The collections and recoveries world is waking up to the fact that IFRS9 is not just an accounting standard and will impact processes, explains Chris Warburton, lead consultant at Arum.
For those who don’t read international accounting standards for fun, IFRS9 is a pending change to how impairment for loss is calculated. We are ticking down to implementation in January 2018.
So what’s changing? Under the previous accounting standard (IAS39), recognition for credit losses was delayed until there was evidence of impairment. Additionally, this was calculated only on past events and considered only current conditions.
Broadly, under the new standard, credit losses will need to be recognised at each stage of the customer lifecycle, even if no credit loss events have taken place. Market conditions will also now need to be taken into account. The portfolio will be split into two stages for the reserve calculation:
This is all designed to enable financial accounts to reflect better the inherent future losses for customers on the book today.
But what does this mean? Generally speaking, it means losses will be recognised and more greatly provided for much earlier in the collections cycle. There will be a greater cost of holding customers deemed to be higher risk for whom there will be a significant step increase in provision (even at 30 days past due).
As a result, largely the guidance being given is ‘contact earlier’, ‘more intensively’, to prevent customers moving to lifetime credit losses at this higher rate. And this makes sense. Contacting earlier, including pre-arrears, will undoubtedly prevent forgetful customers falling in arrears and being deemed to have increased in risk.
But this is not the entire story. Although 30dpd is being used as a general criterion, any external indicator can be used to indicate increased risk, such as credit reference data, debt load and flagging of financial difficulties.
The exact criteria organisations will use will require some judgement which we, as collections and recoveries professionals close to the portfolio on a day to day basis, need to be involved in. For example, flagging a customer who has affordability issues may now result in a greater hit to P&L.
As all of these dynamics need to be understood, it will be more important to have good conversations, find the right solutions for customers and ensure the assessment of risk is correct. These will all help to ensure there is not an unpleasant surprise looming in the new year.