[Federal Register Volume 84, Number 227 (Monday, November 25, 2019)]
[Rules and Regulations]
[Pages 64733-64738]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 2019-25450]
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SECURITIES AND EXCHANGE COMMISSION
17 CFR Part 211
[Release No. SAB 119]
Staff Accounting Bulletin No. 119
AGENCY: Securities and Exchange Commission.
ACTION: Publication of Staff Accounting Bulletin.
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SUMMARY: This staff accounting bulletin updates portions of the
interpretive guidance included in the Staff Accounting Bulletin Series
in order to align the staff's guidance with Financial Accounting
Standards Board (``FASB'') Accounting Standards Codification (``ASC'')
Topic 326, Financial Instruments--Credit Losses (``Topic 326'').
DATES: Effective: November 25, 2019.
FOR FURTHER INFORMATION CONTACT: Rachel Mincin, Associate Chief
Accountant, Office of the Chief Accountant at (202) 551-5300, or
Stephanie Sullivan, Associate Chief Accountant, Division of Corporation
Finance at (202) 551-3400, Securities and Exchange Commission, 100 F
Street NE, Washington, DC 20549.
SUPPLEMENTARY INFORMATION: In 2016, the FASB adopted ASC Topic 326
through its issuance of Accounting Standards Update No. 2016-13,
Financial Instruments--Credit Losses (Topic 326): Measurement of Credit
Losses on Financial Instruments.\1\ Upon its effective date, this
standard will replace the existing incurred loss model for determining
the allowance for loan losses with an expected credit loss model. The
staff is publishing this staff accounting bulletin to update existing
staff guidance \2\ with respect to methodologies and supporting
documentation for measuring credit losses. This updated guidance
continues to focus on the documentation the staff would normally expect
registrants engaged in lending transactions to prepare and maintain to
support estimates of current expected credit losses for loan
transactions. This update is applicable upon a registrant's adoption of
Topic 326.
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\1\ ASC Topic 326 was subsequently amended through the issuances
of Accounting Standards Update (``ASU'') No. 2018-19, Codification
Improvements to Topic 326, Financial Instruments--Credit Losses, ASU
No. 2019-04, Codification Improvements to Topic 326, Financial
Instruments--Credit Losses, Topic 815, Derivatives and Hedging, and
Topic 825, Financial Instruments, ASU No. 2019-05, Financial
Instruments--Credit Losses, Topic 326: Targeted Transition Relief,
and ASU No. 2019-10, Financial Instruments--Credit Losses (Topic
326), Derivatives and Hedging (Topic 815), and Leases (Topic 842):
Effective Dates.
\2\ See Codification of SABs Topic 6, Section L: Financial
Reporting Release No. 28--Accounting for Loan Losses by Registrants
Engaged in Lending Activities, which codified SAB No. 102--Selected
Loan Loss Allowance Methodology and Documentation Issues, 66 FR
36457 (July 12, 2001).
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On November 15, 2019, the FASB delayed the effective date of the
standard for certain small public companies and other private
companies.\3\ As amended, the effective date of ASC Topic 326 was
delayed until fiscal years beginning after December 15, 2022 for SEC
filers that are eligible to be smaller reporting companies under the
SEC's definition, as well as private companies and not-for-profit
entities. Nothing in this staff accounting bulletin should be read to
accelerate or delay the effective dates of the standard as modified by
the FASB.
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\3\ See ASU No. 2019-10, Financial Instruments--Credit Losses
(Topic 326), Derivatives and Hedging (Topic 815), and Leases (Topic
842): Effective Dates
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The statements in SABs are not rules or interpretations of the
Commission, nor are they published as bearing the Commission's official
approval. They represent staff interpretations and practices followed
by the staff in the Division of Corporation Finance and the Office of
the Chief Accountant in administering the disclosure requirements of
the federal securities laws.
List of Subjects in 17 CFR Part 211
Accounting, Reporting and recordkeeping requirements, Securities.
[[Page 64734]]
Dated: November 19, 2019.
Vanessa A. Countryman,
Secretary.
Accordingly, part 211 of title 17 of the Code of Federal
Regulations is amended as follows:
PART 211--INTERPRETATIONS RELATING TO FINANCIAL REPORTING MATTERS
0
1. The authority citation for 17 CFR part 211 continues as follows:
Authority: 15 U.S.C. 77g, 15 U.S.C. 77s(a), 15 U.S.C. 77aa(25)
and (26), 15 U.S.C. 78c(b), 17 CFR 78l(b) and 13(b), 17 CFR 78m(b)
and 15 U.S.C. 80a-8, 30(e) 15 U.S.C. 80a-29(e), 15 U.S.C. 80a-30,
and 15 U.S.C. 80a-37(a).
0
2. Amend the table in subpart B by adding an entry for Staff Accounting
Bulletin No. 119 at the end of the table to read as follows:
Subpart B--Staff Accounting Bulletins
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Subject Release No. Date FR vol. and page
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* * * * * * *
Publication of Staff SAB119.............. 11/25/2019 [INSERT FEDERAL REGISTER CITATION].
Accounting Bulletin No. 119.
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Note: The text of Staff Accounting Bulletin No. 119 will not
appear in the Code of Federal Regulations.
Staff Accounting Bulletin No. 119
The staff hereby adds Section M to Topic 6 of the Staff Accounting
Bulletin Series. Accordingly, the staff hereby amends the Staff
Accounting Bulletin Series as follows:
* * * * *
Topic 6: Interpretations of Accounting Series Releases and Financial
Reporting Releases
* * * * *
M. Financial Reporting Release No. 28--Accounting for Loan Losses by
Registrants Engaged in Lending Activities Subject to FASB ASC Topic 326
1. Measuring Current Expected Credit Losses
General: This staff interpretation applies to all registrants that
are creditors in loan transactions that, individually or in the
aggregate, have a material effect on the registrant's financial
condition.\4\
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\4\ This staff interpretation relates to Financial Reporting
Release No. 28--Accounting for Loan Losses by Registrants Engaged in
Lending Activities, Release No. 33-6679 (Dec. 1, 1986), (hereinafter
``FRR 28'').
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FASB ASC Subtopic 326-20 addresses the measurement of current
expected credit losses for financial assets measured at amortized cost
basis, net investments in leases recognized by lessors, reinsurance
recoverables, and certain off-balance-sheet credit exposures.\5\
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\5\ See ASC paragraphs 326-20-15-2 and 326-20-15-3.
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At each reporting date, an entity shall record an allowance for
credit losses on financial assets measured at amortized cost basis and
net investments in leases recognized by lessors and shall record a
liability for credit losses on certain off-balance-sheet exposures not
accounted for as insurance or derivatives, including loan commitments,
standby letters of credit, and financial guarantees.\6\
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\6\ Ibid.
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For financial asset(s), the allowance for credit losses is a
valuation account that is deducted from, or added to, the amortized
cost basis of the financial asset(s) to present the net amount expected
to be collected on the financial asset(s).\7\
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\7\ See ASC paragraph 326-20-30-1.
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The allowance for credit losses is an estimate of current expected
credit losses considering available information relevant to assessing
collectibility of cash flows over the contractual term of the financial
asset(s).\8\
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\8\ As indicated in ASC paragraph 326-20-30-11, the liability
for expected credit losses for off-balance-sheet credit exposures
shall be based on the contractual period in which the entity is
exposed to credit risk via a present obligation to extend credit,
unless the obligation is unconditionally cancellable by the issuer.
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Information relevant to establishing an estimate of current
expected credit losses includes historical credit loss experience on
financial assets with similar risk characteristics, current conditions,
and reasonable and supportable forecasts that affect the collectability
of the remaining cash flows over the contractual term of the financial
assets. An entity shall report in net income (as a credit loss expense)
the amount necessary to adjust the allowance for credit losses and
liabilities for credit losses on off-balance-sheet credit exposures for
management's current estimate of expected credit losses.\9\
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\9\ See ASC paragraphs 326-20-30-1, 326-20-30-6, 326-20-30-7 and
326-20-30-11.
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This staff guidance is applicable upon a registrant's adoption of
FASB ASC Topic 326.\10\ Upon a registrant's adoption of FASB ASC Topic
326, the staff guidance in SAB Topic 6, Section L: Financial Reporting
Release No. 28--Accounting for Loan Losses by Registrants Engaged in
Lending Activities \11\ will no longer be applicable.
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\10\ See ASC paragraphs 326-10-65-1, 326-10-65-2, and 326-10-65-
3.
\11\ Originally added to the Codification of SABs in Topic 6,
Section L, by SAB No. 102--Selected Loan Loss Allowance Methodology
and Documentation Issues, 66 FR 36457 (July 12, 2001).
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On November 15, 2019, the FASB delayed the effective date of FASB
ASC Topic 326 for certain small public companies and other private
companies. As amended, the effective date of ASC Topic 326 was delayed
until fiscal years beginning after December 15, 2022 for SEC filers
that are eligible to be smaller reporting companies under the SEC's
definition, as well as private companies and not-for-profit entities.
Nothing in this staff interpretation should be read to accelerate or
delay the effective dates of the standard as modified by the FASB.
2. Development, Governance, and Documentation of a Systematic
Methodology
Facts: Registrant A is developing (or subsequently reviewing) its
allowance for credit losses methodology for its loan portfolio.
Question 1: What are some of the factors or elements that the staff
normally would expect Registrant A to consider when developing (or
subsequently performing an assessment of) its methodology for
determining its allowance for credit losses under GAAP?
Interpretive Response: The staff normally would expect a registrant
to have a systematic methodology to address the development,
governance, and documentation to determine its provision and allowance
for credit losses.
It is critical that allowance for credit losses methodologies
incorporate management's current judgments about
[[Page 64735]]
the credit losses expected from the existing loan portfolio, including
reasonable and supportable forecasts about changes in credit quality of
these portfolios, on a disciplined and consistently-applied basis.
A registrant's allowance for credit losses methodology is
influenced by entity-specific factors, such as an entity's size,
organizational structure, access to information, business environment
and strategy, management's risk assessment, complexity of the loan
portfolio, loan administration procedures, and management information
systems. Management is responsible for the estimate of expected credit
losses, and therefore also responsible for determining whether any
allowance methodologies developed by third parties are consistent with
GAAP.
While different registrants may use different methods,\12\ there
are certain common elements that the staff would expect in any
methodology:
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\12\ ASC paragraph 326-20-30-3 states that ``[t]he 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.''
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Identify relevant risk characteristics and pool loans on
the basis of similar risk characteristics; \13\
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\13\ See ASC paragraph 326-20-55-5 for a list of risk
characteristics that may be applicable.
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Consider available information relevant to assessing the
collectibility of cash flows; \14\
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\14\ See ASC paragraph 326-20-30-7.
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Consider expected credit losses over the contractual term
\15\ of all existing loans (whether on an individual or group basis),
and measure expected credit losses on loans on a collective (pool)
basis when similar risk characteristics exist; \16\
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\15\ See ASC paragraph 326-20-30-6.
\16\ See ASC paragraph 326-20-30-2
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Require that analyses, estimates, reviews, and other
allowance for credit losses methodology functions be performed by
competent and well-trained personnel;
Be based on reliable and relevant data and an analysis of
current conditions and reasonable and supportable forecasts;
Include a systematic and logical method to consolidate the
loss estimates that allows for the allowance for credit losses balance
to be recorded in accordance with GAAP.
The staff believes an entity's management should review, on a
periodic basis, whether its methodology for determining its allowance
for credit losses is appropriate. Additionally, for registrants that
have audit committees, the staff believes that oversight of the
financial reporting and auditing of the allowance for credit losses by
the audit committee can strengthen the registrant's process for
determining its allowance for credit losses.
A systematic methodology that is properly designed and implemented
should result in a registrant's best estimate of its allowance for
credit losses.\17\ Accordingly, the staff normally would expect
registrants to adjust their allowance for credit losses balance, either
upward or downward, in each period for differences between the results
of the systematic methodology and the unadjusted allowance for credit
losses balance in the general ledger.\18\
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\17\ ASU 2016-13, BC63 states that ``the Board decided that an
entity should determine at the reporting date an estimate of credit
loss that best reflects its expectations (or its best estimate of
expected credit loss).''
\18\ See ASC paragraph 326-20-35-1 and 326-20-35-3. Registrants
should also refer to the guidance on materiality in SAB Topic 1.M.
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Question 2: In the staff's view, what aspects of a registrant's
allowance for credit losses internal accounting controls would need to
be appropriately addressed in its written policies and procedures?
Interpretive Response: Registrants may utilize a wide range of
policies, procedures, and control systems in their allowance for credit
losses processes, and these policies, procedures, and systems are
tailored to the size and complexity of the registrant and its loan
portfolio.
However, the staff believes that, in order for a registrant's
allowance for credit losses methodology to be effective, the
registrant's written policies and procedures for the systems and
controls that maintain an appropriate allowance for credit losses would
likely address the following:
The roles and responsibilities of the registrant's
departments and personnel (including the lending function, credit
review, financial reporting, internal audit, senior management, audit
committee, board of directors, and others, as applicable) who determine
or review, as applicable, the allowance for credit losses to be
reported in the financial statements;
The registrant's selected methods and policies for
developing the allowance for credit losses and determining significant
judgments;
The description of the registrant's systematic
methodology, which should be consistent with the registrant's
accounting policies for determining its allowance for credit losses
(see Question 4 below for further discussion); and
How the system of internal controls related to the
allowance for credit losses process provides reasonable assurance that
the allowance for credit losses is in accordance with GAAP.
The staff normally would expect internal accounting controls \19\
for the allowance for credit losses estimation process to:
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\19\ Public companies are required to comply with the books and
records and internal controls provisions of the Exchange Act. See
Sections 13(b)(2)-(7) of the Exchange Act.
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Include measures to provide reasonable assurance regarding
the reliability and integrity of information and compliance with laws,
regulations, and internal policies and procedures; \20\ and
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\20\ Section 13(b)(2)-(7) of the Exchange Act.
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Operate at a level of precision sufficient to provide
reasonable assurance that the registrant's financial statements are
prepared in accordance with GAAP.
Question 3: Assume the same facts as in Question 1. What would the
staff normally expect Registrant A to include in its documentation of
its allowance for credit losses methodology?
Interpretive Response: In FRR 28, the Commission provided guidance
for documentation of loan loss provisions and allowances for
registrants engaged in lending activities. The staff believes that
appropriate written supporting documentation for the provision and
allowance for credit losses facilitates review of the allowance for
credit losses process and reported amounts, builds discipline and
consistency into the allowance for credit losses methodology, and helps
to evaluate whether relevant factors are appropriately considered in
the allowance analysis.
The staff, therefore, normally would expect a registrant to
document the relationship between its detailed analysis of the
characteristics and credit quality of the portfolio and the amount of
the allowance for credit losses reported in each period.\21\
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\21\ FRR 28, Section II states that ``[t]he specific rationale
upon which the [loan loss allowance and provision] amount actually
reported in each individual period is based--i.e., the bridge
between the findings of the detailed review [of the loan portfolio]
and the amount actually reported in each period--would be documented
to help ensure the adequacy of the reported amount, to improve
auditability, and to serve as a benchmark for exercise of prudent
judgment in future periods.''
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The staff normally would expect registrants to maintain written
supporting documentation for the following decisions and processes:
Policies and procedures over the systems and controls that
maintain an appropriate allowance for credit losses;
[[Page 64736]]
Allowance for credit losses methodology and key judgments,
including the data used, assessment of risk, and identification of
significant assumptions in the allowance estimation process;
Summary or consolidation of the allowance for credit
losses balance;
Validation of the allowance for credit losses methodology;
and
Periodic adjustments to the allowance for credit losses.
Question 4: What elements of a registrant's allowance for credit
losses methodology would the staff normally expect to be described in
the registrant's written policies and procedures?
Interpretive Response: The staff normally would expect a
registrant's written policies and procedures to describe the primary
elements of its allowance for credit losses methodology. The staff
normally would expect that, in order for a registrant's allowance for
credit losses methodology to be effective, the registrant's written
policies and procedures would describe all primary elements needed to
support a disciplined and consistently-applied methodology, which may
include, but is not limited to: \22\
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\22\ See also, ASC paragraph 326-20-55-6 for additional
judgments a registrant may make.
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How portfolio segments are determined (e.g., by loan type,
industry, risk rating, etc.) \23\ and the methodology used for each
portfolio segment; \24\
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\23\ FASB ASC Subtopic 326-20-20 defines a portfolio segment as
the ``level at which an entity develops and documents a systematic
methodology to determine its allowance for credit losses.''
\24\ See ASC paragraph 326-20-30-3 for examples of expected loss
estimation methods that may be used.
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The approach used to pool loans based on similar risk
characteristics;
For accounting policy or practical expedient elections set
forth in FASB ASC Subtopic 326-20, documentation of the elections made;
The method(s) used to determine the contractual term of
the financial assets, including consideration of prepayments and when
the contractual term is extended; \25\
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\25\ See ASC paragraph 326-20-30-6.
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If a loss-rate method is used, the historical data used to
develop the components of the loss rate and how that rate is applied to
the amortized cost basis of the financial asset as of the reporting
date; \26\
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\26\ See ASC paragraph 326-20-30-5.
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The method for estimating expected recoveries when
measuring the allowance for credit losses; \27\
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\27\ See ASC paragraph 326-20-30-1.
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The approach used to determine the appropriate historical
period for estimating expected credit loss statistics;
The approach used to determine the reasonable and
supportable period;
The approach used to adjust historical information for
current conditions and reasonable and supportable forecasts; \28\
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\28\ See ASC paragraph 326-20-30-8 and 326-20-30-9.
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How the entity plans to revert to historical credit loss
information for periods beyond which the entity is able to make or
obtain reasonable and supportable forecasts of expected credit losses;
\29\ and
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\29\ See ASC paragraph 326-20-30-9
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The approach used to determine when a purchased financial
asset would qualify to be accounted for as a purchased financial asset
with credit deterioration.\30\
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\30\ See ASC paragraph 326-20-30-13 through 326-20-30-15.
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3. Documenting the Results of a Systematic Methodology
Question 5: What documentation would the staff normally expect a
registrant to prepare to support its allowance for credit losses for
its loans under FASB ASC Subtopic 326-20?
Interpretive Response: Regardless of the method used to determine
the allowance for credit losses under FASB ASC Subtopic 326-20, the
staff normally would expect a registrant to demonstrate in its
documentation that the loss measurement methods and assumptions used to
estimate the allowance for credit losses for its loan portfolio are
determined in accordance with GAAP as of the financial statement date.
The staff normally would expect a registrant to maintain as
sufficient evidence written documentation to support its measurement of
expected credit losses under FASB ASC Subtopic 326-20. That
documentation should reflect the method(s) used to estimate expected
credit losses for each portfolio segment.\31\
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\31\ See supra note 20.
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The staff normally would expect registrants to follow a systematic
and consistently-applied approach to select the most appropriate
expected credit loss measurement methods and support its conclusions
and rationale with written documentation. Typically, registrants decide
the methods to use based on many factors, which vary with their
business strategies as well as their information system capabilities.
As economic and other business conditions change, registrants often
modify their business strategies, which may necessitate adjustments to
the methods used to estimate expected credit losses. The staff normally
would expect a registrant to maintain a process to evaluate whether
adjustments to the methodology are necessary and, if so, maintain
documentation to support adjustments to the methodology used.
A registrant's methodology should produce an estimate that is
consistent with GAAP. The staff normally would expect that, before
employing an expected loss method, a registrant would evaluate and
modify, as needed, the method's assumptions related to the current
estimate of expected credit losses. Also, the staff expects that
registrants would typically document the evaluation, the conclusions
regarding the appropriateness of estimating expected credit losses with
that method, and the objective support for adjustments to the method or
its results.
A registrant shall measure expected credit losses on a collective
(pool) basis when similar risk characteristic(s) exist.\32\ The staff
normally would expect a registrant to maintain documentation to support
its conclusion that the loans in each pool have similar
characteristics.
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\32\ See ASC paragraph 326-20-30-2. Also refer to ASC paragraph
326-20-55-5 for a list of risk characteristics that may be
applicable.
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One method of estimating expected credit losses for a pool of loans
is through the application of loss rates to the pool's aggregate loan
balances.\33\ Such loss rates should generally reflect the registrant's
historical credit loss experience consistent with the remaining
contractual terms \34\ for each pool of loans, adjusted 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.\35\
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\33\ See ASC paragraph 326-20-55-18 through 326-20-55-22 for an
example illustrating one way an entity may estimate expected credit
losses on a portfolio of loans with similar risk characteristics
using a loss-rate approach.
\34\ See ASC paragraph 326-20-30-6 for guidance on determining
the contractual term.
\35\ See ASC paragraph 326-20-30-9 for guidance related to
adjusting historical loss information.
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If a registrant utilizes external data, the staff normally would
expect that the registrant would demonstrate in its documentation the
relevance and reliability of the external data. The registrant should
consider whether the external loss experience data comes from loans
with credit attributes similar to those of the loans included in the
registrant's portfolio and is consistent with the registrant's
assumptions regarding current and forecasted
[[Page 64737]]
economic conditions.\36\ The staff normally would expect a registrant
to maintain supporting documentation for assumptions and data used to
develop its loss rates, including its evaluation of the relevance and
reliability of any external data.
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\36\ See ASC paragraph 326-20-30-8.
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If a registrant uses the present value of expected future cash
flows to measure expected credit losses,\37\ the staff normally would
expect supporting documentation for the assumptions and data used to
develop the amount and timing of expected cash flows and the effective
interest rate used to discount expected cash flows.
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\37\ See ASC paragraph 326-20-30-4.
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If a registrant uses the fair value of collateral to measure
expected credit losses, the staff normally would expect the registrant
to document:
The basis for its conclusion that the loan qualifies under
GAAP for measurement of expected credit losses based on the fair value
of the collateral; \38\
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\38\ See ASC paragraph 326-20-35-4 through 326-20-35-6 for
guidance regarding when it is appropriate to measure expected credit
losses based on the fair value of the collateral as of the reporting
date.
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How it determined the fair value of the collateral,
including policies relating to the use of appraisals, valuation
assumptions and calculations, the supporting rationale for adjustments
to appraised values, if any, and the determination of costs to sell, if
applicable; and
The recency and reliability of the appraisal or other
valuation.
Regardless of the method used, the underlying assumptions used by
registrants to develop expected credit loss measurements should
consider current conditions and reasonable and supportable forecasts.
The staff normally would expect a registrant to document the factors
used in the development of the assumptions and how those factors
affected the expected credit loss measurements.\39\ Factors to be
considered include the following:
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\39\ See ASC paragraph 326-20-55-4 for examples of factors to
consider.
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Levels of and trends in delinquencies and performance of
loans;
Levels of and trends in write-offs and recoveries
collected;
Trends in volume and terms of loans;
Effects of any changes in reasonable and supportable
economic forecasts;
Effects of any changes in risk selection and underwriting
standards, and other changes in lending policies, procedures, and
practices;
Experience, ability, and depth of lending management and
other relevant staff;
Available relevant information sources that support or
contradict the registrant's own forecast;
Effects of changes in prepayment expectations or other
factors affecting assessments of loan contractual term;
Industry conditions; and
Effects of changes in credit concentrations.
Factors affecting collectibility that are not reflected in the
registrant's historical loss information should be evaluated to
determine whether an adjustment is necessary so that the expected
credit loss measurement considers those factors.\40\ For any adjustment
of loss measurements based on current conditions and reasonable and
supportable forecasts, the staff normally would expect a registrant to
maintain sufficient evidence to (a) support the amount of the
adjustment and (b) explain why the adjustment is necessary to reflect
current conditions and reasonable and supportable forecasts in the
expected credit loss measurements. Supporting documentation for
adjustments may include relevant economic reports, economic data, and
information from individual borrowers.
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\40\ See ASC paragraph 326-20-30-9 for guidance on when it is
not appropriate to make adjustments to historical loss information
for forecasted economic conditions.
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The staff normally would expect that, as part of the registrant's
allowance for credit losses methodology, it would create a summary of
the amount and rationale for the adjustment factor for review by
management prior to the issuance of the financial statements. The staff
normally would expect the nature of the adjustments, how they were
measured or determined, and the underlying rationale for making the
changes to the allowance for credit losses balance to be documented.
The staff also normally would expect appropriate documentation of the
adjustments to be provided to management for review of the final
allowance for credit losses amount to be reported in the financial
statements.
Similarly, the staff normally would expect that registrants would
maintain documentation to support the identified range and the
rationale used for determining which estimate is the best estimate
within the range of expected credit losses and that this documentation
would also be made available to the registrant's independent
accountants. If changes frequently occur during management or credit
committee reviews of the allowance for credit losses, management may
find it appropriate to analyze the reasons for the frequent changes and
to reassess the methodology the registrant uses.
Facts: Registrant H has completed its estimation of its allowance
for credit losses for the current reporting period, in accordance with
GAAP, using its established systematic methodology.
Question 6: What summary documentation would the staff normally
expect Registrant H to prepare to support the amount of its allowance
for credit losses to be reported in its financial statements?
Interpretive Response: The staff normally would expect that, to
verify that the allowance for credit losses balances are presented
fairly in accordance with GAAP and are auditable, management would
prepare a document that summarizes the amount to be reported in the
financial statements for the allowance for credit losses,\41\ and that
such documentation also include sufficient evidence to support the
allowance and internal controls over the allowance. Common elements
that the staff normally would expect to find documented in allowance
for credit losses summaries include:
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\41\ See supra note 16.
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The reasonable and supportable economic forecasts used;
The estimate of the expected credit losses using the
registrant's methodology or methodologies;
A summary of the current allowance for credit losses
balance;
The amount, if any, by which the allowance for credit
losses balance is to be adjusted; and
Depending on the level of detail that supports the
allowance for credit losses analysis, detailed subschedules of loss
estimates that reconcile to the summary schedule.
Generally, a registrant's review and approval process for the
allowance for credit losses relies upon the data provided in these
consolidated summaries. There may be instances in which individuals or
committees that review the allowance for credit losses methodology and
resulting allowance balance identify adjustments that need to be made
to the loss estimates to provide a better estimate of expected credit
losses. These changes may occur as a result of holistically evaluating
the individual components of the estimation process and considering the
overall estimate of the allowance for credit losses as a whole or due
to information not known at the time of the initial loss estimate. It
would be important that these adjustments be consistent with GAAP and
be reviewed
[[Page 64738]]
and approved by appropriate personnel. Additionally, it would typically
be appropriate for the summary to provide each subsequent reviewer with
an understanding of the support behind these adjustments. Therefore,
the staff normally would expect management to document the nature of
any adjustments and the underlying rationale for making the changes.
The staff also normally would expect this documentation to be
provided to those among management making the final determination of
the allowance for credit losses amount.
4. Validating a Systematic Methodology
Question 7: What is the staff's guidance to a registrant on
validating, and documenting the validation of, its systematic
methodology used to estimate allowance for credit losses?
Interpretive Response: The staff believes that a registrant's
allowance for credit losses methodology is considered reasonable when
it results in a valuation account that adjusts the net amount of its
existing portfolio to cash flows expected to be collected.\42\
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\42\ See ASC paragraph 326-20-30-1.
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The staff normally would expect the registrant's systematic
methodology to include procedures to assess the continued relevance and
reliability of methods, data, and assumptions used to estimate expected
cash flows.
To verify that the allowance for credit losses methodology is
reasonable and conforms to GAAP, the staff believes it would be
appropriate for management to establish internal control policies,
appropriate for the size of the registrant and the type and complexity
of its loan products and modeling methods.
These policies may include procedures for a review, by a party who
is independent of the allowance for expected credit losses estimation
process, of the allowance methodology and its application in order to
confirm its effectiveness.
While registrants may employ many different procedures when
assessing the reasonableness of the design and performance of its
allowance for credit losses methodology and appropriateness of the data
and assumptions used, the procedures should allow management to
determine whether there may be deficiencies in its overall methodology.
Examples of procedures may include:
A review of how management's prior assumptions (including
expectations regarding loan delinquencies, troubled debt
restructurings, write-offs, and recoveries) have compared to actual
loan performance;
A review of the allowance for credit losses process by a
party that is independent and possesses competencies on the subject
matter. This often involves the independent party reviewing, on a test
basis, source documents and underlying data and assumptions to
determine that the established methodology develops reasonable loss
estimates;
A retrospective analysis of whether the models used
performed in a manner consistent with the intended purpose of
developing an estimate of expected credit losses; and
When the fair value of collateral is used, an evaluation
of the appraisal process of the underlying collateral. This may be
accomplished by periodically comparing the appraised value to the
actual sales price on selected properties sold.
The staff believes that management should support its validation
process with documentation of the specific validation procedures
performed, including any findings of an independent reviewer. The staff
normally would expect that, if the methodology is changed based upon
the findings of the validation process, documentation that describes
and supports the changes would be maintained.
The staff encourages anyone with questions or suggestions regarding
this interpretation to contact the staff via email at [email protected] or
phone at (202) 551-5300.
[FR Doc. 2019-25450 Filed 11-22-19; 8:45 am]
BILLING CODE 8011-01-P