New Guidance Expected to Make Estimating Credit Losses Easier for Public and Private Companies

The Financial Accounting Standards Board (FASB) has released an accounting update, ASU 2025-05: Financial Instruments – Credit Losses (Topic 326), Measurement of Credit Losses for Accounts Receivable and Contract Assets, (ASU 2025-05), which provides companies with new options for estimating credit losses on certain accounts receivable and contract assets. Both public and private companies can benefit from these changes, which are intended to simplify current rules and reduce the time and effort spent estimating future credit losses.

What’s Changed?

Previously, companies had to factor in historical credit loss experience, current conditions, and reasonable and supportable future forecasts when estimating credit losses. Under the new update, all companies have the option to use a streamlined approach — called a “practical expedient” —that focuses on current conditions as of your balance sheet date, rather than predicting and considering future conditions.

Private companies choosing the practical expedient can also choose to consider cash collected after the balance sheet date — up until the point when financial statements are issued — when measuring expected credit losses. This can help present a more accurate picture, especially if you typically collect outstanding receivables quickly.

Which Assets Are Affected?

These optional approaches apply to only current accounts receivable and contract assets originating from contracts with customers accounted for under ASC 606. If you acquired these assets through a business combination or certain consolidation transactions, they’re included too—as long as the original transaction was accounted for under ASC 606.

Accounts receivable and contract assets are considered “current” if they’re expected to be settled within one year, unless your business’s operating cycle is longer than that.

As described above, the scope of ASU 2025-05 is limited to assets arising from transactions accounted for under ASC 606, including related assets acquired in transactions accounted for under ASC 805, Business Combinations. 

Based on our understanding, questions continue to arise regarding the scope and application of ASU 2025-05. As such, it is important to stay abreast of any future updates or clarifications issued by the FASB. Accordingly, entities must carefully evaluate whether current accounts receivable and contract assets qualify as “in-scope assets.” This assessment will require the application of professional judgment. Entities are encouraged to consult with their external accounting advisor to ensure proper interpretation and application of ASU 2025-05. 

How Does the Practical Expedient Work?

• You may assume that the conditions at the end of your reporting period will remain unchanged throughout the life of the asset. That means you no longer have to consider reasonable and supportable forecasts of future conditions, and whether those conditions might differ from the period over which the historical loss information was evaluated. 

You still need to adjust your loss estimates if you know something has changed in your business or your customer base. ASU 2025-05 includes the following three examples of circumstances where historical loss information may not reflect current conditions:

• An individual customer that is experiencing recent financial distress, even if that information has not yet affected the entity’s historical loss experience,
• The expansion of credit policies before the balance sheet date to offer credit to lower-credit-quality customers even if that change has not yet affected the entity’s historical loss experience, and
• The economic conditions as of the balance sheet date are different than the conditions that existed over the period during which historical data were collected.

In each of these three circumstances, the entity should consider whether an adjustment to historical loss information is necessary when estimating credit losses for either an individual customer, a group of customers, or the entire portfolio, as applicable. The entity would then apply the practical expedient to the remaining population of in-scope assets.

Special Option for Private Companies

If you’re a private company, and only if you’ve also elected the practical expedient, you can make an accounting policy election to factor in collections made after your balance sheet date and before your financial statements are finalized. Here’s what this means:

• You don’t need to record a loss allowance for receivables that are collected after the end of your reporting period but before your statements are issued.
• For balances still unpaid at that later date, you would estimate credit losses using the practical expedient based on their status as of then.

Because you wouldn’t consider collection activity after the balance sheet date under the existing guidance, this accounting policy election should help private companies avoid recognizing losses on receivables they know were collected soon after year end.

Disclosure Requirements

Any company using these new options needs to disclose its choice in its financial statements. Private companies electing the practical expedient would disclose whether they have also made the accounting policy election. Private companies making the accounting policy election must also state the date up to which they considered post-balance sheet collections.

When Does This Start?

This guidance is effective for annual reporting periods beginning after Dec. 15, 2025, and in interim reporting periods within that year (so, for most companies, the year ending Dec. 31, 2026, and the interim period ending March 31, 2026). Early adoption is available for those who wish to start using these options sooner.

Given stakeholder input regarding the cost and complexity of applying the existing guidance, we believe it is likely that many public and private entities will want to early adopt this new guidance.

When you adopt the new guidance, you will apply it going forward, meaning it affects estimates made after your implementation date, not prior periods.

Points to Consider

Many businesses are expected to take advantage of these new options, as they simplify the process and remove the need for extensive forecasting. You may need to update your internal procedures and systems to accommodate the new way of estimating the allowance for credit losses, and for tracking subsequent collections.

Private companies making the accounting policy election should note these types of private company accounting alternatives would not be acceptable for financial statements filed with the Securities and Exchange Commission (SEC) subject to Regulation S-X and would therefore need to be “unwound.” This can occur when a private company decides to go public, or when a private company’s financial statements are required to be included in a current report or registration statement filed with the SEC by another company that is already public, such as in connection with an acquisition transaction.

Public companies electing to apply the optional practical expedient should evaluate the FASB’s and the SEC’s guidance related to the preferability of changes in accounting principles, including any required disclosures in the financial statements or elsewhere within the periodic report. You should consult with your external accounting advisor and independent auditor about these matters.

If you would like help understanding how these changes could affect your business or with implementation, please contact us. We’re here to support you every step of the way.