In 2006 the bank and thrift regulators issued industry guidance entitled Concentrations in Commercial Real Estate Lending, Sound Risk Management Practices. By now, institutions with significant exposure to commercial real estate lending activities should be well aware of the principles embodied in this document. While there is little debate with respect to the principles and concepts contained in the guidance, questions have arisen regarding supervisory expectations in assessing compliance with certain provisions.
More particularly, smaller community banks (arguably those that possess the greatest levels of individual exposure to CRE) are concerned that examiners may apply unreasonable standards when determining the adequacy of portfolio and credit risk management policies and practices. Banks are concerned that regulators may have unrealistic expectations regarding the level of risk management sophistication appropriate for community banks.
In recent discussions, banking agency senior staffs state that they do not apply a "one size fits all" approach in assessing individual bank compliance with the CRE guidance. Regulators understand the varying levels of risk management expertise and the budgetary constraints impacting institution operations. However, in individual conversations, representatives of each of the four banking agencies stand unified in their position that bank concentrations need to be properly managed and monitored. In essence, each regulator's position was: if an institution is sophisticated enough to create a concentration risk, it should be sophisticated enough to properly manage it.
Therefore, while regulators will accept varying levels of sophistication in applying the principles contained in the CRE guidance, the level of risk management in individual institutions must be adequate for the risks presented. The banking agencies have consistently held to their view that institutions with CRE concentrations, regardless of asset size, must meet all the provisions of the guidance. Institutions have the discretion to determine how best to do this. Regulators do not expect small institutions to employ sophisticated modeling in their ongoing risk analyses; simple Excel spreadsheet analysis and reporting may be sufficient. However, the goal of guidance compliance should not be simply to satisfy the regulators; the goal should be proper management of CRE concentration risk, including adequate reporting to the institution's board of directors.
Recently, regulators have expressed concern that a significant number of smaller institutions appear to have given little, if any, attention to the provisions contained in the CRE guidance. Some institutions have been subjected to formal enforcement actions regarding noncompliance. As CRE becomes a more significant concern in the current economy, regulators certainly will devote increased attention to the adequacy of CRE risk management programs and practices in individual institutions.
On September 21, 2009, at 2:00 PM EST, RMA will hold the first in a series of Regulatory and Legislative Update audio conferences. The primary discussion topic for this first audio conference will be compliance with the CRE guidance, and a senior bank regulatory official will present supervisory expectations, observed deficiencies and proposed courses of action regarding compliance. Adequate time will be allotted for participant questions and regulatory responses. RMA members are invited to register for this event and participate in the discussion of this timely and important topic.
