The FASB on June 27, 2023, issued a proposal to obtain public comment on changes to provide a single accounting model for all acquired financial assets in the credit losses standard. The proposal responds to concerns raised by businesses that today’s rules are complex and do not result in useful information for investors.
Companies have until Aug. 28 to submit comments on the guidance which was issued under Proposed Accounting Standards Update (ASU) No. 2023-ED400, Financial Instruments—Credit Losses (Topic 326) Purchased Financial Assets.
The proposal will amend the current expected credit losses (CECL) standard which is deemed to be complex as it requires two different models for acquired financial assets depending on a borrower’s creditworthiness.
Specifically, the CECL standard has two models for assets such as loans purchased in a business combination or acquisition: 1) purchased credit deteriorated (PCD); and 2)non-PCD.
The board proposed to expand the purchased credit deteriorated (PCD) model to include high-quality loans, resulting in all loans being accounted for the same way under a new term “purchased financial assets” (PFA), according to the text. The non-PCD model – deemed to be unintuitive and causing banks to double count losses – will be eliminated.
Essentially, loans that are purchased in a business combination will apply what is currently the PCD model, and renamed purchased financial assets. And for loans that are purchased as assets there will be a seasoning criteria utilizing a bright line of 90 days or a principle. Those that meet that seasoning criteria will apply what is today known as the PCD model and those that do not meet the seasoning criteria will continue in the origination model under CECL
The changes will provide investors with better information as the distinction between PCD and non-PCD assets is not well understood, the board said in the “basis for conclusions” section of the proposal. The changes would also help financial statement preparers as they would no longer “be required to qualitatively assess the change in credit quality of acquired financial assets since origination.”
If finalized, the guidance would require modified retrospective application to the beginning of the fiscal year that an entity has adopted the amendments in ASU No. 2016-13, Financial Instruments—Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments. A cumulative-effect adjustment, if necessary, would be recorded as of the later of (1) the beginning of that reporting period and (2) the beginning of the earliest period presented.
Botosan Dissented
The proposal was issued with a 6 to 1 board vote. FASB member Christine Botosan, the board’s academic, dissented over concerns that the proposal does not address the presentation of interest revenue under the current purchased credit deterioration model.
In addition to other remarks, Botosan said she supports the proposed expanded scope of the PCD model because she believes that it responds to investors’ concerns about Day-1 recognition on the income statement of the expected credit loss as of the acquisition date, but is concerned that “without addressing the net presentation of interest revenue under the PCD model, this expansion will compound existing comparability issues.”
Furthermore, Botosan said she is disappointed that the “understandability, decision usefulness, cost, and operability of the PCD model with gross presentation of interest revenue have not been evaluated by the Board as part of this project.”
For in-depth analysis of the FASB’s guidance for credit losses, please see Catalyst: US GAAP—Financial Instruments-Impairment, also on Checkpoint.
This article originally appeared in the June 28, 2023 edition of Accounting & Compliance Alert, available on Checkpoint.
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