The allowance for loan and lease loss (ALLL) is a rather complex calculation with certain methodological intricacies varying from institution to institution. Each ALLL calculation, however, typically has four overarching components. These consist of:

  •       Gathering and Readying Data
  •       Quantitative Calculation
  •       Qualitative Calculation
  •       Presenting ALLL Results

Due to its complex and in part subjective nature, it is often subject to much examiner scrutiny. For many institutions, the calculation stands to gain efficiencies and various process improvements throughout the methodology.

Preparing for the ALLL

Before starting the ALLL calculation, financial institutions must ensure that they have the necessary data. This consists of extracting the data, manipulating it into a readily usable format, and validating the accuracy of the data before beginning the calculation.

Purchased Loans

When financial institutions acquire other entities or purchase portfolios from them, a particular set of standards exist to account for those purchased loans. Mergers and acquisitions and the continued consolidation of the financial institution industry makes purchased loan accounting pertinent to many institutions in today’s landscape.

Qualitative Factors

The qualitative portion of the ALLL calculation is meant to bridge the gap between the quantitative calculation and what management believes to be the actual expected credit losses embedded in the loan portfolio. It is often thought to be the most challenging component of the calculation, as it is subjective in nature and there is little guidance on the topic.

Quantitative Calculation

The quantitative portion of the ALLL calculation consists of loan classification, the ASC 450-20 (FAS 5) calculation (which consists of various measures of loss), and the ASC 310-10-35 (FAS 114) calculation (which consists of various methods of collateral valuation).

Reporting & Presenting

The ALLL calculation itself is one step in a larger process. Once equipped with the results, financial institutions must validate their end number with the Board and defend their methodology to examiners and auditors.