Banks soon could be forced to treat relatively safe mortgage securities as if they were high-risk investments and mark them to market.
Strongly opposed by many bankers, the change in accounting treatment mainly affects collateralized mortgage obligations.
As of midyear, commercial banks held $168 billion of these mortgage derivatives, which accounted for nearly 20% of their total securities holdings.
Banks mainly buy short-term CMOs with estimated lives of two to three years to match the liability side of their balance sheet. They like them because they offer a better yield than Treasury securities of corresponding maturities.
Some Risky Varieties
Some types of CMOs are considered risky, and banks have known that they would have to mark them to market under new accounting rules.
But most CMOs held by banks are not high risk, according to Matthew Pieniazek, a principal with Darling Consulting Group of Newburyport, Mass.
But because of what some say is a misinterpretation of bank regulatory policy by the Financial Accounting Standards Board - the rulemaking arm of the accounting profession - banks now face the prospect of marking to market virtually all of their CMOs even those that are not deemed highly risky.
That was not the intent of regulators, said Robert Miailovich, associate director of the division of supervision at the Federal Deposit Insurance Corp.
Mr. Miailovich said an interagency group of bank regulators, known as the Federal Financial Institutions Examination Council, is drafting a response to FASB, with an eye toward getting the board to revise its interpretation.
FASB made its pronouncement on the accounting treatment of CMOs last month.
Since then, the American Bankers Association has been working with member banks, urging them to state their concerns directly to the regulators.
"It's an important issue and one that really needs the attention of the regulators," said Donna Fisher, accounting policy manager at the ABA.
The examination council is also considering a change is also considering a change in its own policy statement on bank securities holdings to clear up the matter.
Time is of the essence, because at least some banks will be adopting the new market-value accounting standard, known as FAS 115, at yearend. Those that don't must adopt it at the end of the first quarter.
If banks have to mark all of their CMOs to market, it will increase the volatility of their equity and capital accounts - something they would like to avoid.
But Mr. Miailovich said it's unlikely that the issue will be resolved by the end of this month.
And for its part, FASB appears to have its heels dug in on the issue.
Robert Wilkins, FASB's project manager on the market-value accounting standard, said the accounting board ad bank regulators have "fundamental difference in philosophy" about the treatment of these securities.
The controversy stems largely from a policy statement on securities activities that was issued by the examintion council in December 1991.
Included in the policy statement was a test to determine if a given CMO was high risk.
The council said high-risk securities had to be classified as held to maturity, and unrealized gains or losses would only be reflected in financial results when they were actually realized.
But in its November clarification of FAS 115, the accounting standards board essentially said no CMO could be classified as held to maturity.
Since regulators can force banks to divest high-risk securities, their ability to hold them to maturity is at least technically impaired.
Under FAS 115, the "ability" to hold a security to maturity is a key test of whether it can avoid being marked to market.