Accounting For The Next Financial Crisis

June 18, 2013 at 8:01 am Leave a comment

As I pointed out in a previous blog post, even though my father was able to get five kids through college and give himself the flexibility to play the occasional weekday game of tennis by starting his own accounting firm, it became painfully obvious at a very young age that his older son would not be following in his footsteps.  So, it is with that caveat that I am here to tell you that one of the most troubling issues on the regulatory horizon for credit unions has to do with changes proposed by the Financial Accounting Standards Board (FASB) which would make financial institutions anticipate and more quickly reflect investment losses on their balance sheets.

Under existing accounting standards, financial institutions must generally reflect investment losses on their balance sheets once they are incurred.  Under FASB proposal, 2012-260, this standard would be changed so that financial institutions would have to account for expected financial losses.  The distinction is between reflecting a loss that is going to happen and one that may happen given current economic conditions.

The rationale behind the change is a sound one as applied to financial institutions whose balance sheets are confusing to even the most sophisticated investors.  The intent behind the shift is to put investors in a better position to react to changes in a corporation’s financial condition before trouble strikes.  For example, in an analysis of the failure of small community banks and recent testimony before Congress, the GAO pointed out that existing accounting standards did not adequately capture the fact that community banks were aggressively moving into the commercial real estate market.  It opined that “loan loss allowances were not adequate to absorb the wave of credit losses that occurred when the financial crisis began, in part because current accounting standards for loan loss provisions require banks to estimate loan losses using an incurred loss model” as opposed to one that forces banks to more quickly recognize likely investment losses.

The vast majority of credit unions do not hold the type of sophisticated investments that cannot be adequately accounted for under existing accounting standards.  Application of a new forward looking standard will force them to adopt a whole new approach to accounting standards and ultimately reserve more capital even though the money could be better spent making prudent loans to their members and helping revitalize local communities. (Notice the slight dig against community banks, Keith?)  In addition, as cooperatives we do not have investors buying and selling shares based on a minute-by-minute analysis of the economy.  The overriding importance of accounting standards as applied to credit unions is that they adequately allow examiners to quickly and accurately assess a credit union’s safety and soundness.  The existing incurred loss model is more than sufficient to do that given the relatively low risk and static nature of most credit union investments.

Credit unions ultimately want to be treated as fairly as their financial institution counterparts by both regulators and legislators.  Sometimes in order for that goal to be achieved, regulators have to recognize that the unique structure of credit unions makes it impossible for them to be fairly subjected to a proposed regulation or accounting requirement.  If this proposal is finalized as currently written, it is time for NCUA to consider raising the threshold below which credit unions do not have to comply with GAAP standards.

Entry filed under: Advocacy, Compliance, Regulatory. Tags: , , , , .

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Authored By:

Henry Meier, Esq., General Counsel, New York Credit Union Association.

The views Henry expresses are Henry’s alone and do not necessarily reflect the views of the Association.

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