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Federal Reserve Board Issues Statement on Deposit Advance Products
On April 25, the Federal Reserve Board issued a policy statement on deposit advance products. The statement came on the same day that the OCC and the FDIC proposed more formal guidance for such products. The Board statement identifies potential “significant risks” associated with deposit advance products, including UDAP risk and other consumer compliance risk. The statement directs examiners to thoroughly review any deposit advance products offered by supervised institutions for compliance with Section 5 of the FTC Act and reminds banks of their responsibility for vendors hired to offer deposit advance products.
Federal Regulators Target Payday Loans, Deposit Advance Products
On April 24, the CFPB published a white paper on payday loan and deposit advance products that claims to show those products lead to a “cycle of high-cost borrowing.” On April 25, the FDIC and the OCC proposed guidance relating to deposit advance products based on similar concerns. The CFPB paper reflects the results of what the CFPB characterizes as a year-long, in-depth review of short-term, small-dollar loans, which began with a January 2012 field hearing. Although it acknowledges that demand exists for small dollar credit products, that such products can be helpful for consumers, and that alternatives may not be available, the CFPB concludes that such products are only appropriate in limited circumstances and faults lenders for not determining whether the products are suitable for each customer. The CFPB paper does not propose any rule or guidance, but is instead intended to present a clear statement of CFPB concerns. The paper notes that a related CFPB study of online payday loans is ongoing. The FDIC and OCC proposed guidance outlines the agencies’ safety and soundness, compliance, and consumer protection concerns about deposit advance products, and sets forth numerous expectations, including with regard to consumer eligibility, capital adequacy, fees, compliance, management oversight, and third-party relationships. For example, under the guidance the agencies would expect banks to offer a deposit advance product only to customers who (i) have at least a six month relationship with the bank, (ii) do not have any delinquent or adversely classified credits, and (iii) meet specific financial capacity standards. The guidance also would require, among other things, that (i) each deposit advance loan be repaid in full before the extension of a subsequent loan, (ii) banks refrain from offering more than one loan per monthly statement cycle and provide a cooling-off period of at least one monthly statement cycle after the repayment of a loan before another advance is extended, and (iii) banks reevaluate customer eligibility every six months.
OCC Seeks Reconsideration of Order Requiring Disclosure of Non-Public Documents related to Bank's AML/CTF Compliance
On April 24, the U.S. District Court for the Southern District of New York stayed an order that would have required a bank to disclose non-public supervisory information subject to the bank examination privilege. Wultz v. Bank of China, No. 11-1266 (S.D.N.Y. Apr. 24, 2013). The case was brought by the family of victims of a suicide bombing attack who claim that failures in the bank’s anti-money laundering and counter-terrorism financing compliance program aided and abetted international terrorism. On April 9, 2013, the court compelled the bank and the OCC to produce various investigative files and regulatory communications over their objection that the bank examination privilege protected such production. The court relied in part on a recent and unrelated Senate investigative report’s description of the OCC oversight process. The court reasoned that the OCC’s ideal supervision process, on which it based its claim of privilege, diverges from the actual process described in the Senate report, and that the actual process undermines assumptions on which other courts have relied about the likely effects of overriding the bank examination privilege. The court added that “the OCC’s supervisory mission might in some cases be helped as much as hindered by the intervention of private litigants.” In support of its motion to reconsider, the OCC argued that the court failed to properly weigh long-standing principles and that its decision “will be construed as an erosion of the bank examination privilege that ultimately will undermine the bank supervisory process.” The OCC also asserted that it never waived the privilege and appropriately and in good faith relied upon the procedures set forth under its Touhy regulation, which is designed to provide the OCC with the opportunity to review non-public OCC information in the possession of regulated entities prior to production. The OCC asked the court to vacate its prior order and order the plaintiffs to submit a Touhy request for all materials withheld on the groups of bank examination privilege. The court agreed to stay its prior order and established a briefing schedule on the motion for reconsideration, which will be completed by May 10, 2013.
Bank Regulators Announce First Foreclosure Review Payments
On April 9, the Federal Reserve Board and the OCC announced that payments to borrowers impacted by allegedly improper foreclosure practices would begin on April 12, 2013. The planned payments range from $300 to $125,000, and will be sent to certain borrowers whose mortgages were serviced by 11 of the 13 mortgage servicers subject to recently amended consent orders that replaced requirements related to the Independent Foreclosure Review process with $3.6 billion in cash payments and $5.7 billion in other assistance to 4.2 million borrowers. Payments to borrowers with mortgages serviced by two other servicers will be announced later. The payments will be sent in several waves, with the last wave expected to be sent in mid-July 2013. The announcement notes that the regulators categorized borrowers according to the stage of their foreclosure process and the type of possible servicer error. Then, amounts were determined for each category using the financial remediation matrix published in June 2012 as guidance, but also incorporating input from various consumer groups. The Board and the OCC also published a chart of payment amounts and the number of borrowers identified for each category.
Federal Reserve Board and OCC Publish White Paper on CRE Concentration Guidance
On April 3, the Federal Reserve Board and the OCC jointly published a white paper on the regulators’ study of bank performance in the context of 2006 interagency guidance regarding commercial real estate lending that established supervisory criteria for banks that exceeded 100 percent of capital in construction lending and 300 percent of capital in total commercial real estate (CRE) lending. According to the paper, banks with high concentrations of construction and total commercial real estate lending that exceeded supervisory criteria failed at higher rates than banks with lower concentrations. Specifically key findings include: (i) 13 percent of banks that exceeded only the 100 percent construction criterion failed, (ii) among banks that exceeded both the construction and total CRE lending supervisory criteria, 23 percent failed during the three-year economic downturn from 2008 through 2011, compared with 0.5 percent of banks for which neither of the criteria was exceeded, (iii) construction lending was a key driver in many failures, and (iv) banks that were public stock companies and exceeded the supervisory criteria on CRE concentrations tended to experience greater deterioration in condition than banks below the criteria, and banks with CRE concentrations higher than the guidance criteria experienced larger declines in their market capital ratio during the recent economic downturn.
Comptroller Curry Named FFIEC Chairman
On April 1, the Federal Financial Institutions Examination Council (FFIEC) announced that Comptroller of the Currency Thomas Curry will serve a two-year term as FFIEC Chairman. The FFIEC also selected Federal Reserve Board Member Daniel Tarullo as Vice Chairman, and announced three new State Liaison Committee members: Michael Mach, Division of Banking Administrator for the Wisconsin Department of Financial Institutions; Lauren Kingry, Superintendent of the Arizona Department of Financial Institutions; and Thomas Candon, Deputy Commissioner of Banking and Securities of the Vermont Department of Financial Regulation. The FFIEC is responsible for prescribing uniform principles, standards, and report forms for the federal examination of financial institutions, and for recommending changes to promote uniformity in the supervision of financial institutions. The FFIEC also conducts schools for federal examiners.
Federal Regulators Clarify Effective Dates for Flood Insurance Amendments
On March 29, the Federal Reserve Board, the FDIC, the OCC, the NCUA, and the Farm Credit Administration issued an interagency statement to clarify the effective dates for changes to the Flood Disaster Protection Act enacted last year in the Biggert-Water Flood Insurance Reform Act (the Act). The statement informs financial institutions that the force-placed aspects of the Act became effective upon enactment, which was July, 6, 2012, while provisions related to private flood insurance and escrow of flood insurance payments do not take effect until the agencies issue regulations. The statement reiterates the OCC’s prior statement that the new flood insurance penalty provisions in the Act took effect immediately and apply to violations that occurred on or after July 6, 2012.
Insights Into The Financial Fraud Enforcement Task Force Priorities for 2013
On March 20, 2013, Michael Bresnick, Executive Director of DOJ’s Financial Fraud Enforcement Task Force gave a speech at the Exchequer Club of Washington, DC highlighting recent accomplishments of the Task Force and outlining its priorities for the coming year. He began by discussing a number of areas of known focus for the Task Force, including RMBS fraud, fair lending enforcement, and servicemember protection. He then outlined three additional areas of focus that the Task Force has prioritized, including (i) the “government’s ability to protect its interests and ensure that it does business only with ethical and responsible parties;” (ii) discrimination in indirect auto lending; and (iii) financial institutions’ role in fraud by their customers, which include third party payment processors and payday lenders.
The third priority, which was the focus of Mr. Bresnick’s remarks, involves the Consumer Protection Working Group’s prioritization of “the role of financial institutions in mass marketing fraud schemes -- including deceptive payday loans, false offers of debt relief, fraudulent health care discount cards, and phony government grants, among other things -- that cause billions of dollars in consumer losses and financially destroy some of our most vulnerable citizens.” He added that the Working Group also is investigating third-party payment processors, the businesses that process payments on behalf of the fraudulent merchant. Mr. Bresnick explained that “financial institutions and payment processors . . . are the so-called bottlenecks, or choke-points, in the fraud committed by so many merchants that victimize consumers and launder their illegal proceeds.” He said that “they provide the scammers with access to the national banking system and facilitate the movement of money from the victim of the fraud to the scam artist.” He further stated that “financial institutions through which these fraudulent proceeds flow . . . are not always blind to the fraud” and that the FFETF has “observed that some financial institutions actually have been complicit in these schemes, ignoring their BSA/AML obligations, and either know about -- or are willfully blind to -- the fraudulent proceeds flowing through their institutions.” Mr. Bresnick explained that “[i]f we can eliminate the mass-marketing fraudsters’ access to the U.S. financial system -- that is, if we can stop the scammers from accessing consumers’ bank accounts -- then we can protect the consumers and starve the scammers.”
Mr. Bresnick stated that the Task Force’s message to banks is this: “Maintaining robust BSA/AML policies and procedures is not merely optional or a polite suggestion. It is absolutely necessary, and required by law. Failure to do so can result in significant civil, or even criminal, penalties under the Bank Secrecy Act, FIRREA, and other statutes.” He noted that banks should endeavor not only to know their customers, but also to know their customers’ customers: “Before they agree to do business with a third-party payment processor, banks should strive to learn more about the processors’ merchant-clients, including the names of the principals, the location of the business, and the products being sold, among other things.” They further should be aware of glaring red flags indicative of fraud, such as high return rates on the processor’s accounts: “High return rates trigger a duty by the bank and the third-party payment processor to inquire into the reasons for the high rate of returns, in particular whether the merchant is engaged in fraud.” (See BuckleySandler’s previous Spotlight on Anti-Money Laundering posts here, here and here.) Mr. Bresnick underscored this point by mentioning a recent complaint filed by the DOJ in the Eastern District of Pennsylvania.
With respect to the financial institutions’ relationships with the payday lending industry, Mr. Bresnick stated that “the Bank Secrecy Act required banks to have an effective compliance program to prevent illegal use of the banking system by the banks’ clients.” He explained that financial institutions “should consider whether originating debit transactions on behalf of Internet payday lenders – particularly where the loans may violate state laws – is consistent with their BSA obligations.” Although he acknowledged that it was not a simple task for a financial institution to determine whether the loans being processed through it are in violation of the state law where the borrower resides, he suggested “at a minimum, banks might consider determining the states where the payday lender makes loans, as well as what types of loans it offers, the APR of the loans, and whether it makes loans to consumers in violation of state, as well as federal, laws.”
In concluding, Mr. Bresnick said, “It comes down to this: When a bank allows its customers, and even its customers’ customers, access to the national banking system, it should endeavor to understand the true nature of the business that it will allow to access the payment system, and the risks posed to consumers and society regarding criminal or other unlawful conduct.”
The agenda outlined by Mr. Bresnick reinforces ongoing efforts by FinCEN and the FDIC, and adds to the priorities recently sketched out by CFPB and the OCC. Together they describe an ambitious, and increasingly aggressive, financial services enforcement agenda for federal regulators and enforcement authorities.
Banking Agencies Update Leveraged Lending Guidance
On March 21, the Federal Reserve Board, the OCC, and the FDIC issued final interagency guidance to ensure institutions provide leverage lending in a safe and sound manner by: (i) identifying the institution's risk appetite for leveraged finance, establishing appropriate credit limits, and ensuring prudent oversight and approval processes; (ii) establishing underwriting standards that clearly define expectations for cash flow capacity, amortization, covenant protection, collateral controls, and the underlying business premise for each transaction, and consider whether the borrower’s capital structure is sustainable; (iii) concentrating valuation standards on the importance of sound methods in the determination and periodic revalidation of enterprise value; (iv) accurately measuring exposure on a timely basis, establish policies and procedures that address failed transactions and general market disruptions, and ensure periodic stress tests of exposures to loans not yet distributed to buyers; (v) developing information systems that accurately capture key obligor characteristics and aggregate them across business lines and legal entities on a timely basis, with periodic reporting to the institution’s board of directors; (vi) considering in risk rating standards the use of realistic repayment assumptions to determine a borrower’s ability to de-lever to a sustainable level within a reasonable period of time; (vii) establishing underwriting and monitoring standards similar to loans underwritten internally; and (viii) performing stress testing on leveraged loans held in portfolio as well as those planned for distribution. The new guidance took effect on March 22, 2013, and institutions have until May 21, 2013 to comply.
Banking Agencies Propose Revised CRA Guidance
On March 18, the Federal Reserve Board, the FDIC, and the OCC proposed revisions to the “Interagency Questions and Answers Regarding Community Reinvestment” (Q&As). Focused primarily on community development, the revised Q&As aim to (i) clarify how the agencies consider community development activities outside an institution’s assessment area, both in the broader statewide or regional area and in nationwide funds, (ii) clarify how to determine whether recipients of community services are low- or moderate-income; (iii) explain the consideration of certain community development services, (iv) address the treatment of qualified investments to organizations that use only a portion of the investment to support a community development purpose, and (v) clarify that community development lending should be evaluated in such a way that it may have a positive, neutral, or negative impact on the large institution lending test rating. In remarks to the National Community Reinvestment Coalition on March, 20, 2013, Comptroller Thomas Curry described the proposed changes and stressed that they are the first steps the agencies will take to address issues raised during a 2010 outreach effort to reappraise the CRA and identify gaps between CRA implementation and changes in the structure of the banking industry, and how customers access and use credit and financial products. Mr. Curry also promised training and revised examination procedures to ensure more consistent application of CRA rules. The agencies will accept comments on the revisions for 60 days following publication in the Federal Register.