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The New PPP – Policy, Procedures and Planning

Posted on June 21, 2022 Published by

In our April 2022 blog, we outlined a high-level overview of the coming (or already here) Current Expected Credit Loss (CECL) requirements as set forth in the Interagency Policy Statement on Allowance for Credit Losses and ASC guidance 326-20. As discussed in the April installment, implementation of the new standards for addressing how financial institutions account for credit losses promises to be the most significant accounting project for financial institutions for the next five years. There is nowhere to run and nowhere to hide, as all lending institutions will be affected by the new standards and time is running out to develop, document, test, and implement the new requirements. Are you ready?

The New PPP – Policy, Procedures and Planning

Over the next couple of months, we will be presenting a series of blogs looking at separate phases of CECL implementation. The harsh reality is that if your institution has not started the process, you are already quite a distance behind. In this first installment, we will be looking at the early implementation phase. The next installments will look at later phase implementation. The final edition will focus on conducting parallel runs, model validation, and comparison to existing incurred loss calculations.

Given the complexity and subjective nature of the CECL calculation, it is important to define the governance and controls to support the models’ approaches and management judgements. Imperative in this initial phase of drafting policies and procedures will be to assure that the approach will meet all the requirements set forth in the Interagency Agreement. This analysis should consider your institution’s portfolio complexity, ability of staff to prepare and document the program, the need for in-house training for implementation, and buy-in to the overall approach at the highest levels in the organization.

CECL Implementation

CECL implementation involves enterprise-level issues and considerations. Accordingly, it is recommended that implementation and oversight be under the direction of the Board of Directors. As early adoption institutions have determined, CECL is a “project” to complete. There is a need to have a plan that defines the “who, what, and when” for each step in the process. The Board of Directors should consider creation of a CECL Committee. This consists of the key stakeholders in the allowance calculation including finance, credit, risk, internal/external audit, and potentially technology. CECL is a credit risk exercise. It is critical to consider the impact on pricing, risk ratings, earnings, and capital. It is also a critical financial model and will be subject to examiner and audit review.

For the early implementation phase, the outcome or goals would be “established policies and procedures”. Key deliverables by the committee may include future GAAP disclosures, call reports and other reporting, and an updating of the allowance policy, procedures, and internal controls.

Policy Disclosures and Descriptions

Examples of policy disclosures and descriptions may include:

  1. How expected loss estimates are developed.
  2. Accounting policies and allowance methodology plus discussion of any factors effecting management estimates.
  3. Risk characteristics relevant to portfolio segments.
  4. Changes to accounting policy.
  5. Reasons for significant changes in charge-offs.

Key questions each institution should be asking themselves at this point are:

  1. Does our policy address the requirements of both ASC 326-20 and the Interagency Policy Statement on Allowance for Credit Losses?
  2. Are the methodologies and/or systems appropriate for our size, complexity, and risk profile?

Documenting each step in the process will help prepare your institution for model validation and review by auditors and examiners.

Coming Up

Stay tuned next month as we look at issues surrounding later-stage implementation. This includes data gathering and scrubbing, sources of data and data quality, consideration of portfolio segmentation, and analysis methodologies.

Implementation of CECL is a long and challenging road. For some of you, the adventure may be just beginning while others are neck deep in implementation. Enlighten Financial stands ready to be a second set of eyes to assure that you are on the right path and have addressed the required regulatory issues. If your process is complete and you need outside validation before facing scrutiny from regulators, auditors, or shareholders, we look forward to assisting you in that process.

 

Richard Rudolph is Senior Consultant at Enlighten Financial, a specialized consulting firm that focuses on loan review and risk management services to community banks and credit unions. Enlighten Financial has made it our business to shed light on the complex financial landscape. We lead clients in the right direction. We work with financial institutions and other providers to mitigate risk. To talk to Rick directly, please call: 920.445.8133.

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— Meghann Kasper, Chief Credit Officer, Bank First
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— Bill Beardsley, President, Michigan Business Connection
“By questioning some of our methodologies, Enlighten has helped us say, ‘Okay, this is where we need to train staff better and focus on so that they understand what they're doing better.”
— Robert McPherson, VP of Risk Management, Peoples State Bank
“The organization of the communication — before, during, and after the reporting process — was certainly better with Enlighten than what I've experienced with a lot of auditors.”
— Bill Beardsley, President, Michigan Business Connection
“The staff at Enlighten have been available for questions, in addition to the engaged work that they do. They've been very helpful as a resource beyond the major audit.”
— Meghann Kasper, Chief Credit Officer, Bank First
“Enlighten gives us a very good second set of eyes on our transactions. They're not afraid to challenge us on some of the work that we've done, which is what is needed. I don't need to pay somebody to tell me I'm good, I need to pay somebody to tell me where I've made mistakes.”
— Robert McPherson, VP of Risk Management, Peoples State Bank
“Enlighten provided industry best practices that weren’t going to show up in an audit report. They would say, ‘Hey, I noticed you do this. This is really unique, you do a really great job of it.’ And then they might add, ‘Some other clients that I have are doing something like this.’”
— Bill Beardsley, President, Michigan Business Connection
“By questioning some of our methodologies, Enlighten has helped us say, ‘Okay, this is where we need to train staff better and focus on so that they understand what they're doing better.”
— Robert McPherson, VP of Risk Management, Peoples State Bank
“The organization of the communication — before, during, and after the reporting process — was certainly better with Enlighten than what I've experienced with a lot of auditors."
— Bill Beardsley, President, Michigan Business Connection