Expected credit losses (ECL) are a probability weighted estimate of the credit losses over the expected life of a financial instrument. Effectively credit losses are the present value of the expected cash shortfalls and are calculated as the difference between the cash flows that are due to the credit union under the terms of the contract and the cash flows that the credit union expects to receive.
The measurement of ECL must reflect:
The time value of money (this is why discounting was used in the example in the fourth blog entry).
Be based on reasonable and supportable information that is available without due cost or effort.
Unbiased probability weighted assessments that take account (as necessary) of a possible range of outcomes.
Credit unions are not required to identify every possible scenario but the estimate of expected credit losses should always reflect at least two scenarios.
The probability that a credit loss occurs even in the event that the Credit Union considers the possibility of a loss occurring to be very low and;
The probability that no credit loss occurs.
IFRS 9 is a complicated standard. More than one approach can be taken to implement it. IFRS 9 acknowledges that the methods used to estimate ECL’s may vary from Credit Union to Credit Union and from financial instrument to financial instrument based on the type of financial instruments the credit union offers and the information available.
However, the calculation of ECL’s must always take account of the following:
Forward looking information.
The Probability of Default.
Loss Given Default.
Exposure at Default.
2. Steps to consider in applying the impairment requirements of IFRS 9