CECL: How an Obscure Accounting Change Could Negatively Impact Insurers

The new Current Expected Credit Loss accounting standard represents a fundamental shift in how insurers recognize credit losses in their reported earnings and is the subject of a public policy paper that I recently authored. The analysis provides an in depth look at how the Financial Accounting Standards Board arrived at its decision to introduce the CECL concept and how CECL, which replaces the current incurred loss approach for recognizing credit losses, applies to property/casualty insurers.

CECL requires organizations to incorporate forward-looking information into their financial statements and to estimate credit losses over the life of a financial asset. It applies to a wide range of financial assets, including but not limited to debt securities measured at amortized cost and reinsurance receivables. The paper explains how the financial crisis spurred FASB, together with the International Accounting Standards Board to come up with a new converged credit-loss impairment standard; however, the two boards ended up going in different directions once they couldn’t agree on how to apply the CECL concept.

FASB ignored many of the concerns raised by the insurance industry during the standard-setting process. The inclusion of reinsurance receivables and debt securities into the scope of the standard poses many problems for insurance companies, and it demonstrates that FASB no longer factors in business models when it develops new standards. This becomes especially problematic for insurance companies that file statutory accounting financial statements, which are designed to address the needs of regulators who are the primary users of statutory financial statements. The NAIC, who promulgates statutory accounting rules for insurance companies, is in a difficult position because their solvency framework already includes provisions for expected credit losses in the form of required capital measurements; therefore, introducing CECL into statutory accounting would in effect be double counting for credit losses.

FASB would have been well served had it produced a comprehensive cost/benefit analysis and conducted adequate field-testing and outreach pre-issuance of the standard. FASB needs to revise the standard to reflect how the insurance industry is managed. If not, the SEC should step in and not enforce the standard until the standard and its impact on market stability is fully understood.

For an more in depth read about how CECL impacts insurers, please check out the white paper at the following link: https://www.namic.org/pdf/publicpolicy/190418_CECL.pdf.