The transition to International Financial Reporting Standard 9 (IFRS 9): Financial Instruments represents a major shift for Bangladeshi commercial banks, moving from the traditional incurred loss (IL) model to a more proactive and forward-looking Expected Credit Loss (ECL) model. This change is critical for enhancing financial stability, improving the accuracy of credit risk assessment, and meeting the standards set by international bodies like the IMF.
Key Shift: From Incurred Loss to Expected Credit Loss
The core difference lies in the timing of loss recognition:
- Incurred Loss (IAS 39): Losses were recognized only after a credit loss event had occurred (e.g., a payment was overdue). This was criticized globally for delaying the recognition of losses, especially during economic downturns.
- Expected Credit Loss (IFRS 9): Banks must now recognize losses before they occur. The ECL model is a probability-weighted estimate of credit losses over the expected life of a financial instrument, incorporating forward-looking information such as macroeconomic factors and forecasts.
In Bangladesh, the current regulatory framework under Bangladesh Bank (BB) still predominantly follows a modified incurred loss approach for loan classification and provisioning. The shift to IFRS 9’s ECL model is mandated by a roadmap set out by the Bangladesh Bank, with the goal of complete implementation by late 2027.
The Three Stages of ECL Impairment
IFRS 9 establishes a three-stage model for calculating ECL provisions:
- Stage 1 (12-Month ECL): Applies to financial assets with no significant increase in credit risk since initial recognition. The bank recognizes expected losses that may result from default events possible within the next 12 months.
- Stage 2 (Lifetime ECL): Applies when a financial asset has experienced a significant increase in credit risk since initial recognition, but is not yet credit-impaired. The bank recognizes expected losses over the entire expected life of the financial asset (Lifetime ECL).
- Stage 3 (Lifetime ECL – Credit-Impaired): Applies to assets that are credit-impaired (similar to the old ‘incurred loss’ definition). The bank continues to recognize Lifetime ECL, but interest revenue is calculated on the net carrying amount (gross amount minus the loss allowance).
Challenges in ECL Modeling for Bangladeshi Banks
The implementation of IFRS 9 and its complex ECL model presents several significant challenges for commercial banks in Bangladesh:
- Data Scarcity and Quality: Many banks lack the granularity and historical depth of data required to develop robust ECL models, especially for calculating key components like Probability of Default (PD) and Loss Given Default (LGD). The scarcity of reliable recovery data is a particular hurdle.
- Incorporating Forward-Looking Information: A core requirement of the ECL model is using reasonable and supportable forward-looking information (e.g., GDP growth, inflation, unemployment) in a probability-weighted scenario analysis. Many institutions lack the sophisticated modeling expertise and data infrastructure to reliably forecast and incorporate these macroeconomic variables.
- Model Expertise and Governance: The development and validation of statistical models for ECL require specialized quantitative skills, which are often limited within the local banking sector. Strong governance frameworks are needed to ensure the models are robust, consistently applied, and not subject to undue managerial discretion.
- Regulatory Discrepancy: Historically, there have been differences between the local Bangladesh Bank provisioning rules (which used a more relaxed classification timeline) and the forward-looking IFRS 9 requirements. While the BB has issued a roadmap and is working to align standards, managing the dual-reporting and transition period is complex.
Conclusion
Successful implementation of IFRS 9 and ECL modeling requires a multi-faceted approach:
- Investment in Technology and Data: Banks must invest heavily in technology platforms for data integration, warehousing, and automated ECL calculation to support the increased granularity and reporting frequency.
- Capacity Building: There is a critical need for training and skill development in advanced credit risk modeling, data science, and the complex judgmental application of the IFRS 9 standard.
- Enhancing Governance: Establishing robust governance frameworks for model development, validation, and regular review is essential to maintain the integrity and accuracy of ECL provisions.
The shift to IFRS 9’s ECL model marks a paradigm change, moving the Bangladeshi banking sector toward a more globally consistent and risk-aware financial reporting environment, ultimately strengthening the country’s financial stability.
As Bangladeshi banks move toward full IFRS 9 compliance, having the right technology partner is crucial. FineIT specializes in delivering end-to-end IFRS 9 solutions—covering ECL model development, data integration, automation, governance, and regulatory reporting.
Whether you are just starting your IFRS 9 transition or looking to enhance your existing framework, our experts are ready to support you every step of the way.
Ready to strengthen your ECL modeling and IFRS 9 implementation? Contact FineIT today to unlock compliant, accurate, and forward-looking risk management.