Current Expected Credit Loss for Non-Profits: Programmatic Loans

CECL model’s impact on program related investments

In my blog, CECL Implementation for Non-Profits, I introduced the Current Expected Credit Loss (“CECL”) model for measuring expected losses on financial instruments.  The CECL model, which became effective for fiscal years beginning after December 15, 2022, requires entities to measure expected losses on financial assets, rather than the former model of recording incurred losses.

One common non-profit financial asset impacted by the new CECL model is program related investments (“PRIs”). PRIs are investments made by non-profits to further their tax-exempt mission rather than to generate income or appreciate assets. The most common type of PRI by a non-profit is a loan offered to another organization or to an individual at a below market interest rate. PRIs are used for a variety of charitable purposes, such as assisting with affordable housing, funding capital projects, and promoting economic development.

Accounting for a PRI loan

When accounting for a PRI loan, it is important to understand the distinction between forgiveness and impairment of the loan. When a non-profit is expecting to forgive the PRI loan, this type of transaction would constitute a promise to give and would be accounted for under contribution guidance. At issuance of the forgivable loan, the receivable would be created (debited) and cash would be credited.  As the forgivable condition is met, the expense would be recorded (debited) and the receivable removed (credited). Promises to give, or contributions, are specifically scoped out of CECL guidance. CECL guidance relates to the portion of the PRI loan for which payment is expected or agreed upon.

The CECL model requires management to consider historical data, current circumstances, and reasonable and supportable future projections when determining the potential allowance for credit losses on PRIs. All expected losses over the term of the PRI loan must be recorded on day one and adjusted at each reporting period. Even if the risk of loss is remote, an allowance for credit losses is required.

The non-profit entity must separately measure the credit loss for the following components of the PRI loan – amortized cost basis, accrued interest, and premiums or discounts. CECL does not prescribe a specific method to calculate the credit loss. A non-profit may begin the measurement process by performing an analysis of its historical loss experience for PRIs with similar risk characteristics to the asset being measured. From there, historical loss rates or aging analyses must be adjusted based on current conditions and future forecasts. This step can be done through a quantitative model or, more likely, through qualitative adjustments such that the estimate in total is reasonable. The non-profit may use a combination of economic forecasts and reversion to historical loss experience in arriving at its estimate.

CECL also includes a number of required financial statement disclosures, such as management’s policy and methodology for estimating the allowance, an aging analysis of past due loans, credit quality indicators, and a roll-forward of the allowance balance.

CECL standard implementation

The CECL standard is currently under the Financial Accounting Standards Board (“FASB”)’s post-implementation review process to determine whether the standard worked as intended. At a discussion on September 10, 2024, the Not-for-Profit Advisory Committee of FASB noted that the new CECL standard has been confusing for some organizations. The new model is more complex than the former model and requires more extensive documentation for audit purposes. CECL has resulted in a significant amount of time and effort being spent on implementation with limited incremental benefits. There have been suggestions to scope out certain short-term receivables to simplify the process and reduce the burden on non-profits. At this time, FASB has not indicated any changes to the recently implemented CECL standard.

Non-profits should familiarize themselves with the new guidance and work with their auditors to ensure methodologies and support are sufficient. If you have questions on CECL standard implementation for your organization, contact your Keiter Opportunity Advisor for insights and answers.

Sources:

• Thomson Reuters/Tax & Accounting
• Not-for-profits and the Current Expected Credit Loss (CECL) model |pwc | Viewpoint