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Stealth FAQ Updates from Treasury and the FDIC

Over the last several months, we have become aware of a number of changes to various regulator’s frequently asked questions.  These changes are frequently made without any public announcement, and, in some cases, without any notation that the FAQ’s have been modified at all.  Frequently, banks are made only made aware of the change when they (a) aren’t aware of the initial FAQ, and (b) subsequently ask the question and are directed to the FAQ.

On November 1, 2011, the FDIC updated its Frequently Asked Questions regarding the “High-Rate Area” exception to the market rate caps for less than well-capitalized institutions.  Previously, institutions relying on a “high-rate area” designation had to re-apply every calendar year to maintain the designation.  However, late in 2011, the FDIC determined that institutions that had received a high-rate determination from the FDIC would no longer be required to submit an annual high-rate determination request.  Instead, the high-rate area designation will automatically renew until and unless the FDIC notifies the institution that it is no longer operating in a high-rate area.  In light of continued historically low interest rates, the current national rate caps have not proven to generally be difficult for banks to comply with, but this modification (if it isn’t changed again) could provide welcome relief if/when rates rise.

On February 16, 2011, the Treasury updated its Frequently Asked Questions regarding the Capital Purchase Program changes under the American Recovery and Reinvestment Act of 2009.  Without acknowledging any change to the FAQ, Treasury reduced the minimum repurchase amount to the greater of (i) 5% of the issue price of the preferred and (ii) $100,000.00 in principal amount.  Previously, Treasury required institutions seeking to repurchase their TARP investment to repurchase at least 25% of the principal investment.

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Renewing “High Rate Area” Determinations

As we have previously discussed, FDIC determinations that a bank is operating in a “high rate area” remains effective only for the calendar year in which it was granted.  All banks that received a high-rate determination in 2010 are required to submit a new request to the FDIC in order to continue their ability to use the local market average calculation method for determining their rate cap in 2011.

The FDIC has informed us that these requests will not be processes prior to year-end, but that banks that submit a request will be entitled to continue to use the local market average calculation method until notified in writing otherwise by the FDIC.

The FDIC has also confirmed that all of the states within the Atlanta region continued to be considered high-rate areas for the fourth quarter of 2010.  This determination, which is separate from a specific determination that any specific bank operates in a high rate area, has been made at the beginning of each quarter since the effectiveness of the national rate cap rule.  Any bank operating in a state that is considered a high-rate area will receive an affirmative high-rate determination letter if requested by the bank.  Without a state-wide determination, the FDIC will look to the specific markets served by the bank to determine whether a high rate area determination is appropriate.

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High Rate Area Determination Relief?

On Friday, March 18, 2009, FDIC Chairman Sheila Bair addressed the inclusion of all branches in the calculation of local rates in a speech at the ICBA convention in Orlando.  This modification may (1) create new or renewed opportunities for community banks to apply for, and receive, high rate area determinations, and (2) increase the relevant local rate for institutions operating in high rate areas.

As some of you may know, last year we changed the rule for complying with the statutory interest-rate restrictions for banks that are less than well capitalized. The new regulation includes a streamlined safe-harbor for compliance using a national rate schedule that is published on the FDIC’s website. The rule also builds in the flexibility to identify high-cost areas. As we make these judgments, one issue that can be material in some markets is the presence of multiple branches of large banks.

As I mentioned earlier, the largest banks enjoy lower average funding costs – and the differential appears to be rising. In our judgment, this trend is driven at least in part by the market perception that some of these banks are too big to fail. It was never our intent for this regulation to disadvantage smaller banks. That is why, as of today, we have amended the question and answer document on our website to clarify that the FDIC will, as appropriate, drop multiple branches of the same banks from the calculation of locally prevailing deposit rates. I would point out that this was an issue that was flagged for us by members of our Community Bank Advisory Committee, who have made many useful suggestions like this in the meetings we have held so far. (emphasis added)

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Process for Requesting Determination of “High-Rate Area”

On December 4, 2009, the FDIC published Financial Institution Letter FIL-69-2009, which outlines the process for requesting a “high-rate area” determination by the FDIC to exempt the institution from compliance with the national rate caps.  As we’ve previously discussed, financial institutions that are less than well capitalized will be barred from paying in excess of 75 basis points above the national rate unless the institution is able to persuade the FDIC that the institution’s local market rate is above the national rate.  The new guidance confirms our previous understanding of the process the FDIC will use in approving high-rate areas, and provides additional clarify.

Less than well-capitalized institutions that operate in market areas where rates paid on deposits are higher than the “national rate” can request a “high-rate area” determination from the FDIC by sending a letter to the applicable FDIC regional office.  The letter must identify the market area(s) in which the institution is operating.  The FDIC appears willing to defer to the institution to identify its relevant market area, so long as it is a geographic area and does not arbitrarily exclude FDIC-insured institutions and branches operating in that geographic area.

The FDIC will use its own standardized data (average rates by state, metropolitan statistical area and micropolitan statistical area) to determine whether the institution is in a high-rate area.  While the FDIC will not consider any specific supporting data offered by the institution, institutions may still want to calculate the expected market rate for various markets in determining whether to identify a larger or small relevant market area.  The FDIC has specified that market areas may not consist only of a subset of banks with similar characteristics (such as asset size or retail focus) and cannot exclude branches of large institutions.

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Updated Guidance on Seeking a “High-Rate Area” Determination

The FDIC has not yet formally published the anticipated guidance on how an institution can seek a “high-rate area” determination under the national interest rate restrictions for less than well-capitalized banks.  However, based on conversations with FDIC officials, we understand that the FDIC is accepting requests that a bank be determined to be in a “high-rate area.”

We understand that the request should include a self-identification of the bank’s relevant market area.  The FDIC will not set specified market areas, but rather will consider the market rate identified by the institution.  Institutions are also encouraged to identify competing credit unions  if the bank believes the credit union is relevant to deposit pricing in the market.

The request does not have to include analysis of the rates being paid in the market, as the FDIC will use its own data to calculate the average rate paid in the Bank’s identified market area.  The FDIC will calculate the average rates paid in four standard types of deposit categories.  If the market rate exceeds the national rate by at least 10% in three of the four categories, the FDIC will designate the Bank’s market area as a “high-rate area.”

We expect official guidance from the FDIC to be released shortly.

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FDIC Issues New Guidance Relating to the Brokered Deposit/Interest Rate Restrictions

As we have discussed earlier, the FDIC has revised the brokered deposit/interest rate restrictions to create a presumption in favor of a “national deposit rate” starting January 1, 2010. Under this new rule, financial institutions that are less than well capitalized will be barred from paying in excess of 75 basis points above the national rate unless the institution is able to persuade the FDIC that the institution’s local market rate is above the national rate. As noted earlier, we anticipate that the presumption in favor of the national rate will be difficult to overcome.

On November 3, 2009, the FDIC issued Financial Institution Letter 62-2009 and Frequently Asked Questions that provide new guidance for financial institutions that would prefer to use a prevailing rate for their local market area instead of the new national rate. As described in its publication, the FDIC envisions a two-step process for financial institutions seeking to use a local rate basis. A financial institution that believes it is operating in a market area with deposit rates that are, on average, higher than the national rates must first request and receive a determination from the FDIC that it is operating in a high-rate area; the FDIC anticipates providing additional guidance explaining how banks can seek this threshold determination later this year. However, regardless of whether a financial institution receives such a determination from the FDIC, the new national rates will apply to all deposits outside the market area.

Should the FDIC provide a “high-rate area” determination to the financial institution, the bank or thrift must then calculate the effective rates for its local market. As today’s guidance makes clear, the prevailing rate in the applicable market area is the average of rates offered by other FDIC-insured depository institutions and branches in the geographic market area in which the deposits are being solicited. This prevailing rate includes not only other competing financial institutions, but also individual branches; in other words, a financial institution must determine the effective yield paid by each branch in its market area in order to correctly calculate the prevailing rate for its local market. This average must exclude the rate offered by the subject financial institution. The FDIC noted in its guidance that when an institution is calculating its prevailing market rate, before or after January 1, 2010, it must calculate this rate using the rates of all branches within its local market area. The FAQ provide several sample calculations.

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Overcoming the National Deposit Interest Rate Presumption

As we’ve previously discussed, the FDIC has revised the brokered deposit/interest rate restrictions to create a presumption in favor of a “national deposit interest rate” starting January 1, 2009.  Less than well-capitalized institutions will be then barred from paying in excess of 75 basis above the national rate, unless the institution is successful in convincing the FDIC that the institution’s local deposit rate market is above the national rate.

We have had several conversations with FDIC staff over the last few weeks regarding the FDIC’s intentions with respect to the new national deposit rate structure and how FDIC in Atlanta would approach it, given that the apparent average rate in Atlanta is already higher than 75 basis points more than the national rate.  FDIC staff stated that this was a very difficult and very sensitive issue, and that the local office of FDIC anticipated that most banks would, and would be permitted to, use a local rate basis.  That was the good news.

The bad news is that the burden of proof is going to become very high for any bank attempting to demonstrate the local rates.  The FDIC has subscribed to a service called “RateWatch” that they were going to use, he believed, as a reference point.  The  FDIC will analyze carefully the definition of the local market and the computation of the average from that market.  We understand that the analysis will have to be done on a branch by branch basis within the chosen market area (using newspaper quotes is apparently not enough).

Banks seeking to support a higher local rate would need to define its “local market” — i.e., counties in which the bank has branches, or perhaps another standard that the bank can support — and then calculate the local rate paid by each bank and branch in its local market.  For this purpose, each branch is given the same weight as a single-office bank; for example, if Bank of America has 5 branches in your market, the rate paid by each of those branches is counted individually and weighted equally.  This will likely cause the large national retail banks to have a significant and disproportionate influence on local rates, especially if they are not competing for the same local deposits sought by community banks.

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FDIC Issues Final Brokered Deposit and Interest Rate Restriction Regulations

On May 29, 2009, the FDIC adopted a final rule amending the interest rate restrictions applicable to institutions that are less than well capitalized.  The new regulation, which will take effect on January 1, 2010, will effectively tie interest rate caps to an average of interest rates charged nationally, significantly diminishing the importance of calculating prevailing interest rates within local deposit market areas.  Less than well-capitalized institutions will generally be subject to national rate caps as published by the FDIC.

Existing Rules

Section 29 of the Federal Deposit Insurance Act places statutory limits on the ability of any insured depository institution that is not well capitalized to accept brokered deposits.  As we have noted earlier, these brokered deposit rules also limit the interest rates that may be paid by insured depository institutions that are not well capitalized.  In order to be considered well capitalized, an insured depository institution must exceed certain uniform regulatory capital measures, as well as not be subject to any written agreement or order issued by its primary federal regulator that requires the institution to meet and maintain a specific capital level for any capital measure.

Under the current rules, any institution that is not well capitalized (including those subject to a regulatory capital order) may not pay interest in excess of 75 basis points over the average interest paid for comparable deposits in the institution’s “normal market area,” although institutions operating under a brokered deposit waiver may not pay interest rates in excess of 75 basis points over a “national rate” for deposits that are accepted outside the institution’s “normal market area.”

The current rule has proved increasingly problematic in recent years; with the Internet blurring local deposit market boundaries, regulators and institutions have had difficulty determining what constitutes an institution’s “normal market area.” In addition, the “national rate” applicable to institutions with a brokered deposit waiver has proved to be largely obsolete in recent years, as it ties permissible interest rates paid on deposits solicited nationally to the comparable maturity Treasury yield, resulting in an excessively low “national rate.”

The New Rule

The new rule moves to solve these two problems by redefining the “national rate” as “a simple average of rates paid by all insured depository institutions and branches for which data are available” and creating a presumption that this national rate is the prevailing rate in any market.  Effective immediately, the FDIC will regularly (weekly) publish national rates and caps, and permit institutions that are less than well capitalized to avail themselves of these rates as a safe harbor for complying with the statutory interest rate restrictions.

As of June 1, 2009, the highest rate that could be paid by a less than well-capitalized institution for a savings account would be 97 basis points, for a money-market account would be 1.21%, for a six-month CD would be 1.70%, for a one-year CD would be 2.00%, and for a 5-year CD would be 2.94%.  The FDIC Weekly National Rates and Rate Caps provides the rates and caps for various deposit maturities and sizes.

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