According to research conducted by the Department of Labor (of all places), it is estimated that 80% of comprehension for people occurs through visual input. The research also found that people will retain 6.5x more information when visual aids are used to complement verbal interaction. In short, if you are trying to get a point across, make sure you have plenty of visual support to go along with it. To help you prepare visual aids for your next regulatory examination, today we cover key areas regulators have indicated they will be reviewing closely when visiting banks. The information has been picked up from regulatory speeches and presentations, as well as discussions with our community bank customers.
Banks with a material level of impaired loans that are based on collateral value should expect more scrutiny. Specifically, regulators will review the following: how appraisals are obtained and how that impacts the amount and timing of recording loan loss provisions and charge-offs; any adjustments to appraisals will be evaluated and questioned; whether appraisals are "as-is" or based on another value; how you classify and account for loans that are partially charged off, subsequent to receiving an updated appraisal (and whether the loans are returned to performing status or remain as nonperforming). Other points of scrutiny will be how charged off amounts are determined, whether external appraisals are used (and if not how was the amount derived) and formal calculations on how charge offs impact the coverage ratio (allowance / non performing loans).
Given the upsurge over the past 12 to 18 months, it also shouldn't surprise anyone that regulators are taking a closer look into troubled debt restructurings (TDRs). Specifically, they are focused on explanations of the types of workout programs and quantification of modified loans. They also want to understand why any modified loans are not accounted for as TDRs and the nonaccrual policy for restructured loans. For banks that have a material amount of TDRs, expectations increase in this area and regulators want to see such information as a description of key features of loan modifications, significant terms modified and whether modifications are short or long term. They will also want loans to be broken down by type (residential, commercial, etc.) and classified and quantified separately (as accrual or nonaccrual). Policies will also be reviewed to determine how many payments a borrower needs to make on a restructured loan before it is returned to accrual (6 months minimum is expected). Loan modification write-ups will also be reviewed to determine adequacy of quantification of types of concessions made (such as a reduction in interest rate, payment extensions, forgiveness of principal, etc.). Finally, banks should be prepared to discuss in detail the factors considered when a loan is restructured and success levels with different types of concessions.
We will have more information to present to you as the year continues to unfold, but for now we simply report that you should expect examinations to remain extremely detailed (so preparing in advance should help the process along).