Application to Smaller Banking Organizations

            Although the proposed guidance only applied to banking organizations supervised by the Federal Reserve, the final guidance applies to all banking organizations supervised by the Agencies.  However, the final guidance is expected to have less impact on smaller banking organizations, which, unlike their larger counterparts, may not need to implement systematic and formalized policies, procedures and processes.  Whether or not an organization is considered “large” is determined under the relevant agency’s standard.  The guidance permits flexibility for customized arrangements.

Scope

            The guidance applies to senior executives and other employees who, either individually or as part of a group, have the ability to expose the baking organization to material amounts of risk.  “Senior executives” includes, at a minimum, “executive officers” within the meaning of Federal Reserve Regulation O (12 C.F.R. § 215.2(e)(1)) and, for publically traded companies, “named officers” within the meaning of the Securities and Exchange Commission’s rules on the disclosure of executive compensation (17 C.F.R. § 229.402(a)(3)).

Key Principles

            The final guidance embodies the same three key principals as the proposed guidance:

1. Incentive compensation arrangements should provide employees incentives that appropriately balance risk and financial results in a manner that does not encourage employees to expose their organizations to imprudent risk;
2. These arrangements should be compatible with effective controls and risk-management;
3. These arrangements should be supported by strong corporate governance, including active and effective oversight by the organization’s board of directors.

More Information

            The final guidance will be effective on the date of its publication in the Federal Register.  A complete copy of the final guidance can be found here.

FDIC Board of Directors Approves Notice of Proposed Rulemaking to Revise Deposit Insurance Assessments

On April 13, 2010, the Board of Directors of the Federal Deposit Insurance Corporation (FDIC) approved a Notice of Proposed Rulemaking (NPR) to revise the deposit insurance assessment system for large institutions, which pose unique and concentrated risks to the Deposit Insurance Fund.  Under the proposal, risk categories and long-term debt ratings would no longer be used. The FDIC would continue to use the supervisory ratings as a factor in measuring risk. The FDIC would replace the financial ratios currently used with a scorecard consisting of well-defined financial measures that are more forward looking and better suited for large institutions. The proposal also includes questions about how to incorporate other risk measures, like the quality of underwriting or risk management practices, in the future.

The proposal would create two scorecards: one for large institutions and the other for highly complex institutions. A highly complex institution would be defined as an insured depository institution with greater than $50 billion in total assets that is fully owned by a parent company with more than $500 billion in total assets. The designation also would apply to a processing bank and trust company with greater than $10 billion in total assets. Each scorecard would have two components—a performance score and loss severity score—that are of particular interest to the FDIC as an insurer. Two scores would be combined to produce a total score, which would be translated into an initial assessment rate. Similar to the current system, the FDIC would retain an ability to make limited discretionary adjustments.

The entire proposed rule is available by clicking here.

FDIC Board of Directors Approves Extension of Transaction Account Guarantee Program

On April 13, 2010, the Board of Directors of the Federal Deposit Insurance Corporation (FDIC) approved an interim rule to extend the Transaction Account Guarantee (TAG) program to December 31, 2010. Last year the program was extended to June 30, 2010. Under the TAG program, customers of participating insured depository institutions are provided full coverage on transaction accounts. The interim rule gives the Board discretion to extend the program to the end of 2011, without additional rulemaking, if it determines that economic conditions warrant such an extension.

The TAG extension will provide a continued stable funding source for participating banks and will help them maintain their ability to secure low-cost, large deposits, thereby preserving their deposit franchise value and supporting the rebuilding of their earnings and capital, which in turn protects the Deposit Insurance Fund.

Nearly 6,400 insured depository institutions, about 80 percent of the industry, continue to participate in the TAG program and benefit from the guarantee provided by the FDIC. These institutions held an estimated $266 billion of deposits above the insured deposit limit and guaranteed by the FDIC through the TAG program as of the end of 2009. Under the interim rule, participating institutions can opt out effective July 1, 2010. Last year the Board adjusted the assessment rate to make it risk based and approved an increase in the rates; the current rates will remain unchanged under the interim rule. The Board also voted to require TAG assessment reporting be based on average daily account balances and to reduce the maximum rate that can be paid for qualifying NOW accounts to 0.25 percent from 0.50 percent.

The entire interim rule is available by clicking here.

Federal Regulators Release Model Consumer Privacy Notice Online Form Builder

On April 15, 2010, eight federal regulators released an Online Form Builder that financial institutions can download and use to develop and print customized versions of a model consumer privacy notice.

 The Online Form Builder, based on the model form regulation published in the Federal Register on December 1, 2009, under the Gramm-Leach-Bliley Act, is available with several options. Easy-to-follow instructions for the form builder will guide an institution to select the version of the model form that fits its practices, such as whether the institution provides an opt-out for consumers.

 To obtain a legal “safe harbor” and so satisfy the law’s disclosure requirements, institutions must follow the instructions in the model form regulation when using the Online Form Builder.

The Online Form Builder is available by clicking here.

The article is available by clicking here.

• Realize from the outset that small banks are at a competitive disadvantage in the bidding process. 
• Track potential targets by monitoring regulatory actions every month. 
• Raise capital well before making a bid.   It demonstrates stability. 
• Target fewer and smaller banks. 
• Demonstrate that experienced management will be in charge of the failed bank after the acquisition.

The Board of Governors of the Federal Reserve System  recently announced that check-processing operations at the Federal Reserve Bank of Atlanta would be transferred to the Federal Reserve Bank of Cleveland on February 27th of this year.  The transfer marks the end of the era when paper checks were processed at locations scattered across the country.  Instead, starting February 27th, all Reserve Banks will use only the head office of the Federal Reserve Bank of Cleveland for paper-check processing. 

Along with the consolidation of paper-check processing, the Federal Reserve Board amended Regulation CC, effective February 27, to make the United States a single check-processing region.  This amendment means that after February 27th all checks will be “local” for purposes of Regulation CC, meaning that depositary banks, barring an exception under amended Regulation CC , must make funds deposited by check available for withdrawal no later than the second business day after the banking day on which the check was deposited.  

The payment system world is a little flatter each day.

• Products covered.  The Proposal covers gift certificates, store gift cards and general use prepaid cards, as those terms are defined in the Credit CARD Act.
  • The Proposal covers both retail gift cards and network-branded gift cards.  Retail gift cards can be used to buy goods or services at a single merchant or affiliated group of merchants; network-branded gift cards are redeemable at any merchant that accepts the card brand. 
  • The Proposal would not apply to other types of prepaid cards, including reloadable prepaid cards that are not marketed or labeled as a gift card or gift certificate and prepaid cards received through a loyalty, award or promotional program.
• Fee Restrictions.  The Proposal would not allow merchants or issuers to impose dormancy, inactivity or service fees unless three conditions are satisfied.  These three conditions are present when:
  • there has been at least one year of inactivity on the certificate or card;
  • no more than one such fee is charged per month; and
  • the consumer is given clear and conspicuous disclosures about the fees.
• The Proposal would also restrict monthly maintenance or service fees, balance inquiry fees and transaction-based fees (e.g., reload fees and point-of-sale fees).
• Expiration Date Restrictions. The Proposal would ban the sale or issuance of a gift certificate, store gift card, or general-use prepaid card that has an expiration date of less than five years after the date a certificate or card is issued or the date funds are last loaded. 
• No Replacement Fees.  The Proposal would ban fees for replacing an expired card or certificate if the underlying funds remain valid.

According to the President’s proposal, which is part of the White House’s “Financial Stability Plan,” the program would target small business lending, but would also offer a mechanism for banks with less than $1 billion in assets to access capital with an annual dividend rate of 3%.  The announcement is short on specifics, but here are the basics:

(1) Banks will receive capital in an amount equaling up to 2% of risk-weighted assets; 

(2) The annual dividends on the capital will equal 3% for the first five years and 9% thereafter; and 

(3) Banks seeking to participate in the program will submit a “small business lending plan” in which the bank explains how additional capital will help increase its lending to small businesses.  (Banks approved for the program that elect to participate will also be required to follow up with quarterly reports detailing small business activities).

Over the next few weeks, Treasury will work with community banks and the small business community to hammer out the program’s specifics.  Notably, the release contemplates that banks already participating in the capital purchase program will be able to replace existing capital, which carries a 5% dividend (7.7% for S-Corps), with investments under the new program.   

 The President also announced support for legislation that would increase the size of key Small Business Administration (SBA) loans. The aim of the increase would (supposedly) allow the SBA to ensure that more small businesses can get access to credit.

 The first prong of the proposed legislation would increase the Maximum 7(a) loan from $2 million to $5 million, providing greater access to capital that businesses could use to boost working capital as well as purchase machinery equipment and real estate.  

The second prong of the proposed legislation would increase the maximum 504 project loan from $2 million to $5 million for standard borrowers (supporting a total project of $12.5 million) and from $4 million to $5.5 million for manufacturers (supporting a total project of $13.75 million), thereby increasing the qualifying borrowers’ ability to undertake larger projects.

And the third prong of the proposed legislation would increase the maximum loan size of the SBA microloan programs from $35,000 to $50,000.

According to the release, in 2010 the Accounting Standards will make substantive changes to how financial service organizations account for many items—including securitized assets—that currently are excluded from these organizations’ balance sheets.  The regulators view the proposal as a way to better align regulatory capital requirements with the actual risks of certain exposures.  The main proposition in the proposal is a requirement to for financial service organizations affected by the Accounting Standards to increase their regulatory capital. 

The thirty-day comment period for the rule will begin once the proposal appears in the Federal Register.  The regulators seek specific feedback on (1) whether a phase-in of the increased regulatory capital requirements is needed, (2) the features and characteristics of transactions that, although consolidated under the Accounting Standards, might merit an alternative capital treatment (3) and the potential impact of the Accounting Standards on lending, provisioning and other activities.

Required Disclosures
The final rule requires institutions to inform sweep account customers if their swept funds are deposits under 12 U.S.C. 1813(l): (1) within the first sixty days after July 1, 2009 and periodically thereafter, but not less than annually; (2) in all new sweep account contracts; and (3) in all contract renewals. If the accounts are not deposits the institution must also disclose the status of the funds should the institution fail, for example, secured creditor or general creditor status.

Additional Requirements
These disclosures must be consistent with how the institution reports the funds on its Call Reports or Thrift Financial reports. The disclosure requirements do not apply to sweep accounts where: “transfers are within a single account, or a sub-account;… [or involve] only deposit to deposit sweeps,… unless the sweep results in a change in the customer’s insurance coverage.” The final rule does not require any specific language in the disclosures, allowing institutions to draft their own disclosures. Finally, the FDIC listed several examples of the means by which disclosures may be made, including client letters, transaction confirmation statements or account statements.

ABA Request for Guidance
The ABA recently asked the FDIC for guidance on how banks can ensure that repurchase agreements that are tied to sweep accounts are “properly executed,” such that customers possess perfected security interests in the underlying securities. This is significant, because an unperfected security interest would result in funds being treated as deposits and potentially uninsured in the case of a bank failure.

The ABA hosted a May 21 telephone briefing on these issues. It appears, from the telephone briefing and subsequent guidance from the ABA, that the focus of the FDIC regarding “properly executed” repurchase agreements that are tied to sweep accounts is “control.” In particular, this requires (1) identification of specific securities in the daily written confirmations that are required by the Government Securities Act, (2) inclusion of provisions in the repurchase agreement that appoint the bank as the customer’s agent and that give the customer the right in an event of default (such as bank failure) to direct the bank to sell the securities and apply the proceeds to the bank’s obligations under the agreement and (3) removal of any provisions in the repurchase agreement (and in any confirmations) that permit the bank to unilaterally substitute securities.