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July 1994


News and Views
for the Eighth District


Real Estate Appraisal Amendments Adopted
The federal banking agencies
issued final amendments,
effective June 7, 1994, to
the appraisal regulations for
federally related real estate
transactions. The most significant amendment raises
to $250,000 the transaction
amount at or below which qualified appraisals are not required.
In addition, the amendments
~larify the following exemptions and revise minimum
appraisal standards.

The "Abundance of
Caution" Exemption
Alender is now permitted to


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Federal Reserve Bank of St. Louis



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take a lien against real estate
and alter the price of a loan
without an appraisal of the
real property if the institution
determines that the borrower's
current income and other
pledged collateral support the
decision to extend credit.
The flnal rule
requires flve
minimum appraisal
standards instead
of fourteen.
An example would be a
business with established cash
flow that applies for a loan to
purchase an adjacent property
for expansion. The lender's
analysis, without market value
knowledge of the real estate,
determines that income from
the business and personal
property available as collateral
supports the decision to extend
credit. During loan negotiations,
the lender offers the loan on
slightly better terms if it receives
a lien on real estate. Since the
decision to extend credit rests on
income and other collateral, no
qualified appraisal is required.

loans Not Secured by
Real Estate
In connection with a credit
extension to acquire or invest
in real estate, a qualified appraisal is not required if the
lender does not take a security
interest in the real estate.
Renewals and
Lenders may renew or refinance existing credit extensions
without qualified appraisals for
the following transactions:
• There are no obvious or
material changes in market
conditions or the physical
aspects of the property that
threaten the adequacy of the
lender's collateral protection,
even with the advancement
of new funds.
• No new monies are advanced
other than funds necessary
to cover closing costs.
(continued on next page)

Real Estate Appraisal
(continuedfrom front page)

This exemption does not
apply if the borrower refinances a mortgage with a new
Small Business Loans
of $1,000,000 or less
Small business loans secured
by real estate need not be supported by a qualifying appraisal
if real estate sales and/or rental
income are not the primary
source of repayment. For
example, a retail store applies
for a working capital/inventory
loan of $750,000 which will be
repaid from sales proceeds. The
lender, however, will not extend
credit without a lien against
the store's real property. The
loan is for less than $1,000,000
and the sale of, or rental income
derived from, the real estate is
not the anticipated repayment
source. Therefore, a qualifying
appraisal is not required.
Guaranteed Loans
Qualified appraisals are no
longer required for transactions

that are wholly or partially
insured or guaranteed by
a United States government
agency or government-spansored agency.
An evaluation

provides a general
estimate of the value
of the real estate
and must contain
sufficient inform ation to make a prudent credit decision.

Minimum Appraisal
The final rule requires the
following five minimum appraisal standards in place
of the 14 standards in the
prior rule:
1) Appraisals must conform to

generally accepted appraisal
standards as evidenced by
the Uniform Standards of
Professional Appraisal
Practice (USPAP) unless
principles of safe and sound
banking require compliance

with stricter standards;
2) Appraisals must be written
and contain sufficient information and analysis to
support the institution's
decision to engage in
the transaction;
3) Appraisals must analyze
and report deductions
and discounts for proposed
construction or renovation,
partially leased buildings,
nonmarket lease terms,
and tract developments
with unsold units;
4) Appraisals must be based on
the definition of market value
as set forth in the regulation; and,
5) Appraisals must be performed
by state-licensed or certified

Evaluations Required
for Certain Exempt
Lenders must obtain evalualions for real estate-related
transactions that do not
require qualified appraisals
if the loans are below the
threshold level, qualify for
the business loan exemption,
or qualify for the renewal/
refinancing exemption.
An evaluation provides a
general estimate of the value of
the real estate and must contain
sufficient information to make
a prudent credit decision.
The agencies are revising
existing guidance on real estate
appraisal and evaluation programs to address the changes
made by these amendments.

The minimum standards
also permit lenders to use
appraisals prepared in accordance with the USPAP
Departure Provision for federally related transactions.

New Service to Improve Supervisory Information
Federal Reserve Bank of St. Louis

upervisory Bulletin, a
new service designed to
deliver supervisory information more effectively to
District bankers, will begin
this September. The service addresses bankers'

provide all supervisory guidance and
policy statements
affecting institu-

tions supervised by this Reserve
Bank in an easy to read, twocolumn format. Three-ring
binders will be provided for
retention. The service will be
indexed at least annually to
provide a ready reference
source. Each Eighth District
state member bank and bank
holding company will receive
the service at no charge. The
service is intended to replace
all supervisory mailings from
this Reserve Bank.
An improved distribution
service for Federal Reserve

regulations is also being
designed and will be available
January 1, 1995. In addition, in
the future, information from
both services will be delivered
electronically over FRED, the
Eighth District's electronic bulletin board.
Federal Reserve Bank of St. Louis

RESPAApplies to New Transactions
he Department of
Housing and Urban
Development has
amended its regulation implementing
the Real Estate Settlement
Procedures Act (RESPA) to
include additional forms of
credit added by Congress in
1992. The regulation is known
as Regulation X; it differs from
the Fed's Regulation Xwhich
governs securities credit

transactions. RESPA now
applies to any loan secured by
a lien on 1-to-4 family residential property. New transactions
covered by these amendments
include home equity plans,
refinancings and dealer loans.
The changes are effective
August 9, 1994, except as
otherwise noted.




Home E~uity Lines
of Credit
RESPA now covers home
equity plans. However, lenders
who provide borrowers with
the Regulation Zdisclosures
at the time of application also
satisfy obligations under RESPA
and are not required to provide
the borrower with a good faith
estimate or a HUD settlement

Dealer Loans
Adealer consumer credit
contract, such as a home
improvement loan, secured
by residential real estate and
originated with the intent of
subsequent assignment of the
dealer's interest, is covered by
RESPA as a "federally related
mortgage loan." Under this
arrangement, a dealer advances
credit to the borrower based on
the lender's prior agreement to
- fund the loan upon completion
or delivery of goods and services, with the net proceeds to
be paid to the dealer. RESPA
requires that the funding
lender ensures that the
borrower receives the necessary
disclosures, such as the good
faith estimate and a HUD
settlement statement.


Refinancings which are

covered by Regulation Zare
now also covered by RESPA
Thus, RESPA applies if a new
obligation is created to replace
an existing obligation with the
same lender and no transfer of
title is involved. However, the
revised regulation provides
that a refinancing transaction
is exempt from RESPA if it is
a modification of an existing
obligation with the same
borrower therefore no good
faith estimate or settlement
statement is needed. This
exemption does not apply if the
modification is a change from
a fixed term obligation to a
variable rate obligation.
Exempt Transactions
The changes also include
exemptions which were
effective March 14, 1994:
1) Loans on property of
25 acres or more
Transactions involving liens
on all properties of 25 acres
or more are now exempt,
whether the property is
vacant, used for agricultural purposes or a 1-to-4 fam-

ily residence.
2) Business-purpose
loans Loans secured by
l-to-4 family residential
property made to corporations, associations, partnerships and trusts are exempt;
similar loans made to
individuals are covered.
3) Vacant or Unimproved
Property Loans secured
by vacant or unimproved
property are exempt as long
as lenders assure themselves
that the purpose of the loan
(amtinued on next page)

is not to add or construct a
1-4 family residential structure out of loan proceeds
'Vithin two years from settlement of the loan.
4) Temporary Financing
The final rule clarifies that
so-called "bridge" or
"swing" loans, which are
short-term loans to facilitate a person who is selling

a property and buying
another to cover interim
obligations, are not covered
RESPA transactions.
5) Assumption without
lender approval
If lender approval of the
assumption is not required
by the mortgage instruments,
the transaction is exempt
from RESPA.

6) Loan Conversions
Any conversion of a federally
related mortgage loan to
different terms than the
original mortgage instruments, as long as a new
note is not required, even
if the lender charges an
additional fee for the conversion, is not covered.

Accurate Tax Equivalency is Important in Assessment
rrors in reporting tax
equivalent net interest
income on bank holding
company Y-9 reports result in
inaccurate information about
a company's core earnings.
Regulators, investors, creditors
and the general public use this
information to assess the company's operating performance,
the effectiveness of its asset mix,
and its pricing of loans and
deposits. These assessments can
affect the company's stock price,
loan terms from creditors and the degree of
regulatory oversight of
')the bank holding
company and
~: its subsidiary
- banks. Some of
~ the most fre~ "' quent reporting
errors include:
• reporting tax
income as
being equal to net
income or as being
equal to net income
before taxes;
• subtracting or adding total
tax-exempt income to net
interest income; and,

Federal Reserve Bank of St. Louis

• failing to report all classes
of tax equivalent items.
Tax equivalent net interest
income is net interest income
adjusted to reflect the tax-exempt
status of certain loans and
securities. It is reported quarterly by holding companies

with consolidated assets over
$150 million on Y-9C, Schedule
HI, Memoranda Line Item 1.
Proper reporting of tax equivalent net interest income allows
for an accurate assessment of
historical trends and peer group

Follow these steps to report tax equivalent net interest income
correctly. If reported net interest income equals $100,000:
1) Add all interest income that

1) $10,000

is exempt from federal taxation.
2) Subtract the marginal federal
tax rate from 1.00.

2) 1.00-0.35 = 0.65

3) Divide the sum of exempt

3) $10,000 7 .65 = $15,384

income (as identified in step
1) by the result in step 2.
4) Subtract the sum of tax-

4) $15,384- $10,000 = $5,384

exempt income (as identified
in step 1) from the amount
obtained in step 3.
5) Add the amount calculated
in step 4 to reported net
interest income. This amount
represents tax equivalent net
interest income.

5) $5,384 + $100,000 =

FASB 115 Affects District Bank
Balance Sheets
istrict banks
responded to
the regulatory
implementing FASB o. 115
by shifting a large volume of
securities from Held to Maturity
accounts to Available for Sale
accounts. In addition to a
more rigorous requirement
that securities be classified
based on investment intent,
the new rule provides that net
unrealized gains and losses for
securities recorded at fair value
and Available for Sale be captured in a new equity account.
As the pie charts indicate,
call reports for the first quarter
of 1994 reveal that over 30 percent of all securities held by
District banks shifted into
Available for Sale accounts. A
similar shift occurred in all
U.S. banks with total assets less
than $10 billion.


Net Unrealized Gains and losses
March 31, 1994
Millions of dollars
16 . - - - - - - - - - - - - - - - - - - - - ,
14 - t - - - - - - - 12 - + - - - - - - - 10




Large Banks

Federal Reserve Bank of St. Louis

Community Banks

Securities Held by Eighth District Banks
March 31, 1994

December 31, 1993


Trading -

Held to Maturity

While the dollar amount of
securities in Available for Sale
accounts increased between
December 31 and March 31,
total net unrealized gains for
those securities declined. As
ofDecember 31, the 146 banks
holding 30 percent of District
securities which had adopted
the new rule reported net unrealized gains of $80 million.
By March 31, net unrealized
gains for all banks in the
Available for Sale accounts
had declined to $14.8 million.
Community banks in the
District with total assets of
$250 million or less experienced less decline in net
unrealized gains in the
Available for Sale accounts
than large banks with total
assets greater than $250 million
but less than $10 billion.
Community banks watched
their net unrealized gains
decline by $2 million from
year-end 1993, leaving a
balance at March 31 of
$15.3 million. Large banks


Available for Sale

saw the appreciation in their
Available for Sale accounts
decline by $63 million, leaving
them with $546 thousand in net
unrealized losses at March 31.
As of March 31, 1994, the
$14.8 million in net unrealized
gains for all District banks
represented only two-tenths
of 1 percent of total equity,
compared to net unrealized
losses on a nation-wide basis
of four-tenths of 1 percent.
The decrease in net unrealized
gains affected community
banks' equity by less than
one-tenth of 1 percent and
the equity of large banks by
only nine-tenths of 1 percent.
Until the banking agencies
determine how this new account
is treated for purposes of regulatory capital, unrealized gains
and losses on Available for Sale
securities should not be included
in Tier 1 capital.

Fed Announces Initiatives to Decrease
Regulatory Burden
he Federal Reserve recently announced two initiatives to increase examination
efficiency and decrease the
need for regulatory approvals.
Reserve Banks will now offer
all state member banks the
option of having electronic
data processing, trust and
other specialized examinations conducted concurrently
with safety and soundness


examinations. Acoordinated
examination may increase the
demand on a bank's space and
staff during an examination.
The total time spent meeting
the requirements of various
Federal Reserve examinations,
however, should decrease.
In addition, the Board of
Governors recently amended
Regulation H to allow a state
member bank to increase its

investment in bank premises
without obtaining specific
approval. The provision is not
available to a bank which is

FFIEC Information Systems
Handbook is Available
The 1994 FFIEC Information
Systems Handbook is the result
of an interagency effort to
achieve uniformity in EDP
examination procedures.
Financial institutions and the
general public may purchase
the handbook for $25. To


Post Office Box 442
St. Louis, Missouri 63166

Supervisory Issues is published bimonthly by the Banking Supervision
and Regulation Division of the
Federal Reserve Bank of St. Louis.
Views expressed are not necessarily
official opinions of the Federal
Reserve System or the Federal
Reserve Bank of St. Louis. Questions
regarding this publication should
be directed to Kathleen Poniewaz,
editor, 314-444-4634.
Federal Reserve Bank of St. Louis

order, indicate the quantity
desired and enclose payment to:
The Board of Governors of
the Federal Reserve System
Publication Services
Mail Stop 127
Washington, D.C. 20551


satisfactory supervisory rating,
or is subject to formal corrective action.