[Federal Register Volume 88, Number 81 (Thursday, April 27, 2023)]
[Rules and Regulations]
[Pages 25479-25488]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 2023-08876]



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 Rules and Regulations
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 This section of the FEDERAL REGISTER contains regulatory documents 
 having general applicability and legal effect, most of which are keyed 
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 under 50 titles pursuant to 44 U.S.C. 1510.
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  Federal Register / Vol. 88, No. 81 / Thursday, April 27, 2023 / Rules 
and Regulations  

[[Page 25479]]



DEPARTMENT OF THE TREASURY

Office of the Comptroller of the Currency

12 CFR Part 30

FEDERAL RESERVE SYSTEM

12 CFR Part 208

[Docket No. OP-1680]

FEDERAL DEPOSIT INSURANCE CORPORATION

12 CFR Part 364

RIN 3064-ZA10

NATIONAL CREDIT UNION ADMINISTRATION

12 CFR Part 741

RIN 3133-AF05


Interagency Policy Statement on Allowances for Credit Losses 
(Revised April 2023)

AGENCY: Office of the Comptroller of the Currency (OCC), Treasury; 
Board of Governors of the Federal Reserve System (Board); Federal 
Deposit Insurance Corporation (FDIC); and National Credit Union 
Administration (NCUA).

ACTION: Final interagency policy statement.

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SUMMARY: The Office of the Comptroller of the Currency, the Board of 
Governors of the Federal Reserve System, the Federal Deposit Insurance 
Corporation, and the National Credit Union Administration 
(collectively, the agencies) are issuing a revised interagency policy 
statement on allowances for credit losses (ACLs) (revised statement). 
The agencies are issuing the revised statement in response to changes 
to U.S. generally accepted accounting principles (GAAP) as promulgated 
by the Financial Accounting Standards Board (FASB) in Accounting 
Standards Update (ASU) 2022-02, Financial Instruments--Credit Losses 
(Topic 326): Troubled Debt Restructurings and Vintage Disclosures 
issued in March 2022.

DATES: The interagency policy statement is available on April 27, 2023.

FOR FURTHER INFORMATION CONTACT: 
    OCC: Amanda Freedle, Deputy Comptroller and Chief Accountant, (202) 
649-6317; or Ashley Rangel, Deputy Chief Accountant, (202) 649-5648, 
Office of the Chief Accountant; or Kevin Korzeniewski, Counsel, Chief 
Counsel's Office, (202) 649-5490. If you are deaf, hard of hearing, or 
have a speech disability, please dial 7-1-1 to access 
telecommunications relay services.
    Board: Lara Lylozian, Deputy Associate Director and Chief 
Accountant, (202) 475-6656; or Kevin Chiu, Senior Accounting Policy 
Analyst, (202) 912-4608, Division of Supervision and Regulation; or 
David Imhoff, Attorney, (202) 452-2249, Legal Division, Board of 
Governors of the Federal Reserve System, 20th and C Streets NW, 
Washington, DC 20551. For users of telephone systems via text telephone 
(TTY) or any TTY-based Telecommunications Relay Services (TRS), please 
call 711 from any telephone, anywhere in the United States.
    FDIC: Shannon Beattie, Chief Accountant, (202) 898-3952; or Bryan 
Jonasson, Deputy Chief Accountant, (781) 794-5641; or Andrew Overton, 
Assistant Chief Accountant, (202)-898-8922; Division of Risk Management 
Supervision; or Catherine Wood, Counsel, (202) 898-3788, Legal 
Division, Federal Deposit Insurance Corporation, 550 17th Street NW, 
Washington, DC 20429.
    NCUA: Technical information: Chris McGrath, Acting Chief 
Accountant, Office of Examination and Insurance, (703) 518-6611 or 
Legal information: Marvin Shaw, Staff Attorney, Office of General 
Counsel, (703) 548-2778. National Credit Union Administration, 1775 
Duke Street, Alexandria, VA 22314.

SUPPLEMENTARY INFORMATION: 

I. Background

    On June 1, 2020, the agencies published in the Federal Register an 
interagency policy statement \1\ (original statement) in response to 
changes to GAAP as promulgated by the FASB in ASU 2016-13, Financial 
Instruments--Credit Losses (Topic 326): Measurement of Credit Losses on 
Financial Instruments and subsequent amendments issued between June 
2016 and the date of issuance of the original statement (collectively, 
Topic 326).
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    \1\ 85 FR 32991 (June 1, 2020).
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    In March 2022, the FASB further amended Topic 326 with the issuance 
of ASU 2022-02, Financial Instruments--Credit Losses (Topic 326): 
Troubled Debt Restructurings and Vintage Disclosures (ASU 2022-02). ASU 
2022-02 eliminates the recognition and measurement accounting guidance 
for Troubled Debt Restructurings (TDRs) by creditors upon adoption of 
Topic 326.

II. Current Actions

    To maintain conformance with GAAP following the issuance of ASU 
2022-02, the agencies are revising the original statement to remove 
references to TDRs. The agencies are also correcting a citation to a 
regulation in footnote 4 of the original statement. No other changes 
are being made to the original statement. Through this notice, the 
agencies are publishing the revised statement.
    Consistent with the original statement, the revised statement 
continues to describe the measurement of expected credit losses under 
the current expected credit losses (CECL) methodology and the 
accounting for impairment on available-for-sale debt securities in 
accordance with Topic 326; the design, documentation, and validation of 
expected credit loss estimation processes, including the internal 
controls over these processes; the maintenance of appropriate ACLs; the 
responsibilities of boards of directors and management; and examiner 
reviews of ACLs.

III. Paperwork Reduction Act

    In accordance with the requirements of the Paperwork Reduction Act 
of 1995 (PRA),\2\ the agencies may not conduct or sponsor, and the 
respondent is not required to respond to, an information collection 
unless it displays a currently valid Office of Management and Budget 
(OMB) control number.
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    \2\ 44 U.S.C. 3501-3521.
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    The revised statement does not create any new or revise any 
existing

[[Page 25480]]

collections of information under the PRA. Therefore, no information 
collection request will be submitted to the OMB for review.

IV. Final Interagency Policy Statement on Allowances for Credit Losses

    The text of the final interagency Policy Statement is as follows:

Interagency Policy Statement on Allowances for Credit Losses (Revised 
April 2023)

Purpose

    The Office of the Comptroller of the Currency (OCC), the Board of 
Governors of the Federal Reserve System (FRB), the Federal Deposit 
Insurance Corporation (FDIC), and the National Credit Union 
Administration (NCUA) (collectively, the agencies) are issuing this 
Interagency Policy Statement on Allowances for Credit Losses 
(hereafter, the policy statement) to promote consistency in the 
interpretation and application of Financial Accounting Standards Board 
(FASB) Accounting Standards Update 2016-13, Financial Instruments--
Credit Losses (Topic 326): Measurement of Credit Losses on Financial 
Instruments, as well as the amendments issued since June 2016.\1\ These 
updates are codified in Accounting Standards Codification (ASC) Topic 
326, Financial Instruments--Credit Losses (FASB ASC Topic 326). FASB 
ASC Topic 326 applies to all banks, savings associations, credit 
unions, and financial institution holding companies (collectively, 
institutions), regardless of size, that file regulatory reports for 
which the reporting requirements conform to U.S. generally accepted 
accounting principles (GAAP).\2\ This policy statement describes the 
measurement of expected credit losses in accordance with FASB ASC Topic 
326; the design, documentation, and validation of expected credit loss 
estimation processes, including the internal controls over these 
processes; the maintenance of appropriate allowances for credit losses 
(ACLs); the responsibilities of boards of directors and management; and 
examiner reviews of ACLs.
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    \1\ The FASB issued Accounting Standards Update (ASU) 2016-13 on 
June 16, 2016. The following updates were published after the 
issuance of ASU 2016-13: ASU 2018-19--Codification Improvements to 
Topic 326, Financial Instruments--Credit Losses; ASU 2019-04--
Codification Improvements to Topic 326, Financial Instruments--
Credit Losses, Topic 815, Derivatives and Hedging, and Topic 825, 
Financial Instruments; ASU 2019-05--Financial Instruments--Credit 
Losses (Topic 326): Targeted Transition Relief; ASU 2019-10--
Financial Instruments--Credit Losses (Topic 326), Derivatives and 
Hedging (Topic 815), and Leases (Topic 842): Effective Dates; ASU 
2019-11--Codification Improvements to Topic 326, Financial 
Instruments--Credit Losses; and ASU 2022-02, Financial Instruments--
Credit Losses (Topic 326): Troubled Debt Restructurings and Vintage 
Disclosures. Additionally, institutions may refer to FASB Staff Q&A-
Topic 326, No. 1, Whether the Weighted-Average Remaining Maturity 
Method is an Acceptable Method to Estimate Expected Credit Losses, 
and FASB Staff Q&A-Topic 326, No. 2, Developing an Estimate of 
Expected Credit Losses on Financial Assets.
    \2\ U.S. branches and agencies of foreign banking organizations 
may choose to, but are not required to, maintain ACLs on a branch or 
agency level. These institutions should refer to the instructions 
for the FFIEC 002, Report of Assets and Liabilities of U.S. Branches 
and Agencies of Foreign Banks; Supervision and Regulation (SR) 
Letter 95-4, Allowance for Loan and Lease Losses for U.S. Branches 
and Agencies of Foreign Banking Organizations; and SR Letter 95-42, 
Allowance for Loan and Lease Losses for U.S. Branches and Agencies 
of Foreign Banking Organizations.
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    This policy statement is effective at the time of each 
institution's adoption of FASB ASC Topic 326.\3\ The following policy 
statements are no longer effective for an institution upon its adoption 
of FASB ASC Topic 326: the December 2006 Interagency Policy Statement 
on the Allowance for Loan and Lease Losses; the July 2001 Policy 
Statement on Allowance for Loan and Lease Losses Methodologies and 
Documentation for Banks and Savings Institutions; and the NCUA's May 
2002 Interpretive Ruling and Policy Statement 02-3, Allowance for Loan 
and Lease Losses Methodologies and Documentation for Federally Insured 
Credit Unions (collectively, ALLL Policy Statements). After FASB ASC 
Topic 326 is effective for all institutions, the agencies will rescind 
the ALLL Policy Statements.
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    \3\ As noted in Accounting Standards Update 2019-10, FASB ASC 
Topic 326 is effective for fiscal years beginning after December 15, 
2019, including interim periods within those fiscal years, for 
public business entities that meet the definition of a Securities 
Exchange Commission (SEC) filer, excluding entities eligible to be 
small reporting companies as defined by the SEC. FASB ASC Topic 326 
is effective for all other entities for fiscal years beginning after 
December 15, 2022, including interim periods within those fiscal 
years. For all entities, early application of FASB ASC Topic 326 is 
permitted as set forth in ASU 2016-13.
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    The principles described in this policy statement are consistent 
with GAAP, applicable regulatory reporting requirements,\4\ safe and 
sound banking practices, and the agencies' codified guidelines 
establishing standards for safety and soundness.\5\ The operational and 
managerial standards included in those guidelines, which address such 
matters as internal controls and information systems, an internal audit 
system, loan documentation, credit underwriting, asset quality, and 
earnings, should be appropriate for an institution's size and the 
nature, scope, and risk of its activities.
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    \4\ For FDIC-insured depository institutions, section 37(a) of 
the Federal Deposit Insurance Act (12 U.SC. 1831n(a)) states that, 
in general, the accounting principles applicable to the Consolidated 
Reports of Condition and Income (Call Report) ``shall be uniform and 
consistent with generally accepted accounting principles.'' Section 
202(a)(6)(C) of the Federal Credit Union Act (12 U.S.C. 
1782(a)(6)(C)) establishes the same standard for federally insured 
credit unions with assets of $10 million or greater, providing that, 
in general, the ``[a]ccounting principles applicable to reports or 
statements required to be filed with the [NCUA] Board by each 
insured credit union shall be uniform and consistent with generally 
accepted accounting principles.'' Furthermore, regardless of asset 
size, all federally insured credit unions must comply with GAAP for 
certain financial reporting requirements relating to charges for 
loan losses. See 12 CFR 702.113(d).
    \5\ FDIC-insured depository institutions should refer to the 
Interagency Guidelines Establishing Standards for Safety and 
Soundness adopted by their primary federal regulator pursuant to 
section 39 of the Federal Deposit Insurance Act (12 U.S.C. 1831p-1) 
as follows: For national banks and federal savings associations, 
Appendix A to 12 CFR part 30; for state member banks, Appendix D to 
12 CFR part 208; and for state nonmember banks, state savings 
associations, and insured state-licensed branches of foreign banks, 
Appendix A to 12 CFR part 364. Federally insured credit unions 
should refer to section 206(b)(1) of the Federal Credit Union Act 
(12 U.S.C. 1786) and 12 CFR 741.3.
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Scope

    This policy statement describes the current expected credit losses 
(CECL) methodology for determining the ACLs applicable to loans held-
for-investment, net investments in leases, and held-to-maturity debt 
securities accounted for at amortized cost.\6\ It also describes the 
estimation of the ACL for an available-for-sale debt security in 
accordance with FASB ASC Subtopic 326-30. This policy statement does 
not address or supersede existing agency requirements or guidance 
regarding appropriate due diligence in connection with the purchase or 
sale of assets or determining whether assets are permissible to be 
purchased or held by institutions.\7\
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    \6\ FASB ASC Topic 326 defines the amortized cost basis as the 
amount at which a financing receivable or investment is originated 
or acquired, adjusted for applicable accrued interest, accretion, or 
amortization of premium, discount, and net deferred fees or costs, 
collection of cash, write-offs, foreign exchange, and fair value 
hedge accounting adjustments.
    \7\ See the final guidance attached to OCC Bulletin 2012-18, 
Guidance on Due Diligence Requirements in Determining Whether 
Securities Are Eligible for Investment (for national banks and 
federal savings associations), 12 CFR part 1, Investment Securities 
(for national banks), and 12 CFR part 160, Lending and Investment 
(for federal savings associations). Federal credit unions should 
refer to 12 CFR part 703, Investment and Deposit Activities. 
Federally insured, state-chartered credit unions should refer to 
applicable state laws and regulations, as well as 12 CFR 741.219 
(``investment requirements'').
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    The CECL methodology described in FASB ASC Topic 326 applies to 
financial assets measured at amortized cost, net investments in leases, 
and off-balance-sheet credit exposures (collectively, financial assets) 
including:

[[Page 25481]]

     Financing receivables such as loans held-for-investment;
     Overdrawn deposit accounts (i.e. overdrafts) that are 
reclassified as held-for-investment loans;
     Held-to-maturity debt securities;
     Receivables that result from revenue transactions within 
the scope of Topic 606 on revenue from contracts with customers and 
Topic 610 on other income, which applies, for example, to the sale of 
foreclosed real estate;
     Reinsurance recoverables that result from insurance 
transactions within the scope of Topic 944 on insurance;
     Receivables related to repurchase agreements and 
securities lending agreements within the scope of Topic 860 on 
transfers and servicing;
     Net investments in leases recognized by a lessor in 
accordance with Topic 842 on leases; and
     Off-balance-sheet credit exposures including off-balance-
sheet loan commitments, standby letters of credit, financial guarantees 
not accounted for as insurance, and other similar instruments except 
for those within the scope of Topic 815 on derivatives and hedging.
    The CECL methodology does not apply to the following financial 
assets:
     Financial assets measured at fair value through net 
income, including those assets for which the fair value option has been 
elected;
     Available-for-sale debt securities; \8\
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    \8\ Refer to FASB ASC Subtopic 326-30, Financial Instruments--
Credit Losses--Available-for-Sale Debt Securities (FASB ASC Subtopic 
326-30).
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     Loans held-for-sale;
     Policy loan receivables of an insurance entity;
     Loans and receivables between entities under common 
control; and
     Receivables arising from operating leases.

Measurement of ACLs for Loans, Leases, Held-to-Maturity Debt 
Securities, and Off-Balance-Sheet Credit Exposures

Overview of ACLs

    An ACL is a valuation account that is deducted from, or added to, 
the amortized cost basis of financial assets to present the net amount 
expected to be collected over the contractual term \9\ of the assets. 
In estimating the net amount expected to be collected, management 
should consider the effects of past events, current conditions, and 
reasonable and supportable forecasts on the collectibility of the 
institution's financial assets.\10\ FASB ASC Topic 326 requires 
management to use relevant forward-looking information and expectations 
drawn from reasonable and supportable forecasts when estimating 
expected credit losses.
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    \9\ Consistent with FASB ASC Topic 326, an institution's 
determination of the contractual term should reflect the financial 
asset's contractual life adjusted for prepayments and renewal and 
extension options that are not unconditionally cancellable by the 
institution. For more information, see the ``Contractual Term of a 
Financial Asset'' section in this policy statement.
    \10\ Recoveries are a component of management's estimation of 
the net amount expected to be collected for a financial asset. 
Expected recoveries of amounts previously written off or expected to 
be written off that are included in ACLs may not exceed the 
aggregate amounts previously written off or expected to be written 
off. In some circumstances, the ACL for a specific portfolio or loan 
may be negative because the amount expected to be collected, 
including expected recoveries, exceeds the financial asset's 
amortized cost basis.
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    ACLs are evaluated as of the end of each reporting period. The 
methods used to determine ACLs generally should be applied consistently 
over time and reflect management's current expectations of credit 
losses. Changes to ACLs resulting from these periodic evaluations are 
recorded through increases or decreases to the related provisions for 
credit losses (PCLs). When available information confirms that specific 
loans, securities, other assets, or portions thereof, are 
uncollectible, these amounts should be promptly written off \11\ 
against the related ACLs.
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    \11\ Consistent with FASB ASC Topic 326, this policy statement 
uses the verbs ``write off'' and ``written off'' and the noun 
``write-off.'' These terms are used interchangeably with ``charge 
off,'' ``charged off,'' and ``charge-off,'' respectively, in the 
agencies' regulations, guidance, and regulatory reporting 
instructions.
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    Estimating appropriate ACLs involves a high degree of management 
judgment and is inherently imprecise. An institution's process for 
determining appropriate ACLs may result in a range of estimates for 
expected credit losses. An institution should support and record its 
best estimate within the range of expected credit losses.

Collective Evaluation of Expected Losses

    FASB ASC Topic 326 requires expected losses to be evaluated on a 
collective, or pool, basis when financial assets share similar risk 
characteristics. Financial assets may be segmented based on one 
characteristic, or a combination of characteristics.
    Examples of risk characteristics relevant to this evaluation 
include, but are not limited to:
     Internal or external credit scores or credit ratings;
     Risk ratings or classifications;
     Financial asset type;
     Collateral type;
     Size;
     Effective interest rate;
     Term;
     Geographical location;
     Industry of the borrower; and
     Vintage.
    Other risk characteristics that may be relevant for segmenting 
held-to-maturity debt securities include issuer, maturity, coupon rate, 
yield, payment frequency, source of repayment, bond payment structure, 
and embedded options.
    FASB ASC Topic 326 does not prescribe a process for segmenting 
financial assets for collective evaluation. Therefore, management 
should exercise judgment when establishing appropriate segments or 
pools. Management should evaluate financial asset segmentation on an 
ongoing basis to determine whether the financial assets in the pool 
continue to share similar risk characteristics. If a financial asset 
ceases to share risk characteristics with other assets in its segment, 
it should be moved to a different segment with assets sharing similar 
risk characteristics if such a segment exists.
    If a financial asset does not share similar risk characteristics 
with other assets, expected credit losses for that asset should be 
evaluated individually. Individually evaluated assets should not be 
included in a collective assessment of expected credit losses.

Estimation Methods for Expected Credit Losses

    FASB ASC Topic 326 does not require the use of a specific loss 
estimation method for purposes of determining ACLs. Various methods may 
be used to estimate the expected collectibility of financial assets, 
with those methods generally applied consistently over time. The same 
loss estimation method does not need to be applied to all financial 
assets. Management is not precluded from selecting a different method 
when it determines the method will result in a better estimate of ACLs.
    Management may use a loss-rate method,\12\ probability of default/
loss given default (PD/LGD) method, roll-rate method, discounted cash 
flow method, a method that uses aging schedules, or another reasonable 
method to estimate expected credit losses. The selected method(s) 
should be appropriate for the financial assets being evaluated, 
consistent with the institution's size and complexity.
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    \12\ Various loss-rate methods may be used to estimate expected 
credit losses under the CECL methodology. These include the 
weighted-average remaining maturity (WARM) method, vintage analysis, 
and the snapshot or open pool method.
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Contractual Term of a Financial Asset

    FASB ASC Topic 326 requires an institution to measure estimated

[[Page 25482]]

expected credit losses over the contractual term of its financial 
assets, considering expected prepayments. Renewals, extensions, and 
modifications are excluded from the contractual term of a financial 
asset for purposes of estimating the ACL unless the renewal and 
extension options are part of the original or modified contract and are 
not unconditionally cancellable by the institution. If such renewal or 
extension options are present, management must evaluate the likelihood 
of a borrower exercising those options when determining the contractual 
term.

Historical Loss Information

    Historical loss information generally provides a basis for an 
institution's assessment of expected credit losses. Historical loss 
information may be based on internal information, external information, 
or a combination of both. Management should consider whether the 
historical loss information may need to be adjusted for differences in 
current asset specific characteristics such as differences in 
underwriting standards, portfolio mix, or when historical asset terms 
do not reflect the contractual terms of the financial assets being 
evaluated as of the reporting date.
    Management should then consider whether further adjustments to 
historical loss information are needed to reflect the extent to which 
current conditions and reasonable and supportable forecasts differ from 
the conditions that existed during the historical loss period. 
Adjustments to historical loss information may be quantitative or 
qualitative in nature and should reflect changes to relevant data (such 
as changes in unemployment rates, delinquency, or other factors 
associated with the financial assets).

Reasonable and Supportable Forecasts

    When estimating expected credit losses, FASB ASC Topic 326 requires 
management to consider forward-looking information that is both 
reasonable and supportable and relevant to assessing the collectibility 
of cash flows. Reasonable and supportable forecasts may extend over the 
entire contractual term of a financial asset or a period shorter than 
the contractual term. FASB ASC Topic 326 does not prescribe a specific 
method for determining reasonable and supportable forecasts nor does it 
include bright lines for establishing a minimum or maximum length of 
time for reasonable and supportable forecast period(s). Judgment is 
necessary in determining an appropriate period(s) for each institution. 
Reasonable and supportable forecasts may vary by portfolio segment or 
individual forecast input. These forecasts may include data from 
internal sources, external sources, or a combination of both. 
Management is not required to search for all possible information nor 
incur undue cost and effort to collect data for its forecasts. However, 
reasonably available and relevant information should not be ignored in 
assessing the collectibility of cash flows. Management should evaluate 
the appropriateness of the reasonable and supportable forecast 
period(s) each reporting period, consistent with other inputs used in 
the estimation of expected credit losses.
    Institutions may develop reasonable and supportable forecasts by 
using one or more economic scenarios. FASB ASC Topic 326 does not 
require the use of multiple economic scenarios; however, institutions 
are not precluded from considering multiple economic scenarios when 
estimating expected credit losses.

Reversion

    When the contractual term of a financial asset extends beyond the 
reasonable and supportable period, FASB ASC Topic 326 requires 
reverting to historical loss information, or an appropriate proxy, for 
those periods beyond the reasonable and supportable forecast period 
(often referred to as the reversion period). Management may revert to 
historical loss information for each individual forecast input or based 
on the entire estimate of loss.
    FASB ASC Topic 326 does not require the application of a specific 
reversion technique or use of a specific reversion period. Reversion to 
historical loss information may be immediate, occur on a straight-line 
basis, or use any systematic, rational method. Management may apply 
different reversion techniques depending on the economic environment or 
the financial asset portfolio. Reversion techniques are not accounting 
policy elections and should be evaluated for appropriateness each 
reporting period, consistent with other inputs used in the estimation 
of expected credit losses.
    FASB ASC Topic 326 does not specify the historical loss information 
that is used in the reversion period. This historical loss information 
may be based on long-term average losses or on losses that occurred 
during a particular historical period(s). Management may use multiple 
historical periods that are not sequential. Management should not 
adjust historical loss information for existing economic conditions or 
expectations of future economic conditions for periods beyond the 
reasonable and supportable period. However, management should consider 
whether the historical loss information may need to be adjusted for 
differences in current asset specific characteristics such as 
differences in underwriting standards, portfolio mix, or when 
historical asset terms do not reflect the contractual terms of the 
financial assets being evaluated as of the reporting date.

Qualitative Factor Adjustments

    The estimation of ACLs should reflect consideration of all 
significant factors relevant to the expected collectibility of the 
institution's financial assets as of the reporting date. Management may 
begin the expected credit loss estimation process by determining its 
historical loss information or obtaining reliable and relevant 
historical loss proxy data for each segment of financial assets with 
similar risk characteristics. Historical credit losses (or even recent 
trends in losses) generally do not, by themselves, form a sufficient 
basis to determine the appropriate levels for ACLs.
    Management should consider the need to qualitatively adjust 
expected credit loss estimates for information not already captured in 
the loss estimation process. These qualitative factor adjustments may 
increase or decrease management's estimate of expected credit losses. 
Adjustments should not be made for information that has already been 
considered and included in the loss estimation process.
    Management should consider the qualitative factors that are 
relevant to the institution as of the reporting date, which may 
include, but are not limited to:
     The nature and volume of the institution's financial 
assets;
     The existence, growth, and effect of any concentrations of 
credit;
     The volume and severity of past due financial assets, the 
volume of nonaccrual assets, and the volume and severity of adversely 
classified or graded assets; \13\
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    \13\ For banks and savings associations, adversely classified or 
graded loans are loans rated ``substandard'' (or its equivalent) or 
worse under the institution's loan classification system. For credit 
unions, adversely graded loans are loans included in the more 
severely graded categories under the institution's credit grading 
system, i.e., those loans that tend to be included in the credit 
union's ``watch lists.'' Criteria related to the classification of 
an investment security may be found in the interagency policy 
statement Uniform Agreement on the Classification and Appraisal of 
Securities Held by Depository Institutions issued by the FDIC, 
Board, and OCC in October 2013.

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[[Page 25483]]

     The value of the underlying collateral for loans that are 
not collateral-dependent; \14\
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    \14\ See the ``Collateral-Dependent Financial Assets'' section 
of this policy statement for more information on collateral-
dependent loans.
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     The institution's lending policies and procedures, 
including changes in underwriting standards and practices for 
collections, write-offs, and recoveries;
     The quality of the institution's credit review function;
     The experience, ability, and depth of the institution's 
lending, investment, collection, and other relevant management and 
staff;
     The effect of other external factors such as the 
regulatory, legal and technological environments; competition; and 
events such as natural disasters; and
     Actual and expected changes in international, national, 
regional, and local economic and business conditions and developments 
\15\ in which the institution operates that affect the collectibility 
of financial assets.
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    \15\ Changes in economic and business conditions and 
developments included in qualitative factor adjustments are limited 
to those that affect the collectibility of an institution's 
financial assets and are relevant to the institution's financial 
asset portfolios. For example, an economic factor for current or 
forecasted unemployment at the national or state level may indicate 
a strong job market based on low national or state unemployment 
rates, but a local unemployment rate, which may be significantly 
higher, for example, because of the actual or forecasted loss of a 
major local employer may be more relevant to the collectibility of 
an institution's financial assets.
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    Management may consider the following additional qualitative 
factors specific to held-to-maturity debt securities as of the 
reporting date: \16\
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    \16\ This list is not all-inclusive, and all of the factors 
listed may not be relevant to all institutions.
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     The effect of recent changes in investment strategies and 
policies;
     The existence and effect of loss allocation methods, the 
definition of default, the impact of performance and market value 
triggers, and credit and liquidity enhancements associated with debt 
securities;
     The effect of structural subordination and collateral 
deterioration on tranche performance of debt securities;
     The quality of underwriting for any collateral backing 
debt securities; and
     The effect of legal covenants associated with debt 
securities.
    Changes in the level of an institution's ACLs may not always be 
directionally consistent with changes in the level of qualitative 
factor adjustments due to the incorporation of reasonable and 
supportable forecasts in estimating expected losses. For example, if 
improving credit quality trends are evident throughout an institution's 
portfolio in recent years, but management's evaluation of reasonable 
and supportable forecasts indicates expected deterioration in credit 
quality of the institution's financial assets during the forecast 
period, the ACL as a percentage of the portfolio may increase.

Collateral-Dependent Financial Assets

    FASB ASC Topic 326 describes a collateral-dependent asset as a 
financial asset for which the repayment is expected to be provided 
substantially through the operation or sale of the collateral when the 
borrower, based on management's assessment, is experiencing financial 
difficulty as of the reporting date. For regulatory reporting purposes, 
the ACL for a collateral-dependent loan is measured using the fair 
value of collateral, regardless of whether foreclosure is probable.\17\
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    \17\ The agencies, at times, prescribe specific regulatory 
reporting requirements that fall within a range of acceptable 
practice under GAAP. These specific reporting requirements, such as 
the requirement for institutions to apply the practical expedient in 
ASC 326-20-35-5 for collateral-dependent loans, regardless of 
whether foreclosure is probable, have been adopted to achieve safety 
and soundness and other public policy objectives and to ensure 
comparability among institutions. The regulatory reporting 
requirement to apply the practical expedient for collateral-
dependent financial assets is consistent with the agencies' long-
standing practice for collateral-dependent loans, and it continues 
to be limited to collateral-dependent loans. It does not apply to 
other financial assets such as held-to-maturity debt securities that 
are collateral-dependent.
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    When estimating the ACL for a collateral-dependent loan, FASB ASC 
Topic 326 requires the fair value of collateral to be adjusted to 
consider estimated costs to sell if repayment or satisfaction of the 
loan depends on the sale of the collateral. ACL adjustments for 
estimated costs to sell are not appropriate when the repayment of a 
collateral-dependent loan is expected from the operation of the 
collateral.
    The fair value of collateral securing a collateral-dependent loan 
may change over time. If the fair value of the collateral as of the ACL 
evaluation date has decreased since the previous ACL evaluation date, 
the ACL should be increased to reflect the additional decrease in the 
fair value of the collateral. Likewise, if the fair value of the 
collateral has increased as of the ACL evaluation date, the increase in 
the fair value of the collateral is reflected through a reduction in 
the ACL. Any negative ACL that results is capped at the amount 
previously written off. Changes in the fair value of collateral 
described herein should be supported and documented through recent 
appraisals or evaluations.\18\
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    \18\ For more information on regulatory expectations related to 
the use of appraisals and evaluations, see the Interagency Appraisal 
and Evaluation Guidelines published on December 10, 2010. Insured 
depository institutions should also refer to the interagency 
regulations on appraisals adopted by their primary federal regulator 
as follows: For national banks and federal savings associations, 
Subpart C of 12 CFR part 34; for state member banks, 12 CFR parts 
208 and 225; for state nonmember banks, state savings associations, 
and insured state-licensed branches of foreign banks, 12 CFR part 
323; and for federally insured credit unions, 12 CFR part 722.
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Purchased Credit-Deteriorated Assets

    FASB ASC Topic 326 introduces the concept of purchased credit-
deteriorated (PCD) assets. PCD assets are acquired financial assets 
that, at acquisition, have experienced more-than-insignificant 
deterioration in credit quality since origination. FASB ASC Topic 326 
does not provide a prescriptive definition of more-than-insignificant 
credit deterioration. The acquiring institution's management should 
establish and document a reasonable process to consistently determine 
what constitutes a more-than-insignificant deterioration in credit 
quality.
    When recording the acquisition of PCD assets, the amount of 
expected credit losses as of the acquisition date is added to the 
purchase price of the financial assets rather than recording these 
losses through PCLs. This establishes the amortized cost basis of the 
PCD assets. Any difference between the unpaid principal balance of the 
PCD assets and the amortized cost basis of the assets as of the 
acquisition date is the non-credit discount or premium. The initial ACL 
and non-credit discount or premium determined on a collective basis at 
the acquisition date are allocated to the individual PCD assets.
    After acquisition, ACLs for PCD assets should be adjusted at each 
reporting date with a corresponding debit or credit to the PCLs to 
reflect management's current estimate of expected credit losses. The 
non-credit discount recorded at acquisition will be accreted into 
interest income over the remaining life of the PCD assets on a level-
yield basis.

Financial Assets With Collateral Maintenance Agreements

    Institutions may have financial assets that are secured by 
collateral (such as debt securities) and are subject to collateral 
maintenance agreements requiring the borrower to continuously replenish 
the amount of collateral securing the asset. If the fair value of the 
collateral declines, the borrower is

[[Page 25484]]

required to provide additional collateral as specified by the 
agreement.
    FASB ASC Topic 326 includes a practical expedient for financial 
assets with collateral maintenance agreements where the borrower is 
required to provide collateral greater than or equal to the amortized 
cost basis of the asset and is expected to continuously replenish the 
collateral. In those cases, management may elect the collateral 
maintenance practical expedient and measure expected credit losses for 
these qualifying assets based on the fair value of the collateral.\19\ 
If the fair value of the collateral is greater than the amortized cost 
basis of the financial asset and management expects the borrower to 
replenish collateral as needed, management may record an ACL of zero 
for the financial asset when the collateral maintenance practical 
expedient is applied. Similarly, if the fair value of the collateral is 
less than the amortized cost basis of the financial asset and 
management expects the borrower to replenish collateral as needed, the 
ACL is limited to the difference between the fair value of the 
collateral and the amortized cost basis of the asset as of the 
reporting date when applying the collateral maintenance practical 
expedient.
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    \19\ For example, an institution enters into a reverse 
repurchase agreement with a collateral maintenance agreement. 
Management may not need to record the expected credit losses at each 
reporting date as long as the fair value of the security collateral 
is greater than the amortized cost basis of the reverse repurchase 
agreement. Refer to ASC 326-20-55-46 for more information.
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Accrued Interest Receivable

    FASB ASC Topic 326 includes accrued interest receivable in the 
amortized cost basis of a financial asset. As a result, accrued 
interest receivable is included in the amounts for which ACLs are 
estimated. Generally, any accrued interest receivable that is not 
collectible is written off against the related ACL.
    FASB ASC Topic 326 permits a series of independent accounting 
policy elections related to accrued interest receivable that alter the 
accounting treatment described in the preceding paragraph. These 
elections are made upon adoption of FASB ASC Topic 326 and may differ 
by class of financing receivable or major security-type level. The 
available accounting policy elections \20\ are:
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    \20\ The accounting policy elections related to accrued interest 
receivable that are described in this paragraph also apply to 
accrued interest receivable for an available-for-sale debt security 
that, for purposes of identifying and measuring an impairment, 
exclude the applicable accrued interest from both the fair value and 
amortized cost basis of the securities.
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     Management may elect not to measure ACLs for accrued 
interest receivable if uncollectible accrued interest is written off in 
a timely manner. Management should define and document its definition 
of a timely write-off.
     Management may elect to write off accrued interest 
receivable by either reversing interest income, recognizing the loss 
through PCLs, or through a combination of both methods.
     Management may elect to separately present accrued 
interest receivable from the associated financial asset in its 
regulatory reports and financial statements, if applicable. The accrued 
interest receivable is presented net of ACLs (if any).

Financial Assets With Zero Credit Loss Expectations

    There may be certain financial assets for which the expectation of 
credit loss is zero after evaluating historical loss information, 
making necessary adjustments for current conditions and reasonable and 
supportable forecasts, and considering any collateral or guarantee 
arrangements that are not free-standing contracts. Factors to consider 
when evaluating whether expectations of zero credit loss are 
appropriate may include, but are not limited to:
     A long history of zero credit loss;
     A financial asset that is fully secured by cash or cash 
equivalents;
     High credit ratings from rating agencies with no expected 
future downgrade; \21\
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    \21\ Management should not rely solely on credit rating agencies 
but should also make its own assessment based on third party 
research, default statistics, and other data that may indicate a 
decline in credit rating.
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     Principal and interest payments that are guaranteed by the 
U.S. government;
     The issuer, guarantor, or sponsor can print its own 
currency and the currency is held by other central banks as reserve 
currency; and
     The interest rate on the security is recognized as a risk-
free rate.
    A loan that is fully secured by cash or cash equivalents, such as 
certificates of deposit issued by the lending institution, would likely 
have zero credit loss expectations. Similarly, the guaranteed portion 
of a U.S. Small Business Administration (SBA) loan or security 
purchased on the secondary market through the SBA's fiscal and transfer 
agent would likely have zero credit loss expectations if these 
financial assets are unconditionally guaranteed by the U.S. government. 
Examples of held-to-maturity debt securities that may result in 
expectations of zero credit loss include U.S. Treasury securities as 
well as mortgage-backed securities issued and guaranteed by the 
Government National Mortgage Association, the Federal Home Loan 
Mortgage Corporation, and the Federal National Mortgage Association. 
Assumptions related to zero credit loss expectations should be included 
in the institution's ACL documentation.

Estimated Credit Losses for Off-Balance-Sheet Credit Exposures

    FASB ASC Topic 326 requires that an institution estimate expected 
credit losses for off-balance-sheet credit exposures within the scope 
of FASB ASC Topic 326 over the contractual period during which the 
institution is exposed to credit risk. The estimate of expected credit 
losses should take into consideration the likelihood that funding will 
occur as well as the amount expected to be funded over the estimated 
remaining contractual term of the off-balance-sheet credit exposures. 
Management should not record an estimate of expected credit losses for 
off-balance-sheet exposures that are unconditionally cancellable by the 
issuer.
    Management must evaluate expected credit losses for off-balance-
sheet credit exposures as of each reporting date. While the process for 
estimating expected credit losses for these exposures is similar to the 
one used for on-balance-sheet financial assets, these estimated credit 
losses are not recorded as part of the ACLs because cash has not yet 
been disbursed to fund the contractual obligation to extend credit. 
Instead, these loss estimates are recorded as a liability, separate and 
distinct from the ACLs.\22\ The amount needed to adjust the liability 
for expected credit losses for off-balance-sheet credit exposures as of 
each reporting date is reported in net income.
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    \22\ The ACL associated with off-balance-sheet credit exposures 
is included in the ``Allowance for credit losses on off-balance-
sheet credit exposures'' in Schedule RC-G--Other Liabilities in the 
Call Report and in the Liabilities schedule in NCUA Call Report Form 
5300.
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Measurement of the ACL for Available-for-Sale Debt Securities

    FASB ASC Subtopic 326-30, Financial Instruments--Credit Losses--
Available-for-Sale Debt Securities (FASB ASC Subtopic 326-30) describes 
the accounting for expected credit losses associated with available-
for-sale debt securities. Credit losses for available-for-sale debt 
securities are evaluated as of each reporting date when the fair value 
is less than amortized cost. FASB ASC

[[Page 25485]]

Subtopic 326-30 requires credit losses to be calculated individually, 
rather than collectively, using a discounted cash flow method, through 
which management compares the present value of expected cash flows with 
the amortized cost basis of the security. An ACL is established, with a 
charge to the PCL, to reflect the credit loss component of the decline 
in fair value below amortized cost. If the fair value of the security 
increases over time, any ACL that has not been written off may be 
reversed through a credit to the PCL. The ACL for an available-for-sale 
debt security is limited by the amount that the fair value is less than 
the amortized cost, which is referred to as the fair value floor.
    If management intends to sell an available-for-sale debt security 
or will more likely than not be required to sell the security before 
recovery of the amortized cost basis, the security's ACL should be 
written off and the amortized cost basis of the security should be 
written down to its fair value at the reporting date with any 
incremental impairment reported in income.
    A change during the reporting period in the non-credit component of 
any decline in fair value below amortized cost on an available-for-sale 
debt security is reported in other comprehensive income, net of 
applicable income taxes.\23\
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    \23\ Non-credit impairment on an available-for-sale debt 
security that is not required to be recorded through the ACL should 
be reported in other comprehensive income as described in ASC 326-
30-35-2.
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    When evaluating impairment for available-for-sale debt securities, 
management may evaluate the amortized cost basis including accrued 
interest receivable, or may evaluate the accrued interest receivable 
separately from the remaining amortized cost basis. If evaluated 
separately, accrued interest receivable is excluded from both the fair 
value of the available-for-sale debt security and its amortized cost 
basis.\24\
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    \24\ The accounting policy elections described in the ``Accrued 
Interest Receivable'' section of this policy statement apply to 
accrued interest receivable recorded for an available-for-sale debt 
security if an institution excludes applicable accrued interest 
receivable from both the fair value and amortized cost basis of the 
security for purposes of identifying and measuring impairment.
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Documentation Standards

    For financial and regulatory reporting purposes, ACLs and PCLs must 
be determined in accordance with GAAP. ACLs and PCLs should be well 
documented, with clear explanations of the supporting analyses and 
rationale. Sound policies, procedures, and control systems should be 
appropriately tailored to an institution's size and complexity, 
organizational structure, business environment and strategy, risk 
appetite, financial asset characteristics, loan administration 
procedures, investment strategy, and management information 
systems.\25\ Maintaining, analyzing, supporting, and documenting 
appropriate ACLs and PCLs in accordance with GAAP is consistent with 
safe and sound banking practices.
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    \25\ Management often documents policies, procedures, and 
controls related to ACLs in accounting or credit risk management 
policies, or a combination thereof.
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    The policies and procedures governing an institution's ACL 
processes and the controls over these processes should be designed, 
implemented, and maintained to reasonably estimate expected credit 
losses for financial assets and off-balance-sheet credit exposures as 
of the reporting date. The policies and procedures should describe 
management's processes for evaluating the credit quality and 
collectibility of financial asset portfolios, including reasonable and 
supportable forecasts about changes in the credit quality of these 
portfolios, through a disciplined and consistently applied process that 
results in an appropriate estimate of the ACLs. Management should 
review and, as needed, revise the institution's ACL policies and 
procedures at least annually, or more frequently if necessary.
    An institution's policies and procedures for the systems, 
processes, and controls necessary to maintain appropriate ACLs should 
address, but not be limited to:
     Processes that support the determination and maintenance 
of appropriate levels for ACLs that are based on a comprehensive, well-
documented, and consistently applied analysis of an institution's 
financial asset portfolios and off-balance-sheet credit exposures. The 
analyses and loss estimation processes used should consider all 
significant factors that affect the credit risk and collectibility of 
the financial asset portfolios;
     The roles, responsibilities, and segregation of duties of 
the institution's senior management and other personnel who provide 
input into ACL processes, determine ACLs, or review ACLs. These 
departments and individuals may include accounting, financial 
reporting, treasury, investment management, lending, special asset or 
problem loan workout teams, retail collections and foreclosure groups, 
credit review, model risk management, internal audit, and others, as 
applicable. Individuals with responsibilities related to the estimation 
of ACLs should be competent and well-trained, with the ability to 
escalate material issues;
     Processes for determining the appropriate historical 
period(s) to use as the basis for estimating expected credit losses and 
approaches for adjusting historical credit loss information to reflect 
differences in asset specific characteristics, as well as current 
conditions and reasonable and supportable forecasts that are different 
from conditions existing in the historical period(s);
     Processes for determining and revising the appropriate 
techniques and periods to revert to historical credit loss information 
when the contractual term of a financial asset or off-balance-sheet 
credit exposure extends beyond the reasonable and supportable forecast 
period(s);
     Processes for segmenting financial assets for estimating 
expected credit losses and periodically evaluating the segments to 
determine whether the assets continue to share similar risk 
characteristics;
     Data capture and reporting systems that supply the quality 
and breadth of relevant and reliable information necessary, whether 
obtained internally or externally, to support and document the 
estimates of appropriate ACLs for regulatory reporting requirements 
and, if applicable, financial statement and disclosure requirements;
     The description of the institution's systematic and 
logical loss estimation process(es) for determining and consolidating 
expected credit losses to ensure that the ACLs are recorded in 
accordance with GAAP and regulatory reporting requirements. This may 
include, but is not limited to:
    [cir] Management's judgments, accounting policy elections, and 
application of practical expedients in determining the amount of 
expected credit losses;
    [cir] The process for determining when a loan is collateral-
dependent;
    [cir] The process for determining the fair value of collateral, if 
any, used as an input when estimating the ACL, including the basis for 
making any adjustments to the market value conclusion and how costs to 
sell, if applicable, are calculated;
    [cir] The process for determining when a financial asset has zero 
credit loss expectations;
    [cir] The process for determining expected credit losses when a 
financial asset has a collateral maintenance provision; and

[[Page 25486]]

    [cir] A description of and support for qualitative factors that 
affect collectibility of financial assets;
     Procedures for validating and independently reviewing the 
loss estimation process as well as any changes to the process from 
prior periods;
     Policies and procedures for the prompt write-off of 
financial assets, or portions of financial assets, when available 
information confirms the assets to be uncollectible, consistent with 
regulatory reporting requirements; and
     The systems of internal controls used to confirm that the 
ACL processes are maintained and periodically adjusted in accordance 
with GAAP and interagency guidelines establishing standards for safety 
and soundness.
    Internal control systems for the ACL estimation processes should:
     Provide reasonable assurance regarding the relevance, 
reliability, and integrity of data and other information used in 
estimating expected credit losses;
     Provide reasonable assurance of compliance with laws, 
regulations, and the institution's policies and procedures;
     Provide reasonable assurance that the institution's 
financial statements are prepared in accordance with GAAP, and the 
institution's regulatory reports are prepared in accordance with the 
applicable instructions;
     Include a well-defined and effective loan review and 
grading process that is consistently applied and identifies, measures, 
monitors, and reports asset quality problems in an accurate, sound and 
timely manner. The loan review process should respond to changes in 
internal and external factors affecting the level of credit risk in the 
portfolio; and
     Include a well-defined and effective process for 
monitoring credit quality in the debt securities portfolio.

Analyzing and Validating the Overall Measurement of ACLs

    To ensure that ACLs are presented fairly, in accordance with GAAP 
and regulatory reporting requirements, and are transparent for 
regulatory examinations, management should document its measurements of 
the amounts of ACLs reported in regulatory reports and financial 
statements, if applicable, for each type of financial asset (e.g., 
loans, held-to-maturity debt securities, and available-for-sale debt 
securities) and for off-balance-sheet credit exposures. This 
documentation should include ACL calculations, qualitative adjustments, 
and any adjustments to the ACLs that are required as part of the 
internal review and challenge process. The board of directors, or a 
committee thereof, should review management's assessments of and 
justifications for the reported amounts of ACLs.
    Various techniques are available to assist management in analyzing 
and evaluating the ACLs. For example, comparing estimates of expected 
credit losses to actual write-offs in aggregate, and by portfolio, may 
enable management to assess whether the institution's loss estimation 
process is sufficiently designed.\26\ Further, comparing the estimate 
of ACLs to actual write-offs at the financial asset portfolio level 
allows management to analyze changing portfolio characteristics, such 
as the volume of assets or increases in write-off rates, which may 
affect future forecast adjustments. Techniques applied in these 
instances do not have to be complex to be effective, but, if used, 
should be commensurate with the institution's size and complexity.
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    \26\ Institutions using models in the loss estimation process 
may incorporate a qualitative factor adjustment in the estimate of 
expected credit losses to capture the variance between modeled 
credit loss expectations and actual historical losses when the model 
is still considered predictive and fit for use. Institutions should 
monitor this variance, as well as changes to the variance, to 
determine if the variance is significant or material enough to 
warrant further changes to the model.
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    Ratio analysis may also be useful for evaluating the overall 
reasonableness of ACLs. Ratio analysis assists in identifying divergent 
or emerging trends in the relationship of ACLs to other factors such as 
adversely classified or graded loans, past due and nonaccrual loans, 
total loans, historical gross write-offs, net write-offs, and historic 
delinquency and default trends for securities.
    Comparing the institution's ACLs to those of peer institutions may 
provide management with limited insight into management's own ACL 
estimates. Management should apply caution when performing peer 
comparisons as there may be significant differences among peer 
institutions in the mix of financial asset portfolios, reasonable and 
supportable forecast period assumptions, reversion techniques, the data 
used for historical loss information, and other factors.
    When used prudently, comparisons of estimated expected losses to 
actual write-offs, ratio analysis, and peer comparisons can be helpful 
as a supplemental check on the reasonableness of management's 
assumptions and analyses. Because appropriate ACLs are institution-
specific estimates, the use of comparisons does not eliminate the need 
for a comprehensive analysis of financial asset portfolios and the 
factors affecting their collectibility.
    When an appropriate expected credit loss framework has been used to 
estimate expected credit losses, it is inappropriate for the board of 
directors or management to make further adjustments to ACLs for the 
sole purpose of reporting ACLs that correspond to a peer group median, 
a target ratio, or a budgeted amount. Additionally, neither the board 
of directors nor management should further adjust ACLs beyond what has 
been appropriately measured and documented in accordance with FASB ASC 
Topic 326.
    After analyzing ACLs, management should periodically validate the 
loss estimation process, and any changes to the process, to confirm 
that the process remains appropriate for the institution's size, 
complexity, and risk profile. The validation process should include 
procedures for review by a party with appropriate knowledge, technical 
expertise, and experience who is independent of the institution's 
credit approval and ACL estimation processes. A party who is 
independent of these processes could be from internal audit staff, a 
risk management unit of the institution independent of management 
supervising these processes, or a contracted third-party. One party 
need not perform the entire analysis as the validation may be divided 
among various independent parties.\27\
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    \27\ Engaging the institution's external auditor to perform the 
validation process described in this paragraph when the external 
auditor also conducts the institution's independent financial 
statement audit, may impair the auditor's independence under 
applicable auditor independence standards and prevent the auditor 
from performing an independent audit of the institution's financial 
statements.
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Responsibilities of the Board of Directors

    The board of directors, or a committee thereof, is responsible for 
overseeing management's significant judgments and estimates used in 
determining appropriate ACLs. Evidence of the board of directors' 
oversight activities is subject to review by examiners. These 
activities should include, but are not limited to:
     Retaining experienced and qualified management to oversee 
all ACL and PCL activities;
     Reviewing and approving the institution's written loss 
estimation policies, including any revisions thereto, at least 
annually;

[[Page 25487]]

     Reviewing management's assessment of the loan review 
system and management's conclusion and support for whether the system 
is sound and appropriate for the institution's size and complexity;
     Reviewing management's assessment of the effectiveness of 
processes and controls for monitoring the credit quality of the 
investment portfolio;
     Reviewing management's assessments of and justifications 
for the estimated amounts reported each period for the ACLs and the 
PCLs;
     Requiring management to periodically validate, and, when 
appropriate, revise loss estimation methods;
     Approving the internal and external audit plans for the 
ACLs, as applicable; and
     Reviewing any identified audit findings and monitoring 
resolution of those items.

Responsibilities of Management

    Management is responsible for maintaining ACLs at appropriate 
levels and for documenting its analyses in accordance with the concepts 
and requirements set forth in GAAP, regulatory reporting requirements, 
and this policy statement. Management should evaluate the ACLs reported 
on the balance sheet as of the end of each period (and for credit 
unions, prior to paying dividends), and debit or credit the related 
PCLs to bring the ACLs to an appropriate level as of each reporting 
date. The determination of the amounts of the ACLs and the PCLs should 
be based on management's current judgments about the credit quality of 
the institution's financial assets and should consider known and 
expected relevant internal and external factors that significantly 
affect collectibility over reasonable and supportable forecast periods 
for the institution's financial assets as well as appropriate reversion 
techniques applied to periods beyond the reasonable and supportable 
forecast periods. Management's evaluations are subject to review by 
examiners.
    In carrying out its responsibility for maintaining appropriate 
ACLs, management should adopt and adhere to written policies and 
procedures that are appropriate to the institution's size and the 
nature, scope, and risk of its lending and investing activities. These 
policies and procedures should address the processes and activities 
described in the ``Documentation Standards'' section of this policy 
statement.
    Management fulfills other responsibilities that aid in the 
maintenance of appropriate ACLs. These activities include, but are not 
limited to:
     Establishing and maintaining appropriate governance 
activities for the loss estimation process(es). These activities may 
include reviewing and challenging the assumptions used in estimating 
expected credit losses and designing and executing effective internal 
controls over the credit loss estimation method(s);
     Periodically performing procedures that compare credit 
loss estimates to actual write-offs, at the portfolio level and in 
aggregate, to confirm that amounts recorded in the ACLs were sufficient 
to cover actual credit losses. This analysis supports that appropriate 
ACLs were recorded and provides insight into the loss estimation 
process's ability to estimate expected credit losses. This analysis is 
not intended to reflect the accuracy of management's economic 
forecasts;
     Periodically validating the loss estimation process(es), 
including changes, if any, to confirm it is appropriate for the 
institution; and
     Engaging in sound risk management of third parties 
involved \28\ in ACL estimation process(es), if applicable, to ensure 
that the loss estimation processes are commensurate with the level of 
risk, the complexity of the third-party relationship and the 
institution's organizational structure.
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    \28\ Guidance on third party service providers may be found in 
SR Letter 13-19/Consumer Affairs Letter 13-21, Guidance on Managing 
Outsourcing Risk (FRB); Financial Institution Letter (FIL) 44-2008, 
Guidance for Managing Third Party Risk (FDIC); Supervisory Letter 
No. 07-01, Evaluating Third Party Relationships (NCUA); and OCC 
Bulletin 2013-29, Third Party Relationships: Risk Management 
Guidance, OCC Bulletin 2017-7, Third Party Relationships: 
Supplemental Examination Procedures, and OCC Bulletin 2017-21, Third 
Party Relationships: Frequently Asked Questions to Supplement OCC 
Bulletin 2013-29.
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    Additionally, if an institution uses loss estimation models in 
determining expected credit losses, management should evaluate the 
models before they are employed and modify the model logic and 
assumptions, as needed, to help ensure that the resulting loss 
estimates are consistent with GAAP and regulatory reporting 
requirements.\29\ To demonstrate such consistency, management should 
document its evaluations and conclusions regarding the appropriateness 
of estimating credit losses with models. When used for multiple 
purposes within an institution, models should be specifically adjusted 
and validated for use in ACL loss estimation processes. Management 
should document and support any adjustments made to the models, the 
outputs of the models, and compensating controls applied in determining 
the estimated expected credit losses.
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    \29\ See the interagency statement titled, Supervisory Guidance 
on Model Risk Management, published by the Board in SR Letter 11-7 
and OCC Bulletin 2011-12 on April 4, 2011. The statement also 
addresses the incorporation of vendor products into an institution's 
model risk management framework following the same principles 
relevant to in-house models. The FDIC adopted the interagency 
statement on June 7, 2017. Institutions supervised by the FDIC 
should refer to FIL-22-2017, Adoption of Supervisory Guidance on 
Model Risk Management, including the statement of applicability in 
the FIL.
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Examiner Review of ACLs

    Examiners are expected to assess the appropriateness of 
management's loss estimation processes and the appropriateness of the 
institution's ACL balances as part of their supervisory activities. The 
review of ACLs, including the depth of the examiner's assessment, 
should be commensurate with the institution's size, complexity, and 
risk profile. As part of their supervisory activities, examiners 
generally assess the credit quality and credit risk of an institution's 
financial asset portfolios, the adequacy of the institution's credit 
loss estimation processes, the adequacy of supporting documentation, 
and the appropriateness of the reported ACLs and PCLs in the 
institution's regulatory reports and financial statements, if 
applicable. Examiners may consider the significant factors that affect 
collectibility, including the value of collateral securing financial 
assets and any other repayment sources. Supervisory activities may 
include evaluating management's effectiveness in assessing credit risk 
for debt securities (both prior to purchase and on an on-going basis). 
In reviewing the appropriateness of an institution's ACLs, examiners 
may:
     Evaluate the institution's ACL policies and procedures and 
assess the loss estimation method(s) used to arrive at overall 
estimates of ACLs, including the documentation supporting the 
reasonableness of management's assumptions, valuations, and judgments. 
Supporting activities may include, but, are not limited to:
    [cir] Evaluating whether management has appropriately considered 
historical loss information, current conditions, and reasonable and 
supportable forecasts, including significant qualitative factors that 
affect the collectibility of the financial asset portfolios;
    [cir] Assessing loss estimation techniques, including loss 
estimation models, if applicable, as well as the incorporation of 
qualitative adjustments to determine whether the resulting estimates of 
expected credit losses are in

[[Page 25488]]

conformity with GAAP and regulatory reporting requirements; and
    [cir] Evaluating the adequacy of the documentation and the 
effectiveness of the controls used to support the measurement of the 
ACLs;
     Assess the effectiveness of board oversight as well as 
management's effectiveness in identifying, measuring, monitoring, and 
controlling credit risk. This may include, but is not limited to, a 
review of underwriting standards and practices, portfolio composition 
and trends, credit risk review functions, risk rating systems, credit 
administration practices, investment securities management practices, 
and related management information systems and reports;
     Review the appropriateness and reasonableness of the 
overall level of the ACLs relative to the level of credit risk, the 
complexity of the institution's financial asset portfolios, and 
available information relevant to assessing collectibility, including 
consideration of current conditions and reasonable and supportable 
forecasts. Examiners may include a quantitative analysis (e.g., using 
management's results comparing expected write-offs to actual write-offs 
as well as ratio analysis) to assess the appropriateness of the ACLs. 
This quantitative analysis may be used to determine the reasonableness 
of management's assumptions, valuations, and judgments and understand 
variances between actual and estimated credit losses. Loss estimates 
that are consistently and materially over or under predicting actual 
losses may indicate a weakness in the loss forecasting process;
     Review the ACLs reported in the institution's regulatory 
reports and in any financial statements and other key financial reports 
to determine whether the reported amounts reconcile to the 
institution's estimate of the ACLs. The consolidated loss estimates 
determined by the institution's loss estimation method(s) should be 
consistent with the final ACLs reported in its regulatory reports and 
financial statements, if applicable;
     Verify that models used in the loss estimation process, if 
any, are subject to initial and ongoing validation activities. 
Validation activities include evaluating and concluding on the 
conceptual soundness of the model, including developmental evidence, 
performing ongoing monitoring activities, including process 
verification and benchmarking, and analyzing model output.\30\ 
Examiners may review model validation findings, management's response 
to those findings, and applicable action plans to remediate any 
concerns, if applicable. Examiners may also assess the adequacy of the 
institution's processes to implement changes in a timely manner; and
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    \30\ See footnote 29.
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     Review the effectiveness of the institution's third-party 
risk management framework associated with the estimation of ACLs, if 
applicable, to assess whether the processes are commensurate with the 
level of risk, the complexity and nature of the relationship, and the 
institution's organizational structure. Examiners may determine whether 
management monitors material risks and deficiencies in third-party 
relationships, and takes appropriate action as needed.\31\
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    \31\ See footnote 28.
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    When assessing the appropriateness of ACLs, examiners should 
recognize that the processes, loss estimation methods, and underlying 
assumptions an institution uses to calculate ACLs require the exercise 
of a substantial degree of management judgment. Even when an 
institution maintains sound procedures, controls, and monitoring 
activities, an estimate of expected credit losses is not a single 
precise amount and may result in a range of acceptable outcomes for 
these estimates. This is a result of the flexibility FASB ASC Topic 326 
provides institutions in selecting loss estimation methods and the wide 
range of qualitative and forecasting factors that are considered.
    Management's ability to estimate expected credit losses should 
improve over the contractual term of financial assets as substantive 
information accumulates regarding the factors affecting repayment 
prospects. Examiners generally should accept an institution's ACL 
estimates and not seek adjustments to the ACLs, when management has 
provided adequate support for the loss estimation process employed, and 
the ACL balances and the assumptions used in the ACL estimates are in 
accordance with GAAP and regulatory reporting requirements. It is 
inappropriate for examiners to seek adjustments to ACLs for the sole 
purpose of achieving ACL levels that correspond to a peer group median, 
a target ratio, or a benchmark amount when management has used an 
appropriate expected credit loss framework to estimate expected credit 
losses.
    If the examiner concludes that an institution's reported ACLs are 
not appropriate or determines that its ACL evaluation processes or loss 
estimation method(s) are otherwise deficient, these concerns should be 
noted in the report of examination and communicated to the board of 
directors and senior management.\32\ Additional supervisory action may 
be taken based on the magnitude of the shortcomings in ACLs, including 
the materiality of any errors in the reported amounts of ACLs.
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    \32\ Each agency has formal and informal communication channels 
for sharing supervisory information with the board of directors and 
management depending on agency practices and the nature of the 
information being shared. These channels may include, but are not 
limited to, institution specific supervisory letters, letters to the 
industry, transmittal letters, visitation findings summary letters, 
targeted review conclusion letters, or official examination or 
inspection reports.

Michael J. Hsu,
Acting Comptroller of the Currency.

    By order of the Board of Governors of the Federal Reserve 
System.
Ann E. Misback,
Secretary of the Board.

Federal Deposit Insurance Corporation.

    By order of the Board of Directors.

    Dated at Washington, DC, on March 31, 2023.
James P. Sheesley,
Assistant Executive Secretary.

    By the National Credit Union Administration Board.
Melane Conyers-Ausbrooks,
Secretary of the Board.
[FR Doc. 2023-08876 Filed 4-26-23; 8:45 am]
BILLING CODE 4810-33-P; 6210-01-P; 6714-01-P; 7535-01-P