASC 326 estimated expected credit losses for those assets as of the
acquisition date. The initial credit loss for the gross up is not
ASC 326-20-30-13, 30-13A & 30-14 state: 30-13
recognized in income. The measurement of the allowance at
An entity shall record the allowance for credit losses
acquisition should be determined using any model that results
for purchased financial assets with credit deterioration
in lifetime expected credit losses.
in accordance with paragraphs 326-20-30-2 through
30-10 and 326-20-30-12. An entity shall add the Conversely, similar to acquisition accounting today, non-
allowance for credit losses at the date of acquisition to PCD asset credit related adjustment is incorporated into the
the purchase price to determine the initial amortized fair value of the assets acquired. The difference between the
cost basis for purchased financial assets with credit amortized cost and the fair value of the non-PCD asset must
deterioration. Any noncredit discount or premium be amortized/accredited to income over the life of the asset.
resulting from acquiring a pool of purchased financial
assets with credit deterioration shall be allocated to After initial recognition, the accounting model for PCD assets
each individual asset. At the acquisition date, the initial will align with the CECL model for assets carried at amortized
allowance for credit losses determined on a collective cost. Any change to the allowance in future periods will be
basis shall be allocated to individual assets immediately reflected in net income as a credit loss expense
to appropriately allocate any noncredit discount or reversal of a credit loss expense. The effective interest rate
or premium. established at initial recognition should not change in future
periods. The CECL reserve model applied initially should be
30-13A The allowance for credit losses for purchased applied consistently over the life of the assets.
financial assets with credit deterioration shall include
expected recoveries of amounts previously written The following is an example of the accounting for
off and expected to be written off by the entity and an asset that is acquired after the adoption of ASC
shall not exceed the aggregate of amounts previously 326 and determined to be a PCD asset:
written off and expected to be written off by the
ABC Corp pays $1,600,000 for a loan with a par
entity. a. If the entity estimates expected credit losses
amount of $2,000,000. This loan meets the definition
using a method other than a discounted cash flow of a PDC asset and is measured at amortized cost. At
method in accordance with paragraph 326-20-30- 4, the time of purchase, the expected credit loss on the
expected recoveries shall not include any amounts loan is estimated to be $300,000.
that result in an acceleration of the noncredit discount.
The journal entry to record the loan as part of the initial
b. The entity may include increases in expected cash
acquisition accounting is:
flows after acquisition. (See Examples 18 and 19 in
paragraphs 326-20-55-86 through 55-90.) Dr Loan – Par $2,000,000
Cr Loan – Noncredit Discount $100,000
30-14 If an entity estimates expected credit losses
using a discounted cash flow method, the entity shall Cr Allowance for credit losses $300,000
discount expected credit losses at the rate that equates Cr Cash $1,600,000
the present value of the purchaser’s estimate of the
asset’s future cash flows with the purchase price of At the purchase date, the statement of financial position
the asset. If an entity estimates expected credit losses would reflect an amortized cost basis for the financial
asset of $1,900,000, which represents the amount paid
using a method other than a discounted cash flow
($1,600,000) plus the gross up effect of the allowance
method, the entity shall estimate expected credit
for credit losses noted previously ($300,000). The
losses on the basis of the unpaid principal balance (face difference between the par amount and the amortized
value) of the financial asset(s). cost amount is the noncredit discount that will be
accredited using the effective interest method over the
term of the financial asset.
The $300,000 allowance for credit losses should be

remeasured at each reporting. Any change to the
allowance balance would be immediately reported
through net income.
Off-Balance-Sheet Credit Exposures

An estimate for expected credit losses related to off-balance-sheet credit exposures shall be recorded as a separate liability
within the entity’s balance sheet based on the same principles as previously discussed. Off-balance-sheet credit exposures include
contingent elements of financial guarantees otherwise within the scope of ASC 460. Entities should estimate expected credit losses
over the contractual term of the loan that will be originated because of the off-balance-sheet commitment.
EXCERPT FROM ASC 326 The following example illustrates the accounting
considerations for an off-balance sheet
ASC 326-20-30-11 STATES: In estimating expected commitment that is not unconditionally cancelable:
credit losses for off-balance-sheet credit exposures, an
entity shall estimate expected credit losses on the basis ABC Corp enters into an agreement with a customer
of the guidance in this Subtopic over the contractual that includes an irrevocable loan commitment of
period in which the entity is exposed to credit risk via a $2,500,000. As of the reporting date, $500,000 of
present contractual obligation to extend credit, unless that loan commitment has been funded. For the
that obligation is unconditionally cancellable by the $2,000,000 that is not funded, ABC Corp would be
issuer. At the reporting date, an entity shall record a required to evaluate what the expected credit losses
liability for credit losses on off-balance-sheet credit would be on this unfunded amount (in addition to
exposures within the scope of this Subtopic. An entity evaluating the need for a reserve on the funded portion
shall report in net income (as a credit loss expense) separately). Any liability for expected credit losses on
the amount necessary to adjust the liability for credit this unfunded balance would be presented as a liability
losses for management’s current estimate of expected on the statement of financial position.
credit losses on off-balance-sheet credit exposures. For
that period of exposure, the estimate of expected credit The reserve would be based on the expectation of the
losses should consider both the likelihood that funding unfunded amount being funded (i.e., the likelihood
will occur (which may be affected by, for example, a of funding) and eventually result in a credit loss. The
material adverse change clause) and an estimate of methodology for determining the amount of expected
expected credit losses on commitments expected to credit losses on this unfunded commitment using the
be funded over its estimated life. If an entity uses a CECL model described previously.
discounted cash flow method to estimate expected
credit losses on off-balance-sheet credit exposures,
the discount rate used should be consistent with the
guidance in Section 310-20-35.
ASC 326-20-30-11 STATES: An entity shall adjust at

each reporting period its estimate of expected credit
losses on off-balance-sheet credit exposures. An entity
shall report in net income (as credit loss expense or a
reversal of credit loss expense) the amount necessary
to adjust the liability for credit losses for management’s
current estimate of expected credit losses on off-
balance-sheet credit exposures at each reporting date.
The following example from the standard is an illustration for unconditionally cancellable loan commitments:
Example 10: Application of Expected Credit Losses to Unconditionally Cancellable Loan Commitments from
ASC 326-20-55-54 through 56:
55-54 This Example illustrates the application of the guidance in paragraph 326-20-30-11 for off-balance-sheet credit
exposures that are unconditionally cancellable by the issuer.
55-55 Bank M has a significant credit card portfolio, including funded balances on existing cards and unfunded commitments
(available credit) on credit cards. Bank M’s card holder agreements stipulate that the available credit may be unconditionally
cancelled at any time.
55-56 When determining the allowance for credit losses, Bank M estimates the expected credit losses over the remaining
lives of the funded credit card loans. Bank M does not record an allowance for unfunded commitments on the unfunded
credit cards because it has the ability to unconditionally cancel the available lines of credit. Even though Bank M has
had a past practice of extending credit on credit cards before it has detected a borrower’s default event, it does not have a
present contractual obligation to extend credit. Therefore, an allowance for unfunded commitments should not be established
because credit risk on commitments that are unconditionally cancellable by the issuer are not considered to be a liability.
BDO OBSERVATION: Engaging a legal expert to perform a legal analysis may be necessary to determine if the commitment
is unconditionally cancellable by the issuing entity.
Zero-Risk of Loss Versus Remote Risk of Loss

ASC 326 requires an entity to estimate expected credit losses even with the risk of loss is remote. However, an entity does not need to
determine a reserve when the risk of nonpayment is zero. This is an extremely narrow scope exception for measuring credit losses for a
financial asset where even if a technical default occurs, the expectation of nonpayment is zero.
The example provided in the ASC is of U.S. Treasury Securities, which are explicitly guaranteed by the sovereign U.S. Government,
which can print its own currency. Cash equivalents4 may also meet the scope exception from measuring credit losses. However, most
other types of instruments, including AAA-rated corporate bonds and trade receivables, are not expected to meet this scope exception
considering that upon a default the loss is likely to be more than zero. However, the Accounting Standards Codification indicates that
the provisions of the Codification need not be applied to immaterial items. Entities would still be required to document the basis for
concluding that CECL does not have a material impact.
4 Short-term highly liquid investments that are readily convertible to known amounts of cash and so near their maturity that they present insignificant risk of changes in value because of
changes in interest rates.
Net Investment in Leases

ASC 326-20 requires the unguaranteed residual asset to be included with the lease
receivable when measuring the CECL reserve for sales-type and direct financing
leases. The lessor should not separately evaluate the unguaranteed residual asset for
impairment unless it sells the lease receivable and retains the unguaranteed residual
asset. While this unguaranteed residual asset is not a financial asset, the FASB
determined it would be overly complex and provide little benefit to separately measure
it for impairment from the lease receivable financial asset.
When a discounted cash flow method is used to measure the CECL reserve, an entity
should use the same discount rate used to measure the related lease receivable.
This Subtopic requires that an entity recognize an allowance for credit

losses on net investment in leases recognized by a lessor in accordance
with Topic 842 on leases. An entity should include the unguaranteed residual
asset with the lease receivable, net of any deferred selling profit, if applicable
(that is, the net investment in the lease). When measuring expected credit
losses on net investment in leases, the lease term should be used as the
contractual term. When measuring expected credit losses on net investment
in leases using a discounted cash flow method, the discount rate used in
measuring the lease receivable under Topic 842 should be used in place of the
effective interest rate.
BDO OBSERVATION: In some cases, the contractual term over which the
expected credit losses are measured in accordance with ASC 326-20-30-6 may
differ from the lease term determined in accordance with ASC 842-10-30-1,
due to certain requirements in both standards that may shorten or extend the
contractual term. For example, consideration of lease extension options under
ASC 842 may not be reflected in the contractual term used for purposes of
ASC 326 unless the condition in ASC 326-20-30-6 is met. In order to address
any potential differences between the lease term and the contractual term
under both standards, the FASB clarified that lessors should use the lease term
determined under ASC 842 as the contractual term for the net investment in
leases for purposes of measuring credit losses under ASC 326.
Available for Sale

Debt Securities
While not in the scope of the CECL model (ASC 326-20) applicable to assets carried
at amortized cost (and certain other items), targeted amendments were made to
the existing impairment model for AFS debt securities (ASC 326-30). The existing
guidance that requires an estimate of credit losses only when the securities is
considered impaired (i.e., fair value is less than its amortized cost basis) did not
change, nor has the requirement to recognize in income the credit losses and in other
comprehensive income any noncredit losses. Further, if there is an intent by the entity
to sell the impaired security or more likely than not will be required to sell the security
prior to recovery of its amortized cost basis, the security’s basis should be written
down to its fair value through net income in accordance with existing guidance.
However, for an impaired AFS debt security for which there is neither an intent nor
a more-likely-than-not requirement to sell, an entity will record credit losses as an
allowance rather than a reduction of the amortized cost basis. As a result, entities
will be able to record reversals of credit losses in current period income as they occur,
which is prohibited under existing GAAP. Additionally, the allowance is limited by the
amount that the fair value is less than the amortized cost basis, considering that an
entity can sell its investment at fair value to avoid realization of credit losses.
An entity should not consider the length of time that the security has been in an
unrealized loss position to avoid recording a credit loss. In determining whether a
credit loss exists, the historical and implied volatility and recoveries or additional
declines in the fair value after the balance sheet date should no longer be considered.
As a result, whether the impairment is other-than-temporary (OTTI) is no longer a
consideration in recording credit losses. Further, unlike the CECL model that required
pooling of assets with similar risk characteristics, credit losses for AFS debt securities
must be determined on an individual basis and use a discounted cash flow model.
After initial recognition of a reserve on AFS securities, the entity should report changes
in the allowance for credit losses in net income as credit loss expense (or reversal of
credit loss expense).
BDO OBSERVATION: Judgment regarding management’s intent and ability to

hold the impaired asset will be required for determining whether to record an
allowance or recognize a direct write-down.
The following decision tree can be used in determining whether an allowance is needed to reflect an impairment of an available for
sale security (amounts recorded to OCI would be net of any applicable income tax considerations):
Is the fair value of the security No impairment. No allowance is

less than the amortized cost NO recognized. Unrealized gain
basis of the security? to be recorded to OCI.
YES
Does the entity intend

to sell the security?
YES An impairment has occurred.
Record the impairment as a direct
write-down of the security equal
NO to the difference between the fair
value and the amortized cost of
the security with an offsetting
entry to net income.
Is it more likely than not the YES
entity will be required to
sell before recovery of the
amortized cost basis?
NO
Is the entirety or a portion of the

unrealized loss a result of credit
loss (i.e., is the present value
of expected cash flows less
than amortized cost)?
YES
NO
A credit impairment has occurred.

A credit impairment has occured. The credit loss portion should be recorded
The credit loss portion should be recorded as an allowance for credit losses with an
as an allowance for credit losses with offsetting entry to net income. The credit loss
an offsetting entry to net income. recorded is limited to the amount the fair value is
less than amortized cost basis
PURCHASED AFS WITH

CREDIT DETERIORATION Accrued Interest Receivable
Purchased AFS securities must be
evaluated to determine if they meet
the definition of a purchased financial Entities have the option to measure the CECL reserve on accrued interest receivable
asset with credit deterioration. An AFS separately from the amortized cost basis, or in the case of AFS securities, excluded from
security is considered to be PCD if both the fair value and the amortized cost basis of the related financial asset.
there are indicators of a credit loss at
Entities can also make the following policy elections relating to accrued interest
the time of acquisition5. The allowance
receivable at the class of financing receivable or major security-type level:
for credit losses for PCD AFS securities
must be measured at the individual X To write off accrued interest amounts by reversing interest income or by
security level using a discounted cash recognizing a credit loss expense (e.g., provision for credit losses), or a combination
flow analysis. The discount rate used of both;
should equal the present value of the X To present accrued interest receivable balances and the related CECL reserve
estimate of the future cash flows with separately from the related financial asset on the balance sheet; or
the purchase price of the security. Like X To not measure an CECL reserve on accrued interest receivable if the entity writes
the PCD model discussed above, the off the uncollectable accrued interest receivable in a “timely manner” via a policy
purchase price of the acquired asset election. The FASB has not defined “timely manner” for the reasons outlined in the
should be grossed up by the reserve on basis for conclusions to ASU 2019-04:
acquisition and subsequent changes to
the allowance in future periods will be
ASU 2019-04 BC20
immediately reflected in net income
as a credit loss expense or reversal The Board decided not to provide a specific time period for what is considered
of a credit loss expense. Unrealized timely when applying the accounting policy election to exclude accrued interest
gains and losses, other than the from the calculation of expected credit losses. The Board understands that
allowance reserve, should be recorded accounting policies for writing off financial assets may vary depending on the
in other comprehensive income, net of types of financial assets and industry practices. The Board believes that a specific
applicable taxes. time period would not provide entities with the intended flexibility to set
their write-off accounting policies by the class of financing receivable or major
security type. Instead, an entity should apply judgment based on specific facts
and circumstances to determine whether the time period of when the accrued
interest receivable balance is deemed uncollectible and written off is timely.
5 ASC 326-30-30-2
Transfers Between Classifications for Loans

and Debt Securities
When a financial asset (e.g., loan or debt security), is transferred from held-for-investment to held-for-sale, or vice versa, the entity
is required to reverse into earnings any allowance previously measured on the security prior to reclassification of the financial asset.
The financial asset should then be transferred to the new classification and the reserve model applicable to that classification should
be applied. For example, if a company transfers a debt security from AFS to HTM, the company would reverse any reserve recorded
in accordance with ASC 326-30 and would apply ASC 326-20 to determine the CECL reserve of the HTM security. If a company
transfers a loan from held-for-investment to held-for-sale, the company would reverse any reserve recorded in accordance with ASC
326-20 and would apply ASC 310-10-35-48 or ASC 948-310-35-1 to determine the lower of amortized cost or fair value of the loan
classified as held-for-sale.
Disclosure Considerations
The FASB intends for disclosures to enable users to understand:
X Credit risk in the portfolio and how management monitors credit quality
X Management’s estimate of expected credit losses
X Changes in the estimate of credit losses during the period
Many of ASC 310’s existing disclosures have been carried forward to ASC 326. An allowance rollforward is required for all financial
assets including accounts receivable with a maturity of one year or less as well as for net investments in leases. The disclosure should
be provided by portfolio segment and major security type and should include all of the following, if applicable:
Allowance
Current Any Any
recognized in
Opening Period Recoveries
the period for write-offs ENDING
ALLL
Balance
+ Provision
for Expected
+ PCD assets
acquired
- charged
against the
+ of amounts
previously
= ALLL
Credit Losses
BALANCE
during allowance written off
the period
There is also a new disclosure requirement for Public Business Entities to include certain vintage disclosures, regardless of whether a
vintage model is used in estimating the allowance for expected credit losses. The disclosures should present the amortized cost basis
within each credit quality indicator by year of origination. The vintage disclosure requirements include information on gross write-offs
recorded in the current period for financing receivables and net investments in leases. The initial date of issuance or origination, not
the acquisition date, should be used for purchased financing receivables and net investments in leases.
Reinsurance recoverables and funded and unfunded amounts of line of credits, including credit cards, do not need to be presented by
the year of origination. Additionally, lines of credit that are converted to term loans should be presented separately and the amount
of line of credit arrangements that are converted to term loans during the period should be disclosed.
An example of the tabular presentation by vintage that would apply for PBEs from ASC 326-20-55-79 follows:
Refer to our BDO Knows CECL: Presentation and Disclosures publication for a more comprehensive discussion on the disclosures
to be made in reporting periods following the adoption of the new standard.
DISCLOSURES PRIOR TO ADOPTION OF CECL
FASB Accounting Standards Codification (ASC) 250,

Accounting Changes and Error Corrections, paragraph 10-
S99-5 and Staff Accounting Bulletin (SAB) No. 74 (Topic 11M),
Disclosure of the Impact that Recently Issued Accounting
Standards Will Have on the Financial Statements of the
Registrant When Adopted in a Future Period, indicate that
“registrants should discuss the potential effects of adoption of
recently issued accounting standards… [and] that this disclosure
guidance applies to all accounting standards which have been
issued but not yet adopted by the registrant unless the impact on
its financial position and results of operations is not expected to
be material.”
While SAB 74 disclosures are both qualitative and quantitative,

they should become more robust and quantitative as the
effective date for a new accounting standard draws near.
The following types of SAB 74 disclosures are expected in the
periods before new accounting standards are effective:
X A comparison of accounting policies: Registrants should
compare their current accounting policies to the expected
accounting policies under the new accounting standard(s).
X Status of implementation: The status of the process
should be disclosed, including significant implementation
matters not yet addressed or if the process is lagging.
X Consideration of the effect of new footnote disclosure
requirements in addition to the effect on the balance
sheet and income statement: A new accounting
standard may not be expected to materially affect the
primary financial statements; however, it may require new
significant disclosures that require significant judgments.
X Disclosure of the quantitative impact of the new
accounting standard if it can be reasonably estimated.
X Disclosure that the expected financial statement
impact of the new accounting standard cannot be
reasonably estimated.
X Qualitative disclosures: When the expected financial
statement impact is not yet known by the entity,
a qualitative description of the effect of the new
accounting standard on the entity’s accounting
policies should be disclosed.
Effective Dates and Transition

The ASU, as amended has the following effective dates for calendar year end entities:
SEC Filers excluding Smaller Reporting All Other Entities (including SRCs)
Effective Date
Companies (SRCs)
Jan-20 Jan-23
All entities may elect to early adopt CECL.
An entity will determine its effective date based on its most recent SRC determination as of November 15, 2019, in accordance with
SEC regulations. The effective date for that entity will not change even if the entity subsequently loses its SRC status.
TRANSITION
The transition requirements for the adoption of ASC 326 are as follows:
X A cumulative effect adjustment shall be recorded to X Allow for companies to elect to use the fair value option
retained earnings as of the beginning of the year of under Subtopic 825-10 on an instrument-by-instrument
adoption to reflect the impact on the estimate for expected basis for assets that are eligible for fair value election
credit losses as of the adoption date versus the legacy under Subtopic 825-10 but also otherwise within
accounting treatment for credit losses. the scope of ASC 326. This transition guidance is not
X Prospective application is required for debt securities when applicable for available-for-sale securities or held-to-
OTTI was recognized before the adoption date. maturity debt securities.
X Prospective application required for financial assets X Regardless of whether a vintage model is used by PBEs,
for which Subtopic 310-30 (loans and debt securities credit quality indicators by year of origination is a
acquired with deteriorated credit quality – previously disclosure that will be required to be included in the first
referred to as purchase credit impaired assets under period of adoption, which will be the March 31, 2020
legacy US GAAP) was applied prior to the adoption of Form 10-Q for calendar year-end SEC Registrants.
ASC 326. X Accounting policy election on accrued interest and
X Accounting policy election to maintain pools of financial whether to bifurcate it from the associated loans for
assets previously accounted for under Subtopic 310-30 separate estimation of expected credit losses.
on an ongoing basis.
ASC 326 does not provide an option to adopt the standard using a retrospective transition method as the FASB determined that
it would be impracticable for companies to apply in prior periods because the use of hindsight would be necessary in making
estimates of expected credit losses.
Tax Implications
While there are no specific changes to ASC 740 included
within ASC 326, entities will still need to properly plan for the
tax impact of adopting ASC 326 since it will impact certain
accounts that have temporary tax differences (e.g., any
deferred tax asset that currently exists related to the allowance
for loan losses for entities within the financial services
industry). With most entities expected to see an increase in
the allowance accounts that currently exist, there will be a
corresponding increase to the associated deferred tax asset.
Other notable changes that will occur upon the adoption
of the standard is that the PCD assets will contribute to the
entity’s deferred tax asset fluctuations since the PCD assets
will have an associated allowance balance that will be updated
each period, with a corresponding impact to the deferred tax
asset account. As with any tax consideration, entities should
also be thinking of whether the expected increase in the
deferred tax assets related to adoption of ASC 326 also has a
corresponding impact on valuation allowance considerations.
Other Considerations
DATA DUE DILIGENCE
The process to comply with the new standard is arguably as much about technology,
data and information governance as it is about technical accounting. To put it into
perspective, the estimated loss model may require 1,000 times more data than
historical loss models. The availability, accessibility and integrity of that data — some
of which will be generated internally, some of which may need to be sourced from
third parties — is essential to a CECL-compliant estimate.
As noted previously the CECL standard is designed to be flexible and does not prescribe
the use of specific estimation methods. Accordingly, the volume of data and complexity
of the analysis will vary. Data needs may, in part, be driven by the approach taken to
CECL modeling, which is why robust planning is necessary up front to avoid issues
arising during implementation related to lack of relevant and reliable data.
Despite the flexibility set forth within the standard, data gathering and related
analysis for CECL will require significant time and resources, especially for those
entities within the financial services industry. The adoption effort of ASC 326 could
be further hindered for entities with less than adequate information governance. As
part of the implementation planning efforts, it is critical to reevaluate current data
retention and disposition strategies and make necessary modifications, to meet the
CECL model demands.
PLANNING AND PROGRAM DESIGN

Adoption of ASC 326 will necessitate adequate planning and implementation over
an adequate length of time allowing the adoption to be executed thoughtfully and
carefully. An implementation timeline is highly encouraged to accomplish
an effective execution strategy.
Planning considerations should include the following:
X Gain an understanding of X Determine the capability of the
the accounting and reporting entity’s current IT applications to
requirements by reading the provide the necessary data for the
new standard. desired model (note: some of the
X Determine which financial assets data may not be currently available).
are within the scope of ASC 326. X Evaluate current internal control
X Review existing allowance and structure and determine needs for
impairment models being used enhanced and/or additional internal
and compare to changes required in controls over the implementation
the standard. phase and ongoing monitoring.
X Evaluate and select a CECL model(s) X Determine how the adoption

that meets the requirements will impact the users of the
within the standard. This will entail entity’s financial information and
determining the data needed for evaluate how required disclosures
the CECL model(s) and assessing may change in the entity’s
available data sources. financial statements and
accompanying notes.
DETERMINE DATA REQUIREMENTS, INCLUDING Those entities that lack a unified data management system
STORAGE SOLUTIONS may find it necessary to perform an extensive data mapping
exercise, which in turn could extend the lead time necessary
Many entities will face challenges when compiling necessary to allow for a successful adoption of ASC 326. During the
historical information. Data demands may be more prevalent design phase, entities may find that they need to supplement
within the financial services industry whereas commercial historical information with third-party data to fill gaps in
entities may find it easier to access the necessary historical various data fields. This exercise may prove to be difficult
information needed to allow for a seamless adoption of ASC and time consuming, thus early and careful attention
326. For example, a statistic from the American Bankers to integration of third-party data into the existing IT
Association indicated that most existing data systems only store infrastructure is essential.
the last 12 to 13 months of loan information, but under CECL,
historical data requirements may span as much as five years Data should be available in usable and exportable formats and
or even longer creating challenges that entities should plan for stored in a secured database that can be updated and backed
both in adopting ASC 326 and collecting relevant information up frequently and that can be integrated into a spreadsheet
on a go forward basis. Moreover, entities will need to ensure that environment or a more sophisticated analytics platform,
sufficient storage space is available for the additional data than depending on the adoption strategy in place.
had previously been retained under the incurred loss model that
may in turn require the use of remote storage solutions. The
CHOOSING THE RIGHT TOOLS
collection of this additional data will bring about new challenges
such as data security and could result in additional expenses to Identification and collection of data is only one of the many
maintain/capture necessary data. challenges to conforming with ASC 326. The tools used to
obtain, retain, and utilize the data (e.g., perform mathematical
Most organizations already have measures in place to ensure
calculations) may vary based upon the complexity of the
data is protected yet accessible; however, entities should take
chosen model(s) as well as the quantity of data used. For
the opportunity to take a fresh look at the existing enterprise-
example, less complex scenarios may allow the use of Excel
wide information governance programs in place and make
spreadsheets while more complex circumstances may need to
necessary enhancements in response to the demands upon the
design and/or acquire additional tools or IT solutions.
adoption of CECL and the ongoing accounting under ASC 326
post-adoption. In doing so, entities should: Because of the large volume of data required, there are a
X Consider due diligence and planning for changes to be made; number of third-party software solutions that can integrate
data from all core business functions into a single repository
X Preserve and/or create safeguards surrounding security,
to facilitate a more streamlined and consistent decision-
integrity and privacy of the data being retained;
making process. Regardless of the industry, when making the
X Design procedures to ensure that the data is accessible by decision to partner with service providers, it is important to
those whose responsibilities require it; consider all inter-departmental needs to achieve the CECL
X Develop policies and procedures to manage data throughout adoption strategies. Entities should continue to follow the
the time it will be retained by the organization; and existing protocols and checkpoints in place when selecting
vendors or business partners to ensure that they are qualified
X Make sure that the use of data is aligned with business
and have the necessary competency to contribute to achieve
functions and employs technologies that are aligned with
the adoption of CECL. The reliance on a service provider
the organization and its needs.
enhances the need to effectively establish timelines that are
Another challenge that entities may face is the assimilation realistic, as delays from a service provider can have significant
of data across a broad range of business functions. Again, this impact on the adoption of CECL. Regardless of which tool is
issue is likely to be more pervasive in the financial services chosen, success is predicated on having an organized team, a
industry because of disparate data management systems disciplined process, and clean data.
which may provide a fragmented view of the data retained,
and potentially restrictive to the development of data
scenarios to facilitate the adoption of ASC 326.
EXAMINE FINANCIAL REPORTING RISKS AND The spectrum of sophistication will range between those that
UPDATE INTERNAL CONTROLS are more complicated and based on a specific model, (i.e.,
those that leverage predictive scenarios to forecast future
The impact of the CECL standard is far more reaching than just behavior of an asset or asset group based on statistical analysis
the presentation on the balance sheet and income statement. of historical loss information and experience) and those
For example, for financial institutions regulatory capital ratios that are more analytical based (i.e., largely dependent on
will be impacted and may result in a change in status (e.g., well individuals identifying trends and developing forward looking
capitalized to adequately capitalized or to undercapitalized). expectations using subjective judgment).
Anytime there is a significant change in the accounting
standards, entities should be mindful of the downstream Regardless of the method used, the objectives are the
impact that might occur on any relevant bank covenants. same — relevant variables should be identified, the
Those organizations should have conversations with lenders relationship between the variables and losses should be
early if they believe there might be a potential for a estimated, and the entire end-to-end process should be
covenant violation because of adopting the standard. evaluated for the existence of sufficient control points.
Those responsible for overseeing the adoption should have

proactive and routine conversations with members of senior ONGOING MONITORING AND GOVERNANCE
management and the board of directors to ensure there is
Ongoing monitoring each reporting period (e.g., quarterly
sufficient transparency of the adoption efforts and potential
or annually) is necessary to ensure the chosen model(s) is
impact. Regardless of whether the entity is subject to the
updated to reflect both internal and external changes in data
provisions of Sarbanes-Oxley, the added elements in the
(e.g., changes in the portfolio or changes in the economy),
standard will have a reciprocal impact on the internal control
make appropriate adjustments to assumptions, and to identify
environment. Taking a fresh look at the internal control
any other significant judgments that have changed (or should
environment is key and should be done early in the adoption
have changed) from prior periods. Note that this is no different
process and throughout the various implementation phases.
than what is required under current GAAP.
We encourage those charged with oversight of CECL
Model validation, which is the progression of corroborating
implementation to read the publication issued by the Financial
that the model is correctly applied with respect to the
Executives International’s (FEI) Committee on Corporate
conceptual model, is often overlooked. Incorporating model
Reporting (CCR) publication on Internal Control over Financial
validation into the implementation plan and ongoing
Reporting for the Current Expected Credit Loss (CECL)
monitoring is key. The validity of the CECL model selected
Standard released in November 2018 as well as the Center for
depends on the integrity of the underlying data.
Audit Quality’s (CAQ) publication related to (Preparing for
the New Credit Losses Standard), which was published in May Model governance review takes an in-depth look at model
2019 as a tool to be used by Audit Committees. validation policies, the documentation supporting the
model and the existence and effectiveness of controls.
The conceptual validation looks deeper at the design and
TESTING AND EXECUTION methodology and specifications, verifying and validating
As stated previously, the standard allows for a great deal of key assumptions (e.g., economic assumptions or parameter
flexibility and as such, it is expected that a wide variety of estimates), and an overall performance evaluation (e.g.,
models will be used across all industries ranging from the most verifying the accuracy of the performance and review of
simplistic approaches to more sophisticated and complex the model diagnostics). Process validation evaluates data
models. More complex entities will likely choose to employ integrity (e.g., completeness and accuracy of the data), model
predictive models leveraging advanced data analytics, whereas execution such as ensuring accurate transition of models form
less complex entities will be faced with the challenge of development to production, re-performance and calibration,
determining just how much sophistication is needed to allow output reasonableness, back testing and benchmarking.
for an accurate portrayal of expected credit losses that is in Management’s continuous oversight in this space often
alignment with the principles set forth in ASC 326. translates to an effective estimation process and result.
Contact Us
BRAD BIRD
Professional Practice Partner
Financial Institutions, Specialty Finance & Insurance
858-401-8329 / [email protected]
TIM KVIZ
National Managing Partner, SEC SEC Services
703-245-8685 / [email protected]
ABOUT BDO USA

At BDO, our purpose is helping people thrive, every day. Together, we are focused on delivering exceptional and sustainable outcomes — for
our people, our clients and our communities. Across the U.S., and in over 160 countries through our global organization, BDO professionals
provide assurance, tax and advisory services for a diverse range of clients.
BDO is the brand name for the BDO network and for each of the BDO Member Firms. BDO USA, LLP, a Delaware limited liability partnership,
is the U.S. member of BDO International Limited, a UK company limited by guarantee, and forms part of the international BDO network of
independent member firms. www.bdo.com
© 2022 BDO USA, LLP. All rights reserved.

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An Accounting Guide From BDO’s Professional Practice Group

Below is a summary highlighting key changes:

EXISTING GUIDANCE NEW CECL MODEL

X Receivables that result from revenue transactions • On demand.

The scope of CECL is broad and includes the following:

All reinsurance recoverables, regardless of the measurement

Recording Expected Credit Losses

ASC 326-20-30-7 STATES: When developing an estimate of expected credit

Pooling Financial Assets with Similar

EXCERPT FROM ASC 326

ASC 326-20-30-2 STATES: ASC 326-20-55-5 STATES: ASC 326-20-35-2 STATES:

EXCERPT FROM ASC 326

55-36 To estimate expected credit losses for the

Componets of CECL Model

HISTORICAL LOSS INFORMATION

EXCERPT FROM ASC 326

ASC 326-20-30-8 AND 30-9 STATE:

30-9 An entity shall not rely solely on past events to

EXCERPT FROM ASC 326

X The entity’s lending policies and procedures, including

BDO OBSERVATION: Management will need to give

EXCERPT FROM FASB Q&A2

Response: Yes. The duration or length of the reasonable and supportable

Question 9: Does an entity need to include the full contractual period

For example, three separate lenders, each based in three different

Another example is when a wholesaler has short-term receivables from a

Examples of reversion techniques that might be used are

Regardless of the reversion technique selected, it is important

While the standard does not indicate the point at which

BDO OBSERVATION: Reversion methods, like

EXCERPT FROM FASB Q&A2

EXCERPT FROM FASB Q&A2

Methodologies Under ASC 326-20

MODEL EXAMPLE REFERENCE IN ASC 326-20-55

EXCERPT FROM ASC 326

The following table provides information related to two common methodologies:

CECL METHODOLOGY DESCRIPTION

EXCERPT FROM ASC 326

ASC 326-20-30-5 STATES: If an entity estimates

ASC 326-20-55-2 STATES: In determining its estimate

DISCOUNTED CASH FLOWS METHOD

EXCERPT FROM ASC 326

VINTAGE MODEL METHOD

EXCERPT FROM ASC 326

Year of Origination Loss Experience in Years Following Origination

AGING SCHEDULE METHOD

EXCERPT FROM ASC 326

WEIGHTED-AVERAGE REMAINING The FASB Q&A includes an illustrative example of a credit

“Certain common challenges can exist regardless of the loss

Troubled Debt Restructurings

Financial Assets Secured by Collateral

BDO OBSERVATION: Management will need to

Effect of Credit Enhancements on Expected

Purchased Financial Assets with

After identification, Assets should be pooled based on similar risk

The $300,000 allowance for credit losses should be

Off-Balance-Sheet Credit Exposures

ASC 326-20-30-11 STATES: An entity shall adjust at

EXCERPT FROM ASC 326

Zero-Risk of Loss Versus Remote Risk of Loss

Net Investment in Leases

EXCERPT FROM ASC 326

This Subtopic requires that an entity recognize an allowance for credit