Strategies Used by the Banking Industry to Mitigate Losses on Non-Performing Loans
Strategies Used by the Banking Industry to Mitigate Losses on Non-Performing Loans
In depressed economic times, Banking is an industry that is prone to substantial financial losses, from customer’s closing their depository account to an increase in outstanding loan delinquency. An increase in consumer and commercial loan defaults can damage the integrity of a Bank’s outstanding loan portfolio. Such deterioration can lead to an increase of “Non-Performing Assets”.
Once a loan is nonperforming, (usually when a debtor has not made their scheduled payment for at least 90 days, but there are other reasons why a loan can be deemed “non-performing”) the odds that it will be repaid in full are considered to be substantially lower. The non-performing asset is therefore not yielding any income to the lender in the form of principal and interest payments.
Banks have spent the last several years grappling with nonperforming assets, but perhaps working out problems with bad loans is best left to entities that do not have to answer to a Federal Regulator. This year, more banks have escalated efforts to sell nonperforming assets, and industry experts say the volume of such deals is only going to increase. Meanwhile, a new deal structure is calling for sellers to retain the problematic assets to work them out on their own. (Barba, 2011)
But, even if a loan pays in accordance with its Terms & Conditions, it still can be categorized non-performing for several reasons. Deterioration in financial ratios can cause a loan to be classified non-performing, one of those financial ratios is Loan to Value or “LTV”.
LTV is the outstanding principal balance of the loan divided by the appraised value for real property pledged as collateral for a loan. When the appraised value of the pledged collateral decreases faster than the principal of the loan, the LTV will increase, thereby making this loan a greater risk in case of default.
The benchmark LTV ratio will usually
In depressed economic times, Banking is an industry that is prone to substantial financial losses, from customer’s closing their depository account to an increase in outstanding loan delinquency. An increase in consumer and commercial loan defaults can damage the integrity of a Bank’s outstanding loan portfolio. Such deterioration can lead to an increase of “Non-Performing Assets”.
Once a loan is nonperforming, (usually when a debtor has not made their scheduled payment for at least 90 days, but there are other reasons why a loan can be deemed “non-performing”) the odds that it will be repaid in full are considered to be substantially lower. The non-performing asset is therefore not yielding any income to the lender in the form of principal and interest payments.
Banks have spent the last several years grappling with nonperforming assets, but perhaps working out problems with bad loans is best left to entities that do not have to answer to a Federal Regulator. This year, more banks have escalated efforts to sell nonperforming assets, and industry experts say the volume of such deals is only going to increase. Meanwhile, a new deal structure is calling for sellers to retain the problematic assets to work them out on their own. (Barba, 2011)
But, even if a loan pays in accordance with its Terms & Conditions, it still can be categorized non-performing for several reasons. Deterioration in financial ratios can cause a loan to be classified non-performing, one of those financial ratios is Loan to Value or “LTV”.
LTV is the outstanding principal balance of the loan divided by the appraised value for real property pledged as collateral for a loan. When the appraised value of the pledged collateral decreases faster than the principal of the loan, the LTV will increase, thereby making this loan a greater risk in case of default.
The benchmark LTV ratio will usually
References: Barba, R. (2011, November 14). Toxic assets turn into opportunity for community banks. Retrieved from http://www.americanbanker.com/issues/176_221/loan-sales-nonperforming-assets-private-equity-1044055-1.html. (Barba, 2011) McDonald, D. (2011, November 04). Good news? It’s a buyer 's market for bad loans. Retrieved from http://finance.fortune.cnn.com/2011/11/04/bank-bad-loans/ (McDonald, 2011) Trauner, S. (2009, April). Non-performing assets: The keep versus sell decision. Retrieved from http://www.wib.org/publications__resources/article_library/2009-10/mar09_assets.html (Trauner, 2009)