Major Regulatory Change on the Horizon for Financial Institutions

If you had to make a list of some of the biggest issues that plague small business owners regularly, cashflow problems would undoubtedly be right at the top.

Cash flow is about more than just the money coming into and going out of your business. It represents your ability to capitalize on opportunities as an entrepreneur as opposed to watching them pass you by because you lack the necessary cash on hand. It’s about making sure that you have the cash inflow you need to pay your employees on time. It’s about understanding how you’re going to pay vendors and other suppliers to get your products and services into the hands of the people who need them on time. The list goes on and on.

Based on this, it should not come as a surprise that an estimated 82% of all small businesses that close do so because of a significant cash flow problem. When you also consider the fact that the number of small businesses that fail to make it beyond their fifth anniversary is estimated to be 48%, it’s easy to see why this is one critical aspect of being an entrepreneur that you do not want to overlook.

To be clear, none of this is to say that if you manage to avoid significant cash flow problems you’re guaranteed to run a successful business for years to come. Unfortunately, the situation is a lot more malleable than that – there are still a lot of other variables that need to be accounted for. It’s simply that proper cash flow forecasting is imperative to avoid a lot of the major mistakes that new entrepreneurs in particular commonly make. It will also help avoid disruption and can be a key contributing factor in your business’s ability to scale and grow larger over time.

Thankfully, getting a handle on cash flow problems as a small business owner isn’t necessarily as difficult as one might assume. It does, however, require you to keep a number of crucial things in mind along the way.

The Ins and Outs of Cash Flow: Breaking Things Down

First, it’s important to get a handle on just what is meant by the term cash flow in the first place. Generally speaking, it can be separated into two categories: cash inflow and cash outflow.

Cash inflow refers to the amount of money that is coming into your business at any given time. This is typically represented by the money being generated when you sell your products or services. Note that not every dollar that comes into the organization is revenue, mind you – you still have expenses and things of that nature to account for.

Cash outflow, as the name suggests, is the money going out of your business. This includes not just payments to people like your employees but also payments to vendors and other suppliers. Regular expenses and debt payments would also fall under the cash outflow umbrella.

These two concepts are closely related and a cash flow problem in one area will almost immediately start to impact the other. If you start making late payment after payment to your suppliers, for example, your relationship will be harmed, and you may find it difficult to find people to work with in the future. Making a late credit card or other debt payment could hurt your ability to borrow (and negatively impact your credit rating). It can even harm your reputation not just with your customers, but with your employees as well.

All of this is why there are no such things as “small” cash flow problems.” What seems like a minor issue at first will soon snowball into something far bigger if left unchecked, which is why you need a stable foundation in place to avoid these types of situations altogether.

Pay Attention to How (and Why) You’re Borrowing

By far, one of the most important ways to make sure you have a handle on your cash flow situation is to gain as much insight as possible into the money that you’re borrowing – and why.

An entrepreneur rarely has the money on hand to build an entire enterprise on their own without taking out additional debt like small business loans. Many even use business credit cards and similar borrowing techniques to get up and running and to make sure that things are running as efficiently as possible.

Having said that, you need to pay careful attention to borrowing too much or borrowing from sources that are too expensive. If you have too many loans with a high-interest rate, you may be paying more each month than that money is bringing into your business. If you start to miss a payment or two, those interest rates could increase even further – causing you to take on additional debt just to stay afloat.

If possible, refinance any high-interest-rate credit cards and similar loans to take advantage of more favorable terms and conditions. Likewise, don’t borrow additional money if you’re already strapped or if it just doesn’t make long-term financial sense to do so.

Maintain Those Cash Reserves

One of the biggest lessons that many small business owners learned given everything going on in the world over the last few years has to do with the importance of cash reserves.

One day, everything is going smoothly and exactly as expected. The next day, something unprecedented happens – like a sudden global pandemic begins, forcing most businesses to indefinitely close their doors without any indication of when or even how they’d re-open again.

According to one recent study, 17% of small business owners said that they’d have to shut down permanently if they were faced with just a two-month-long revenue loss. This is why cash reserves are critical – they help you prepare for whatever life happens to throw at you, regardless of how unexpected it may be.

In other words, don’t immediately spend every extra dollar coming into your business after expenses and other payments are accounted for. Try to build up as large of a reserve as possible so that if something does happen, you’ll at least be able to weather the storm for a while until you come up with a more permanent solution or until conditions return to normal.

Monitor Your Receivables

To circle back around to the concept of how devastating a late payment can be, another one of the biggest sources of cash flow problems touches on the same idea, albeit from a different perspective: your accounts receivable status.

Simply put, accounts receivable refers to the money that you are being paid by your customers (either standard consumers who purchase a product or service or other businesses) in exchange for something of value. If you’re a B2B organization that sells a product to other businesses, for example, you likely send out invoices to those customers regularly. That represents money you are owed, certainly – but the longer those invoices go unpaid, the more likely you are to wind up in a decidedly negative cash flow position.

Not only is this a common problem that a lot of businesses face, but it’s also one that is, unfortunately, getting worse. One survey conducted in 2020 showed that over the course of the previous two years, small business owners reported that their rate of outstanding receivables increased a massive 81%. Keep in mind that this survey was also taken prior to the onset of the pandemic, meaning that this number probably only got higher over the following two years.

In an effort to help prevent this from becoming a major cash flow issue for your own small business, there are a few important steps you can take. First, make sure that you’re closely following all outstanding invoices in the first place. You can’t collect on invoices that you’re not sure were sent in the first place. You need a system in place that clearly outlines who owes what amount of money, when those invoices are due, and who has paid and who hasn’t.

Likewise, to entice certain people who may make regular late payments, you could offer some type of pricing discount or other incentives. You could offer a discount of a certain percentage if the invoice is paid immediately, for example. Or a similar reduction in prices if the invoice is paid in cash. Yes, you’ll lose out on a bit of money from offering a discount, but you’ll avoid having to wait for indefinite amounts of time to gain access to the money that you are owed. Never neglect payment terms like this as far as cash flow is concerned.

Work With a Financial Professional

Another one of the most common cash flow problems that new entrepreneurs deal with in particular involves attempting to handle all aspects of this part of their business on their own.

By now, you’re an expert in running your business – that doesn’t make you an expert on the financial side of the equation. Simply keeping up with something like accounts receivable information or expenses can quickly become a full-time job, which is a problem since you already have one of those you’re supposed to be devoting the majority of your attention to.

Thankfully, the solution is clear: find a financial professional that you trust who has experience in the specific industry that you’re operating in. Not only will they be able to help you come up with an effective cash flow management strategy, but they can put together essential documents like a cash flow statement and cash flow forecast data as well. The former paints a vivid picture of where you stand today, while the latter helps you see what you will achieve if you stay on the current trajectory.

A cash flow forecast is particularly important as, if you’re on a trajectory for poor cash flow or even negative cash flow, you’ll know about it as soon as possible so that you can hopefully do something about it. Even if everything is going smoothly, they’ll still ensure you have the most accurate and actionable information to make the best decisions for your business.

Keep Control Over Your Expenses

Finally, one of the most common cash flow problems that a lot of businesses face has to do with ballooning expenses. Yes, certain things are beyond your control that are “costs of doing business” – like the amount you’re paying for utilities to run a physical location, for example.

But especially if you’re experiencing dwindling cash flow, there are several steps you should take immediately. Take a look at all the business services you’re paying for and stop the ones that aren’t absolutely necessary, at least temporarily. If the issue is that your suppliers are increasing their prices, try to find ones that offer similar items at lower costs without compromising quality.

In general, look for opportunities to reduce your operating costs as much as you can, at least for a little while. It can certainly help ward off any impending disaster and allow you to get back on your feet through a series of strategic financial moves in the days and weeks to come.

In the end, especially in the early days of any small business, you need to come to terms with the fact that cash flow will matter more than profit. You’re not going to break even overnight, but negative cash flow and related issues could bring your organization to its proverbial knees before you know it.

Not only does something like a cash flow forecast help give you advanced notice of any problems that you may encounter in the future, but it also makes sure that you have the cash on-hand needed to fend off unexpected situations. It puts you in a better position to capitalize on opportunities and helps your business continue to scale and evolve over time. When you also consider the fact that it will also help lower your stress levels as an entrepreneur because you can spend less time worrying about money and more time putting it to good use, you’re looking at a perfect storm in the best possible way.

If your business is experiencing cash flow problems or you want to talk over budgeting or other cash flow tips, reach out to our office for a consultation. We are here to help.

Brady Martz is a proud member of RSM US Alliance, a premier affiliation of independent accounting and consulting firms in the United States. RSM US Alliance provides our firm with access to resources of RSM US LLP, the leading provider of audit, tax and consulting services focused on the middle market. RSM US LLP is a licensed CPA firm and the U.S. member of RSM International, a global network of independent audit, tax and consulting firms with more than 43,000 people in over 120 countries.

Our membership in RSM US Alliance has elevated our capabilities in the marketplace, helping to differentiate our firm from the competition while allowing us to maintain our independence and entrepreneurial culture. We have access to a valuable peer network of like-sized firms as well as a broad range of tools, expertise, and technical resources.

For more information on how the Brady Martz can assist you, please contact us.

COVID 19 Tax and Other Relief Provisions for Financial Institutions

Community Bank Leverage Ratio

The office of the Comptroller of the Currency (OCC), along with the Board of Governors of the Federal Reserve System and the Federal Deposit Insurance Corporation (collectively, the agencies) have approved an interim final rule as of April 6, 2020 that makes temporary changes to the community bank leverage ratio framework (CBLR framework), pursuant to section 4012 of the Coronavirus Aid, Relief, and Economic Security (CARES) Act, and a second interim final rule that provides a graduated increase in the community bank leverage ratio requirement after the expiration of the temporary changes implemented pursuant to section 4012 of the CARES Act. Note: This interim final rule applies to qualifying community banks with less than $10 billion in total consolidated assets that meet other criteria and opt into the CBLR framework.

Under the rule, the CARES Act reduces the Community Bank Leverage Ratio (CBLR) to 8% from the previous minimum of 9%. The two interim final rules modify the CBLR framework in the following ways:

  • The leverage ratio requirement will be 
    • 8 percent or greater, effective the second quarter of 2020.
    • greater than 8.5 percent, effective January 1, 2021.
    • greater than 9 percent, effective January 1, 2022.
  • A bank that elects to use the CBLR framework but temporarily fails to meet all of the qualifying criteria, including the leverage ratio requirement, will have a two-quarter grace period to return to compliance, provided that the bank maintains a leverage ratio of 
    • 7 percent or greater, effective the second quarter of 2020.
    • greater than 7.5 percent, effective January 1, 2021.
    • greater than 8 percent, effective January 1, 2022.
  • A bank that that fails to meet the grace period minimums must immediately apply the risk-based capital standards.

S-Corporation Distributions

An interim rule permits S-Corporation banks to pay distributions to their shareholders despite being in the “buffer zone” in relation to Basel III.  Prior to the interim rule, banks who wish to make these distributions while being in the “buffer zone” would have to obtain prior approval from the applicable bank regulators.

Tax Credits and Payroll Tax Considerations

The Employee Retention Credit (ERC) is a refundable credit of up to $5,000 per employee for those eligible employers who retained their employees during COVID-19.  The time period includes wages paid from March 13, 2020 to December 31, 2020.  Note that employers who participated in the Paycheck Protection Loan (PPP) program are ineligible for the credit.  Institutions will have to show either a 50% reduction in 2020 gross receipts compared to the same quarter in 2019 or whose operations have been fully or partially suspended as a result of a government order limiting commerce, travel or group meetings due to COVID-19. Click here for more information. 

In addition to the ERC, banks will have the opportunity to defer payments of the employer portion of Social Security taxes on employee wages incurred from March 27, 2020 through December 31, 2020.  Half of the amount deferred would be payable by December 31, 2021 and the other half by December 31, 2022.  Note that employers are ineligible for this deferral for those who have a PPP loan debt forgiven (up to the point of forgiveness the deferral is available).  The amount that is deferred would have to be recorded on the balance sheet as the amount has still be incurred. Click here for more information. 

Other areas to focus on for tax savings is changes in the net operating loss rules (NOLs) generated in 2018, 2019, and 2020.  These losses can be carried back five years.  Not only can this provide permanent tax savings by applying the NOLs to years in which the tax rates are higher but it can also reduce the deduction from capital on the Call Report is the deferred tax asset is converted to an income tax receivable.   Lastly, deferred tax assets that are attributable to NOLs are not included in Tier One capital under regulatory guidelines.  For banks that have leasehold improvements the CARES Act updated tax depreciation on leasehold improvements to be eligible for 100% bonus depreciation starting in 2018. Click here for more information. 

Please contact a Brady Martz financial institution team member with additional questions.  Our team is here to help.  


Borrower Accounting for a Forgivable Loan Received Under the Small Business Administration Paycheck Protection Program (PPP)

While much attention has been given to the PPP loan program, including the effects on the lenders, many borrowers have posed questions on how to record the loan and related forgiveness.  The Financial Accounting Standards Board has provided some clarity on the issue to help borrowers record and report the transaction appropriately.  Borrowers with financial statements that include footnotes should disclose in the accounting policy section the method selected as well as include relevant footnote information that is consistent to the policy selected.  See below for a summary of the options available.

Options available to both business entities and not-for-profits

The borrower could account for the transaction as debt under FASB Accounting Standards Codification (ASC) 470, Debt.  Under this method, the borrower would record the amount received from the program as debt and accrue interest at the stated rate (1%).  The borrower should not impute additional interest to account for the difference between the stated rate and the market rate. This is due to transactions where interest rates are prescribed by governmental agencies are excluded from the guidance in FASB 836-30 on imputing interest. The loan would remain as a liability until either 1) the loan is, in part or wholly, forgiven and the debtor has been “legally released” or 2) the debor pays off the loan to the creditor. Once the loan is, in part or wholly, forgiven and legal release is received, a nongovernmental entity would reduce the liability by the amount forgiven and record a gain on extinguishment.

Business entities that are not classified as not-for-profits can also adopt guidance that non-for-profits would adopt for these transactions. The guidance is addressed in FASB ASC 958-605.  Under this guidance, the borrower would record the inflow as a refundable advance (i.e. conditional contribution).  The borrower would then reduce the refundable advance and recognize the contribution once the conditions of release have been substantially met or explicitly waived.

Options available to both business entities only (not-for profits are excluded)

Borrowers have the option of accounting for the inflow under guidance contained in IAS (International Accounting Standards) 20 as a governmental grant.  The borrower would account for the cash inflow from the loan as a deferred revenue liability.  Once there is reasonable assurance (similar to the “probable” threshold in U.S. generally accounted principles) that the conditions will be met, the liability would be reduced with an offset to earnings on a systemic basis over the periods in which the grant related cost are incurred.  In the income statement the amount would be recorded as a credit to “other income” or a reduction to related expenses (such as compensation expense – costs in which were incurred in related to obtaining the loan/grant).

Borrowers also have the option of following guidance in FASB ASC 450-30, which is the model for gain contingency recognition.  Under this model, the earnings impact of a gain contingency is recognized when all the contingencies related to receipt of the assistance have been met and the gain is realized or realizable. As applied to forgivable loans received under the PPP, a business entity would initially record the cash inflow from the PPP loan as a liability. 

The proceeds from the loan would remain recorded as a liability until the grant proceeds are realized or realizable, at which time the earnings impact would be recognized.

Please contact a Brady Martz financial institution team member with additional questions.  Our team is here to help. 


New Regulatory Reporting Changes for Financial Institutions: June 2020

New Data for June 2020
New to June 2020 call reports will be data surrounding the Federal Reserve Lending Facilities, the Paycheck Protection Program (PPP), and loan modifications under the Coronavirus Aid, Relief, and Economic Security Act (CARES Act).

Loan Modifications
Items added include the number of loans with modifications under Section 4013 of the CARES Act and the outstanding balances of loan modifications under Section 4013 of the CARES ACT.

PPP Loans
Items added include the total number of PPP loans, total PPP loan balances, PPP loans pledged to PPPLF (Federal Reserve Paycheck Protection Program Liquidity Facility), and average PPP loans pledged to the PPPLF.

Note: Banks and credit unions have different call reporting requirements. The above items are examples of disclosures that have aspects that affect both types of institutions.

Capital Treatment for PPP Loans (Banks)
The call report has been revised to mitigate the effects of PPP loans on regulatory capital. The following revisions have been made:

  • Excluding PPP loans from total risk-based assets of advance approach banks.
  • Excluding PPP loans pledged to the PPPLF from Total Leverage Exposure.
  • Including PPP loans in the quarterly average amount of PPP loans pledged to the PPPLF in Schedule RC-R, Part 1, Deductions from Assets for the Leverage Ratio Purposes.

PPP Lender Accounting and Reporting Issues 

Lender institutions face a variety of issues when it comes to PPP lending.  These include, but are not limited to proper accounting of the PPP loan itself and related fees as well as various restructuring of loans.  On June 30, 2020 the AICPA issued a set of technical questions and answers (TQA’s) to address some of these issues. Listed below is a summary of some of the common issues that PPP lenders will face.

Classification of Advances Under the Paycheck Protection Program

Question: Should the lending institution account for an advance under this program as a loan or as a facilitation of a government grant?

The instrument is legally a loan with a stated principal, interest, and maturity date. The institution is expected to collect amounts due from either the borrower or the Small Business Administration (SBA) as guarantor. The institution should account for this instrument as a loan.

Accounting for the Loan Origination Fee Received From the SBA

Question: What is the accounting for the fee received or receivable from the SBA for originating the loan.  How would the clawback feature/considerations be accounted for? 

Upon funding of the loan, the fee should be accounted for as a nonrefundable loan origination fee under FASB ASC 310-20, Receivables—Nonrefundable Fees and Other Costs. As a result, it should be offset against loan origination costs and deferred in accordance with FASB ASC 310-20-25-2 and amortized over the life of the loan (or estimated life if prepayments are probable and the timing and amount of prepayments can be reasonably estimated and the entity qualifies and elects to apply the guidance in paragraphs 26–32 of FASB ASC 310-20-35) as an adjustment to yield in accordance with FASB ASC 310-20-35-2.  However, institutions should determine the significant of the fees to their financial statements.  Current policies may dictate that the fee and related expenses be recorded when received and incurred, respectively.

As noted in question .43, the loan guarantee is embedded in the loan and is part of the same “unit of account.” As a single unit of account, the arrangement involves multiple counterparties, which are (1) the lending institution, (2) the borrower, and (3) the SBA as guarantor, which through that role could be looked to for payment if the borrower either (a) provides the institution/SBA with documentation it has met the conditions to have the loan forgiven or (b) defaults on its obligation. The loan origination fee is paid to the institution by one of the counterparties, the SBA. In effect, the SBA is paying a loan origination fee that would have ordinarily been paid by the borrower. In certain program documents, the fee may be referred to as a processing fee, but the labeling of the fee is not determinative.

The fee received from the SBA for originating the loan may be subject to clawback (or if the SBA has not yet paid the fee, the fee may not be paid), after full disbursement of the PPP loan if 

  • the PPP loan is cancelled or voluntarily terminated and repaid after disbursement but before the borrower certification safe harbor date,
  • the PPP loan is cancelled, terminated, or repaid after disbursement (and after the borrower certification safe harbor date) because SBA conducted a loan review and determined that the borrower was ineligible for a PPP loan, or 
  • the lender has not fulfilled its obligations under the PPP regulations.

In addition, lenders should consider guidance in FASB ASC 450, Contingencies, related to fees that may be subject to clawback or not received. If determined necessary, a lender would establish a loss contingency when it is probable that events or conditions precedent to a loss have occurred, and the resulting amount of the loss is estimable. The ability to estimate this contingent liability will be difficult for institutions since there is no historical data related to the loan program. However, clawback history will emerge over time related to each institution as well as publicly available information.  Each institution should use information as available to support their assessment. Most loans under $2M likely will not be subject to the clawback provisions.

Reporting Considerations

Lenders will use the SBA form 1502 to report information on fully disbursed loans. Upon submission of form 1502, the SBA will initiate payment of the PPP processing fee. The SBA has published an interim final rule extending the deadline to electronically upload form 1502 reporting information to the later of (1) May 29, 2020, or (2) 10 calendar days after disbursement or cancellation of the PPP loan. On May 22, 2020 the SBA will begin accepting PPP 1502 forms on May 22, 2020. PPP loan information will be submitted to the SBA on a monthly basis. This would include loans that were cancelled or voluntarily terminated.  Those that were repaid after disbursement will also be reported. It should be noted that if the lender sells a PPP loan, the originating lender would still be entitled to the processing fees.

Please contact a Brady Martz financial institution team member with additional questions.  Our team is here to help.  

Financial Institutions Using CARES Act Deferrals Won’t Violate GAAP

In a new article from the Journal of Accountancy, author Ken Tysiac states, “Eligible financial institutions will not be in violation of GAAP if they take advantage of the deferrals or suspensions of two FASB standards as permitted in the new federal coronavirus relief law, SEC Chief Accountant Sagar Teotia said Friday in a statement issued by the commission.”

Please click here to view the full article.

30 Day Extension for HUD Submissions Due March 31, 2020

The U.S. Department of Housing and Urban Development (HUD) has issued audit submission deadline extensions and other waivers for audits of certain for-profit entities under the HUD Consolidated Audit Guide.

COVID-19 Financial Institution Impact

As we at Brady Martz have been assisting our clients with COVID-19 related questions, many financial institutions have been working with their clients and finding ways to handle the economic stress resulting from COVID-19.