Comptroller of the Currency Thomas J. Curry spoke before the AICPA, the world’s largest accounting trade group, last week, where he stressed the need for banks to maintain “appropriate allowances” for loan losses.
Last year, the OCC called attention to a decline in allowance relative to the volume and value of charged-off bank loans and raised questions as to the kind of justification used by banks in making the reductions and whether the pace of reserve releases was sustainable.
Curry said that while banks have improved in their releases of reserves, some have found the practice of repurposing earnings to be “habit-forming.”
“Last year we noted a growing disconnect between the pace and magnitude of allowance releases and underlying credit trends,” Curry said. “Of particular concern to us was that significant reserve releases were continuing despite reports from our examiners that credit risk, as I mentioned earlier, was once again on the rise, with relaxed underwriting standards, pricing for risk, and more risk layering. It seemed to us a singularly bad time for banks to be scrimping on their allowances against their loan losses.”
Curry said that while the OCC’s mission to highlight potentially risky practices seemed to get the industry’s attention, as provisioning slowed at the same rate as the decline in net charge-offs, the decline in loan-loss provisions exceeded net charge-offs again the following quarter.
“And, again, this is happening despite loosening credit underwriting standards, which suggests that risks are increasing that may result in larger charge-offs,” Curry said. “I want to be clear: we are not talking about an imminent crisis. But there are steps we need to take to be transparent about the current impairment of the loan portfolio. These steps include reaffirming our commitment to supervisory vigilance and maintaining open and constant communication with key industry players… At the same time, we expect to see uniformly strong risk management, including prudent allowance practices consistent with GAAP and regulatory guidance, in our banks—and especially in our largest institutions.”
The OCC also reaffirmed its support for a new impairment measurement standard put forth last year by the Financial Accounting Standards Board, though it and other regulators have urged the FASB to make changes to the proposal.
“Nonetheless, we have concluded that the FASB proposal is consistent with the goal of supporting and reporting on the balance-sheet integrity and the ability of financial institutions to fully consider all information, past, present, and future, and to do it early, when risks are building, in determining what amount of allowance is the right amount,” Curry said. “In that respect, it mirrors the approach that has long defined the OCC’s risk-based, forward-looking approach to supervision, an approach with which national banks and federal thrifts are thoroughly familiar. That familiarity alone should make the transition easier for national banks and federal thrifts.”