FASB’s new credit impairment rules for all entities other than SEC filers are effective as of January 1, 2023 for all those that have not yet adopted and have a calendar year-end. Subsequent to the CECL standard, FASB issued Accounting Standards Update (ASU) 2022-02, Troubled Debt Restructurings and Vintage Disclosures, which eliminated troubled debt restructuring (TDR) accounting for entities that have adopted CECL and adds new vintage disclosures for public business entities (PBEs).
TDR Accounting
The CECL standard did not change the guidance on how entities determine and measure a TDR. However, once an entity adopts ASU 2016-13, the CECL credit loss allowance captures the effect of most concessions, making the TDR guidance duplicative and unnecessary. ASU 2022-02 eliminated the TDR accounting guidance in Subtopic 310-40, Receivables—Troubled Debt Restructurings by Creditors, while enhancing disclosure requirements when a borrower is experiencing financial difficulty.
Rather than applying the TDR recognition and measurement guidance, an entity would apply the loan refinancing and restructuring guidance in Accounting Standards Codification (ASC) 310-20 to determine whether a modification results in a new loan or a continuation of an existing loan (see Appendix for modification guidance).
- If a financial asset is modified and considered to be a continuation of the original asset, an entity shall use the post-modification contractual interest rate to derive the effective interest rate when using a discounted cash flow method.
- For a loan extinguishment, the entity would treat the loan as if it underwrote a new loan and write off any unamortized deferred fees or costs and establish a new effective interest rate based on the loan terms.
Enhanced Disclosures
For each period an income statement is presented, an entity shall disclose the following information related to modifications of receivables made to debtors experiencing financial difficulty during the reporting period. Modifications can include principal forgiveness, interest rate reduction, an other-than-insignificant payment delay, or a term extension. For this disclosure, covenant waivers and modifications of contingent acceleration clauses are not considered term extensions and disclosure is limited to the four items below. However, if a receivable is modified in more than one manner, then—if significant—separate categories for types of combinations of modifications provided to borrowers may be necessary.
- By class of financing receivable, qualitative and quantitative information about:
- The types of modifications an entity used, including the total period-end amortized cost basis of the modified receivables and the percentage of modifications of receivables made to debtors experiencing financial difficulty relative to the total period-end amortized cost basis of receivables in the class of financing receivable
- The financial effect of the modification-by-modification type, including changes to the contractual terms as a result of the modification, the incremental effect of principal forgiveness on the amortized cost basis of the modified receivables, or the reduction in weighted-average interest rates (versus a range) for interest rate reductions
- Receivable performance in the 12 months after a modification of a receivable made to a debtor experiencing financial difficulty
- By portfolio segment, qualitative information about how those modifications and the debtors’ subsequent performance are factored into determining the allowance for credit losses
Receivables may be modified in more than one manner. For receivables with multiple modifications, entities should provide disclosures sufficient for users to understand the different types of combinations of modifications provided to borrowers. For example, a receivable may be modified to provide both principal forgiveness and an interest rate reduction. In that case, an entity shall disclose the period-end amortized cost basis of that receivable in a separate category that reflects that a combination of modification types has been granted. If another receivable was modified to provide both an interest rate reduction and a term extension, the period-end amortized cost basis of that receivable shall be presented in a different category. Multiple separate combination categories may be necessary if significant. The same receivable’s period-end amortized cost basis shall not be presented in multiple categories.
For each period an income statement is presented, an entity shall disclose the following information about financing receivables that had a payment default during the period and had been modified (principal forgiveness, interest rate reduction, an other-than-insignificant payment delay, or a term extension) within the previous 12 months preceding the payment default because the debtor was experiencing financial difficulty:
- By class of financing receivable, qualitative and quantitative information about those defaulted financing receivables, including the following:
- The type of contractual change that the modification provided
- The amount of financing receivables that defaulted, including the period-end amortized cost basis for receivables that defaulted
- By portfolio segment, qualitative information about how those defaults are factored into determining the allowance for credit losses
The ASU only requires an entity to look back at modifications made in the previous 12-month period before the current restructuring when determining whether a payment delay from the current restructuring is insignificant.
Early Adoption & Transition
For entities that have already adopted CECL, the changes are effective for fiscal years beginning after December 15, 2022, including interim periods. Early adoption, including adoption in any interim period as of the beginning of the fiscal year that includes that interim period, is permitted for financial statements of fiscal years or interim periods that have not been issued or made available for issuance.
An entity may elect to early adopt the TDR changes independently from the vintage disclosure changes below.
These changes should be applied prospectively from the beginning of the fiscal year of adoption for new modifications. An entity may elect to apply a modified retrospective transition by a cumulative-effect adjustment to the opening retained earnings as of the beginning of the fiscal year of adoption for any change in the credit losses allowance recorded for loans modified or reasonably expected to be modified in a TDR before the adoption of ASU 2022-02.
Vintage Disclosures – PBEs Only
ASU 2016-13 originally included a disclosure requirement for PBEs on credit quality. The example provided included lines for gross write-off and gross recoveries for each origination year, which were not included in the ASU language. After pushback, FASB removed this disclosure requirement in April 2019. Research indicated that financial statements users considered this detail decision-useful information and lobbied for at least gross write-off information.
ASU 2022-02 requires PBEs to present the gross write-offs recorded in the current period—on a current year-to-date basis—for financing receivables and net investments in leases by origination year.
A non-PBE could voluntarily disclose recovery information but is not required to do so.
Transition
This change would be applied on a prospective basis. Beginning in the period of adoption, a PBE would provide current-period gross write-offs in the vintage disclosures. Disclosure would not be required for prior-period comparative periods. For origination years before the fifth annual period, a PBE may present the gross write-offs in the current period for financing receivables and net investments in leases in the aggregate.
An entity could early adopt the TDR provisions and not early adopt the vintage disclosure provision until the required effective date—fiscal periods beginning after December 15, 2022.
Conclusion
The adoption of CECL can be complex and could require significant hours to implement correctly. If you would like assistance complying with the CECL standard, please reach out to a professional at FORVIS.
Appendix – Existing ASC 310 Loan Modification Guidance
ASC 310 provides guidance on whether—as a result of a loan refinancing or restructuring—a modified loan represents a new loan for accounting purposes. For modifications of loans that require new loan accounting, any unamortized net fees or costs and any prepayment penalties from the original loan must be recognized in interest income, and the modified loan must be initially recognized at fair value. However, if new loan accounting is not required, unless fees are received in connection with the modification, there would be no change in the net carrying amount of the loan as a result of the modification.
Under ASC 310-20-35-9 through 35-11, a modification results in a new loan for accounting purposes only if all the following conditions are met:
- The modification is not a TDR.
- The terms of the modified loan are at least as favorable to the lender as the terms of comparable loans to other customers with similar collection risks that are not refinancing or restructuring a loan with the lender. This condition would be met if the modified loan’s effective yield is at least equal to the effective yield for such newly originated loans.
- The modification is more than minor, i.e., the present value of the cash flows under the modified terms is at least 10% different from the present value of the remaining cash flows under the original terms, or the specific facts and circumstances otherwise suggest that the modification is more than minor.