CECL Implementation Concerns on WARM

Portfolio-level life of loan credit loss measurement and analysis is inherently complex, no matter the complexity of the institution. In the two-and-a-half years since the CECL standard was issued, the only substantial guidance provided to community banks from FASB or the banking regulators is that the Weighted Average Remaining Maturity (WARM) credit loss estimation method “may be acceptable.” No guidance has addressed the critical “Q factor” risk analysis process or the foreseeable questions resulting from required disclosures. ABA believes banks that rely on WARM are setting themselves up for significant challenges that exceed those to be experienced if they used other estimation methods. In fact, a bank that relies on WARM will likely perform more procedures for both the starting point calculation and the Q factor analysis than if it first relied on other estimation methods to calculate a starting point calculation. This can also be dangerous to banks that may believe they can significantly reduce the data and processing costs of CECL by relying on WARM, as they will have limited flexibility to change as general CECL practice evolves through the industry.

ABA presents a four-part framework to address the 23 risk characteristics and factors detailed in the CECL standard that set the basis for Q factor risk analysis and invites others to provide other frameworks. However, ABA has three main recommendations:

1. Believing that the lack of quality guidance has prevented many smaller banks from making significant progress in their implementation efforts, ABA recommends that the banking regulators call for a delay to the CECL effective date until substantial practice guidance is issued.

2. To alleviate the burden many banks will have in forecasting losses in the future on a regular basis, ABA is recommending that FASB approve a practical expedient that would allow a bank to record a credit loss allowance based on “through the cycle” loss rates.

3. Since many banks will struggle to have sufficient credit loss history, ABA recommends that granular “through the cycle” loss rates be acquired by the banking agencies and provided to smaller banks on a regular basis. Whether used for the practical expedient or not, such rates will be easier to calculate than those in WARM and will provide a common basis for banks to discuss their risk characteristics.