ASC TOPIC 326

Rödl & Partner Accounting Matters, published December 8, 2023

For private companies the new US GAAP accounting standard ASC 326, Financial Instruments – Credit Losses, became effective for financial statement periods beginning after December 15, 2022, which will be the 2023 financial statements for calendar year end companies. It replaces the existing “incurred loss” model for recognizing credit losses. The new guidance applies to loans, trade receivables and all other financial assets that carry the contractual right to receive cash. The measurement of expected credit losses will be based on relevant information about past events, including historical experience, current conditions, and reasonable and supportable forecasts affecting the collectability of the reported financial assets. All those factors are considered in the current expected credit loss (CECL) model.

The new guidance expands the data that must be considered in developing expected credit loss estimates to include forecasted information. While existing methods could, in many cases, continue to be applied under the new rules, the inputs used to record the allowance for credit losses will need to change to reflect an estimate of all expected credit losses (this includes current accounts receivable) and the use of reasonable and supportable forecasts.

To assess your readiness, you should consider the following:

Have you recorded credit losses on all loans, trade receivables and other financial assets that carry the contractual right to receive cash?
Have your considered relevant information about past events, including historical experience, current conditions, and reasonable and supportable forecasts.

If the answer to one or both questions is NO, it’s time to take action.

While ASC 326 lists several common CECL models that can be used, including loss-rate methods, roll-rate methods and methods that utilize an aging schedule, there is no method defined. The new standard will most likely impact all companies when determining the allowance for doubtful accounts. This allowance is described as allowance for credit losses under the new guidance.

Historically, privately held companies based their allowance for doubtful accounts receivable either on aging or a customer-by-customer review, if there was specific risk associated. However, there are additional steps and documentation requirements that must be met to determine the allowance for credit losses as of December 31, 2023:

Aggregate your customer balances in the trade receivables aging based on similar risk characteristics, which may include one or a combination of the following: internal/external credit score, risk ratings, collateral/guarantee, size, term, geographical location, industry, age, historic loss patterns.
For the aggregated customer receivables aging, review past credit losses, and consider the need to adjust historical information to reflect the extent to which you expect current conditions and reasonable and supportable forecasts to differ from the conditions that existed for the period over which historical information was evaluated. The adjustments to historical loss information should reflect changes related to relevant data (such as changes in unemployment rates, property values, commodity values, delinquency, or other factors that are associated with credit losses on the financial asset or in the group of financial assets).
Apply the expected loss percentage to each outstanding balance of the aggregated customer receivables aging.
Document how you determined which customers to aggregate and the percentage applicable to each aggregation.

Please note that the process described above is only one of several possible CECL methods to calculate and document the allowance for credit losses.

The good news: You are not alone. If you have any questions, please contact your local Rödl & Partner representative.

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