Banking & Finance Law Report

Archives: Bank Regulation

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Regulatory Guidance on the Classification of Investment Securities Without Reliance on Credit Ratings

Recently, the primary federal bank regulators took the latest step in the long and winding road toward the replacement of credit ratings in the analysis of investment securities by insured financial institutions. You will recall this process began with the passage of the Dodd-Frank Act in July 2010 that, in the wake of the financial crisis in 2008, required government regulators of all types to deemphasize the role of credit ratings from the traditional credit rating firms.

The three primary federal bank regulators — the Office of the Comptroller of the Currency, the Board of Governors of the Federal Reserve System and the Federal Deposit Insurance Corporation — in November issued regulatory guidance in the form of an agreement among themselves regarding the appropriate approach to the asset classification of investment securities for regulatory purposes. The guidance applies to national banks, state-chartered banks, and state- and federally-chartered savings associations, and supersedes previous guidance from 2004.…

Ohio Financial Institutions Tax – Draft Regulations

The Ohio Department of Taxation recently released draft administrative regulations (the “Regulations”) designed to implement the new Ohio financial institutions tax. The new tax takes effect Jan. 1, 2014 and replaces the corporation franchise tax and dealers in intangible tax, which financial institutions have historically paid in Ohio.

The Regulations state that the tax has been designed based upon two fundamental concepts:

  1. The tax return will be reported on a consolidated basis at the highest level of ownership rather than on a separate entity basis.
  2. The equity of the consolidated reporting group will be based upon generally accepted accounting principles reported to the appropriate federal regulatory agency rather than on a federal income tax basis.

The most significant aspects of the Regulations deal with how financial institutions will file tax returns to pay the tax. Bank organizations that are owned through a holding company structure will report the equity of the holding company and all of the entities over which the bank holding company exercises significant influence on a form called an “FR Y-9.” A financial institution that is required to file the FR Y-9C pursuant to Federal Reserve Board regulations will instead report the total equity capital from its …

Basel III Capital Rules and Community Banks

When the new capital rules were issued this summer, there was no dearth of comment and analysis. The federal banking regulators took pains to emphasize how community bankers were treated and much of the 971 page release parsed the distinctions between “advanced approaches” organizations and community banks.

In general, the basic conclusion is that the community banks could have done much worse, although there are a number of critical concerns that remain. Here is an outline of how some of the important issues under the final Basel III Rules were resolved:…

Hot topics affecting your bank

From time to time we deviate from our normal prose on the banking and finance industry and give you, our reader, insight into other areas of the law that impact your business. A recent post regarding overhauling the Ohio employee-friendly employment discrimination law, Senate Bill 383, tops our list of quality reading material.

The post, ‘Senate Bill 383 is an Ohio employer’s wish list,’ from our Employer Law Report blog discusses significant amendments introduced to the Ohio Senate. In particular, Sara Hutchins Jodka goes into detail portions of the bill including defining employers to exclude managers and supervisors, limiting the statue of limitations to 365 days for discrimination and retaliation claims and put a statutory cap on noneconomic and punitive damages.…

Dodd-Frank Act Anniversary

In July the second anniversary of the signing of the Dodd-Frank Act passed, giving community bankers an opportunity to consider where things stand. For some banking institutions, particularly larger ones, it has been an active two years even though at least half of the regulatory requirements of the Act remain to be finalized. For smaller institutions, as will become clear, the action appears to be just beginning.

The sweeping overall scope of the Act is underscored when one considers there have been significant delays to much of the parts and pieces of the regulatory actions required under the Act. Yet much has been done.  According to various reports, there have been more than 100 finalized regulations under the Act and, there has been public comment requested on nearly as many significant proposals. 

The most critical regulations for smaller financial institutions are those proposed in recent months: new regulations on capital adequacy and new consumer lending regulations from the Consumer Financial Protection Bureau, the formation of which is thought to be one of central accomplishments of the Act.…

FFIEC Statement on Outsourced Cloud Computing

Financial institutions should apply the same risk management strategies and considerations to outsourced "cloud computing" activities as are required with more traditional forms of outsourcing, according to a statement issued July 10th by the Federal Financial Institution Examination Counsel (FFIEC).

The FFIEC’s statement explains that while there is no universal definition of "cloud computing," it generally involves a migration from owned resources to shared resources, through which a user can access and receive information technology services on demand from third-parties via the online "cloud." Cloud computing can be used to provide infrastructure, computing platforms, and software, and a cloud may be operated privately by one organization, as a community cloud shared by several organizations, as a public cloud available to any paying customer, or as a hybrid combination of two or more private, community or public clouds.

Although a financial institution’s use of outsourced cloud computing can have many potential benefits, such as cost reduction, flexibility and speed, the FFIEC statement indicates that the fundamentals of risk and risk management defined in the FFIEC Information Technology Examination Handbook (IT Handbook), particularly the Outsourcing Technology Services Booklet (Outsourcing Booklet), are as applicable to cloud computing as to other forms of …

Operating Subsidiaries – Protecting the Bank When Taking Title to Real Estate

With certain limitations, a bank may own real estate it acquires by foreclosure, conveyance in lieu of foreclosure, or other legal proceedings in satisfaction of a debt previously contracted. Ownership of such property can create potential liability for the bank in a number of ways, though most commonly from personal injuries which occur on the property (another possibility with the potential to be very costly is environmental liability). While insurance can mitigate much of this risk, it has its limitations and a bank has options to be further protected.

One way to mitigate the risk is for a bank to own such property in an operating subsidiary wholly owned by the bank. Ownership of the property in an operating subsidiary would help limit the liability exposure to the assets of the subsidiary and protect the bank itself. Thus, the bank’s income and assets from other activities are insulated from the risks associated with property ownership. While common for large banks, many small banks do not have this level of protection in place, often because of the administrative burden associated with establishing a wholly owned subsidiary.

Under Ohio law, establishing an operating subsidiary requires a bank to submit a letter of …

CFPB Releases Examination Manual

In October, the Consumer Financial Protection Bureau published its first supervision examination manual which will be of interest to bankers and other financial service executives.

On one level, the manual is fairly pedestrian and may contain little surprising in that most bankers have a fairly extensive appreciation of (and experience with) an examination process. And, of course, the Bureau has direct supervisory authority only over the roughly 100 large banks, thrifts, and credit unions that have assets more than $10 billion.

What should be interesting to many bankers, however, is the insight the Manual provides into the examination approach of the Bureau, an approach that will doubtlessly influence and inform the practices and procedures of all other financial institution regulators, large and small. Essentially, the Manual describes the Bureau’s process for risk assessment: first there will be the establishment of the inherent risk of a particular "product" line for consumers and then there will be an assessment of an entity’s set of quality controls to manage and mitigate the risks.…

New Interim Final Rule Governing Garnishment of Accounts-76 Fed. Reg. (Feb. 23, 2011) (to be codified at 31 C.F.R. pt. 212)

A new interim federal rule effective May 1, 2011 protects from garnishment a portion of certain federal benefits direct-deposited into judgment debtor’s account within two months of the garnishment. The interim rule requires banks, credit unions and other financial institutions to change the way they process and respond to garnishments of accounts containing federal benefits, including Social Security benefits, SSI benefits, Civil Service Retirement benefits, Federal Employee Retirement Systems, VA benefits and Federal Railroad retirement, unemployment and sickness benefits. The interim rule does not protect from garnishment federal benefits paid into a judgment debtor’s account by check, cash, money order or other non-direct deposits, and the interim rule preempts inconsistent State or local garnishment laws and exempts certain federal and state child support garnishments.

The interim rule addresses the common practice of financial institutions that freeze a judgment debtor’s account in response to a garnishment without examining whether the account contains exempt federal benefit payments. This practice can leave judgment debtors who receive federal benefits without income or the ability to meet their immediate financial needs.…

Patent Reform and Financial Institutions

The U.S. Senate overwhelmingly passed (95–5) the America Invents Act (formerly titled the Patent Reform Act of 2011) (S.23 or AIA), on March 8, 2011. This legislation represents a major patent reform initiative and is quite possibly the most significant patent reform since the 1952 Patent Act. This legislation could have significant impact on financial institutions.

The headline change ofthe AIA is that a patent would be awarded to the first-to-file a patent application rather than to the first-to-invent the invention. This should favor large financial institutions who are regularly active in patenting innovations because they will have the resources and systems in place to win a race to the patent office. Small financial institutions or those not regularly active in patenting innovations will need to adapt to more quickly react to their innovations or risk losing the race. Perhaps a more significant impact on financial institutions due to this change is that the first-to-file system makes prior users vulnerable to patent infringement. A financial institution can use an innovation for years as a trade secret and then be liable for patent infringement when another party patents that innovation. This could be very problematic in the financial industry which has largely considered its business methods and …

Whistleblowing Galore Under the Dodd-Frank Act

Congress’ recent passage and President Obama’s signing of the “Dodd-Frank Wall Street Reform and Consumer Protection Act” provides significant incentives for financial industry whistleblowers to assist the government root out fraudulent practices and other unlawful conduct in the industry. Supporters of the Dodd-Frank Act are praising its expansive whistleblower protections as a necessary good corporate-citizen tool to help the government ensure a financial crisis like 2008 never happens again.

Under the Dodd-Frank Act, whistleblowers in publicly traded companies are provided significant personal financial incentives to disclose to the SEC “original” information concerning securities laws violations occurring within their companies. “Original” information means the information must be derived from the whistleblower’s independent knowledge or analysis and cannot be known to the SEC from any other source. The available financial reward — or “bounty” — available to a qualifying whistleblower will range from 10% to 30% of any financial recovery in excess of $1,000,000 that the SEC obtains from the targeted corporation, including the amount of any penalties, disgorgement and interest.…

Wall Street Reform Legislation Requires Public Companies to Revise Clawback Policies

On July 21, 2010, President Obama signed into law the Dodd-Frank Wall Street Reform and Consumer Protection Act (the “Act”). Although the Act focuses primarily on the financial industry, the Act contains a section that requires the Securities and Exchange Commission (“SEC”) to publish rules that direct the national securities exchanges and associations to prohibit the listing of any security of an issuer that does not develop and implement an appropriate clawback policy.

Specifically, a clawback policy must provide that an issuer that is required to restate its financial statements because of a material financial reporting violation must recover from certain executive officers the amount in excess of what would have been paid to them under the issuer’s restated financial statements. No showing of misconduct or negligence on the part of the affected executives is required. In other words, public companies must recover the excess, if any, between the actual pay-out under the original financial statements and the amount payable under the restated financial statements. This policy must apply to any current or former executive officer who received incentive-based compensation (including stock options) during the three-year period preceding the date on which the restatement is required. The Act also requires …

New Data Breach Strategy Uses Banks and Telephone

Is your phone ringing off the hook? Then you’d better check your bank account. According to the Federal Bureau of Investigation, a new “telephone denial-of-service” attack is combining high-tech and low-tech fraud techniques to steal money from the bank accounts of unsuspecting victims.

As reported in the alert issued by the FBI, the scam begins with the suspect obtaining a victim’s personal and banking information, perhaps including bank account numbers, PINs, and passwords. Scammer can obtain a victim’s personal and banking information in a variety of ways, such as through phishing emails, social engineering tactics, or malware surreptitiously installed on a person’s computer.

Once the scammers have the victim’s personal information, they begin tying up the victim’s telephone line by using automated resources to place hundreds or thousands of calls to the victim’s telephone, not unlike a Distributed Denial of Service attack aimed at a computer network that overwhelms a computer with requests for information resulting in a slowing or failure of the network.

While the victim is busy dealing with the onslaught of telephone calls, the scammers quickly drain the victim’s bank account using the previously obtained personal and banking information to gain access to the account. If …

Obama Proposes No Proprietary Trading for Financial Institutions

January 21, 2010, President Obama proposed reforms to the financial system designed to ensure no bank, or financial institution that contains a bank, will own, invest in, or sponsor a hedge fund, private equity fund, or proprietary trading operation for the bank’s own profit. The new reforms, known as the Volcker Rule after former chair of the Federal Reserve Board, Paul Volcker, are intended to prevent banks from engaging in what are now perceived as risky investments.

How the Volcker Rule will be drafted and applied is unclear. At a minimum it seems that banks may have to halt investments that use solely the bank’s capital. Banks may therefore have to divest their proprietary trading desks, although most banks have significantly smaller proprietary trading desks than they did prior to the economic crisis.

What constitutes proprietary trading operations under the Volcker Rule is unknown. For example, do such activities include the practice of facilitating trading for clients and investing alongside clients? Additionally, it is unclear whether only wholly-owned bank funds would be prohibited or any bank involvement in a hedge fund or private equity fund above a certain threshold. One approach, which would be a broad interpretation of the Volcker …