Accounting Rules Allow Banks To Lie About Health

Large banks have reported better than expected earnings and their stocks have risen dramatically. The main reason for the perceived health of banks is the FASB allowing banks to value their loans a ficticious levels thereby misleading investors into believing they are not as sick as they really are. Colinial Bank's loans were worth a third less than they disclosed just a few weeks before they failed? How many other banks are fudging the value of their loans?-Lou

What are bank loan values worth?

Forbes NEW YORK --

It took the liquidation of Colonial Bank to reveal an ugly truth: the loans on its books were worth a third less than what the failed regional lender had declared them to be just weeks before.
It's an ominous sign about weaknesses that may be lurking in other banks' loan portfolios. Regulations give banks wide latitude about whether to recognize potential loan losses on their balance sheets, so they remain largely out of view.

This is exactly why many investors were up in arms when the Financial Accounting Standards Board, which sets U.S. accounting rules, seemingly buckled under pressure from Congress earlier this year. Its board backtracked from rules that forced banks to be more transparent about the true value of assets.

Bank lobbyists and their congressional backers argued that it was needlessly destructive, in times of market disruptions when few buyers are available, to require lenders to base the value of assets on what they could be sold for at that time, using what is known as mark-to-market accounting.

But those who support mark-to-market counter that present rules allow banks to just delay their day of reckoning by not being upfront about their assets' value.

Take the case of a commercial real estate loan for a near-empty Florida strip mall. Even though it may never be repaid in full, the bank can keep the loan on its books at the historical valuation as long as it says it is holding it until maturity or for investment.

"We have plenty of banks holding loans at face value that they could never sell at face value," said Len Blum, managing partner at the investment-bank Westwood Capital.

All this gives banks less incentive to modify loan terms, because doing so would force them to acknowledge lower valuations on balance sheets. Instead, they have reason to keep up the facade that they will get paid back, and hope that they can hold out until the economy improves and real estate prices rebound.

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