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Federal R eserve Bank

D. M C T E E R , J R .




August 3, 1993


Notice 93-81

The Chief Executive Officer of each
member bank and others concerned in
the Eleventh Federal Reserve District
Interagency Policy Statement
on Credit Initiatives

The Office of the Comptroller of the Currency, the Federal Deposit
Insurance Corporation, and the Board of Governors of the Federal Reserve
System have provided guidance with respect to the appropriate accounting for
dispositions of other real estate owned (OREO). This guidance generally
conforms regulatory reporting requirements for sales of OREO with generally
accepted accounting principles.
This statement is part of the joint policy statements on credit
initiatives that were distributed by this Bank on July 9, 1993, in Notice

The interagency policy statement is attached.

For more information, please contact Basil Asaro at (214) 922-6066
or Earl Anderson at (214) 922-6152. For additional copies of this Bank’s
notice, please contact the Public Affairs Department at (214) 922-5254.
Sincerely yours,

For additional copies, bankers and others are encouraged to use one of the following toll-free numbers in contacting the Federal Reserve Bank of Dallas:
Dallas Office (800) 333-4460; El Paso Branch Intrastate (800) 592-1631, Interstate (800) 351-1012; Houston Branch Intrastate (800) 392-4162,
Interstate (800) 221-0363; San Antonio Branch Intrastate (800) 292-5810.

This publication was digitized and made available by the Federal Reserve Bank of Dallas' Historical Library (

Joint Statement

_________ Office of the Cnmptroller of the Currency
____________Federal Deposit Insurance Corporation
Board of Governors of the Federal Reserve System

For immediate release

Interagency Guidance on
Accounting for Dispositions of Other Real Estate Owned
July 16, 1993
This issuance provides guidance with respect to the appropriate accounting for dispositions of
other real estate owned (OREO). This guidance generally conforms regulatory reporting
requirements for sales of OREO with generally accepted accounting principles (GAAP).
Banks often sell parcels of OREO property and provide financing for these transactions. These
transactions should be accounted for in accordance with the Instructions to the Consolidated
Reports of Condition and Income (Call Reports). Beginning with the June 30, 1993 report date,
the instructions for OREO in Call Report Schedule RC-M were revised to eliminate certain
minimum down payment requirements which exceeded those required under GAAP.
Accordingly, the primary guidance for sales of OREO is Statement of Financial Accounting
Standards No. 66, "Accounting for Sales of Real Estate" (SFAS 66).
SFAS 66 establishes five different methods of accounting for sales of real estate. The different
methods are based on the legal form of the transaction, the type of property sold, the amount
of down payment and other factors. However, in the past, many banks have only used two of
these methods: the full accrual method or the deposit method. While the full accrual method
accounts for the transaction as a sale of the real estate, the deposit method does not.
The full accrual method under SFAS 66 requires an initial investment (down payment) based on
specific guidelines. Some banks have concluded that if the initial down payment amount was
insufficient to qualify for the full accrual method, the deposit method must be used instead.
Additionally, although SFAS 66 provides criteria regarding when it is appropriate to

subsequently switch to another accounting method and recognize the sale, these banks have
generally continued using the deposit method and classifying the asset as OREO until the
transaction qualified for the full accrual method.
Although the deposit method is appropriate in certain circumstances, the inappropriate use of this
method does not properly characterize a transaction as a sale of the real estate when, in fact, a
valid sale has occurred. However, other appropriate methods specified in SFAS 66 recognize
the sale. Furthermore, the full accrual, installment, and reduced-profit methods permit, in
appropriate circumstances, the recording of the resulting loan as an earning asset.
The distinction between loans and OREO is important to users of bank financial statements.
Bank analysts and others customarily include OREO in a bank’s nonperforming assets and often
use the level of nonperforming assets as one of the factors in the evaluation of a bank’s financial
Hence, the inappropriate use of the deposit method may cause a bank to report higher levels of
OREO than are required under generally accepted accounting principles and regulatory reporting
requirements, thereby causing nonperforming assets to be overstated.
Accordingly, this issuance summarizes the circumstances when it is appropriate to use each of
the five methods prescribed in SFAS 66. The actual accounting standard and other relevant
guidance should also be consulted as they contain specific and more detailed requirements and
Accounting Guidance
SFAS 66 establishes the following methods to account for dispositions of real estate, and applies
to all transactions in which the seller provides financing to the buyer of the real estate. If a
profit is involved in the sale of real estate, each method sets forth the manner in which the profit
is to be recognized. Regardless of which method is used, however, any losses on the disposition
of real estate should be recognized immediately.
Full Accrual Method - Under the full accrual method, the disposition is recorded as a sale. Any
profit resulting from the sale is recognized in full and the asset resulting from the seller’s
financing of the transaction is reported as a loan. This method may be used when the following
conditions have been met:

A sale has been consummated;


The buyer’s initial investment (down payment) and continuing investment (periodic
payments) are adequate to demonstrate a commitment to pay for the property;


The receivable is not subject to future subordination;



The usual risks and rewards of ownership have been


Guidelines for the minimum down payment that must be made in order for a transaction to
qualify for the full accrual method are set forth in the Appendix A to SFAS 66. These vary
from 5 percent to 25 percent of the property sales price. These guideline percentages vary by
type of property and are primarily based on the inherent risk assumed for the type and
characteristics of the property. To meet the continuing investment criteria, the contractual loan
payments must be sufficient to pay the loan off over the customary loan term for the type of
property involved. Such periods may range up to 30 years for loans on single family residential
Installment Method - Dispositions of OREO that do not qualify for the full accrual method may
qualify for the installment method. This method recognizes a sale and the corresponding loan.
Any profits on the sale are only recognized as the bank receives payments from the
purchaser/borrower. Interest income is recognized on an accrual basis, when appropriate.
The installment method is used when the buyer’s down payment is not adequate to allow use of
the full accrual method but recovery of the cost of the property is reasonably assured if the
buyer defaults. Assurance of recovery requires careful judgment on a case-by-case basis.
Factors which should be considered include: the size of the down payment, loan to value ratios,
projected cash flows from the property, recourse provisions, and guarantees.
Since default on the loan usually results in the seller’s reacquisition of the real estate, reasonable
assurance of cost recovery may often be achieved with a relatively small down payment. This
is especially true in situations involving loans with recourse to borrowers who have verifiable
net worth, liquid assets, and income levels. Reasonable assurance of cost recovery may also be
achieved when the purchaser/borrower pledges additional collateral.
Cost Recovery Method - Dispositions of OREO that do not qualify for either the full accrual
or installment methods are sometimes accounted for using the cost recovery method. This
method recognizes a sale and the corresponding loan, but all income recognition is deferred.
Principal payments are applied as a reduction of the loan balance and interest increases the
unrecognized gross profit. No profit or interest income is recognized until either the aggregate
payments by the borrower exceed the recorded amount of the loan or a change to another
accounting method is appropriate (i.e., installment method). Consequently, the loan is
maintained on nonaccrual status while this method is being used.
Reduced-Profit Method - This method is used in certain situations where the bank receives an
adequate down payment, but the loan amortization schedule does not meet the requirements for
use of the full accrual method. The method recognizes a sale and the corresponding loan.
However, like the installment method, any profit is apportioned over the life of the loan as
payments are received.
The method of apportionment differs from the installment method in that profit recognition is
based on the present value of the lowest level of periodic payments required under the loan
Since sales with adequate down payments are generally not structured with inadequate loan

amortization requirements, this method is seldom used in practice.

Deposit Method - The deposit method is used in situations where a sale of the OREO has not
been consummated. It may also be used for dispositions that could be accounted for under the
cost recovery method. Under this method a sale is not recorded and the asset continues to be
reported as OREO. Further, no profit or interest income is recognized. Payments received
from the borrower are reported as a liability until sufficient payments or other events have
occurred which allow the use of one of the other methods.
The above discussion represents a condensed summary of the methods included in SFAS 66 for
accounting for sales of real estate. Bankers and examiners should refer to SFAS 66 for a more
complete description of the accounting principles that apply to sales of real estate, including the
determination of the down payment percentage.

Federal Reserve Bank of St. Louis, One Federal Reserve Bank Plaza, St. Louis, MO 63102