Office of the Comptroller of the Currency
Board of Governors of the Federal Reserve System
Federal Deposit Insurance Corporation
Office of Thrift Supervision
Credit Card Lending
Account Management and Loss Allowance Guidance
Recent examinations of institutions engaging in credit card lending have
disclosed a wide variety of account management, risk management, and loss
allowance practices, a number of which were deemed inappropriate. This
interagency guidance communicates the Agencies expectations for prudent
practices in these areas.
The account management and loss allowance principles described herein are
generally applicable to all institutions under the Agencies supervision that
offer credit card programs. The risk profile of the institution, the strength of
internal controls (including independent audit and risk management), the quality
of management reporting, and the adequacy of charge-off policies and loss
allowance methodologies will be factored into the Agencies assessment of the
overall adequacy of these account management practices. Regulatory scrutiny and
risk management expectations for certain practices, such as negative
amortization of over-limit accounts, will be greater for higher risk portfolios
and portfolio segments, including those that are subprime.
Wherever such practices are deemed inadequate or imprudent, regulators will
require immediate corrective action.
The Agencies expect institutions to fully test, analyze, and support their
account management practices, including credit line management and pricing
criteria, for prudence prior to broad implementation of those practices. Credit
card lenders should review their practices and initiate changes where
When assigning initial credit lines and/or significantly increasing existing
credit lines, credit card lenders should carefully consider the repayment
capacity of individual borrowers. When inadequately analyzed and managed,
practices such as dual/multiple card strategies and liberal line-increase
programs can increase the risk profile of a borrower and a portfolio quickly and
can result in rapid and significant portfolio deterioration.
The Agencies expect institutions to manage credit lines conservatively, using
proven credit criteria and a sound process that includes testing, analysis, and
controls. All credit line assignments should be preceded by evaluation and
documentation of the borrowers creditworthiness as supported by repayment
history, risk scores, behavior scores, or judgmental review. The Agencies expect
institutions to fully test, analyze, and justify line-assignment and
line-increase criteria prior to broad implementation.
Institutions can significantly increase customers credit exposures by
offering them additional cards, including store-specific private label cards and
affinity relationship cards. Institutions should fully consider the amount and
performance of existing lines in new account underwriting, account management,
and collection decisions, in order to ensure that borrowers are not extended
additional credit beyond their ability to repay.
Without adequate controls, some borrowers can be extended credit beyond their
ability to repay. For example, some institutions have granted additional cards
to borrowers already experiencing payment problems on existing cards. The
Agencies expect institutions that offer multiple credit lines to have sufficient
internal controls and management information systems (MIS) to aggregate related
exposures and analyze performance prior to offering additional credit lines.
Account management practices that do not adequately control authorizations,
provide for timely repayment of over-limit amounts, and prevent negative
amortization may significantly increase the credit risk profile of the
portfolio. While prudent over-limit practices are important for all
institutions, they are especially important for subprime lenders, where liberal
over-limit tolerances, inadequate repayment requirements, and deficient
reporting and loss allowance methodologies can magnify the high credit risk
exposure of those institutions.
Over-limit practices at all institutions should be carefully managed and
should focus on reasonable control and timely repayment of amounts that exceed
established credit limits. Management information systems for all institutions
should be sufficient to identify, measure, manage, and control the unique risks
associated with over-limit accounts. The policies of subprime lenders should
prohibit or severely restrict over-limit authorization on open-end subprime
accounts. The objective should be to ensure that the borrower remains within
prudent, established credit limits that increase the likelihood of responsible
Negative amortization occurs when the required minimum payment is
insufficient to cover fees and finance charges, including over-limit fees,
assessed in the current billing cycle. The Agencies generally consider allowing
negative amortization for over-limit subprime accounts to be an imprudent
Where over-limits are authorized for subprime accounts, policies and
practices should be structured to limit negative amortization and promptly
collect all over-limit amounts. Approaches to accomplish these objectives on
over-limit subprime accounts include, but are not limited to, discontinuing
over-limit fees after the initial cycle, requiring a minimum payment amount that
is at least sufficient to fully cover all interest and fees (e.g., over-limit
and late payment) assessed on over-limit accounts in the current billing cycle,
and requiring the minimum payment to include the full payment of the entire
Institutions should properly manage workout1 programs. Areas of concern
involve liberal repayment terms with extended amortizations, high charge-off
rates, moving accounts from one workout program to another, multiple re-agings,
and poor MIS to monitor program performance. Where workout programs are not
managed properly, the Agencies will criticize management and require appropriate
corrective action. Such actions may include classifying entire segments of
portfolios, placing loans on nonaccrual, increasing loss allowances to adequate
levels, and accelerating charge-offs to appropriate time frames.
Repayment Period - Repayment terms for revolving credit in workout
programs vary widely among credit card issuers. Practices range from programs
designed to maximize collection of balances owed to programs apparently designed
to maximize income recognition and defer losses. Some institutions programs
have not reduced interest rates sufficiently to facilitate timely repayment and
assist borrowers in extinguishing indebtedness. In many cases, reduced minimum
payment requirements in combination with continued charging of fees and finance
charges have extended repayment periods well beyond reasonable time frames.
Workout programs should be designed to maximize principal reduction. Debt
management plans developed by consumer credit counseling services generally
strive to have borrowers repay credit card debt within 48 months. Repayment
terms for workout programs should be generally consistent with these time
frames, with exceptions clearly documented and supported by compelling evidence
that less conservative terms and conditions are warranted. To meet these time
frames, institutions may need to substantially reduce or eliminate interest
rates and fees so that more of the payment is applied to reduce principal.
Settlements - Institutions sometimes negotiate settlement agreements with
borrowers who are unable to service their unsecured open-end credit. In a
settlement arrangement, the institution forgives a portion of the amount owed.
In exchange, the borrower agrees to pay the remaining balance either in a
lump-sum payment or by amortizing the balance over a several month period.
Institutions charge-off practices vary widely with regard to settlements.
Institutions should ensure that they establish and maintain adequate loss
allowances for credit card accounts subject to settlement arrangements. In
addition, the FFIEC Uniform Retail Credit Classification and Account Management
Policy states that "actual credit losses on individual retail loans should be
recorded when the institution becomes aware of the loss." In general, the amount
of debt forgiven in any settlement arrangement should be classified loss and
charged off immediately. However, a number of issues may make immediate
charge-off impractical. In such cases, institutions may treat the portion of the
allowance equal to the amounts forgiven in settlement arrangements as specific
allowances.2 Remaining settlement balances should be charged off
immediately if there is any doubt as to the customers willingness or ability to
repay the settlement amount in a timely manner.
Most institutions use historical net charge-off rates, based on migration
analysis of the roll rates3 to charge-off, as the starting point for
determining appropriate loss allowances. Institutions then typically adjust the
historical charge-offs for current trends and conditions and other factors.
Recent examinations of credit card lenders have revealed a variety of income
recognition and loss allowance practices. Such practices have resulted in
inconsistent estimates of incurred losses and, accordingly, the inconsistent
reporting of loss allowances.
Accrued Interest and Fees - Institutions should evaluate the
collectibility of accrued interest and fees on credit card accounts because a
portion of accrued interest and fees is generally not collectable. Although
regulatory reporting instructions do not require consumer credit card loans to
be placed on nonaccrual based on delinquency status, the Agencies expect all
institutions to employ appropriate methods to ensure that income is accurately
measured. Such methods may include providing loss allowances for uncollectable
fees and finance charges or placing delinquent and impaired receivables on
Loan Loss Allowances - The allowance for loan and lease losses (ALLL)
should be adequate to absorb credit losses that are probable and estimable on
all loans. While some institutions provide for an ALLL on all loans, others only
provide for an ALLL on loans that are delinquent. Typically, this practice
results in an inadequate ALLL. Institutions should ensure that their ALLL
methodology, including the analysis of roll rates, considers both delinquent and
Allowances for Over-limit Accounts - Institutions allowance
methodologies do not always recognize the loss inherent in over-limit portfolio
segments. For example, if borrowers were required to pay over-limit and other
fees, in addition to the minimum monthly payment amount each month, roll rates
and estimated losses may be higher than indicated in the overall portfolio
migration analysis. Accordingly, institutions should ensure that their allowance
methodology addresses the incremental losses that may be inherent on over-limit
Allowances for Workout Programs - Some institutions allowances do not
appropriately provide for the inherent probable loss in workout programs,
particularly where repayment periods are liberal with little progress on
reducing principal. The success of workout programs varies widely by program and
Accounts in workout programs should be segregated for performance measurement
and monitoring purposes. Where multiple workout programs with different
performance characteristics exist, each program should be tracked separately.
Adequate allowances should be established and maintained for each program.
Generally, the allowance allocation should equal the estimated loss in each
program based on historical experience as adjusted for current conditions and
trends. These adjustments should take into account changes in economic
conditions, volume and mix, terms and conditions of each program, and
Recovery Practices - After a loan is charged off, institutions must
properly report any subsequent collections on the loan. Typically, some or all
of such collections are reported as a recovery to the allowance for loan and
lease losses. Recent examinations have revealed that, in some instances, the
amount credited to the ALLL as a recovery (which may have included principal,
interest, and fees) exceeds the amount previously charged off against the ALLL
on that loan (which may have been limited to principal). Such a practice
understates an institutions net charge-off experience, which is an important
indicator of the credit quality and performance of an institutions portfolio.
Consistent with regulatory reporting instructions and generally accepted
accounting principles, recoveries represent collections on amounts that were
previously charged off against the ALLL. Accordingly, institutions must ensure
that an amount reported as a recovery on a loan is limited to the amount
previously charged off against the ALLL on that loan.
The Agencies recognize that in well-managed programs limited exceptions to
the FFIEC Uniform Retail Credit Classification and Account Management Policy may
be warranted. The basis for granting exceptions to the Policy should be
identified and described in the institution's policies and procedures. Such
policies and procedures should address the types of exceptions permitted and the
circumstances for permitting them. The volume of accounts granted exceptions
should be small and well controlled, and the performance of accounts granted
exceptions should be closely monitored. Examiners will evaluate whether an
institution uses exceptions prudently. When exceptions are not used prudently,
are not well managed, result in improper reporting, or are being used to mask
delinquencies and losses, management will be criticized and corrective action
will be required.
1 For purposes of this guidance, a workout is a former open-end credit card account upon which credit availability is closed, and the balance owed is placed on a fixed (dollar or percentage) repayment schedule in accordance with modified, concessionary terms and conditions. Generally, the repayment terms require amortization/liquidation of the balance owed over a defined payment period. Such arrangements are typically used when a customer is either unwilling or unable to repay the open-end credit card account in accordance with its original terms, but shows the willingness and ability to repay the loan in accordance with its modified terms and conditions.
2 For regulatory reporting purposes, banks should report the creation of a specific allowance as a charge-off in Schedule RI-B of the Reports of Condition and Income (Call Report). Savings associations should report these specific allowances, along with other specific allowances, on Schedule VA in the Thrift Financial Report (TFR). Loans to which specific allowances apply should be reported net of specific allowances in the Call Report and TFR.
3 Roll rate is the percentage of balances, or accounts, that move from one delinquency stage to the next delinquency stage.