The Adoption of Current Expected Credit Losses (CECL) for Healthcare Entities

The Financial Accounting Standards Board’s (FASB) monumental shift in credit loss accounting, known as Current Expected Credit Losses (CECL), is set to change financial reporting for many healthcare entities. With an effective date for fiscal years starting after December 15, 2022, healthcare organizations must prepare for a fundamental change: the proactive estimation of credit losses at the inception of a financial instrument. This new approach replaces the traditional reactive model, calling for a thorough understanding of the new requirements, particularly for entities with trade receivables. Here, we break down the implications of CECLs, the practical application, and enhanced disclosure requirements to guide healthcare entities through a smooth transition to the new standard.

What is CECL?

Generally, the update introduces a new methodology of assessing credit losses expected over the contractual life of an asset at inception based on relevant information about past events, including historical experience and current conditions. In the past, organizations have recorded an allowance for doubtful accounts, which were measured and recorded when a loss would likely be incurred. If there was no indicator of any losses, no reserve/allowance was required. Under this update, an allowance should be measured and recorded upon the initial recognition of the financial instrument. This will require organizations to predict possible losses from day one by factoring in previous collection historical data and future events that may impact receipts.

Does CECL apply to my organization?

As a healthcare entity, you may ask yourself if and how the new guidance applies to your organization. The most common in scope asset effected is patient receivables. Some other in-scope assets include loan receivables, held-to-maturity debt securities, and loan commitments. If your organization has trade receivables at any point in time, the answer is YES; this standard is applicable and required.

For many healthcare Organizations, a contractual allowance is already being recorded in accordance with ASC 606 to account for explicit and implicit price concessions related to contracts with payors (Insurance, Medicare, Medicaid). The allowance for credit losses is another layer on top of that assessment that drills down into the expected receipts of that adjusted revenue basis and will most commonly apply to private pay patient receivables. For example, revenue may be recorded at set private pay rates billed to patients. Previously, no further allowance would need to be assessed until a loss was deemed probable. In accordance with ASC 326, if your Organization historically only receives 80% of private pay billings from patients, an allowance for credit losses would be recorded against that receivable for the 20% difference at the time of recognition, in addition to considering any additional allowance needed based on current economic conditions and future forecasts that are reasonable and supportable. In addition, instances where there is insurance as a primary payor, with remaining deductibles or copayments that are the responsibility of patients, the private pay portion would also be considered for a current expected credit loss at the time of recognition.

Applying CECL is a significant estimate, and how you approach it should be a big discussion point for your leadership team. To assess the valuation of your organization’s current allowance for credit losses methodology, a retrospective review of billings to receipts by payor can be performed as a starting point for the assessment. The results of this review, in conjunction with known future conditions, can be a basis for the allowance for credit losses moving forward.

What new financial statement disclosures are required?

The adoption of CECL includes enhanced financial statement presentation and disclosures. These include but are not limited to the following:

• Any previous mention of allowance for doubtful accounts or bad debt expense should be referred to as allowance for credit losses and credit loss expense.
• Allowance for credit losses should be noted on the balance sheet.
• A roll forward of the allowance for credit losses should be included in the notes to the financial statements.
• The description of management’s policy and methodology should be expanded to include any changes related to adopting the new accounting standard.

Additional disclosures, such as the aging of past-due loans and credit quality indicators, are also required for assets other than trade receivables.

Navigating the adoption of a new accounting standard can be difficult. Reach out to the Marcum healthcare team today if you have any questions about adopting CECL.