US banks could hide troubled loans under new reporting rules

A rule change by US financial watchdogs risks making it easier for banks to hide troubled loans and conceal signs of distress in their lending portfolios, economists and analysts warn.  The new requirements are set to come into effect this autumn as President Donald Trump steps up a sweeping effort to cut regulation across the US economy.  They mean that banks no longer have to disclose the total amount of loans whose terms have been modified to prevent borrowers from falling behind on repayments.  Instead, banks need only report loans that have been modified in the past 12 months. The shift may make it more difficult to track a leading indicator of the health of their portfolios, since a high percentage of troubled loans can be an early sign of financial stress.  “It’s a terrible decision,” said Rebel Cole, a former Federal Reserve Board staff economist who is now a finance professor at Florida Atlantic University. “It’s more opacity during a time when we already have too much opacity.”  The changes come after three years in which borrowers have had to contend with higher interest rates. Banks commonly modify the terms of loans to help their clients avoid falling into distress.  The previous reporting standard, which had been in place since the 1970s, required a modified loan to be classified as such for the remainder of its life.  The new regulations were announced in July by the three main US banking watchdogs — the Federal Reserve, the Federal Deposit Insurance Corporation and the Office of the Comptroller of the Currency — and are set to come into force as early as the third quarter of this year. It will affect quarterly filings made to the FDIC.  “Twelve months seems too short,” said one senior banker who manages large loan portfolios, expressing concern that one year is too brief a snapshot of a borrower’s longer-term financial health. “We consider a modified loan ‘clean’ if it makes payments over 24 months.”  The total amount of modified loans reported to the FDIC in the second quarter was $81bn, according to industry tracker BankRegData. This represented about 0.62 per cent of all loans, the highest share in almost four years.  Advocates for the change, including industry lobby group the Bank Policy Institute (BPI), argue that the move brings clarity and uniformity to the reporting of loan modifications.  The BPI has said the 12-month timeframe still presents a sufficiently accurate picture of loan modifications where the borrower may be in financial stress.  It also follows a similar move in 2022 by the Financial Accounting Standards Board, which sets the accounting principles used by US companies, including the results banks report to shareholders.  That change has already resulted in fewer modified loans being flagged in bank earnings reports.  “I don’t view the change positively,” said Christopher Whalen, a veteran banking analyst and chair of Whalen Global Advisors. “I think [banks] are hiding long-term delinquency. That’s the style right now across the industry.”