Bankers are worried that a proposed accounting change could depress earnings by forcing large increases in loan-loss reserves.

Some observers fear that the proposal, which would affect the treatment of nonaccrual loans, might have a bigger impact than another controversial plan, which would require that banks carry assets on their books at fair value.

"It is potentially more damaging to banks that the market-value accounting proposals," says Donna Fisher, manager of accounting policy at the American Bankers Association.

Adds Forrest L. Ward, a financial industry consultant at Ernst & Young: "If the proposal is adopted, it would require some banks to take a bigger loan-loss provision, which could reduce capital and create a problem."

Nonaccruals Redefined

The proposal, made by the rule-making Financial Accounting Standards Board, was first floated last year and formally introduced in June. It would take effect at the beginning of 1994.

Banks currently do not have set aside reserves against nonaccruing, or impaired, loans if they expect to recover the principal. Under the proposal, reserves would be required against all nonaccrual loans.

What's more, the definition of nonaccrual would be broadened to include any loan that won't be paid according to the contractual terms.

If the proposal is adopted, the banks most likely to suffer are those with high levels of nonperforming loans as well as capital levels that barely exceed regulatory minimums.

Banking analysts said it is too soon to identify which banks would be affected. But it seems clear that many institutions would have to boost loan-loss reserves, hurting the bottom line.

The so-called impaired-loan proposal is the second in what is expected to be a series of proposals from the accounting board aimed at revamping banks' accounting methods.

Earlier this year, the board enacted a rule that requires banks to disclose the fair value of assets in financial statements, effective for the fourth quarter.

Another proposal, which would require banks to mark their investment securities to market value on balance sheets, is expected next month.

Under the impaired-loan proposal, a complex financial analysis is required to determine the appropriate loan-loss provision once a loan is judged to be impaired.

The bank must forecast when it expects to recover the principal and interest, and then discount that cash flow to the present value. The difference between the present value and the contractual value of the loan -- the interest plus principal -- must be charged off.

"It's a terrible, impractical approach FASB has come up with," said William J. Roberts, senior vice president and controller at First Chicago Corp.

Banks do use discounted cashflow analysis in some types of collateralized lending such as real estate. But for uncollateralized loans, such as commercial loans, any forecast of when the loan may be paid back is mere speculation, said bankers.

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