The FLEX Connexion Blog

CECL Part 1: Four Steps to Becoming Compliant

Written by Preston Packer | Jul 25, 2018

After the financial blowout and market crash of 2007, several new policies have come about to keep financial institutions more accountable. One of those policies is Current Expected Credit Loss, or CECL. Previously, FI's typically accounted actual loss and defaults as a projection for future losses, but with CECL, they are expected to use robust data sets to more accurately project future losses. Therefore, FI's must set aside capital to ensure any future losses would be protected, even if they haven’t occurred, or are not expected to for some time. This may seem like an inconsequential change, however, for many banks and credit unions, it may require them to put more capital than they have in years past. The deadline to be CECL compliant is fast approaching, as the Securities and Exchange Commission (SEC) expects policies and finances in place by 2021 for credit unions. If you’re CU is starting to feel the pressure of CECL requirements, here is how you can begin the process of becoming fully compliant.

 

Step 1: Gap Assessment. It’s easier to become compliant if you know how far you need to go in order to get there. By comparing your current allowance process to that of what’s required by CECL, you’ll have a better idea of how much more you need to set aside.

Step 2: Forecasting. For many, this is the most difficult aspect of CECL requirements. Your CU likely has a forecasting process for loan-level data. However, to meet CECL, you’ll need to dive much deeper. Forecasting processes for many CUs will need to be more specific and targeted in order to get the type of accuracy in credit loss that CECL mandates. This may mean incorporating new data variables into your loan origination platform, or just focusing more closely on those you’ve already been monitoring.

Step 3: Calculating Reserves. A flexible loss estimation model is key. Neither the SEC or Financial Accounting Standards Board (FASB) will provide sample models to follow, so creating one that will allow your CU to create and compare estimates will be best suited for CECL compliance. Although models can be provided by technology firms, it would still need to be modified to fit the processes and data of your CU.

Step 4: Know your GAAP. CECL requirements have affected the Generally Accepted Accounting Principles (GAAP) because by incorporating future losses into the equity and regulatory capital requirements, the total reserve for your CU may need to increase. 

Compliance with CECL is a huge undertaking for everyone in the industry, so don’t wait until the last minute to figure out a solution. It will require the time and attention of several different functional areas, as well as a committee or dedicated personnel in your CU who will be responsible for managing the CECL program. Stay tuned until next week when, in the second part of this series, we will discuss the tasks and responsibilities in CECL compliance for various members of your CU staff.