Regulators near completion of rule to offer capital relief

Banking regulators said on Sept. 18, 2018, that they plan to finalize a rule to ease the effect on capital of the Financial Accounting Standards Board’s (FASB) credit loss standard by the first quarter of 2019.

The expected timing matches the earliest period banks are allowed to apply the standard. Speaking at the American Institute of Certified Public Accountants (AICPA) National Conference on Banking and Financial Institutions, representatives from the Federal Reserve, Office of the Comptroller of the Currency (OCC) and the Federal Deposit Insurance Corp. (FDIC), said their agencies were weighing comments submitted in response to the proposal in Regulatory Capital Rules: Implementation and Transition of the Current Expected Credit Losses Methodology for Allowances and Related Adjustments to the Regulatory Capital Rules and Conforming Amendments to Other Regulations. The proposal was issued on April 13, 2018, with comments due by July 13, 2018.

The proposal offers banks the option to phase in, over a period of three years, the “adverse effects” on regulatory capital they expect when they adopt the changes in Accounting Standards Update (ASU) No. 2016-13, Financial Instruments — Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments. The standard goes into effect in 2020 for large, publicly traded banks and companies and 2021 for smaller companies and financial institutions. The FASB in August issued a proposal to set the effective date for credit unions and community banks at 2022.

The standard, the FASB’s most important response to the 2008 financial crisis and one of the biggest changes to bank accounting in recent years, requires banks and other businesses to look to the future to estimate expected losses on failing loans and certain types of debt securities. It is expected to make banks increase the reserves they set aside to cover losses on loans and securities. When banks increase loss reserves, they typically have to raise new funds to rebuild their capital base. The proposed rule change from the regulators would let banks soften the blow to capital by spreading out the effect of the accounting change over three years.

Many banks that responded to the proposal applauded the move to offer relief, but most asked for even more help. Several banks and professional groups asked for the flexibility to phase in the capital hit over five years instead of the three years in the proposal. Others used their comment letters to criticize ASU No. 2016-13 and called on the regulators to force the FASB to make changes to the standard or conduct a formal cost-benefit analysis of the standard’s effect before letting it be implemented.

The banking regulators did not say how the agencies would respond to the requests. In response to a question from Accounting & Compliance Alert, FDIC Chief Accountant Robert Storch said, generally, that one request — an economic impact study — would be difficult for the agencies to conduct.

To conduct such a study, the agencies would have to make banks send data to the regulators. If the agencies consult with more than nine banks, they have to comply with the requirements of the Paperwork Reduction Act, a 1990 law that requires federal agencies to obtain approval before collecting information from the public.

“What’s the burden of imposing that?” Storch said. “And if you do it for nine or fewer institutions, how reputable is the outcome going to be?”

As for the requests for the regulators to ask the FASB to change the credit loss standard, FASB member Harold Schroeder said he expected the regulators to respect the accounting board’s independence.

That said, Schroeder during his speech to the AICPA conference said that if the board were to receive a formal request from banks to change aspects of the standard, the board would consider the request in a public meeting.

The FASB’s credit loss standard replaces the existing standards that let banks estimate losses only after they are “probable.” In practice, this has often meant that loan losses are only accounted for once borrowers default. During the financial crisis, investors, regulators and banks themselves said loan loss provisions were recognized “too little, too late.”

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