AQ Basics

Question 1

When should an express determination letter be issued?

Answer 1

An “express determination” letter should be issued to a bank only if:
1. The examination indicates that the bank maintains and applies loan loss classification standards that are consistent with the FDIC’s standards regarding the identification and charge-off of such loans; and
2. There are no material deviations from the FDIC’s standards.
An “express determination” letter should not be issued:
1. Significant Criticism - The bank’s loan review process relating to charge-offs is subject to significant criticism;
2. Overstated / Understated Charge-Offs - Loan charge-offs reported in the Report of Condition and Income (Call Reports) are consistently overstated or understated; or
3. Pattern of Unrecognized Charge-Offs - There is a pattern of loan charge-offs not being recognized in the appropriate year.

Question 2

Legal requirements of secured loans are covered under Article 9 of the UCC except:

Answer 2

1. Wages
2. Security interest subject to any statute of the US such as Ship Mortgage Act
3. Transfer of claim in insurance
4. Landlord’s liens
5. Real Estate
6. Sale of accounts or chattel paper
7. Bank account
8. Judgments

Question 3

What is the primary factor affecting overall asset quality?

Answer 3

The quality of the loan portfolio and the credit administration.

Question 4

How long is a UC-C1 valid?

Answer 4

5 years; continuations can be filed during the last 6 months of the 5 years.

Question 5

What are the 3 exceptions to the Rule of Priority?

Answer 5

1. Dealers inventory (car)
2. When liens perfected by doing nothing are sold to a buyer buying in good faith (TV)
3. When a second creditor supplies replacements or additions to the collateral (Computer)

Question 6

What are the characteristics of Chapter 7 Bankruptcy?

Answer 6

• Trustee converts all assets to cash and distributes proceeds.
• All debts are discharged

Question 7

What are the characteristics of Chapter 11 Bankruptcy?

Answer 7

• Debtors retains assets, submits a plan that needs to be approved by a majority of creditors.
• Creditors must all receive at least as much as they would have in a Chapter 7.
• Available to all debtors.

Question 8

What are the characteristics of Chapter 13 Bankruptcy?

Answer 8

Like Chapter 11, but only available to individuals with secured debts under $350M and unsecured debts under $100M. Only secured creditors vote on plan.

Question 9

What are the 10 common loan problems? COSTIFLLOP?

Answer 9

• Competition
• Over-emphasis on Income
• Self-dealing
• Technical Incompetence
• Incomplete credit information
• Failure to establish and implement liquidation plans
• Lack of attention to changing economic conditions
• Lack of supervision
• Overlending
• Poor selection of risks

Question 10

What items represent concentrations of credit at 25% of Tier 1 Capital (4)? ISSI

Answer 10

• Individual
• Small interrelated group
• Single repayment source
• Individual project

Question 11

What items represent concentrations of credit at 100% of Tier 1 Capital (4)?

Answer 11

• Industry
• Product line
• Type of collateral
• ST obligations of a financial institution or related group, Correspondent Bank Account, Don’t include obligations secured by US Gov’t Securities.

Question 12

When can the assets subject to adverse classification page be omitted from the ROE?

Answer 12

Classifications <= 25% of Tier 1 Capital and no other material problem exists relative to credit administration practices.

Question 13

What is a hypothecation agreement

Answer 13

Agreement where y the owner of property grants a security interest in collateral to the bank to secure the indebtedness of a third party.

Question 14

What 16 items should be included in a banks loan policy

Answer 14

Types of Lending General fields of lending in which the bank will engage and the kinds or types of loans within each general field
Lending Authority Lending authority of each loan officer / respective committee / BOD
Loan Approval / Renewal Responsibility of board in reviewing, ratifying, or approving loans
Unsecured Lending Guidelines under which unsecured loans will be granted
Rates / Repayment Terms Guidelines for rates of interest and terms of repayment for secured and unsecured loans
LTV Guidelines Limitations on the amount advanced in relation to the value of collateral and documentation required for each type of secured loan
Appraisals Guidelines for obtaining and reviewing real estate appraisals as well as ordering reappraisals when needed
Credit Files Maintenance Maintenance and review of complete and current credit files on each borrower
Collection Procedures Appropriate and adequate collection procedures including actions to be taken against borrowers who fail to make timely payments
Max Loans to Total Assets Limitations on maximum volume of loans in relation to total assets
Overdrafts Limitations on the extension of credit through overdrafts
Trader Areas Description of normal trade area and circumstances under which the bank may extend credit outside of such area
Risk Diversification / Concentrations Guidelines which at a minimum address the goals for portfolio mix and risk diversification and cover the bank’s plans for monitoring and taking appropriate corrective action if deemed necessary on any concentrations that may exist
Loan Review & Credit Grading Guidelines addressing the bank’s loan review and grading system (Watch list)
ALLL Guidelines addressing the bank’s review of the ALLL
Environmental Liability Guidelines for adequate safeguards to minimize potential environmental liability

Question 15

The definition of nonaccrual applies to any asset that demonstrates any of what three items?

Answer 15

1. Cash basis interest payments due to the financial deterioration of the borrower
2. Full P&I not expected
3. P&I has been in default for a period of 90 days or more unless the asset is both well secured AND in the process of collection

Question 16

When can an asset currently on nonaccrual be placed back on accrual status?

Answer 16

1. Reasonably Assured - Principal and interest amounts contractually due (including arrears) are reasonably assured of repayment within a reasonable period
2. Sustained Performance - There is a sustained period of repayment performance (generally a minimum of six months by the borrower), in accordance with the contractual terms.

Question 17

What are some benefits of participation loans?

Answer 17

1. Legal Lending Limit
2. Diversified Risk
3. Liquidity

Question 18

What is included in cash? (Hint: UCC)

Answer 18

1. US and foreign currency
2. Clearings (checks, drafts, notes, and other items a bank has cashed or received for deposit)
3. Cash items- checks or other items in the process of collection payable in cash upon presentation

Question 19

What are examples of Other Assets?

Answer 19

1. Prepaid Expenses- premiums paid for insurance, maintenance contracts, and advance rental payments for rentals/premises
2. Accrued Income Accounts- Income earned but not received (for accrual accounting)- Overstatement = Loss.
3. Banker’s Acceptances- bill of exchange drawn on and accepted by a bank for payment by that bank at a specific time
4. Servicing Assets- contractual obligation to provide servicing for mortgage loans, credit card receivables, or other financial assets for another.
5. Suspense Accounts- temporary accounts such as teller, interoffice, and bookkeeping differences with debit balances. Outdated items should be classified Loss.
6. Cash Items not in the Process of Collection- Checks returned by other banks, checks not posted by bookkeepers, and other unpaid items.
7. Tax Assets (a.k.a future tax benefits, deferred tax assets, prepaid income tax)- arise from temporary differences or operating loss or other carryforwards. Loss carryforwards should only be recognized when the realization of the benefit is more likely to occur than not.
8. Bank Owned Life Insurance- If policy held to term, it can provide attractive tax-equivalent yields to help offset the rising cost of providing employee benefits. Management should employ a sound pre-purchase analysis, ongoing monitoring, reliable accounting, and accurate assessment of risk-based capital requirements.
9. Goodwill and Other Identifiable Assets- Goodwill is an unidentifiable asset acquired in business combinations or where change of control has occurred. Other intangible assets are distinguished from goodwill when they are identifiable.
10. All other miscellaneous assets- Examples include repossessed property, reimbursable insurance claims, etc.

Question 20

What are some examples of Other Liabilities?

Answer 20

1. Mortgages Payable- Mortgages, liens and other encumbrances on premises which the bank is legally obligated to pay
2. Capital Lease Outstanding- Leases that transfer all the benefit and risks of property ownership be accounted for by the lessee as the acquisition of an asset and incurrence of a liability.
3. Accrued Taxes and Expenses- Accrued taxes and expenses which represent charges to income for expenses not immediately payable, but which have yielded benefits in the current period.
4. Bankers Acceptances- Acceptance executed by a bank or by others acting as its agent
5. Servicing Liabilities- Contracts to service assets for which the benefit of servicing is not expected to adequately compensate the servicer for performance.
6. All Other Miscellaneous Liabilities- Examples include dividends payable, net deferred tax liabilities, etc.