SEC: Bank failures not due to fair-value rule

SEC: Bank failures not due to fair-value rule

Despite critics such as Steve Forbes laying blame with fair value, agency says it was not a major factor in the bank failures.

WASHINGTON (Reuters) -- The controversial accounting rule used to value hard-to-price assets underlying the U.S. housing crisis was not a major factor in 2008 bank failures, the U.S. Securities and Exchange Commission told Congress in a report on Tuesday.

However, the report also recommended that regulators issue more guidance to help banks determine the fair value of an asset such as mortgage-backed securities when there is little or no market trading.

Fair-value, or mark-to-market, accounting requires banks to determine the market values of their assets each quarter and report them to investors.

Critics such as publisher Steve Forbes and some business lobbying groups have blamed the accounting rule for billions of dollars in write-downs by U.S. banks and a downward spiral that triggered margin and regulatory capital calls. Defenders of the rule say it gives investors needed information about the risks faced by a bank.

The SEC report was ordered by Congress in October when it approved an unprecedented $700 billion bailout for American financial services companies. Lawmakers asked the SEC to study the fair-value accounting rule's impact on banks' balance sheets and to assess alternatives.

The new study, prepared by SEC staff accountants and lawyers, found the accounting rule "did not appear to play a meaningful role" in 2008 bank failures. So far, 25 U.S. banks have failed this year, up from just three bank failures in 2007.

"Rather, bank failures in the U.S. appeared to be the result of growing probable credit losses, concerns about asset quality, and, in certain cases, eroding lender and investor confidence," the report said. "For the failed banks that did recognize sizable fair value losses, it does not appear that the reporting of these losses was the reason the bank failed."

Washington Mutual, the biggest bank to fail this year, had less than 5% of its assets accounted for at fair value on a recurring basis through income, the report said. JPMorgan Chase & Co bought WaMu's banking business on Sept. 25 for $1.9 billion when the government closed the thrift. WaMu's holding company later filed for bankruptcy protection.

The SEC report endorsed the view of investor and accounting groups which say fair-value accounting lets investors see what is truly on banks' balance sheets.

The report made eight recommendations to improve the accounting standard, such as standardizing the treatment of impaired assets and issuing more guidance on how to determine when markets become inactive.

Under the current accounting rule, assets in an active market can be valued based on a simple price quote. But in an illiquid market, the value is derived from management's best estimate and computer models.

An asset is considered impaired when there is a sudden decline in its value. Depending on the type of asset or financial instrument, those impairments can be written off.

The SEC study recommended more guidance to help company accountants decide when to use observable market information and when they should supplement it with computer models. Accounting guidance is typically prepared by accounting rulemaker Financial Accounting Standards Board and then approved by the SEC.

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