Start by establishing a concentration baseline through peer analysis to know where you stand. Be sure to include acquisition development and construction loans as well if applicable. Next, establish policies and procedures for management and members of the board. Like any regulatory compliance initiatives, a strategic plan and approach is critical with information being shared top-down throughout the organization.
Assessing the market to understand what you’re operating in in terms of a relative risk profile would be best. For management practices, rank each concentration bucket by its risk. The better you understand your market sectors in regards to economic, job generation, and when real estate is up or down the better you can relay explanations to your regulators. If over the 100% rule just know that brings enhanced regulatory scrutiny so your understanding and solid documentation can help.
A good best practice would be to create a Risk Appetite Statement for your concentrations. Make sure management and the board understands the risk appetite and that it is appropriately reflected in the meeting minutes. Regulators want to know scenario and stress testing tied to ALLL and capital is continuously being conducted by your bank. Project past to substandard based on rate change tests. Conduct stress test changes in cap rates. What is the effect on valuation? If default what losses? Also, try to diversify your collateral.
Concentration Reports can and should be made by asset category. If your bank’s caps are being exceeded then action must be taken immediately. In addition to dollar amounts it’s wise to have an understanding of the trends in each of your asset groups (ie occupancy, rents, who is entering/ exiting). Set house-level limits vs. legal-level limits with a buffer to ensure you achieve a sound position. If able, additional levels of capital should be recognized and set aside.
It is recommended that you review the SR 07-1 Guidance on Concentrations in Commercial Real Estate along with taking some of the suggested actions above
NOT INTENDED TO PROVIDE LEGAL, ACCOUNTING OR OTHER PROFESSIONAL ADVICE AND SHOULD NOT BE RELIED UPON AS SUCH.