Comments on Transition to the Current Expected Credit Loss Methodology
October 19, 2020
Gerard Poliquin
Secretary of the Board
National Credit Union Administration
1775 Duke Street
Alexandria, VA 22314
Re: NASCUS Comments on Transition to the Current Expected Credit Loss Methodology
Dear Mr. Poliquin:
The National Association of State Credit Union Supervisors (NASCUS)[1] submits this letter in response to the National Credit Union Administration’s (NCUA’s) request for comments on the proposed Transition to the Current Expected Credit Loss Methodology (CECL).[2] The proposed rule would provide for a phase-in of CECL’s day-one adverse effects on the regulatory capital of federally insured credit unions (FICUs) and permit FICUs with less than $10 million in assets to continue to use an incurred loss methodology for calculating allowance funding rather than implement CECL. NCUA’s proposed rule reflects supervisory concerns for the Financial Accounting Standards Board’s (FASB’s) Accounting Standards Update (ASU) No. 2016–13 effect on credit union regulatory capital upon mandatory implementation after December 15, 2022.[3] NASCUS shares NCUA’s concerns.
We support NCUA efforts to mitigate the day-one effect of the CECL methodology on capital levels while ensuring allowance accounts are appropriately funded, financials accurately reported, and the credit union system maintained in a safe and sound manner. NCUA is to be commended for proposing a rule designed to appropriately calibrate CECL for the credit union system. However, several changes are needed before the proposal is finalized and we offer several recommendations for NCUA’s consideration.
Credit Unions with Less Than $10 million in Assets that Implement CECL Should be Given the Option to Phase In the Day-One Effect
Proposed §702.402(d)(1)(ii)(A) and (B) would allow FICUs with less than $10 million in assets to continue to use the incurred loss methodology to calculate appropriate loan loss allowances or, in the case of federally insured state credit unions (FISCUs), the applicable standard pursuant to state law.[4] NASCUS supports exempting smaller credit unions from CECL to eliminate the potentially adverse PCA consequences that would result from implementation. However, the exemption as proposed is too narrow in its application.
As NCUA notes in the Supplemental Material, many states have state specific rules that require compliance with Generally Accepted Accounting Principles (GAAP) for FISCUs with less than $10 million in assets.[5]State credit union supervisors in some of those states have statutory or regulatory authority to waive GAAP, or otherwise to pass the benefit of the proposed rule through to FISCUs with less than $10 million in assets.[6]However, there are several states that require GAAP for all FISCUs regardless of size, with neither exception nor discretion for waiver or use of a federally prescribed alternate standard.
To mitigate the adverse day-one effect of the implementation of CECL for these FISCUs, NCUA’s final rule should make the proposed three-year phase in available to credit unions that must follow GAAP, regardless of the size of the credit union. As proposed, § 702.701(c) would limit the transition provisions of proposed § 702.703 to credit unions with “total assets of at least $10 million.”[7] We believe this limitation is inadvertent, rather than the result of a conscious policy decision to require small credit unions to implement CECL in a stricter manner than credit unions with more than $10 million in assets. Smaller FICUs whose state laws preclude them from electing to use a non-GAAP measure should be eligible for the three-year phase-in for their regulatory capital calculation.
Therefore, NCUA should amend proposed to § 702.701(c) to expand the applicability of the transition provisions to any FICU implementing CECL. A minor change in wording could extend the phase in benefit to small FISCUs required to adhere to GAAP.
Credit Unions that Reach $10 Million in Assets After January 1, 2023 Should be Afforded the Opportunity of a Three-Year Phase In of the Day-One Effect
As written, NCUA’s proposed rule limits the benefit of the three-year phase in to credit unions with at least $10 million in assets implementing CECL between December 15, 2022 and January 1, 2023 by “baking in” the transition period specifically to the reporting quarters commencing in 2023.[8] As a result, it would seem that a FICU with less than $10 million in assets on December 15, 2022, that reaches the $10 million asset threshold during the proposed transition period would be required to recognize the full day-one adverse effect of the CECL immediately. Requiring small credit unions to recognize the full cost of CECL immediately upon reaching $10 million in assets could force otherwise healthy credit unions into PCA remediation unnecessarily. Without the protection of a delayed phase in for credit unions that cross the $10 million asset threshold after January 1, 2023, a small credit union (ostensibly the very credit unions to which NCUA seeks to provide regulatory relief) would be required to recognize the full adverse effects of CECL on day-one while vastly larger and more sophisticated credit unions are still allowed to continue gradually phasing in the CECL effect. This inequitable outcome would run counter to the intent of the proposal to bend the curve of the adverse effect of CECL implementation.
NCUA should amend the proposed rule to allow small credit unions that surpass the $10 million asset threshold during the transition period a full three-year phase in to recognize the adverse day-one effects of CECL on regulatory capital.
Credit Unions with Assets of $10 Million or Greater Should Have the Option of Recognizing the Full Day-One Effect of CECL Immediately
NCUA’s proposed phase in of the effects of CECL is generally consistent with rules finalized for banks by the Office of the Comptroller of the Currency, The Federal Reserve Board, and the Federal Deposit Insurance Corporation (Federal Banking Agencies or FBAs) in 2019 and 2020.[9] In one important regard, however, NCUA’s proposed rule and the FBA’s final rules differ: the FBAs have provided covered banks the choice of whether to phase in the adverse day-one effect of CECL or to fully implement and recognize CECL cost on day one. NCUA’s proposal would require that all covered credit unions phase in the adverse effect of CECL.[10]
While NASCUS fully supports NCUA’s provision of an opportunity to phase in the day-one effects of CECL implementation, we urge NCUA also to allow credit unions the choice of recognizing the full day-one effect of CECL immediately rather than phasing in the costs over the three-year period.
A compelling reason for promulgating a phase in is the need to ensure maximum flexibility for covered credit unions implementing CECL in 2023 while they simultaneously focus on maintaining service to members that may still be managing economic dislocation. However, just as some banks and credit unions have chosen to implement CECL ahead of the implementation deadlines, it is foreseeable that some credit unions in 2023 may, for strategic reasons, wish to recognize the full cost and adverse effect on their capital of CECL in one year rather than phasing in the adverse effects over a prolonged period. In such cases, a credit union might determine that the one-time cost is a better choice than a prolonged effect over future uncertain fiscal years.
In the Supplementary Information for the proposed rule, NCUA states that the goal of the rule is to mitigate disruption caused by the implementation of CECL.[11] Denying some credit unions the ability to recognize the full adverse effect on day-one may prove more disruptive than giving the credit union the strategic opportunity to absorb the full cost in one healthy year rather than in future years when the credit union may have less capacity to absorb losses. For such credit unions, the proposal is relatively inflexible, and therefore may be more disruptive (contrary to NCUA’s stated goal) because for those credit unions the sole way for them to avoid the mandatory three-year phase in is to adopt CECL early.[12]
NCUA asserts that providing an opt-in or opt-out option for credit unions, and thus giving them parity with their bank peers, would create an unnecessary administrative burden for credit unions by requiring them to opt-in. NCUA also asserts an opt-in provision could harm credit unions in need of the phase-in if those credit unions somehow failed to opt-in. While such concerns may have merit in some cases, those concerns may both be addressed and mitigated by requiring credit unions to notify their state regulator and NCUA if they plan to choose day-one recognition and to specify their strategic reason(s) for this choice.
Thus, an opt-out provision could be enacted to provide maximum flexibility to credit unions. We would support a provision that presumes a phase in period unless a credit union affirmatively opts out. Such a provision provides credit unions parity with banks and maximizes the stated objectives of the proposal to eliminate disruptions by allowing credit unions to choose day-one recognition for a strategic reason of which they could be required to notify the NCUA.
NCUA Should Consider How CECL will be Incorporated into Stress Testing Requirements after Implementation
While not germane for this rulemaking, NASCUS notes that implementation of CECL could potentially impact stress testing before January 1, 2023. Incorporating CECL into the stress testing regimen will increase capital volatility within the modelling and complicate stress testing estimations.[13] It is our understanding NCUA has begun to address some of these issues with covered credit unions required to conduct stress testing. We urge NCUA to continue these discussions, including with state regulators, to ensure the regulatory stress testing framework can incorporate CECL when appropriate.
NASCUS appreciates the opportunity to submit comments to NCUA regarding the proposed Transition to the Current Expected Credit Loss Methodology. NASCUS, many state credit union regulators, and many state credit union system stakeholders remain concerned that the CECL methodology will be counter-productive when implemented for the credit union system. We agree with the sentiments expressed and specific points raised by Chairman Hood in the Chairman’s April 30, 2020 letter to the FASB.[14] We encourage NCUA to continue efforts to engage with the FASB to remediate this issue.
Sincerely,
– signature redacted for electronic publication –
Brian Knight
Executive Vice President & General Counsel
[1] NASCUS is the professional association of the nation’s 45 state credit union regulatory agencies that charter and supervise over 2,000 state credit unions. NASCUS membership includes state regulatory agencies, state chartered and federally chartered credit unions, and other important stakeholders in the state system. State chartered credit unions hold nearly half the $1.76 trillion assets in the credit union system and are proud to represent nearly half of the 123 million credit union members.
[2] Transition to the Current Expected Credit Loss Methodology, 85 Fed. Reg. 50963 (August 19, 2020).
[3] FASB ASU No. 2016–13, Financial Instruments—Credit Losses (Topic 326), Measurement of Credit Losses on Financial Instruments, June 2016, available at https://www.fasb.org/jsp/FASB/Document_C/DocumentPage&cid=1176168232528.
[4] 85 Fed. Reg. 50969 (August 19, 2020).
[5] Id at 50966.
[6] In addition, there are several states that require GAAP but have no SCUs with less than $10 million in assets.
[7] Id. at 50969.
[8] Id. at 50970.
[9] See Regulatory Capital Rule: Implementation and Transition of the Current Expected Credit Losses Methodology for Allowances and Related Adjustments to the Regulatory Capital Rule and Conforming Amendments to Other Regulations, 84 Fed. Reg. 4222 (February 14, 2019) and Regulatory Capital Rule: Revised Transition of the Current Expected Credit Losses Methodology for Allowances, 85 Fed. Reg. 17723 (March 31, 2020).
[10] 85 Fed. Reg. 50969 (August 19, 2020).
[11] 85 Fed. Reg. 50967 (August 19, 2020).
[12] To force credit unions to adopt CECL before 2023 seems an odd outcome for a rule intended to benefit credit unions by delaying the full effect of CECL beyond 2023.
[13] “Two Fixes for CECL’s Problematic Capital Impact,” David Wagner, Bank Policy Institute (May 22, 2019). Available at https://bpi.com/two-fixes-for-cecls-problematic-capital-impact/.
[14] “Impact of CECL on Credit Unions,” NCUA Chairman Rodney Hood letter to the Financial Accounting Standards Board (April 30, 2020). Available at https://www.ncua.gov/about-ncua/leadership/honorable-rodney-e-hood/publications-chairman-rodney-e-hood/letter-fasb-urging-cecl-exemption-credit-unions. https://www.ncua.gov/about-ncua/leadership/honorable-rodney-e-hood/publications-chairman-rodney-e-hood/letter-fasb-urging-cecl-exemption-credit-unions