Regulatory and regulatory actions on RDTs: short-term mitigation, long-term aggravation?
By Josh Stein
RIn response to concerns that the accounting rules for troubled debt restructurings, or TDRs, could hamper banks’ ability to help borrowers during the expected COVID-related economic downturn, federal banking agencies and Congress have moved quickly to act more early this year to alleviate the operational and capital challenges associated with such loan modifications.
March 22, 2020 interagency guidance on RDTs was important, affecting not only accounting processes, but reporting of unaccounted-for and delinquent loans, as well as qualifications to be considered collateral under the Federal Reserve’s discount window. The guidelines focused on deferrals and extensions of payments and insignificant carry-overs. In an unprecedented step then taken by Congress to effectively establish new U.S. accounting standards, the CARES Act has taken the accounting one step further, providing for a temporary and optional suspension of TDR accounting for virtually all loans related to COVID. -19.
Compared to interagency guidelines, ABA believes that the CARES Act has extended the related time frame and types of changes that would automatically bypass TDR’s accounting considerations. For example, subject to security and soundness principles, the CARES Act allows virtually any modification to bypass TDR accounting considerations, rather than providing short-term extensions. With this in mind, the bank branches have offered other advice April 7 to clarify that the CARES law or interagency directives could be applied by banks.
These actions are significant and show the concern for proactive engagement with borrowers. Amid the rush of changes without the need to consider depreciation as part of TDR accounting, however, agency staff stress that a sound credit risk assessment is essential, regardless of the risk. TDR designation. Bankers must be vigilant in understanding and assessing the real risk in their portfolios, and they must do so with significant disruption to traditional credit metrics.
Defaults can be artificially low due to forbearance, and business cash flow will likely be supported by government programs such as the Payment Protection Program. This can often leave bankers guessing how much of their loans will ultimately perform. All of this raises further questions: will one change be enough? How long before the bank can safely start collecting payments again? What will the business on the other side of this health crisis look like? Will there be additional stimulus from the government? What form will it take?
Ultimately, whether or not institutions use the CECL, risk assessment and cash flow modeling are less secure than at any point in the careers of most bankers and examiners. Thus, while TDR relief is a necessary step to create a short-term gateway to economic recovery, it also comes with the longer-term need for more robust monitoring and real-time evaluation. portfolio to ensure the overall safety and soundness of national banks.
Josh Stein is vice president of accounting and financial management at ABA.