Key Areas Examiners Review When the Reserve Lowers Significantly
Jan 21, 2015
Whenever there is a sharp change in the ALLL, documentation showing why it is merited will be pivotal. An institution's ALLL should always be objective and well-documented, but this is even more important when there is a drastic change to your ending ALLL balance. In particular, examiners may give greater scrutiny to your qualitative and environmental factors and your ASC 310-10-35 (FAS 114) cash flow impairment analysis. Ensure that you have supporting documentation demonstrating that you have been directionally consistent with your Q factors and that your cash flow impairment analysis is void of any "excessive optimism."
If you are fortunate enough to have your ALLL reserve lower significantly between calculations, it can and will raise red flags with examiners. During your next review, you will get looked at with greater scrutiny in 2 areas:
1. The qualitative factors, also known as environmental factors.
They will look with greater detail there to make sure your trends and your scoring is in line with the data that is supporting your factors. Here’s an example. That economic factor is generally supported by the unemployment index (you might use some other rates as well, like bankruptcy). If that unemployment index drops, or shows and improvement, then your trend/scoring should be in line with an improvement. If that index is the same, flat-line, or decline, then examiners are going to poke at you for not being directionally consistent. They are going to do this for all of the qualitative factors, so it is important that you can defend the trend/scoring you used for the most recent period that dropped that ALLL reserve significantly.
2. Your FAS 114 cash flow impairment analysis.
They are going to be looking for, in their own words, “excessive optimism” in that cash flow impairment analysis. Basically that expected monthly payment – you need to be able to defend how that was calculated.
Those are the two areas examiners are going to look at in greater detail when your ALLL reserve drops significantly from one calculation to the next.