The American Institute of CPAs (AICPA) recently held its annual National Conference on Banks & Savings Institutions in Washington, D.C., with nearly 1,400 attendees from public accounting firms, public and privately held banks and regulatory agencies. The conference focused on accounting, regulatory and industry issues affecting banks. Here are some themes of particular interest to community banks from this year’s conference.
Current Expected Credit Loss
One focus was the current expected credit loss (CECL) model, as the new standard was finalized in 2016. CECL was covered by eight sessions, including various industry panels and presentations by the federal regulators’ chief accountants, representatives from the U.S. Securities and Exchange Commission (SEC) and the Financial Accounting Standards Board.
Institutions were encouraged to start moving forward with implementation planning; this requires a group of individuals representing various aspects of the bank’s operations, not just the accounting and loan departments. It was suggested that banks start by taking a data inventory: What available information does your organization have, and what additional information is needed? Banks also were encouraged to consider the best approach for each loan type, i.e., CECL methodologies implemented for the commercial real estate portfolio aren’t necessarily the best approach for the consumer loan portfolio.
In addition, potential changes to qualitative factors were discussed. New considerations in the factors may need to be added due to CECL, such as:
- Loan term
- Maturity date
- Fixed versus variable rate
- Credit rating
- Economic cycle
A consistent concern expressed by smaller community banks is the magnitude of modeling required for CECL. Representatives from each federal regulator stated their examiners were told CECL is scalable depending on the bank’s size. Federal regulators also pointed out that they’ll work through this new methodology along with everyone else and address issues as they arise. Banks were encouraged to discuss proposed changes with external auditors, peer banks and regulators.
On a related topic, banks were encouraged to take a more robust approach to documenting their qualitative factors within the current Allowance for Loan and Lease Losses (ALLL) model. The qualitative factors are becoming a larger, more significant part of the ALLL balance. Qualitative adjustments to the historical charge-off experience should reflect current conditions differing from those that existed during the look-back period. Identified practice issues for supporting these qualitative adjustments include:
- Failing to document the starting point
- Not identifying the loss drivers
- Compounding qualitative-factor adjustments
- Relying solely on subjective narrative, i.e., not quantifying the qualitative
An interesting presentation examined cyberattack trends and statistics, recent regulatory and compliance drivers and perspectives on cybersecurity risk management. The average number of malware per week in the financial services industry is staggering. Statistically, 50 percent of phishing attack emails are opened within the first hour of receiving them.
Presenters encouraged organizations to constantly remind employees of cybersecurity risk management by focusing on three themes. First, are controls in place to guard against known and emerging threats? Second, banks need to remain vigilant against such attacks: Can the bank detect malicious or unauthorized activity? Finally, banks must be resilient: Can the bank quickly act to reduce the effect?
Additional suggestions for organizations included:
- Focus on risks from third parties that access critical systems and sensitive information, use cloud providers or engage subcontractors
- Prioritize security controls for critical areas
- Test readiness by simulating attacks in a business scenario
Proposed Call Report Changes
The Federal Deposit Insurance Corporation chief accountant discussed the “Community Bank Call Report Burden-Reduction Initiative.” The proposed new streamlined Federal Financial Institution Examination Council 051 Call Report for small institutions comment deadline was October 13, 2016. The proposed effective date is March 31, 2017. The initial proposed changes focus on removing data items no longer necessary for collection on smaller institutions and reducing the frequency of reporting other data items. Additional changes already were identified by ongoing interagency reviews and are anticipated to be included in future proposals with a March 31, 2018, effective date.
Public Business Entity
There still is some confusion in the financial institution industry regarding public business entities. The definition covers more than just entities that file with the SEC. The distinction is gaining importance because of differences for:
- Effective dates
- Recognition and measurement alternatives
New lease standards will go into effect soon. Prior to the effective date, institutions need to consider:
- Updating policies and procedures as necessary
- How new standards will affect financial statement presentations and/or regulatory capital calculations
- Sale leaseback arrangements
- How the standards will affect borrowers’ calculations of ratios and covenants
Deferred Tax Assets
Tax law isn’t governed and, therefore, isn’t affected by changes to generally accepted accounting principles. Banks need to consider how the implementation of the new standards will affect their deferred tax assets (DTA) balance. For example, if the adoption of CECL significantly increases a bank’s ALLL, the related DTAs also will increase. The effect of this change could affect the bank’s Common Equity Tier 1 capital to the extent the increased DTAs are subject to calculation limitations. Other new standards, including Accounting Standards Update 2016-02—Leases, will have an effect on the net DTA balance. Proposed corporate tax rate cuts planned by President-elect Trump, if passed, could significantly decrease a bank’s DTA. If a bank’s capital requirement is negatively affected, tax planning opportunities should be considered to reduce the effects.
Contact your BKD advisor for more information on how these and other issues could affect your institution.