Accounting for COVID-19-related loan modifications

Accounting for loan modifications has long been a challenge for financial institutions. That challenge has been magnified during 2020 given the economic pressures caused by the pandemic and the new rules and guidance provided under Section 4013 of the CARES Act and the Revised Interagency Statement on Loan Modifications by Financial Institutions Working with Customers Affected by the Coronavirus.

Here are the differences between the CARES Act and the Interagency Statement and provide practical considerations related to re-modifications and impairment.

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Both the CARES Act and the Interagency Statement provide optional temporary relief from classifying certain loan modifications as troubled debt restructurings (TDR), as required by ASC 310-40.

A financial institution may make an election for TDR relief on a loan-by-loan basis. Each modification should be reviewed for applicability under the CARES Act and the Interagency Statement.

CARES Act Section 4013

The CARES Act permits the suspension of ASC 310-40 for a loan modification that would otherwise be classified as a TDR if the following criteria are met:

1. The modification is related to the COVID-19 pandemic.
2. The loan was not more than 30 days past due as of December 31, 2019.
3. The modification occurred during the period beginning on March 1, 2020, and ending the earlier of December 31, 2020, or 60 days after the end of the national emergency.

Types of modifications: Any loan modification may qualify as long as it meets the criteria, including forbearance agreements, interest rate modifications, repayment plans and/or other arrangements that defer or delay the payment of principal or interest.

Term: The relief from TDR designation is effective for the remaining life of the loan. The lender is not required to apply the accounting or disclosure requirements under ASC 310-40 that apply to TDRs. However, subsequent modifications must be reevaluated.

Interagency Statement

The Interagency Statement also permits financial institutions to modify a loan without classifying the loan as a TDR if the following conditions are met:

1. The modification is related to the COVID-19 pandemic.
2. The borrower was less than 30 days past due when the modification program was implemented.
3. The modification must be short term (e.g., six months or less).

The Interagency Statement does not identify a specific period during which the modification must occur, but because the guidance is related to COVID-19 modifications, the guidance in the Interagency Statement is expected to be temporary.

Types of modifications: The guidance indicates only short-term modifications — specifically less than six months — will qualify and include only modifications related to payment deferrals, fee waivers, extensions of repayment terms, or delays in payment that are insignificant under ASC 310-40.

Term: Same as under the CARES Act.

Re-modifications

Re-modifications of loans to borrowers affected by the COVID-19 pandemic may also be excluded under the CARES Act and the Interagency Statement, subject to the parameters outlined above. However, the Interagency Statement allows a re-modification to be eligible for relief from TDR reporting only if the aggregate deferral period is less than six months. The Interagency Statement does not currently have a defined expiration date, but modifications must be related to the COVID-19 pandemic. The CARES Act does not include the six-month deferral period limit, but a re-modification is eligible for relief under the CARES Act only if it meets the applicable criteria, including that it must be done before December 31, 2020.

Impairment

While both the CARES Act and the Interagency Statement provide suspension from TDR reporting for certain loan modifications, modified loans will need to be evaluated for impairment. Financial institutions must still maintain an appropriate allowance for loan losses for modified loans that are not classified as TDRs.  Re-modifications may add to concerns about the likelihood of repayment on the loan and may be an indication of impairment. Financial institution should also evaluate the need to classify modified loans as nonaccrual assets.

Summary

The CARES Act and Interagency Statement help financial institutions support their borrowers during the COVID-19 pandemic by allowing relief from TDR reporting for those loan modifications that fall under the criteria identified above. In general, the CARES Act is more inclusive because there is no limit to the modification period and it includes more types of modifications. However, the CARES Act does not apply to loans that were originated during the first quarter of 2020 or were delinquent at December 31, 2019, and became current during the first quarter of 2020. The Interagency Statement may apply in these situations, but it limits the types of modifications that may be included and any deferral period to six months.

Re-modifications are allowed under both the CARES Act and Interagency Statement, but again, the Interagency Statement limits modifications and re-modifications to a period of six months in total.

Modifications and re-modifications that are excluded from TDR reporting under the CARES Act or Interagency Statement should still be evaluated for impairment and nonaccrual status.

Please reach out to your Wipfli representative if you have questions on how to classify your loan modifications.