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Appeals of Material Supervisory Determinations: Guidelines & Decisions

SARC-96-05 (September 27, 1996)

The Supervision Appeals Review Committee of the Federal Deposit Insurance Corporation (“FDIC”), on September 27, 1996, considered the appeal of [Bank] ("Bank") and concludes that the examiners’ computation of the allowance for loan losses is appropriate.

Your observation that the “Interagency Policy Statement on the Allowance for Loan and Lease Losses” provides for a charge-off horizon of less than one year in certain circumstances is correct. However, the policy statement clarifies that such shorter time period may be justified if the loan pool is not subject to greater than normal credit risks. The nature of the loans, including the volume of charge-offs and renewals, indicate that the subject loan portfolio contains risks far greater than normally associated with the typical loan portfolio of a bank insured by the FDIC. Furthermore, the contention that a shorter time horizon is reasonable because the finance company loans mature on average in 3.5 months is not supported. In actuality, the volume of renewals and the Bank’s amortization of the premium paid on purchased loans over a seven-year period to correlate to the anticipated length of the borrowing relationship reflect a much longer time period.

We disagree with the methodology for loan and lease losses recommended by Accounting firm (X). X subtracts cash payments made by borrowers from ending charge-offs in determining loss experience. This result in an understatement of historic charge-offs and causes the reserve estimate to reflect only a partial year of projected losses.

Based on the aforementioned factors, the standard one-year time horizon appears to be warranted and the methodology for assessing the adequacy of the reserves for loan losses utilized by the examiners at the December 31, 1995, examination is considered appropriate. We regret that there may have been previous misunderstandings between the FDIC and the Bank on the appropriate level for the loan loss reserve. While it is expected that the appropriate reserve will be established promptly, our Dallas Regional Office will work with your Bank on a plan to address any capital implications of this action.

Pursuant to our guidelines, the scope of our review was limited to the facts and circumstances that existed at the time of the examination. This determination is considered a final supervisory decision of the FDIC.

By direction of the Supervision Appeals Review Committee of the FDIC.