Risk Management Manual of Examination Policies - FDIC

LOANS Section 3.2
enterprise. The policies of an institution engaged in these
originations should address safety and soundness concerns
and include criteria to address:
• The program’s objectives – these should be of a
commercial nature (structured as commercial
undertakings and not as investments in securities).
• The plan of distribution – participants should be
limited to sophisticated financial and commercial
entities and sophisticated persons and the
participations should not be sold directly to the public.
• The credit requirements applicable to the borrower -
the originating institution should structure 100% loan
participation programs only for borrowers who meet
the originating institution’s credit requirements.
• Access afforded program participants to financial
information on the borrower - the originating
institution should allow potential loan participants to
obtain and review appropriate credit and other
information to enable the participants to make an
informed credit decision.
Environmental Risk Program
A lending institution should have in place appropriate
safeguards and controls to limit exposure to potential
environmental liability associated with real property held
as collateral. The potential adverse effect of environmental
contamination on the value of real property and the
potential for liability under various environmental laws
have become important factors in evaluating real estate
transactions and making loans secured by real estate.
Environmental contamination, and liability associated with
environmental contamination, may have a significant
adverse effect on the value of real estate collateral, which
may in certain circumstances cause an insured institution to
abandon its right to the collateral. It is also possible for an
institution to be held directly liable for the environmental
cleanup of real property collateral acquired by the
institution. The cost of such a cleanup may exceed by
many times the amount of the loan made to the borrower.
A loan may be affected adversely by potential
environmental liability even where real property is not
taken as collateral. For example, a borrower's capacity to
make payments on a loan may be threatened by
environmental liability to the borrower for the cost of a
hazardous contamination cleanup on property unrelated to
the loan with the institution. The potential for
environmental liability may arise from a variety of Federal
and State environmental laws and from common law tort
liability.
Guidelines for an Environmental Risk Program
As part of the institution's overall decision-making process,
the environmental risk program should establish
procedures for identifying and evaluating potential
environmental concerns associated with lending practices
and other actions relating to real property. The board of
directors should review and approve the program and
designate a senior officer knowledgeable in environmental
matters responsible for program implementation. The
environmental risk program should be tailored to the needs
of the lending institution. That is, institutions that have a
heavier concentration of loans to higher risk industries or
localities of known contamination may require a more
elaborate and sophisticated environmental risk program
than institutions that lend more to lower risk industries or
localities. The environmental risk program should provide
for staff training, set environmental policy guidelines and
procedures, require an environmental review or analysis
during the application process, include loan documentation
standards, and establish appropriate environmental risk
assessment safeguards in loan workout situations and
foreclosures.
Examination Procedures
Examiners should review an institution's environmental
risk program as part of the examination of its lending and
investment activities. When analyzing individual credits,
examiners should review the institution's compliance with
its own environmental risk program. Failure to establish or
comply with an appropriate environmental program should
be criticized and corrective action required.
LOAN PROBLEMS
It would be impossible to list all sources and causes of
problem loans. They cover a multitude of mistakes a bank
may permit a borrower to make, as well as mistakes
directly attributable to weaknesses in the bank's credit
administration and management. Some well-constructed
loans may develop problems due to unforeseen
circumstances on the part of the borrower; however, bank
management must endeavor to protect a loan by every
means possible. One or more of the items in the following
list is often basic to the development of loan problems.
Many of these items may also be indicative of potential
bank fraud and/or insider abuse. Additional information
on the warning signs and suggested areas for investigation
are included in the Bank Fraud and Insider Abuse Section
of this Manual.
Poor Selection of Risks
Loans (12-04) 3.2-36 DSC Risk Management Manual of Examination Policies
Federal Deposit Insurance Corporation