Nearly five years after the financial crisis that set off global recession, the debate over how to account for loan losses -- especially ones that are expected but haven't yet occurred -- is not yet producing a clear answer for how accounting rules should be revised.

The Financial Accounting Standards Board and the International Accounting Standards Board have each issued proposals that take different approaches -- FASB's in December with a comment period through April 30 and IASB's more recently with comments accepted through July 5. Analysts and the banking community generally like the idea that both boards are moving away from the current approach, which permits losses to be recognized only as they actually occur. It's often cited as a key factor in how accounting masked the underlying economics as banks piled on bad debt but didn't reflect the risk in financial statements heading into the financial crisis. However, analysts and bankers are pointing out problems with both of the proposed approaches.

FASB and IASB were working on the project jointly and were developing a “three-bucket” approach where loans would be categorized according to their performance or expected performance and marked accordingly. In its outreach with stakeholders, however, FASB became concerned that financial institutions would have trouble determining when loans would move in and out of each of the three buckets. FASB instead developed an expected-loss approach that would require financial institutions to estimate their expected losses upfront and book them immediately. IASB, on the other hand, held fast to the three bucket model and issued its proposal based on it.

The American Bankers Association has published a “frequently asked questions” document reacting to FASB's approach. The group sees FASB's proposal as an improvement over the existing requirement, but still has concerns. “While the incurred loss model has its problems, ABA believes a (life of loan) expected loss model applied to healthy loans -- subject to how it is interpreted -- could have adverse consequences,” the ABA says. The group worries about the reliability of forecasts stretching past the first year, and the volatility that could ensue as a result.

Fitch Ratings says the FASB proposal could put pressure on banks' capital reserve levels and reported earnings, driving U.S. financial institutions to report asset values more conservatively than under the approach proposed by the IASB. “Fitch believes that the use of this model is likely to lead to quarterly adjustments in expected loss projections, possibly leading to more volatility in provision expense and reported earnings,” the firm said in a statement.

Despite the push to converge global accounting standards, FASB and IASB were not able to agree at the board level on how to put forth more similar proposals. Chairmen for both boards have agreed they will study the feedback on both proposals and take it into account as they move closer to final standards. “We invite comments from stakeholders on both the usefulness of the resulting information and the operationality of the proposed approach,” said FASB Chairman Leslie Seidman in a statement.

Hans Hoogervorst, chairman of the IASB, said his board simplified its original three-bucket proposal but has an important advantage over FASB's proposal. “It avoids excessive front-loading of losses, which we think would not properly reflect economic reality,” he said in a statement. The IASB looks forward to the feedback on both proposals, he said.