Not-for-Profits: Credit Loss Standard Implementation (Topic 326)

General Considerations

In 2016, FASB issued Accounting Standards Update (ASU) No. 2016-13, Financial Instruments — Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments also known as Current Expected Credit Losses (CECL). Not-For-Profits (NFPs) must now forecast future economic conditions and record expected credit losses. While the new standard does not apply to contributions and pledge receivables, it does apply to note receivables and account receivables related to exchange like transaction revenues that fall under ASC Topic 606, and any other financial asset not scoped out where the NFP has the right to receive cash.  

Topic 326 has an extensive reach as it applies to all entities and most financial assets that are not measured at fair value through net income. This is a shift from an incurred-loss model to an expected-loss model and is intended to accelerate the recognition of impairments. Under the old standard, the incurred-loss model recorded an allowance for doubtful accounts based on historical experiences that would indicate actual collections or the lack thereof. Moving forward, the expected-loss method will record an allowance for credit losses (ACL) to be recognized at the origination of the asset for any expected credit losses. 

Effective Date

The new CECL standard is effective for fiscal years beginning after December 15, 2022. As such, implementation for NFPs will begin with the calendar years ended December 31, 2023. 

Management’s Responsibility in Measuring Expected Credit Losses

When determining the ACL, NFPs should consider historical loss experience, current conditions, and forecast of future conditions. Furthermore, like assets with similar risk characteristics can be pooled together during the CECL allowance analysis. However, assets varying in nature need to be analyzed on a case-by-case basis.  

When assessing historical loss experience consider both internal and external reports available, such as an aging schedule. Current economic conditions consist of qualitative and quantitative factors to be considered regarding any adjustments to historical loss experience. When forecasting future conditions, a reasonable forecast period should be utilized, and corresponding support and rationale properly documented. 

Assessment will vary depending on the type of asset, the information available, and NFP’s ability to predict the timing of cash flow. For NFPs that do not collect the necessary data already, management should be aware of any incremental costs for collecting and analyzing such data moving forward.   

How Can Your Not-for-Profit Prepare?

1. Determine which financial statement line items are required to have an ACL. 
2. Create an ACL account that will replace the allowance for doubtful accounts. 
3. Calculate and recognize the cumulative-effect adjustment for the ACL as of January 1, 2023.  
4. If there is an allowance for doubtful accounts before the adoption of CECL, the cumulative-effect adjustment will be the difference between the old allowance for doubtful accounts and the ACL. 

Management’s methodology for estimating credit losses should be well documented, including assumptions made, with clear explanations of the supporting analysis and rationale for the judgments made. 

Presentation and Disclosures

CECL disclosures should enable financial statement users to understand the accounting policy and quantitative changes. The accounting policy in the first footnote to the financial statements will need to include information related to the inherent credit risks, how credit quality is monitored, and methodology used to estimate the ACL. The related asset footnote should include a roll forward schedule of period-over-period changes. The disclosure requirements under the new CECL standard are principles-based and give entities flexibility to determine the nature and extent of the information to be disclosed. 

Key Takeaways

• NFPs are expected to record an ACL even if an allowance has never been recorded. 
• CECL is applicable to account receivables related to exchange like transaction revenues (Topic 606) and any other asset not scoped out where the NFP has the right to receive cash. 
• NFPs should consider the historical loss experience, current conditions, and forecast of future conditions. 
• Document management’s methodology for estimating credit losses.

Contact us if you have any questions or want more information on this new standard. 

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