Allowance for Loan and Lease Losses

DEAR BOARD OF DIRECTORS:

The NCUA has issued the attached Interpretive Ruling and Policy Statement (IRPS) on Allowance for Loan and Lease Losses (ALLL) Methodologies and Documentation for Credit Unions.

The IRPS, which was developed in consultation with the other federal banking agencies¹ and Securities and Exchange Commission (SEC) staff, was first issued by NCUA as proposed guidance in October 2001 and has been revised in response to the comments received. It provides guidance on the design and implementation of ALLL methodologies and supporting documentation practices. Specifically, it:

• Clarifies that the board of directors of each credit union is responsible for ensuring that controls are in place to determine the appropriate level of the ALLL;
• States that the ALLL process must be thorough, disciplined and consistently applied, and must incorporate management’s current judgments about the credit quality of the loan portfolio;
• Emphasizes the NCUA’s long-standing position that credit unions should maintain and support the ALLL with documentation that is consistent with their stated policies and procedures, generally accepted accounting principles (GAAP), and applicable supervisory guidance; and
• Provides guidance on maintaining and documenting policies and procedures that are appropriately tailored to the size and complexity of the credit union and its loan portfolio.

In addition to the guidance on ALLL methodologies and documentation, the IRPS includes illustrations of implementation practices that credit unions may find useful for enhancing their own ALLL processes. It also provides examples of certain key aspects of ALLL guidance; a section summary of applicable GAAP guidance; and a bibliographical list of relevant GAAP guidance, regulatory statements and other literature on ALLL issues.

The IRPS does not, however, change the existing accounting guidance in or modify the documentation requirements of GAAP. In this regard, the policy statement recognizes that estimating an appropriate allowance involves a high degree of management judgment and is inevitably imprecise. Accordingly, a credit union may determine that the amount of loss falls within a range. In accordance with GAAP, a credit union should record its best estimate within the range of loan losses.

The guidance applies equally to all credit unions, regardless of their size. However, it states that credit unions with less complex lending activities and products may find it more efficient to combine a number of procedures while continuing to ensure the credit union has a consistent and appropriate methodology. Thus, much of the supporting documentation required for a credit union with more complex products or portfolios may be combined into fewer supporting documents in a credit union with less complex products or portfolios.

The IRPS was published in the May 28, 2002, Federal Register. A reformatted version of the Federal Register notice is attached for your convenience.

The banking agencies issued a similar document published in the July 6, 2001, Federal Register on pages 35629-35639. On July 6, 2001, the SEC staff issued parallel guidance on loan losses methodologies and documentation that should be observed by public companies subject to the federal securities laws through its Staff Accounting Bulletin 102. A copy of the SEC's document can be obtained at http://www.sec.gov/interps/account.shtml.

Please share this information with the appropriate personnel in your credit union.