Today the FDIC Board is considering a Notice of Proposed Rulemaking to revise Part 354 of the FDIC Rules and Regulations regarding parent companies of industrial banks and industrial loan companies (collectively referred to as industrial banks).
The FDIC adopted part 354 in December 2020, in order to formalize its framework for supervising industrial banks and mitigating risk to the Deposit Insurance Fund. The rule requires certain conditions and written commitments in situations that would result in an industrial bank becoming a subsidiary of a company that is not subject to consolidated supervision by the Federal Reserve Board – referred to in part 354 as a Covered Company. The rule also ensures that a Covered Company that owns or controls an industrial bank serves as a source of financial strength for the industrial bank, consistent with Section 38A of the Federal Deposit Insurance Act.
The proposal before the FDIC Board today is a revision of the current rule, and draws upon the FDIC’s experience since the issuance of part 354 and its supervisory concerns with respect to certain types of business models.
As noted in the preamble to the Notice of Proposed Rulemaking, the FDIC has concerns regarding the potential for increased risk to the Deposit Insurance Fund in situations where there is a significant degree of dependence by the industrial bank on the parent company or affiliates, particularly with respect to the primary business functions of the proposed institution. Business models where there is significant or material dependence by the industrial bank on the parent company – referred to as shell or captive structures – raise significant concerns about the viability of the industrial bank’s proposed business model on a standalone basis, the industrial bank’s franchise value in the event the parent organization experiences financial difficulty or failure, and how such business models serve the convenience and needs of the community.
The FDIC’s experience during the 2008-2009 Financial Crisis demonstrated that business models involving an insured depository institution inextricably tied to and reliant on the parent and/or its affiliates may create significant challenges and risks to the Deposit Insurance Fund, especially in circumstances where the parent entity experiences financial stress. Where an industrial bank is significantly reliant on and interconnected with its parent for generating business on both the funding and lending sides of the balance sheet, as well as for crucial operational systems and support, financial difficulties at the parent could be transmitted to the dependent industrial bank.
Accordingly, the proposed rule sets forth important clarifications regarding criteria that the FDIC would consider when assessing the risks presented to an industrial bank by its parent organization and evaluating the industrial bank’s ability to function independently of the parent organization. The proposed amendments would provide that an industrial bank will be presumed to be a shell or captive institution if it: (a) could not function independently of the Covered Company, (b) is significantly or materially reliant on the Covered Company or its affiliates, or (c) serves only as a funding channel for an existing Covered Company or affiliate business line.
The FDIC will presume that the shell or captive nature of an industrial bank will weigh heavily against favorably resolving one or more of the applicable statutory factors.
For example, the evaluation of the convenience and needs of the community statutory factor is a broad inquiry, not limited to the Community Reinvestment Act. In assessing whether the convenience and needs of the community are met in industrial bank proposals, the FDIC will consider the customer base that the applicant intends to serve with its deposit and credit products and the market need filled through those products.
As described in the preamble, where an industrial bank proposal is presumed to be a shell or captive, the target market may be such that the institution’s products are only available to customers of an affiliate or to a limited part of the community. A business model that does not broadly serve the convenience and needs of the community may raise concerns about whether the community is being served by the proposed institution in a manner that supports the grant of deposit insurance. The FDIC will review each filing on a case-by-case basis, and the FDIC will allow any person seeking to rebut the presumption of a shell or captive structure an opportunity to present its views in writing.
Given the unique nature of industrial banks and the facts and circumstances of a particular transaction, the NPR notes that the FDIC may also consider whether public hearings would be an appropriate means to obtain further public input on whether a specific application meets the convenience and needs of the community.
The proposed amendments would also clarify the relationship between written commitments and the FDIC’s evaluation of the statutory factors applicable to an industrial bank filing. Part 354 requires a Covered Company and industrial bank to make certain commitments, including entering into parent company agreements and Capital and Liquidity Maintenance Agreements, in connection with the FDIC’s approval of an application or non-objection to a notice. However, the proposed amendments reaffirm that these commitments and agreements will be taken into account as part of the FDIC’s consideration of the underlying filing, but do not replace any statutory factor applicable to the filing and will not necessarily lead to the favorable resolution of any statutory factor where the facts and circumstances are otherwise unfavorable. This is consistent with the FDIC’s long-standing applications processing policy.
The proposal would also make several necessary revisions to the scope of part 354 to expressly include filings related to a Federal Savings association converting to a State bank; ensure that a parent company of an existing industrial bank would be subject to part 354 if there is a change of control at the parent company, or a merger in which the parent company is the resultant entity; and provide the FDIC the regulatory authority to apply part 354 to other situations where an industrial bank would become a subsidiary of a Covered Company.
Additionally, as noted in the preamble to the Notice of Proposed Rulemaking, the FDIC Board of Directors may release a statement in connection with decisions on applications and withdrawals.
The proposed revisions to the rule would clarify and enhance the supervisory framework that the FDIC formalized in part 354 to supervise industrial banks, mitigate risk to the Deposit Insurance Fund, and provide necessary transparency for market participants. Accordingly, I support publication of this NPR and look forward to receiving public comment on the proposal. I would like to thank the FDIC staff for their thoughtful and diligent work on this NPR.