Accounting for OREO and Repossessed Collateral in ACUIA Conference

1. ACUIA 22nd Annual ConferenceJune 20, 2012 Accounting for OREO and Repossessed Collateral Doug Orth, CPA, CFE, Managing Partner Orth, Chakler, Murnane and Co., CPAs

2. Presentation Objectives • Gain an understanding of the accounting and regulatory expectations for OREO and repossessed collateral. • Identify common problems related to the accounting for OREO and repossessed collateral. • Take away some “best practices” to share with CFOs and other stakeholders.

3. Presentation Objectives • The number 1 Objective of this Presentation is: • Audience Participation - • Audience Participation -

4. Accounting Guidance • FAS 15, “Accounting by Debtors and Creditors for Troubled Debt Restructuring” • FAS 144, “Accounting for the Impairment of Disposal of Long-Lived Assets” • Accounting Standards Codification 310-10 and 310-40

5. Definitions • Other Real Estate Owned = OREO • Repossessed collateral (non-real estate) = REPO • OREO includes real estate acquired through: • Foreclosure • Deed in lieu of foreclosure • In-substance foreclosure (physical possession of property without legal proceedings – property is abandoned by the borrower) • Short Sale = Agreement with borrower to sell property for less than loan balance

6. Accounting At Acquisition • OREO should be recorded at fair value, less costs to sell = new cost basis • Fair value should be based on updated appraisal • Costs to sell include broker commissions, legal and title transfer fees, closing costs, etc. • Consider private mortgage insurance (PMI) if considered recoverable • Difference between new cost basis and loan balance = charge-off to the Allowance for Loan Losses account • New cost basis is reclassified from loans to members to OREO

7. Accounting During Holding Period Typical holding costs – should be charged to expense: • Maintenance – routine repairs; lawn maintenance; painting • Real estate taxes – current and arrears • Insurance • Other costs – utilities; management/condo fees; advertising • Negative escrow balances – taxes and insurance

8. Accounting During Holding Period Typical holding costs charged to OREO: • Major repairs/renovations that add value to the property • Note: Determine if the appraisal amount is “as is” without the major repairs/renovations or assumes that the property will be updated Monitor/update the reasonableness of new cost basis: • If property is not sold within reasonable time frame, consider obtaining a new appraisal • Subsequent reductions in the fair value of OREO should be charged to loss on assets via OREO allowance account

9. Accounting During Holding Period • OREO is generally Held-for-Sale; however, OREO can be rented or Held-for-Use (check with your state regulator) • If OREO is rented, it should be recorded at fair value (without regards to selling costs) • The difference between the fair value and loan balance should be charged-off to the Allowance for Loan Losses account • The estimated value of the building should be depreciated over a reasonable period as a charge to operating expenses • Rental revenues and expenses should be recorded to the income statement consistent with the nature of the revenue or expense

10. Accounting During Disposition Period • A gain or loss on the sale of OREO should be recorded for the difference between the selling price of OREO, net of selling costs, compared to the carrying amount of OREO • Note: Material gains or losses recorded from the sale of OREO should be considered when developing the net charge-off ratios for mortgage loans • If OREO is sold shortly after taking possession of the property, the gain or loss from the sale of OREO, can be recorded to the Allowance for Loan Losses account • Note: Once the Credit Union takes control of the property, it is no longer considered a delinquent loan

11. Tax Reporting • IRS Form 1099-A, Acquisition or Abandonment of Secured Property, should be filed the year that real property is acquired by the Credit Union through foreclosure or abandonment • IRS Form 1099-C should be filed the year a “short sale” occurs, leaving the Credit Union with an unrecoverable loan balance

12. Repos • For long-lived assets to be disposed of by sale, they should be classified as assets held-for-sale at the asset’s fair value less costs to sell • Six criteria must be met prior to reclassification • Reporting loan delinquency

13. Repos Measuring impairment on vehicles: • loan-by-loan approach • average loss ratio on pool of repos • average loss per unit Writing down the impairment amount: • at the individual loan level • at the general ledger level only

14. Call Reports • Line 27 - Foreclosed and Repossessed Assets Requires the Credit Union to disclose the number and dollar balances related to Real Estate, Automobiles and Other Collateral

15. Common Problems • OREOs and REPOs are maintained at outstanding loan balance • Holding costs are capitalized • OREO fair values are not reassessed • Negative escrow balances on OREO • Private mortgage insurance issues

16. Thank You! • Thank you for your attention and participation in today’s session!

17. Speaker Information Presented by: Doug Orth, CPA, CFE Orth, Chakler, Murnane and Co., CPAs Telephone: 305-232-8272 305-794-5457 cell E-mail: dorth@ocmcpa.com