The Financial Accounting Standards Board (FASB) recently released an exposure draft (“Exposure Draft”) that proposes a new approach to accelerate the recognition of credit losses (“Proposed Rule”). The FASB perceives delayed recognition of credit losses as a weakness in current US generally accepted accounting principles (GAAP). The Proposed Rule would affect entities holding loans, debt securities, lease receivables, loan commitments, and any other receivables that represent the contractual right to receive cash and is a break from a previous FASB Accounting Standards Update (“Update”) and the International Financial Reporting Standards (“IFRS”) approach.
The Proposed Rule removes the existing “probable” threshold in GAAP and replaces it with an allowance for expected credit losses. Current US GAAP includes five different incurred loss credit impairment models that generally delay recognition of credit loss until the loss is considered probable or has been incurred. Under the Proposed Rule, an entity would be required to impair its existing financial assets based on an allowance for expected credit losses. The FASB hopes that the Proposed Rule will better reflect the current estimate of cash flows expected to be collected at the reporting date by effectively amortizing the credit loss by the expected credit losses allowance.
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