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AT CIRCULAR NO. r FEDERAL RESERVE BANK OF NEW YORK F eb ru ary 11, 1993 IDU BONDS OF BRAZIL To The Chief Executive Officer of All State Member Banks, Edge Corporations, and Branches and Agencies of Foreign Banks in the Second Federal Reserve District, and Others Concerned: P rin te d on the following pages is th e text o f a statem en t issued jointly by th e B oard of G overnors o f the F e d e ra l R eserve System, the Office of the C om ptroller o f th e C urrency, and th e F e d e ra l D eposit Insurance C orporation to clarify th eir policy concerning th e tre a tm e n t of in terest incom e derived from certain recently-issued ID U Bonds of Brazil. T h e sta te m e n t is d irected to th e chief executive officers of banking institutions with credit exposure to Brazil. Also, included in this package, for referen ce purposes, is an interagency letter, d a te d A pril 3, 1991, d irected to the Securities and Exchange C om m ission, th at discusses one o f the two conditions th at m ust be m et in o rd er for th e agencies to recognize as in te rest incom e am ounts derived from th at source in an institu tio n ’s Call R eport. Q uestions regarding this m atte r should be directed to T hom as P. M cQ ueeney, A ssistant Vice P resid en t (T el. No. 212 -7 20 -7 93 4 ). Chester B. F eldberg , Executive Vice President. BOARD OF GOVERNORS OF THE FEDERAL RESERVE SYSTEM FEDERAL DEPOSIT INSURANCE CORPORATION OFFICE OF THE COMPTROLLER OF THE CURRENCY January 14, 1993 TO THE CHIEF EXECUTIVE OFFICERS OF BANKS WITH CREDIT EXPOSURE TO BRAZIL To assure uniformity, the bank regulatory agencies are providing the following guidance as to the appropriate Call Report treatment for recognizing income derived from Brazil's recently-issued IDU Bonds. In 1991, Brazil paid in cash approximately 25% of the interest arrears that accumulated during 1989 and 1990 on defaulted medium- and long-term debt and, in 1992, issued the IDU Bonds to settle the balance that was due. This letter is directed only at the IDU Bonds and it does not address interest owed since 1991 nor the outstanding principal on medium- and long-term debt. At issue is the amount of interest income that can be recognized. To recognize interest income related to the IDU Bonds, two conditions must be met: first, the recorded principal balance of Brazilian debt must be considered fully collectible and, second, only cash proceeds may be recognized as interest income (i.e., from the sale of the IDU Bonds to third parties or cash collections on the bonds). The former condition was discussed in an April 3, 1991, interagency letter to the Securities and Exchange Commission, which has been included for your reference. In that letter, the staffs of the bank regulatory agencies state that a creditor bank's "recognition of interest payments as interest income on a cash basis is permitted for nonaccrual assets only when the remaining recorded principal balance is deemed to be fully collectible." Therefore, a creditor bank must already have taken sufficient charge-offs or other adjustments that reduce the principal balance of Brazilian debt to an amount that removes doubt as to its collectibility. For purposes of this determi nation, the principal balance should be considered net of the Allocated Transfer Risk Reserve (ATRR). Otherwise, a creditor bank would be expected to apply any cash payments first toward a reduction of the recorded principal balance. - 2 - If the IDU Bonds are retained for the bank's own trading, held-for-sale, or investment accounts, no carrying value should be assigned. This considers that Brazil's issuance of the bonds is only the substitution of one credit obligation for another. Since the initial obligation did not have a carrying value, its replacement would not. either. fathom'/ William A. Ryback Associate Director, Division of Banking Supervision and Regulation, Federal Reserve System JonVK. Hartzell Deputy Comptroller International Banking and Finance Office of the Comptroller of the Currency Robert F. Miailovich Associate Director Division of Supervision Federal Deposit Insurance Corporation Comptroller of the Currency Federal Reserve Board Federal Deposit Insurance Corporation Washington, D.C. April 3, 1991 Mr. George Diacont Acting Chief Accountant Securities and Exchange Commission Washington, D.C. 20549 Dear Mr. Diacont: You have asked for our views regarding the proper accounting treatment for the recent partial payments made by Brazil from currently available funds to its foreign bank credi tors. These payments represent partial repayment of past due interest on credits that are in nonaccrual status. There is currently no agreement that would eliminate arrearages and restore normal debt servicing on these credits. Consistent with generally accepted accounting principles, the proper accounting treatment for these recent payments depends primarily on the collectibility of the remaining recorded principal balance of each bank's exposure to Brazil. This determination should be made on a bank by bank basis. The AICPA's Industry Audit Guide, "Audits of Banks,” states: If the ultimate collectibility of principal, wholly or partially, is in doubt, any payment received on a loan on which the accrual of interest has been suspended should be applied to reduce principal to the extent necessary to eliminate such doubt. This principle was the basis for the statement in the recent joint agency supervisory policies release dated March 1, 1991, that recognition of interest payments as interest income on a cash basis is permitted for nonaccrual assets only when the remaining recorded principal balance is deemed to be fully collectible. In light of the above guidance, a bank would be expected to apply these payments as a reduction of recorded principal unless appropriate charge-offs have been taken, in combina tion with Allocated Transfer Risk Reserves (ATRR), so as to -2- remove doubt as to the collectibility of the remaining recorded principal balance. Since the allowance for loan and lease losses is a general allowance available for all credit losses in the loan and lease portfolio, the allowance may not be used as a substitute for a charge-off or the ATRR in assessing collectibility. Sincerely, Division of Banking Supervision and Regulation Board of Governors of the Federal Reserve System Robert F. Storch Chief, Accounting Section Division of Supervision Federal Deposit Insurance Corporation
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