Many times banks will provide their
directors with a summary derivation of an appropriate reserve. The reserve
adequacy calculation for Insights Bank and Trust (shown here) may be similar
to one that you might receive at your bank.
Insights Bank and Trust
Calculation of the Allowance for Loan and Lease Loss
As of September 30, 1994
|FAS 114 Res. Component
|FAS 5 Reserve Component
Acceptable ALLL Range (per ALLL policy)
|Low - 10%
Current ALLL Balance
|What is the Required Addition to the ALLL?
is where Mike McCard's recommendation for the $15,000 increase would
Normal policy is that the current ALLL balance and the total loss estimates should both be within the acceptable range, as specified in the bank's ALLL policy.
There are two questions to ask:
1.) Is the range still appropriate?
2.) If you keep the existing range, is it wise to stay toward the bottom?
The calculation shows estimates of the FAS 114 and 5 components of the
reserve, giving an estimated loss in the loan portfolio of $312,347. Per
the bank's ALLL policy, the ALLL balance is considered adequate if it falls
within 10 percent of the estimated loss. Currently, the Bank's reserve
balance stands at $283,000 which is toward the bottom end of the range
considered as adequate.
Because the balance falls within the acceptable range, should you move on to the next item? Not necessarily. Click on the question mark button at the bottom of the Insights report on the left.
Here are some questions you should consider:
To make a more informed decision about the ALLL, it would also be helpful
to review both the FAS 114 and the FAS 5 information for Insights Bank.
- What has been the trend in problem assets?
- Has the list of problems loans on the "watch list" increased?
- Have there been any significant changes on the lending staff - older more seasoned lenders being replaced by less experienced lenders? Remember, Mike McCard is new to his job as senior lender.
- Have there been any changes in the bank's lending philosophy? In this case, the "Visions for Success" program is causing the bank to aggressively seek new lending opportunities.
- What support is provided to give you faith in the accuracy of the amounts included in the loss estimate calculation? Do you know how they were derived and where they came from?
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