Smaller Banks Can Avoid Using Complex Models in Calculating Loss Reserves

March 19, 2018

Community bankers could be exempt from using the complex models necessary to comply with the Financial Accounting Standards Board’s (“FASB”) credit loss standard. Banking regulators said that the current expected credit loss model under Accounting Standards Update (ASU) No. 2016-13, Financial Instruments — Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments, is flexible enough that smaller lending institutions are not required to purchase expensive software or use complex modeling techniques to meet the standard’s provisions for calculating loss reserves.

During a February 27 webcast, the Federal Reserve’s Joanne Wakim stated that small banks could calculate loss reserves using a spreadsheet. Wakim, the Federal Reserve’s assistant director and chief accountant, mentioned that banks could select a more complex model or buy a vendor solution, depending on their preference. Regardless of choice, she remarked that agencies would not require banks to do something else.

Federal Deposit Insurance Corporation chief accountant Robert Storch echoed Wakim’s sentiments. Storch said the FASB credit loss standard does not indicate a single approach for calculating expected credit losses. According to him, any reasonable method is permitted if the estimate of credit losses accomplishes the goal of the new methodology.

Banking regulators offered various examples showing how smaller banks can calculate loan losses and noted that no one approach is better than another. Additionally, banks might have to use different methods for other pools of loans, depending on facts and conditions.

ASU No. 2016-13 is considered the most significant update to bank accounting in decades. The standard is effective in 2020 and 2021, conditional upon a banking institution’s size.