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Bank Date of Exam
Charter Prepared By
#2 – ALLOWANCE FOR LOAN AND LEASE LOSSES
(Risk Focused)
ASSIGNMENT OVERVIEW:
The Allowance for Loan and Lease Losses (ALLL) should reflect potential losses inherent in a bank’s loan
portfolio and off-balance sheet lending activities. It is the responsibility of bank management and the board of
directors to maintain an adequate and accurate level in the ALLL through at least quarterly evaluations of the
methodology and the bank’s credit risk. Significant understatement of the ALLL may represent a safety and
soundness risk through overstatement of a bank’s earnings and capital accounts. Significant overstatement of
reserves is inappropriate from an accounting practice, and could lead to complacent loan administration. Refer to
Section 3.1 “Loans” in the FDIC Examination Manual and the Policy Statement on the Allowance for Loan and
Lease Losses Methodologies and Documentation for Banks and Savings Institutions (July 21, 2001) for more
information. The related Reference document for this procedure identifies useful regulations, guidance, and other
issuances by various regulatory authorities.
INSTRUCTIONS:
All examiners performing these procedures must be listed above in the “Prepared By” section. Completion of this
procedure must be done electronically. All of the CORE ANALYSIS PHASE should be completed. Comments
and findings for each step should be made in the comment box below each question. Reference to work paper
documentation should also be included here. Documentation is to be sufficient to allow an audit trail of the
examiner’s thought process and all significant findings.
Based on any significant/critical findings in the CORE ANALYSIS PHASE or as directed by the EIC, the
applicable SAP should also be performed. All findings in the SAP should be summarized in the corresponding
CORE ANALYSIS comment secton. If the SAP is performed, an “X” should be placed in the space provided
next to “Performed SAP” located in the CORE ANALYSIS.
The EIC/AEIC should review this procedure when complete. Acknowledgement that this procedure has been
reviewed by the EIC/AEIC and Regional Office (when appropriate) will be indicated on the SCOPE AND
REVIEW ACKNOWLEDGEMENT FORM.
Navigation through the work program is facilitated by hyperlinks throughout the document. In order to reach the
linked sections, place the cursor over the underlined text, hold down the control key, and click to follow the link.
Links are also provided to return to the CORE ANALYSIS. These links are found whenever a blue arrow ( )
appears.
EXAMINERS ARE RESPONSIBLE FOR EXERCISING SOUND JUDGMENT AND UTILIZING REASONABLE
INVESTIGATIVE AND ANALYTICAL SKILLS TO ARRIVE AT AN ACCURATE ASSESSMENT OF THE RISK PROFILE
OF THIS SEGMENT OF THE INSTITUTION’S OPERATIONS. PERFORMING ALTERNATE PROCEDURES NOT
LISTED WITH THESE GUIDELINES MAY BE NECESSARY TO COMPLETE THIS RISK ANALYSIS.
RF02- ALLL (02/2010) 1 Texas Department of Banking
CORE ANALYSIS PHASE
1. Prior Criticism
1a. Determine whether deficiencies noted in the last examination and most recent
internal/external audit have been addressed and/or corrected by management. Detail how
deficiencies were corrected. Include copy of exception and management response, if applicable.
Comment:
2. Account Balance and Activity
Note: All entries to the ALLL account should flow through the appropriate income and expense
accounts not through the capital accounts.
2a. Reconcile ALLL transcripts to call report Schedules RI-B and RC and review for any
unusual activity. Refer to Appendix for guidance. Explain and document differences and
complete the SAP if unusual activity is noted.
Performed SAP
Comment:
2b. List any loans classified “Loss” which were not charged off at the last exam and document
the reasons why.
Comment:
2c. Review the procedures for posting charge-offs and recoveries to the ALLL account.
Comment on any inadequacy of these procedures, lack of segregation of duties, and/or board
approval.
Comment:
3. Methodology & Adequacy of Reserves
3a. Review the bank’s methodology for calculating reserves and maintaining the ALLL account.
Comment specifically on compliance with FAS 5 (ASC Topic 450- Contingencies) and FAS 114
(ASC Topic 310 – Receivables)*. Document deficiencies noted and refer to Appendix for
guidance. Include copy of internal ALLL calculation and methodology in work papers.
* FASB Accounting Standards Codification (ASC) organizes accounting standards by topic and sections.
Comment:
3b. Complete ALLL Worksheets 1 through 4. If any deficiencies are noted, document and
discuss with management. Amend call reports if necessary.
Comment:
RF02 - ALLL ( 02/12/2010 ) 2 Texas Department of Banking
4. Final Analysis
4a. Complete the Summary of Findings page.
RF02 - ALLL ( 02/12/2010 ) 3 Texas Department of Banking
SUMMARY OF FINDINGS
#2-ALLOWANCE FOR LOAN AND LEASE LOSSES
Describe all strengths evident from the evaluation.
Describe all weaknesses evident from evaluation, including violations of
law/regulation/rules; noncompliance with Departmental policies/guidelines; internal policy
deficiencies/ noncompliance; internal control weaknesses; MIS problems; and deficiencies
in management supervision.
Report Worthy:
Not Report Worthy:
Determine why weaknesses exist and comment on management’s response and plan of
action. Identify bank personnel making the response.
SUMMARY RISK RATING ASSIGNED:
Definitions:
1-Strong; 2-Satisfactory; 3-Less than satisfactory; 4-Deficient; 5-Critically deficient; NR-Not Rated
(Return to Core Analysis)
Provide copy of this page to EIC/AEIC. Receipt and review of this form by the EIC/AEIC will be evidenced
by his/her initials in the appropriate column for this procedure on the SCOPE AND REVIEW
ACKNOWLEDGEMENT FORM (Planning and Control Worksheet #1).
RF02 - ALLL ( 02/12/2010 ) 4 Texas Department of Banking
SUPPLEMENTAL ASSESSMENT PHASE
2 Account Balance and Activity
Q2a. Reconcile ALLL transcripts to call report Schedules RI-B and RC and review
for any unusual activity. See Appendix for guidance. Explain and document
differences and complete the SAP if unusual activity is noted.
Summarize findings and other comments in the CORE section.
If unusual activity is noted:
• Perform a random sampling of charged-off loans and/or discuss
current practices with employees in the loan department to document
or detail unusual activity.
(Return to Core Analysis)
RF02 - ALLL ( 02/12/2010 ) 5 Texas Department of Banking
APPENDIX
2 ACCOUNT BALANCE AND ACTIVITY –
Identifying unusual activity in the ALLL account.
The following are some examples of unusual activity which may require additional
investigation:
• Large Items
• Reversal Entries
• Large charge-offs and/or recoveries in the 1st quarter of the year
• Specific types of loans with high charge-off rates
• Originating officers with high charge-off rates
• Charge-offs within 12 months of origination date
• Directors, officers, employees, or principal shareholders and related party (i.e.
relative or business) with a charge-off
• Negative provisions to the ALLL account
• Accruals or credits not debited thru provision expense account
• Fast recoveries (within 30 days)
• Inappropriate expenses (i.e. ORE expenses, accrued interest, service charges)
(Return to Core Analysis)
APPENDIX
3 METHODOLOGY & ADEQUACY OF RESERVES –
Determining the adequacy of the bank’s ALLL Methodology
In determining the adequacy of the bank’s methodology, consider the following:
1. Adequacy of policies and the Board’s review/approval of the reserve account.
2. Compliance with the FFIEC’s “Interagency Policy Statement on the ALLL” dated
RF02 - ALLL ( 02/12/2010 ) 6 Texas Department of Banking
July 2, 2001 by considering:
• Adequacy of specific reserve allocations
• Adequacy of general reserve allocations (i.e. application of % reserves to both
classified and non classified loans)
• Exclusion of certain loans (i.e. CD secured or government guaranteed loans)
from the general reserve
3. Compliance with FAS 5 - Accounting for Contingencies (FASB ASC Topic 450 –
Contingencies)
4. Compliance with FAS 114 – Accounting by Creditors for Impairment of a Loan
(FASB ASC Topic 310 – Receivables)
Note: FASB ASC is FASB Accounting Standards Codification which organizes
accounting standards by topic and sections.
(Return to Core Analysis)
RF02 - ALLL ( 02/12/2010 ) 7 Texas Department of Banking
ALLL WORKSHEET – 1
Some fields within the ALLL Worksheets contain formulas and will calculate a result. To calculate a number,
highlight the shaded area (which indicates a formula exists for this cell) and press F9. Fields do not automatically
recalculate when a cell value changes. Update the calculation by selecting the field and then pressing F9.
Specific Loan Method
Total Loans (net unearned discount)
Less:
Loans classified at this examination
Cash-secured loans
Government guaranteed loans
Other – Specify
Other – Specify
Total Deductions ( 0 )
Balance of uncriticized loans subject to allocation
Percent allocation based on historic, peer group, portfolio
risk characteristics, bank’s calculation, etc.* x %
Reserves allocated against uncriticized loans 0.00
Specific reserves allocated against loans classified at this
examination as well as off-balance sheet items such
as letters of credit and unfunded loan
commitments.**
Total estimated ALLL required using Specific Loan
Method 0
* Document source of “percent allocation” employed:
(Return to Core Analysis)
RF02 ALLL (01/2010) 8 Texas Department of Banking
ALLL WORKSHEET – 2
Historic Loan Loss Method*
REAL ESTATE LOANS
Net Losses/
Year Real Estate Loans
%
%
%
%
%
Total /5 = Avg. Historic Loss Ratio
%
Total real estate loans at examination date x
Estimated ALLL required using Historic Loan Loss Method (a)
AGRICULTURE LOANS
Net Losses/
Year Agriculture Loans
%
%
%
%
%
Total /5 = Avg. Historic Loss Ratio
%
Total agriculture loans at examination date x
Estimated ALLL required using Historic Loan Loss Method (b)
RF02 ALLL (01/2010) 9 Texas Department of Banking
COMMERCIAL LOANS
Net Losses/
Year Commercial Loans
%
%
%
%
%
Total /5 = Avg. Historic Loss Ratio
%
Total commercial loans at examination date x
Estimated ALLL required using Historic Loan Loss Method (c)
LOANS TO INDIVIDUALS (CONSUMER)
Net Losses/
Year Consumer Loans
%
%
%
%
%
Total /5 = Avg. Historic Loss Ratio
%
Total consumer loans at examination date x
Estimated ALLL required using Historic Loan Loss Method (d)
TOTAL (a), (b), (c), and (d)
* All net loss percentages can be found on page 7 of the UBPR.
(Return to Core Analysis)
RF02 - ALLL ( 02/12/2010 ) 10 Texas Department of Banking
ALLL WORKSHEET – 3
Other Factors to be Considered
Underwriting standards, including compliance with written lending policies, are:
Strong
Average
Weak
Lending policies and procedures, including charge-offs, collection, and recoveries, are:
Strong
Some improvement needed
Weak
Lending and loan review personnel’s experience, abilities, and depth are:
Strong
Average
Weak
Level of significant documentation exceptions is:
Low/negligible
Moderate
High/excessive
Effectiveness of internal loan review and ALLL methodology is:
Strong
Some improvement needed
Weak
Level of delinquencies, nonaccruals, and problem loans is:
Decreasing
Stable
Increasing
Local economic conditions are:
Improving/expansionary
Stable
Declining/recessionary
Concentrations in the loan portfolio are:
Diverse
Moderate Concentrations
Large Concentrations
RF02 - ALLL ( 02/12/2010 ) 11 Texas Department of Banking
ALLL WORKSHEET – 3 (Continued)
Other Factors to be Considered
Growth trends in loans show:
Low/negligible growth
Moderate growth
High rate of growth
Composition of portfolio is:
Traditional, in-area lending
Some nontraditional
New business lines,
out-of-area lending
Level of off-balance sheet credit exposure is:
Low/negligible
Moderate
High
Risk in international lending is:
Low/negligible
Moderate
High/excessive
Historic loss experience is:
Low
Moderate
High
Compared to peer, ALLL coverage (total loans/net losses/non accruals) is:
Higher than peer
Comparable to peer
Below peer
If any responses indicate that the loan portfolio has a higher risk profile than area or peer
banks, comment below:
(Return to Core Analysis)
RF02 ALLL (01/2010) 12 Texas Department of Banking
ALLL WORKSHEET – 4
Reconciliation of Reserve Methodologies
Levels indicated using:
Bank’s Internal Method (Adjusted for
loan ratings determined at exam)
Specific Loan Method
Historic Loan Loss Method
If necessary, give additional weight toward a particular methodology and/or adjust the range for
items rated under “Other Factors to be Considered.” Please document briefly as needed below.
Acceptable Range: to
Comments:
ALLL Balance at Beginning of Examination
Less:
Loan Losses at this examination
Eligible OREO Losses
Other
Total Deductions ( 0 )
Net ALLL Balance 0
EIC’s Recommended ALLL Balance
Adjustment Indicated 0
(Return to Core Analysis)
RF02 ALLL (01/2010) 13 Texas Department of Banking
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