The OCC published a new booklet discussing the risks associated with retail lending and providing a framework for evaluating retail credit risk and management activities.

What happened

Part of the Safety and Soundness Asset Quality category of the Comptroller’s Handbook, “Retail Lending” applies to examinations of all institutions engaged in retail lending, defined as “closed- and open-end credit extended to individuals for household, family, and other personal expenditures.” Retail lending products include consumer loans, credit cards, auto loans, student loans and loans to individuals secured by their personal residences, including first mortgage, home equity and home improvement loans.

“Because of the number of consumer protection laws and regulations, banks engaged in retail lending are highly vulnerable to compliance risk,” the OCC noted, in all eight categories of risk for bank supervision purposes (credit, interest rate, liquidity, price, operational, compliance, strategic and reputation).

The characteristics of an effective retail credit risk management framework include structured oversight by the board and senior management (with an established risk appetite and properly approved policies and procedures, such as approval of all credit policies at least annually) and clear and consistent policies and operating procedures, the OCC explained. “Lending policies and operating procedures help employees make consistent decisions, providing a sound foundation for sustainably profitable operations,” the agency wrote.

The framework should also feature a well-developed risk appetite, the booklet said, covering retail risk strategies, retail risk tolerances (that must be measurable), retail risk preferences, retail risk attractiveness and retail risk limits. Structured risk assessment, well-defined policy exception protocols, effective monitoring reports, and well-designed strategies and business plans are also key elements of the framework.

What criteria will examiners consider when evaluating retail credit originations, account management, collections, and portfolio management activities and processes? The OCC set forth the issues for review.

For example, when weighing the quantity of risk associated with retail credit activities, an examiner should evaluate changes to the size, composition, growth rate and performance of the retail portfolio since the last exam, the regulator explained, with consideration of changes in products, product mix, marketing channels, underwriting standards, operations or technology as well as changes in the composition or mix of performing loans.

Looking at the quality of risk, examiners should weigh whether the board has established an organizational structure responsible for monitoring retail credit risk across the bank that is commensurate with the size, complexity and risk profile of the portfolio. The OCC asked whether the retail credit risk governance program is explicit, well-documented and well-communicated, with a review of risk appetite statements to determine whether a clear link exists between the stated risk appetite and the products or market the bank pursues.

Also highlighted by the OCC: discussion of the objective of control functions commonly used in a retail lending business to measure performance, make decisions about risk, and assess the effectiveness of processes and personnel.

The guidance also provided examples, such as the risks a retail lender might consider during a credit risk assessment exercise and an Internal Control Questionnaire to help assess a bank’s standard controls that provide day-to-day protection of bank assets and financial records.

To access the “Retail Lending” booklet, click here.

Why it matters

Banks subject to OCC supervision should familiarize themselves with the new booklet, which supplements the core assessment sections of the “Large Bank Supervision,” “Community Bank Supervision” and “Federal Branches and Agency Supervision” booklets of the Comptroller’s Handbook. “Examiners should refer to the ‘Retail Lending’ booklet when specific retail lending products, services, activities or risks warrant review beyond the core assessment because they have a material impact on the risk profile and financial condition of national banks and federal savings associations,” the OCC noted.