Since community banks and credit unions have adopted the Current Expected Credit Loss (CECL) standard, compliance continues to be one of the ongoing challenges facing credit unions and community banks. This comprehensive guide cuts through the confusion to provide actionable strategies for simplifying your CECL compliance approach while meeting regulatory expectations.

Many of these institutions struggle with the operational burdens that come with meeting the CECL standard, despite the fact that it was meant to enhance transparency and risk management. Unlike the previous incurred loss model, CECL requires institutions to estimate lifetime expected credit losses at loan origination and throughout the loan’s life.

For community banks and credit unions, this shift created significant operational challenges. The principles-based nature of CECL means institutions must develop defensible methodologies appropriate for their size, complexity, and risk profile without prescriptive regulatory guidance.

Much of this difficulty comes from the need to deal with manual processes, spreadsheets, and disconnected systems. Legacy core systems may lack the historical loan-level performance data needed for robust loss modeling. System conversions create data breaks that limit historical analysis. Manual data extraction processes increase operational burden and error risk. Insights from Empyrean Solutions’ webinar reinforce the fact that CECL compliance can become overwhelming when data is fragmented.

Data that is spread across systems subsequently requires manual reconciliation. This often extends audit timelines and can lead to increased examiner scrutiny. It can also reduce confidence in results even when calculations are technically sound.

This article identifies what CECL compliance requires. It will discuss common challenges and how credit unions and community banks can streamline compliance with the use of integrated tools that can align data, assumptions, and workflows across teams.

What Is CECL Compliance?

CECL is a requirement for banks, credit unions, and other financial institutions that issue loans or have any type of credit exposure. Understanding the question “what is CECL?” is a key step to meeting regulatory requirements.

To be in compliance with CECL, banks and financial institutions must use forward-looking assumptions to develop a life-of-loan loss expectation. CECL is designed to help banks improve the accuracy and timeliness of estimating potential credit losses, particularly during periods of economic uncertainty.

Notably, CECL compliance is tied closely with audit processes and expectations. This is because auditors play a core role in validating whether CECL models are supported, assumptions are reasonable, and corresponding data and results are implemented accurately and consistently.

With audits and regulatory exams in mind, financial institutions are also expected to maintain clear documentation around data sources and methodologies used for CECL compliance.

Core CECL Requirements Banks Must Meet

Banks and financial institutions have some degree of flexibility when it comes to determining how to implement processes to ensure CECL compliance. The underlying CECL requirements, however, are guided by a more clearly defined set of principles and guidelines.

At a high level, these requirements include:

• Data Governance and Integrity: Centralized, relevant, and accurate data to help ensure long-term consistency.
• Methodology Selection and Assumptions: Reasonable explanations for why certain assumptions have been made, model selection rationale, and documentation explaining why the approach is appropriate.
• Supportable and Reasonable Forecast: Maintain clear documentation of forecast sources, economic variables selected, and why they’re relevant to the financial institution’s portfolio performance.
• Model Validation and Governance: Ongoing review and testing to confirm the validity and accuracy of models, especially during times of economic change. This is tied to CECL model validation, which helps ensure data remains accurate and defensible over time.
• Audit and Examiner Readiness: Consistent and reliable workflows, results, and detailed documentation processes to allow results to be traced and reproduced.

Why CECL Compliance Often Feels Overly Complex

For community banks, credit unions, and many other types of financial institutions, achieving CECL compliance can seem more complex than necessary. CECL is fundamentally principles-based rather than prescriptive.

While this flexibility should theoretically allow institutions to tailor approaches to their size and complexity, it creates enormous uncertainty in what decisions are right or wrong. Every decision has to be documented and supported. Much of the data, forecasts, and calculations required as part of the CECL process may require teams to deal with multiple fragmented data sources and systems.

CECL allows multiple acceptable approaches, including vintage analysis, static pool methods, weighted average remaining maturity (WARM), and discounted cash flow modeling. Community institutions often struggle selecting the most appropriate methodology for their portfolios, leading to analysis paralysis and over-engineered solutions.

Unlike larger institutions with dedicated credit risk teams, community banks and credit unions typically have limited staff with CECL expertise. Finance teams juggle CECL responsibilities alongside core accounting duties, making ongoing model maintenance and validation challenging.

Regulatory uncertainty about examiner expectations drives conservative approaches that add unnecessary complexity. Institutions run the risk of implementing overly sophisticated models out of concern about regulatory criticism rather than actual risk management needs.

What ‘Audit-Ready’ CECL Really Means

Being CECL audit-ready is more than just being able to generate a credit loss estimate. The underlying processes must also be sound.

Auditors will evaluate whether these workflows are transparent, documented, and repeatable. In other words, being audit-ready for CECL means being able to understand how results were produced and how they might change over time.

Below are the major items auditors will be evaluating:

• Automated Documentation Trails: In addition to having organized records of data inputs, methodologies, and assumptions, manual processes should be minimized, if not eliminated.
• Version Tracking: This provides visibility into updates made to forecast models, changes to assumptions, and other relevant data inputs.
• Transparent Assumptions: Easily view key data and assumptions made about economic conditions, logic behind how scenarios were weighted, and how decisions were made on the methodologies considered and used.
• Repeatable Reporting: Evidence of the ability to generate consistent CECL results.

CECL Compliance for Lean Finance Teams

For community banks and credit unions, CECL compliance must operate within real-world staffing and modeling constraints.

Without additional personnel or modeling software resources that larger national banks may have, CECL must be able to work for institutions that have small teams. These teams may be stretched across multiple functions, including ALM, budgeting, regulatory reporting, and more.

Effective CECL relies on structured workflows that promote consistency and reduce inconsistencies between model runs. Teams must be able to exercise judgment and oversight, without worrying about navigating spreadsheets or modifying models.

Here, automation plays a key role. Data updates, calculations, and documentation can utilize far too much time and resources from lean finance teams. Automating related tasks frees up team members for other activities, such as validating model results, reviewing data and assumptions, and preparing and responding to audit feedback.

Notably, simplification is not about taking shortcuts. Rather, the idea is that effective workflows and automations are items that should increase confidence in CECL processes, even with limited staffing and resources.

How Empyrean Supports CECL Compliance

Empyrean supports CECL compliance through unifying data, automation, and audit-ready workflows that can meet regulatory requirements without undue strain on operational workflows. Empyrean’s solutions are designed with community banks and credit unions in mind, without the requirement to have the large staffing or financial resources of larger national banks.

With Empyrean, credit loss estimates are designed to work in combination with other processes like ALM, budgeting, planning, and profitability. This is achieved through the use of unified data and shared assumptions.

This has the added benefit of reducing discrepancies between the different regulatory models and the need for manual reconciliation of differences. It further helps ensure CECL results are consistent with planning and risk analysis tasks.

Automation and transparency are central components of the platform. With Empyrean, you’ll get guided workflows and automated tasks to help with documentation and version control. These aid in designing and maintaining audit-ready processes.

The result is a CECL solution designed to produce defensible results without added strain during audit or exam preparation.Learn more about how Empyrean CECL can help your institution simplify compliance, and request a demo today.

FAQ: CECL Compliance