Federal Deposit
Insurance Corporation

From: Chris Kelley
Sent: Friday, February 17, 2006 3:31 PM
To: Comments
Subject: 2006-01 - Commercial Real Estate Lending, Sound Risk Mgt Practices--01/13/06

RE: Financial Institution Letter FIL-4-2006 – January 13, 2006
      Commercial Real Estate Lending – Proposed Interagency Guidance

As requested by FDIC, the following comments are in response to (1) scope of the definition of commercial real estate (CRE); and (2) appropriateness of the thresholds for determining elevated concentration risk.

Scope of the definition of commercial real estate (CRE)
The financial institution letter outlines the methodology for the identification of institutions with CRE concentrations. For a commercial bank, the regulatory report used in the identification process is the Call Report FFIEC 031 and 041, Section RC-C. The first threshold outlined in the guidance is “Total reported loans for construction, land development, and other land” as defined as “RC-C item 1a.” Based on the guidance, the dollar amount of loans reported in RC-C item 1a. would be the basis used to identify the first category of CRE type loans.

The composition of loans in this category not only includes commercial real estate loans, but also the following: 1-to-4 family residential property construction and vacant lots in established single-family residential sections, regardless of type of ownership or source of repayment. As defined and instructed by FFIEC, loans for the construction of 1-to-4 family properties are reported and reflected in item 1a., regardless of ownership, terms, or source of repayment. The proposed guidance states “The Agencies have excluded loans secured by owner-occupied properties from the CRE definition because their risk profiles are less influenced by the condition of the general CRE market.” The FFIEC instructions for loan reporting and categorization of RC-C 1a. does not represent the focus of CRE loans as outlined in the guidance.

The second threshold outlined in the guidance includes RC-C item 1a. described above with the addition of Section RC-C item 1d. “Secured by multifamily (5 or more) residential properties and Section RC-C item 1e. “Secured by non-farm nonresidential properties”. Likewise, utilizing these two sections to identify concentrations of CRE loans does not match the purpose or the focus of this guidance. The focus of this guidance is “CRE loans where the primary or a significant source of repayment is derived from rental income associated with the property, or the proceeds of the sale, refinancing, or permanent financing of the property.”

Utilizing these sections of the Call report as the basis for the identification of CRE loans, does not correspond to the scope of the definition as outlined in this guidance and does not constitute an accurate measurement of the volume of CRE loans in an institutions lending portfolio that are particularly vulnerable to cyclical commercial real estate markets.

Appropriateness of the thresholds for determining elevated concentration risk
The thresholds as outlined in the guidance of 100% of total capital (FFIEC RC-R total risk based capital) for the first threshold and 300% of total capital for the second threshold would adversely affect the ability of small community banks to meet the financing needs of local businesses in their communities. These limits would definitely curtail or eliminate business lending for small community banks. There is no one single threshold that can be applied generically to all banks. Other factors should be considered such as: the size and financial condition of the institution, and the nature and scope of the institution’s real estate lending activities. This new guidance would severely limit the ability of small community banks to compete in the market place since large banks have greater capital bases compared to small banks. The thresholds outlined in this guidance immediately places small community banks at a competitive disadvantage.

If the major focus of this guidance is risk identification and measurement of concentration within a bank’s CRE loan portfolio, there should be some type of methodology for the segregation of CRE loans containing certain risk characteristics. For example, the FDIC Rules and Regulations for Real Estate Lending Standards and the Interagency Guidance on High Loan-to-Value Real Estate Lending provide specific supervisory loan to value limitations for real estate loans. Specific loans are reported using the lesser of the acquisition cost or the appraised value: 65 percent for raw land; 75 percent for land development; 80 percent for commercial, multi-family and other non-residential construction; 85 percent for improved property. The limitations and requirements imposed by this regulation and guidance have already adversely affected the dollar amount of non-owner occupied properties that can be financed by small community banks.

In my opinion, the thresholds as outlined in the proposed guidance should be applied in a similar manner as the Real Estate Lending Standards, targeting and reporting certain loans. The CRE loan portfolio should be segmented by identifying risk characteristics that are common to groups of loans, instead of the aggregate CRE loan portfolio as a whole.

Issues that should be addressed by the Agencies in this guidance:

(1) Identifying institutions with commercial real estate loan concentrations from Call Report data as outlined in the guidance is not a sufficient measurement tool without adjustments for owner occupied 1-to-4 family properties within the sections identified in the guidance.

(2) Incorporate methodology for identification, reporting and monitoring CRE loans with potential risk characteristics vulnerable to the cyclical nature of commercial real estate markets, not the aggregate CRE loan portfolio as a whole.

(3) Those identified loans, not all CRE loans, should be measured against a threshold percent of capital that does not penalize small community banks.

In my opinion, as a loan review and compliance officer, I agree this is an extremely important issue that should be addressed. The Uniform Bank Performance Report clearly reflects an increase in these Call report categories for the average bank. Banks should be identifying, monitoring and reviewing all aspects of their real estate portfolios, identifying concentrations in many areas to include: industry, property type, geographic location and source of repayment. In addition, the establishment of adequate controls and reporting should be commensurate to the risk of such concentrations. Implementing this guidance as proposed in the interagency guidance will cripple the ability of small community banks to meet the financial needs of its community.

Thank you for the opportunity to address these issues.

Chris Kelley, Vice President
Wakulla Bank