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Citizens Financial estimates 30%-35% increase in loss reserves under CECL

Citizens Financial Group Inc. estimated that it will have to increase its allowance for credit losses by 30% to 35% when it adopts the current expected credit loss accounting standard Jan. 1, 2020.

The Providence, R.I.-based bank said that would translate to a reduction in its Tier 1 common equity ratio of 22 basis points to 25 basis points, an impact that would be phased in over four years.

The estimate is based on economic forecasts and balances as of August, and the bank said the anticipated increase is due to longer-duration consumer loans. Citizens expects a decrease in its allowance for shorter-duration commercial loans.

Under the CECL accounting standard, which large, publicly traded companies are required to adopt at the beginning of 2020, lenders are required to establish an allowance for lifetime credit losses, a change from the current model under which reserves are established when losses become probable.

On a conference call to discuss third-quarter results, executives said the bank still has "more work to do" to fully understand how the new standard will effect it, and that the impact on ongoing provision costs is uncertain. If the company's assumptions are accurate, establishing lifetime reserves for long-duration assets on the first day would mean that "provisioning for the back book is behind us," said Vice Chairman and CFO John Woods. On the other hand, the bank will have to establish lifetime provisions for new originations.

Whether the net result is "positive, negative or neutral is varied by portfolio and that's going to play itself out," Woods said.

Chairman, President and CEO Bruce Van Saun said the bank's experience with CECL over the next few years might affect how it designs loan products. "There may be certain product twists that we're offering a longer duration version of a loan, but it may not make as much sense," he said. "We might tweak something."

But he added that the changes would not be fundamental. "At the end of day, the economics are the economics and the accounting is something we have to contend with," Van Saun said. "We're working at it, we're analyzing it, and I think we feel broadly fine about it."

Although Citizens' estimates show a bigger initial hit from its consumer portfolio, Woods said it is too early to draw broad conclusions about CECL dynamics over the long run.

"We're still developing our intuition about how this new standard and how the models will work," he said. "I don't know that I'm ready to say that one of the two portfolios is going to be less volatile. It's possible that either portfolio could contribute to significant volatility in any given period."

He added that differences in assumptions and application of models means that it will be "very difficult to compare across institutions for a period of time."

Citizens reported a CET1 ratio of 10.3% for the third quarter and projected a decline to 10.1% in the fourth quarter. Woods said that the bank's "glide path to reduce our CET1 ratio remains on track."