Improvements to Accounting for Credit Losses: What ASU 2025-05 Means for Your Business

When the Financial Accounting Standards Board (FASB) released Accounting Standards Update (ASU) 2016-13, it marked a major step toward more forward-looking credit loss estimates. However, for many private companies, implementation proved to be anything but simple. Estimating expected credit losses often resulted in time-consuming analysis. Now, with the introduction of ASU 2025-05, the FASB is addressing those challenges head-on, offering private entities a practical and simplified approach that better aligns estimates with actual collections and eases the compliance burden.

The Challenge with ASU 2016-13

As established under ASU 2016-13, when an entity estimates expected credit losses, it must consider information relevant to assessing the collectability of cash flows, including:

• Historical losses
• Current economic conditions
• Reasonable and supportable forecasts

An entity may need to adjust its historical losses to estimate expected credit losses if historical conditions differ significantly from current conditions or if reasonable and supportable forecasts are available. Additionally, current guidance does not allow entities to consider collections received after the balance sheet date when developing these estimates.

As a result of these requirements, private companies faced challenges implementing ASU 2016-13, especially when estimating expected credit losses for accounts receivable and current contract assets.  Estimating losses on balances collected before the financial statements were available for issuance often required significant effort and documentation. This led to recording expected credit losses for balances that were subsequently collected.

Stakeholders suggested that allowing the consideration of post-balance sheet date collections could provide users with more useful information while reducing complexity in the estimation process.

What is ASU 2025-05?

In response to stakeholder concerns and the practical challenges faced by private companies, the FASB issued ASU 2025-05, Financial Instruments – Credit Losses (Topic 326): Measurement of Credit Losses for Accounts Receivable and Contract Assets. The update introduces new options that allow entities to streamline their analysis while still providing useful and accurate financial information. Specifically, ASU 2025-05 includes:

• Practical Expedient: In developing reasonable and supportable forecasts as part of estimating expected credit losses, all entities may elect a practical expedient that assumes current conditions as of the balance sheet date remain unchanged for the remaining life of the asset.
• Accounting Policy Election: A nonpublic entity that elects the practical expedient is permitted to make an accounting policy election to consider collection activity after the balance sheet date when estimating expected credit losses.

Entities must disclose whether they have applied the practical expedient and/or the accounting policy election. Entities electing the accounting policy must also disclose the date through which subsequent cash collections were evaluated.

The issuance of ASU 2025-05 is expected to significantly reduce the time and effort required to develop credit loss estimates on accounts receivable and current contract assets. Instead of creating reasonable and supportable forecasts, entities may rely on collection activity after the balance sheet date, providing relief and potentially more accurate financial reporting.

Preparing Your Business for ASU 2025-05

The amendments are effective for annual reporting periods beginning after December 15, 2025, and should be applied prospectively. Early adoption is permitted.

If you have questions about implementing or maintaining compliance with ASU 2025-05 for your company, the Assurance experts at Moore Colson are here to help. Contact us for more information.