A provision that is created (set aside) by an entity, as an amount deducted from income, to adjust its loan balances to reflect anticipated losses on its loans (extended to others). This amount is added to the allowance for credit losses (ACL) to bring it to a level that the entity’s management deems adequate to account for all credit losses (arising from credit risk) in its loan portfolio.

The provision for credit losses (PCL) is set aside to cover probably uncollectible loans, and as such to protect an entity from insolvency. This provision is calculated based on a PCL ratio– a ratio that measures the provision for credit losses as a percentage of net loans and similar types of lending (e.g., acceptances).

PCL can be used to assess the riskiness of loans extended (written) by entities such as banks in comparison to the industry’s averages and other market players. Risky loans lead to a higher PCL and hence, a higher PCL ratio.

The provision for credit losses is charged as an expense to an entity’s statement of income.