How Expected Credit Losses Are Measured under IFRS 9 (ECL) and ASC 326 (CECL)

Graziano Stefanelli
4 hours ago
4 min read

Credit impairment moved from incurred-loss triggers to forward-looking models. IFRS 9 uses a 3-stage ECL framework with 12-month vs lifetime losses depending on significant increase in credit risk (SICR). US GAAP (ASC 326 – CECL) recognizes lifetime expected losses from day 1 for most financial assets measured at amortized cost (and certain AFS debt securities with an allowance). Both require probability-weighted scenarios, reasonable and supportable forecasts, and unbiased estimates that consider prepayments and recoveries.

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How credit impairment arises.

Whenever an entity originates, acquires, or holds financial assets subject to credit risk—loans, trade receivables, lease receivables, held-to-maturity/AC debt, off-balance sheet commitments—expected shortfalls between contractual cash flows and what the entity expects to receive must be recognized upfront and updated each reporting date.

Common drivers:

Deterioration in borrower credit quality or macro outlook.
Rising probabilities of default (PD), lower recoveries (LGD), longer times to collect (EAD/term).
Portfolio seasoning, mix shifts, and concentration risk.

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Measurement under IFRS 9 — 3-stage ECL model.

Scope: financial assets at amortized cost and FVOCI debt, lease receivables, contract assets, and loan commitments/financial guarantee contracts.

Staging logic:

Stage 1 (on initial recognition & no SICR): recognize 12-month ECL; interest on gross carrying amount.
Stage 2 (SICR since origination): recognize lifetime ECL; interest on gross amount.
Stage 3 (credit-impaired): recognize lifetime ECL; interest on net carrying amount (gross minus loss allowance).

SICR indicators: days past due (often a 30-days rebuttable presumption), watchlist status, ratings migration, adverse macro or sector factors, forbearance.

ECL mechanics: present value of probability-weighted shortfalls using the effective interest rate (EIR); incorporate forward-looking macroeconomic scenarios.

Trade receivables/contract assets practical expedient: lifetime ECL via provision matrix (aging × historical default × forward-looking overlays).

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Measurement under US GAAP — CECL (ASC 326).

Scope: financial assets at amortized cost (loans, HTM debt, trade receivables, net investments in leases, reinsurance recoverables, etc.) and AFS debt (separate model: allowance limited to amortized cost).

Core principle: recognize lifetime expected credit losses on day 1 for assets carried at amortized cost; update each period using reasonable and supportable forecasts, then revert to historical averages if forecast period is limited.

Methods permitted: loss-rate, roll-rate, PD×LGD, vintage, discounted cash flow; must reflect prepayments, risk segmentation, and qualitative factors (Q-factors).

AFS debt securities: record an allowance (no OTTI direct write-down unless intent/requirement to sell); measure expected shortfalls over cash flows affected by credit, not fair value changes from interest rates.

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Side-by-side: key differences.

Topic	IFRS 9	ASC 326 (CECL)
Recognition horizon	12-month ECL (Stage 1) then lifetime upon SICR	Lifetime ECL from day 1
Interest income	Gross asset for Stages 1–2; net for Stage 3	Always on gross carrying amount
AFS debt	ECL for FVOCI debt with allowance through OCI	AFS: allowance, limited to amortized cost; recognize in earnings
Trade receivables expedient	Lifetime via provision matrix	Generally lifetime; practical approaches (loss-rate, aging)
Triggering concept	SICR assessment required	No SICR concept
Scenario & forward look	Required, probability-weighted	Required over reasonable/supportable period, then reversion
Write-offs & recoveries	Write off when uncollectible; recoveries to P&L	Same outcome

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Illustrative examples and journal entries.

A) Trade receivables – provision matrix (both frameworks use lifetime).Aging bucket and loss rates (after forward-looking overlay):

Aging	Balance	Loss rate	Allowance
Current	1,200,000	0.6%	7,200
1–30 days	400,000	1.4%	5,600
31–60 days	150,000	3.5%	5,250
61–90 days	80,000	8.0%	6,400
>90 days	70,000	25.0%	17,500
Total	1,900,000		41,950

Entry to establish/adjust allowance:

Debit: Impairment Loss – ECL/CECL 41,950
Credit: Loss Allowance – Trade Receivables 41,950

B) IFRS 9 – loan moves from Stage 1 to Stage 2 (SICR).Carrying amount 10,000,000; Stage-1 12-month ECL = 60,000. After SICR, lifetime ECL = 220,000.

Increase in allowance:

Debit: Impairment Loss – ECL 160,000
Credit: Loss Allowance – Loans 160,000

C) US GAAP – CECL day-1 recognition for a new 5-year loan.Expected lifetime loss = 1.2% × 10,000,000 = 120,000.

Day-1 entry:

Debit: Provision for Credit Losses 120,000
Credit: Allowance for Credit Losses 120,000

D) Credit-impaired asset (IFRS Stage 3 interest on net).Gross 5,000,000; allowance 800,000; EIR 6%.Interest recognition = 6% × (5,000,000 − 800,000) = 252,000.

Entries each period include interest on net, plus allowance updates.

E) AFS debt security (US GAAP).Amortized cost 2,000,000; PV of expected cash shortfall 30,000; entity does not intend/require to sell.

Record allowance (limited to amortized cost):

Debit: Credit Loss Expense 30,000
Credit: Allowance for Credit Losses – AFS 30,000

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Disclosures that readers scrutinize.

IFRS 9:

Reconciliation (roll-forward) of loss allowance by Stage.
Inputs/assumptions for SICR, back-testing, and macro scenarios.
Credit quality analysis (PD migration, collateral, forbearance).

US GAAP (CECL):

Allowance roll-forward by portfolio/segment and vintage disclosures for public filers.
Methodologies, forecast periods, reversion technique, and key Q-factors.
AFS: methodology for expected credit losses and limits.

Example roll-forward (condensed):

Allowance roll-forward	Amount
Opening balance	2,480,000
Day-1/Originations	310,000
Changes in expected losses	420,000
Write-offs	(390,000)
Recoveries	70,000
FX/Other	(20,000)
Closing balance	2,870,000

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Impact on financial performance and ratios.

Front-loading: CECL recognizes more expense at origination vs IFRS 9 Stage-1.
Cyclicality: forward-looking overlays amplify provision swings with macro outlook.
Capital & covenants: higher allowances reduce equity and affect regulatory capital; watch coverage ratios (allowance/gross loans) and cost of risk.
Interest recognition: IFRS Stage-3 interest on net lowers reported NIM relative to GAAP for similar assets.

Analysts reconcile allowance builds/releases to portfolio growth, mix, and macro drivers to assess earnings quality.

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Operational considerations.

Segmentation that reflects distinct risk drivers (product, geography, collateral, vintage).
Models (PD/LGD/EAD, roll-rates, vintage loss) calibrated with back-testing and governance (model risk management).
Data lineage for cash flows, prepayments, and recoveries; macro overlays documented with sensitivity analysis.
SICR policy (IFRS) with quantitative thresholds and qualitative backstops; reversion policy (CECL) for forecast horizons.
Tight integration of credit, risk, FP&A, and accounting to ensure timely updates and robust disclosures.

Robust ECL/CECL frameworks translate evolving credit conditions into transparent, comparable loss allowances—without waiting for losses to be incurred.

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DATA STUDIOS

.....[datastudios.org]