Read this if you are at a financial institution.
While documentation of your CECL implementation and ongoing practices is essential to a successful outcome, it can sometimes feel like a very tall order when you are building a new methodology from the ground up. It may help to think of your CECL documentation as your methodology blueprint. While others will want to see it, you really need it to ensure that what you are building is well-designed, structurally sound, appropriately supported, and will hold up to subsequent “renovations” (model changes or tweaks). To help you focus on what’s essential, consider these documentation tips:
Getting started
Like any good architect, you need to understand the expectations for your design—what auditors and regulators want to see in your documentation. Two resources that can really help are the AICPA Practice Aid: Allowance for credit losses-audit considerations1, and the Interagency Supervisory Guidance on Model Risk Management2. One way to actively use these guides is to take note of the various section/subject headers and the key points, ideas, and questions highlighted within each, and turn that into your documentation checklist. You’ll also want to think strategically about where to keep the working document, who needs access to it, and how to maintain version control. It is also a good idea to decide up-front how you will reference, catalog, and store the materials (e.g., data files, test results, analyses, committee minutes, presentations, approvals, etc.) that helped you make and capture final decisions. You can download our CECL Documentation checklist now.
What to watch out for
What’s new under CECL are areas requiring documentation (e.g., broader scope of “financial assets,” prepayments, forecasts, reversion, etc.). But watch out for elements that seem familiar—they may now have a new twist (e.g., segmentation, external data, Q factors, etc.). It’s a good idea to challenge any documentation from the past that you feel could be re-purposed or “rolled into” your CECL documentation. Be prepared also to spend time explaining or customizing vendor-provided documents (e.g., model design and development, data analysis memos, software procedures, etc.).
While this material can give you a running start, they will not on their own satisfy auditor and regulator expectations. Ultimately, your documentation will need to reflect your own understanding and conclusions: how you considered, challenged, and got comfortable with the vendor’s work; what validations and testing you did over that work, and how you’ve translated this into policies and procedures appropriate for your institution’s operations, workflows, governance, and controls. For more information on making the vendor decision, and for suggestions of vendor selection criteria, read our previous article “CECL Readiness: Vendor or no vendor?”
Point of view
It is human nature, especially whenever entering new territory, to want to know how others are approaching the task at hand. Related to CECL, networking, joining peer discussion groups, researching what and how those who have already adopted CECL are disclosing, are all great ways to see possibilities, learn, and gain perspective. When it comes to CECL documentation, however, the most important point of view to communicate is that of your institution’s management. Consider the difference in these two documentation approaches: (a) we looked at what others are doing, this is what most of them seem to be doing, so we are too; or (b) this is what we did and why we feel this decision is the best for our portfolio/risk profile; as part of our decision-making process, we did this type of benchmarking and discovered this. Example b is stronger documentation: your point of view is the primary focus, making it clear you reached your own conclusions.
Other elements for CECL documentation
Documenting your CECL implementation, methodology, and model details is critical, but not the only documentation expected as you transition to CECL. It has been said that CECL is a much more enterprise-wide methodology, meaning that some of the model decisions or inputs may require you use data and assumptions traditionally controlled in other departments and for other purposes. One common example of this is prepayments. Up to this point, prepayment data may have been something between management and a vendor and used for management discussion and planning, but not necessarily validated, tested, or controlled for in the same way as your loss model calculations. Under CECL, this changes specifically because it is now an input into the loss estimate that lands in your financial statements. As a result, prepayments would be subject to, for example, “accuracy and completeness” considerations, among others (for more information on these expectations, refer to our earlier articles on data and segmentation). Prepayments is just one example, but does illustrate how CECL adoption will likely trigger updates to policies, procedures, governance, and controls across multiple areas of the organization.
One final note: There are some new financial statement disclosures required with CECL adoption. Beyond those, there may be other CECL-related information either you want to share, or your audit/tax firm recommends be disclosed. Consulting with your auditor at least a quarter prior to adoption will help make sure you aren’t scrambling last minute to draft new language or tables.
Struggling with CECL documentation or other elements of CECL?
No matter what stage of CECL readiness you are in, we can help you navigate the requirements as efficiently and effectively as possible. For more information, visit the CECL page on our website. If you would like specific answers to questions about your CECL implementation, please visit our Ask the Advisor page to submit your questions.
For more tips on documenting your CECL adoption, stay tuned for our next article in the series. You can also follow Susan Weber on LinkedIn.
1You can find the AICPA Practice Aid here.
2The interagency guidance was released as OCC Bulletin 2011-12, FRB SR 11-7, and as FDIC FIL 22-2017