What NFPs need to know about CECL

Does existing guidance on current expected credit loss (CECL) apply to not-for-profit organizations (NFPs)? The answer depends on the types of financial assets an NFP holds.

FASB Accounting Standards Update (ASU) No. 2016-13, Financial Instruments — Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments, replaced the previous incurred loss impairment approach with one that addresses expected credit losses and calls for consideration of a wider array of information to develop credit loss estimates.

When it was released, many might have thought that a standard on credit losses applied only to financial institutions, said Pete Ugo, CPA, NFP audit partner at Crowe, FASB Not-for-Profit Advisory Committee member, and chair of the AICPA’s NFP Expert Panel. “But when you dig into the details, it really applies to a wide range of industries, including not-for-profits,” he said.

The standard became effective for all NFPs for fiscal years beginning after Dec. 15, 2022.

A shift in emphasis

Originally developed in reaction to issues that led to the 2008 financial crisis and to diversity in practice, the CECL standard shifted the emphasis to a forward-looking approach in regard to losses. While in the past, NFPs might have considered only their historical default rate in setting an allowance for credit losses, “under CECL rules, that’s only the starting point,” Ugo said.

The next step is to consider current and expected items.

Paul Preziotti, CPA, a partner with Johnson Lambert LLP in the firm’s not-for-profit audit practice and a member of the AICPA Not-for-Profit Advisory Council, recommended that organizations begin by understanding which assets are scoped into the standard. Contributions receivable, for example, are not subject to CECL rules, but loan receivables, trade receivables resulting from exchange transactions, and promissory notes receivable are among the items scoped into the requirements.

Whether CECL applies depends on the NFP’s financial assets in the scope of the standard, Preziotti said in an AICPA Not-for-Profit Section Ideacast. Because there is no one-size-fits-all model, organizations will have to think about the nature of the financial assets involved, as well as about the materiality of any potential loss.

A trade association that has only trade receivables, such as membership dues or conference registration fees, could use an aging schedule to review losses over the past five years and apply that to the modeling. If there is a low loss rate, then this step may be sufficient.

On the other hand, consider a community development financial institution that has loans receivable related to a small business loan program that it runs. Even if the loans have a high chance of being repaid, they could be more complex than trade receivables based on the nature of the financial asset, so the NFP may need to develop a loss rate based on a number of qualitative and quantitative factors, Preziotti said.

New guidance for NFPs

Programmatic investments, which an NFP may make to another entity to support its programs, are also among the items to be considered under the CECL requirements. The investments may be made as contributions, as low- or no-interest loans, or as loans at full market interest rates. “There are different accounting considerations depending on how the transaction is structured,” Ugo said.

The updated Not-for-Profit Guide: Revisions to Chapter 8, Programmatic Investments, for Application of FASB ASC 326, Credit Losses, offers a variety of examples to help CPAs consider issues such as recording certain elements of a programmatic investment as a contribution expense versus a potential credit loss.

The programmatic loan consideration applies to a very specific set of NFPs, generally foundations that are making loans, so many may not be affected, and some may already have increased their allowance in response to declines in economic growth or investment returns.

The changes in the NFP guide are designed to drive greater consideration of current and expected economic trends, particularly those affecting an NFP’s loan recipients. NFPs will have to think more broadly than in the past about whether their loss allowance should be increased based on those trends, Ugo said.

Ongoing monitoring needed

In implementing CECL, “organizations may need to spend more time understanding trends that could affect their loans,” Ugo said, but he added implementation should not be overly time-consuming.

Once NFPs get past initial adoption, Preziotti said, continued monitoring will be necessary. “You need to look at loans that are modified, particularly those that have been modified due to financial difficulty,” he added. In those cases, the organization will have to analyze the impact of those difficulties and ensure compliance with disclosure requirements.

NFPs should also reevaluate their allowance models each year to determine if they still apply based on updated market conditions. In a rapidly changing marketplace, the nature and scope of assets may fluctuate frequently, Preziotti said.

A CECL practical expedient

FASB has proposed a practical expedient to address challenges that private companies and certain NFPs have faced with the CECL guidance, particularly when making extensive forecasts of future economic conditions, Ugo said.

The proposed expedient, Financial Instruments — Credit Losses (Topic 326): Measurement of Credit Losses for Accounts Receivable and Contract Assets for Private Companies and Certain Not-For-Profit Entities, allows eligible NFPs to use a simplified approach to estimating credit losses, thus reducing the burden of complex forecasting.

Another aspect of the expedient adapts requirements to allow the consideration of subsequent collections, Ugo said.

— Anita Dennis is a New Jersey-based freelance writer. To comment on this article or to suggest an idea for another article, contact Jeff Drew at Jeff.Drew@aicpa-cima.com.

RESOURCES

2024 Not-for-Profit Entities — Audit and Accounting Guide

The publication helps with the application of FASB ASC Topic 326, Credit Losses (CECL), including recent revisions to Chapter 8, on programmatic investments. With recent guidance on the current expected credit losses (CECL) methodology, this guide addresses accounting implementation and audit issues from risk assessment and planning to audit execution.

Illustrative financial statements and Form 990 for a small nongovernmental not-for-profit with multiple revenue streams provides a sample financial statement, “Save Our Charities,” with examples and sample formats for NFPs, available to members of the AICPA Not-for-Profit Section.