On May 19, 2011, the Government Accountability Office published its report on the federal banking regulators’ 2006 interagency guidance on commercial real estate concentrations.  The GAO report concludes that federal banking regulators should enhance or supplement the 2006 CRE concentration guidance and take steps to better ensure that such guidance is consistently applied.

The GAO report indicates that the OCC and Federal Reserve agree with its recommendations, while the FDIC insists that it has already implemented strategies to supplement the 2006 guidance.  A closer review of the OCC and Federal Reserve positions, however, would seem to suggest that the OCC and Federal Reserve agree the 2006 guidance should be enhanced, but don’t seem to have any issue with the inconsistent application of the current guidance, and may even suggest that over-reaching application of the 2006 guidance is necessary since it, in their opinions, doesn’t go far enough.  Both the OCC and Federal Reserve indicated that they were reviewing whether higher capital requirements should be set for banks that have higher CRE concentrations.

The GAO report is a good read for any banker looking for the current collective position of the federal regulators with regard to commercial real estate concentrations (and especially with respect to how the 2006 guidance should be interpreted), but ultimately only highlights the discretion vested in each agency (as well as each examiner).

While the report highlights several miss-applications of the 2006 guidance that occur all too frequently.  In over 15% of the Reports of Examination reviewed by the GAO, the report indicated a bank must reduce its CRE concentration, but the basis for this requirement was unclear or inconsistent with the 2006 CRE guidance.  One Report of Examination (our of the 44 reviewed by the GAO) explicitly referred to the 2006 guidance as “limits,” which, as the GAO report notes, is inconsistent with the text of the 2006 guidance.  (I’m personally surprised this only showed up once, and certainly undercuts the number of times that an examiner orally told a bank that the 2006 guidance represented limits.)  The GAO report also found great inconsistency, across all of the federal regulators, on how CRE concentrations were calculated.  In almost 30% of the reports reviewed, the regulators incorrectly included owner-occupied CRE as part of the CRE concentration calculation, and in almost 50% of the reports, the regulators incorrectly limited concentration calculations to Tier 1 capital.

The GAO report also acknowledges that enhanced scrutiny and increased capital requirements can reduce banks ability to lend.  However, the GAO concludes that the federal banking regulators are aware of these issues and take them into consideration while enforcing their regulations.  The GAO also indicates that it believes that while examiners’ actions can affect lending, the impact is minimal.