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Welcome Back, Old Friend – Section 8 of RESPA is a Hot Topic Again

The below article is the Special Focus section of the September 2019 Compliance Journal. The full issue may be viewed by clicking here.

Section 8 of the Real Estate Settlement Procedures Act (RESPA)1 – the prohibition against kickbacks and unearned fees – is back and compliance officers are taking note. In the last year, we have seen a significant increase in RESPA section 8 questions, many of which involve a determination as to whether certain marketing activities are permissible. This is due, in part, to evolving technology which provides a platform to facilitate marketing relationships between settlement service providers, along with recent regulatory and case law developments. Some of these arrangements are simple, while others extraordinarily complex. Either way, I sense bit of panic from compliance officers any time there’s a new opportunity to market the institution’s mortgage area that may implicate RESPA (and for good reasons – penalties and reputation to name a couple!). Not all these arrangements are problematic, especially in light of the recent PHH decision and developments out of the Consumer Financial Protection Bureau (CFPB), but some arrangements should still make your ears perk up. 

So, how do we analyze whether a marketing opportunity presents a RESPA Section 8 issue? Let’s discuss.

When we consider marketing activities under RESPA, there are two primary provisions of RESPA Section 8 that are relevant to our analysis: (1) Section 8(a) which delineates prohibited activity,2 and (2) Section 8(c) which prescribes permissible activities.

Sections 8(a)– Prohibited Activity

The first is Section 8(a) of RESPA which prohibits illegal kickbacks – the giving or receiving of a “thing of value” for referrals made between settlement service providers. Specifically, Section 8(a) prohibits any person from giving or accepting any fee, kickback, or thing of value pursuant to an agreement or understanding for the referral of a settlement service involving a federally related mortgage loan (a.k.a. consumer mortgage loans).3 There are three elements to an illegal kickback under Section 8(a): 

  1. A “thing of value” – for example, money, defrayed costs, special contract terms, a promise to provide future referrals, and things (such as sporting event tickets or office supplies); 
  2. An “agreement or understanding”, whether oral, written, or established by practice; and 
  3. A “referral”, which is defined in two ways: (a) oral or written action that has the effect of affirmatively influencing selection of a settlement service provider, or (b) when a person is required to use a particular settlement service provider.  

All of these components must be present to be considered a prohibited activity under RESPA. Thus, when a potential RESPA-implicating opportunity presents itself, each of these components must be analyzed in detail. 

Section 8(c) of RESPA – Permissible Activity

Notwithstanding the prohibitions in Sections 8(a), the second relevant provision, contained in Section 8(c) of RESPA, sets forth permissible activity. Relevant here, RESPA specifically permits the following:

  • “normal promotional or educational activities that are not conditioned on the referral of business and that do not involve the defraying of expenses that otherwise would be incurred…”;4 and 
  • “payment to any person of a bona fide salary or compensation or other payment for goods or facilities actually furnished or for services actually performed.”5   

These permissible activity exceptions are generally relied upon in order to create relationships between settlement services providers (e.g. the institution and a realtor). 

Importantly, there are some general principles that have developed over time, via administrative interpretations, case law, and enforcement actions that must be true in order for the marketing activity to be permissible pursuant to one of these exceptions:

  • Services must actually be performed or goods must actually be provided. For example, advertising must actually be provided. Any payment for advertising that does not actually occur will be considered an unlawful kickback.
  • The payment for such services or goods must be bona fide. That is, payment must be reasonable market value. Any excess payment above reasonable market value will be seen as an illegal kickback.6

Now, assuming the marketing activity meets the parameters of one of the Section 8(c) exceptions, the activity receives a “safe harbor” from a RESPA Section 8 violation. Note, however, that the “safe harbor” rule was not the prevailing opinion of the CFPB under the reign of Director Richard Cordray, which was a significant departure from previous, longstanding interpretations of RESPA under the Department of Housing and Urban Development (HUD). However, in perhaps one of the most contentions of RESPA cases in recent history, PHH Corporation v. Consumer Financial Protection Bureau,7 the Court of Appeals for the D.C. Circuit confirmed that Section 8(c) of RESPA provides a safe harbor so long as the activity meets the parameters of the Section 8(c) exceptions. 

Analysis When Considering Marketing Opportunities

With that RESPA background in mind, if your institution is considering a marketing opportunity involving federally related mortgage loans, I suggest engaging in the following analysis:

  • Might this be deemed a prohibited activity under RESPA Section 8(a) or 8(b)?
    • That is, could this be considered an illegal kickback under Section 8(a) in that all three elements are present, as described above and restated here:
      • A “thing of value”; 
      • An “agreement or understanding”; and
      • A “referral”
    • Or, is this impermissible fee splitting under 8(b)?
      • Though not often arising in the marketing context and, consequently, not thoroughly discussed herein, the institution should consider applicability

If NO, that’s the end of your analysis – no Section 8 concern
If MAYBE or YES, continue to (2) and (3).

  • Is the activity “saved” by the Section 8(c) educational and marketing exception; or
  • Is the activity “saved” by the Section 8(c) “bona fide payment for services actually performed” exception?

Let’s take a couple of common marketing opportunities and run through the analysis:

Hosting a Complementary Educational Seminar for Settlement Service Providers

If an institution chooses to host a complementary educational seminar for real estate professionals, such an event may be considered to violate Section 8(a) of RESPA because it’s certainly the provision of a “thing of value” provided in hopes of generating business (or, in other words, referrals from those settlement service providers). In fact, previous HUD Guidance states that such educational events implicitly positions settlement service providers to refer business to the institution. We can question whether there is an “agreement or understanding”, but let’s just assume that the conduct is indicative of such. The question then becomes whether this can be redeemed by the “normal promotional and marketing” exception under 8(c).

Whether an educational seminar meets the safe harbor exception is very much dependent upon the facts and circumstances at hand. Consider the following:

  • Is the event in any way conditioned on past, present, or future referrals of business? For example, does the institution provide an incentive for attendees to refer business back to the institution? Or, does the institution only invite settlement service providers that have previously referred business to the institution? If so, the safe harbor is unlikely to be met.
    • Note that who is invited can make a difference here. The more “open” the attendance list (e.g. not just settlement services providers located near your branches or those who have previously referred business your way), the more likely the seminar is to pass muster.
  • Does the seminar defray costs of the attendees? For example, if the seminar provides a course required to receive or maintain licensure, that would be defraying a cost ordinarily incurred and would be, consequently, unlawful.

The most challenging aspect here is to remain referral-neutral. Pay careful to this component in your analysis.

Advertising with a Realtor

Recently, a number of institutions have been given the opportunity to advertise their services on a realtor’s website or jointly advertise with a realtor on a separate platform (e.g. Zillow). I think we could all agree that this is prohibited activity under Section 8(a). Thus, we turn to whether it can be saved under either of the relevant Section 8(c) exceptions delineated above.

Of course, facts matter here. The following should be considered:

  • Is the advertising conditioned on past, present, or future referrals of business? For example, if the institution and the realtor enter into a contractual arrangement for direct advertising, does the agreement discuss future business or incentives for referrals? Pay close attention to contract language, if a contract exists, and remain referral-neutral in order to meet the exception. 
  • Is the institution paying for the advertising? If the advertising is free, this will not meet the exception as the institution’s costs will be defrayed. 
  • Is the institution paying reasonable market value for the advertising? Assuming the institution is paying for the advertising, is the institution paying reasonable market value? Remember, any payment above reasonable market value will be seen as an illegal kickback. 

One of the challenges with meeting these relevant Section 8(c) exceptions is to get the fee structure exactly right. If the institution is obtaining free advertising or is receiving “below market rate” advertising, you run the risk of receiving “defrayed costs” or not making a bona fide payment for the advertising. In contrast, if you pay above market rate, the portion of the payment above market rate kicks you back into prohibited activity under Section 8(a). To this end, we always suggest drafting a business justification to demonstrate that the fee paid is fair market value and maintaining it in your files. To determine market value, we suggest considering the following:

  1. Look internally for evidence of similar transactions (e.g. is the price similar to the institution’s other advertising costs for the type of media, duration, etc.);
  2. Look externally to determine if the price is consistent with the price third parties would incur for similar services (e.g. other financial institutions in the area); and
  3. Management should exercise its best judgment based on the internal and external evidence. 

Furthermore, you should be especially careful when navigating joint marketing arrangements when a third party is involved. For example, Zillow offers lenders and real estate agents the opportunity to jointly advertise via the Zillow online platform. In this program, Agent invites up to five lenders to jointly market with Agent. Lender then pays Zillow for the opportunity to advertise with Agent. The advertising fees paid by lender, in turn, reduce the amount the Agent pays Zillow for Agent’s advertising. The more the lender spends, the more often the lender is featured (versus other lenders with whom the Agent advertises). Though this program was being investigated by CFPB for violations of RESPA Section 8 and UDAAP, the investigation quietly concluded and Zillow announced in a June 2018 SEC filing that the company had received a letter from the Bureau indicating that it would not be pursuing enforcement action. 

The Zillow case is comforting to institutions insomuch as the CFPB validated that these types of marketing arrangements can lawfully exist. However, they do not come without scrutiny. In these types of arrangements, institutions should pay considerable attention to how the fee structure flows through the parties, in addition to the considerations above. In my experience, these arrangements can be incredibly complex and always invite risk. It’s prudent to get legal counsel involved before agreeing to participate in this kind of arrangement.

To conclude, RESPA Section 8 questions can be complex, rife with competing interpretations from HUD, CFPB and the courts, and require wading through unchartered waters with ever-changing leadership at the CFPB. Given that penalties are steep, as permitted by statute – recent RESPA CFPB enforcement actions have imposed penalties ranging from $35,000 to $265,000 and the amount at issue in the PHH case was $109 million – these questions deserve attention, thorough analysis, and often times, involvement of counsel. 

WBA wishes to thank Atty. Lauren C. Capitini, Boardman & Clark, llp for providing this article. 

  1. 12 U.S.C. § 2607.  Implementing Regulation X is codified at 12 C.F.R. § 1024.14.
  2. Note that section 8(b) prohibits the giving or accepting of a “portion, split, or percentage of any charge made or received” for rendering settlement services other than for services actually performed.  In other words, institutions cannot share a portion of or split fees with other settlement service providers when rendering settlement services unless the payment given/received is for “services actually performed”.  Though a very important component of RESPA to understand, this provision is not often relevant in the marketing context.
  3. 12 U.S.C. § 2607(a) and 12 C.F.R. § 1024.14(b).
  4. 12 C.F.R. § 1024.14(g)(1)(vi).
  5. 12 C.F.R. § 1024.14(g)(1)(iv).
  6. See PHH Corporation v. Consumer Financial Protection Bureau, 839 F.3d 1 at 41 (D.C. Cir. 2016).
  7. 839 F.3d 1 (D.C. Cir. 2016).  The court’s interpretation of RESPA was upheld by a petition for rehearing en banc by the D.C. Circuit Court of Appeals.  PHH, No. 15-1177 (Jan. 31, 2018).

By, Ally Bates

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Regulation CC Dollar Amount Adjustment Rule Finalized

The below article is the Special Focus section of the July 2019 Compliance Journal. The full issue may be viewed by clicking here.

On July 3, 2019, the Board of Governors of the Federal Reserve System (FRB) and the Bureau of Consumer Financial Protection (CFPB) published a jointly issued final rule (rule) amending Regulation CC that implements a requirement to periodically adjust dollar amounts under the Expedited Funds Availability Act (EFA Act). This requirement stems from a Dodd-Frank Act amendment to the EFA Act a number of years ago. 

The rule also extends Regulation CC’s coverage to American Samoa, the Commonwealth of the Northern Mariana Islands, and Guam, and makes certain other technical amendments. This article will only focus on the dollar amount adjustment provisions of the rule.

Specified Dollar Amounts Subject to Adjustment

Subpart B of Regulation CC implements the requirements set forth in the EFA Act regarding the availability schedules within which institutions must make funds available for withdrawal, exceptions to those schedules, disclosure of funds availability policies, and payment of interest. 

The EFA Act and subpart B of Regulation CC contain the following specified dollar amounts concerning funds availability which are subject to adjustment: (1) The minimum amount of deposited funds that institutions must make available for withdrawal by opening of business on the next day for certain check deposits (“minimum amount’’) under 229.10(c)(1)(vii); (2) the amount an institution must make available when using the EFA Act’s permissive adjustment to the funds availability rules for withdrawals by cash or other means (‘‘cash withdrawal amount’’) under 229.12(d); (3) the amount of funds deposited by certain checks in a new account that are subject to next-day availability (‘‘new account amount’’) under 229.13(a); (4) the threshold for using an exception to the funds availability schedules if the aggregate amount of checks on any one banking day exceed the threshold amount (‘‘large deposit threshold’’) under 229.13(b); (5) the threshold for determining whether an account has been repeatedly overdrawn (‘‘repeatedly overdrawn threshold’’) under 229.13(d); and (6) the civil liability amounts for failing to comply with the EFA Act’s requirements under 229.21(a).

Frequency of Adjustments; Initial and Subsequent Adjustment Dates

The rule specifies that amounts for the six enumerated categories listed above must be adjusted every five years in accordance with a calculation set forth in the rule, with the first adjustment taking effect on July 1, 2020. Thus, each subsequent adjustment following July 1, 2020 will take effect every fifth July 1, (e.g. July 1, 2025; July 1, 2030, etc.).

Calculation Methodology of the Adjustment Amount

The adjustment amount will be calculated across an “inflation measurement period” (defined in the regulation) by the aggregate percentage change in the Consumer Price Index for Urban Wage Earners and Clerical Workers (CPI-W), rounded to one decimal, and then multiplied by the applicable existing dollar amount, the result of which being rounded to the nearest multiple of $25. However, no dollar amount adjustment will be made if the aggregate percentage change is zero or is negative, or when the aggregate percentage change multiplied by the applicable existing dollar amount and rounded to the nearest multiple of $25 results in no change.

When there is an aggregate negative percentage change over an inflation measurement period, or when an aggregate positive percentage change over an inflation measurement period multiplied by the applicable existing dollar amount and rounded to the nearest multiple of $25 results in no change, the aggregate percentage change over the inflation measurement period will be included in the calculation to determine the percentage change at the end of the subsequent inflation measurement period. That is, the cumulative change in the CPI–W over the two (or more) inflation measurement periods will be used in the calculation until the cumulative change results in publication of an adjusted dollar amount in the regulation. 

Adjustments will likely be published in the Federal Register at least one year in advance of their effective date. The Agencies stated they anticipate publishing in the first half of 2024 the adjustment amounts that will take effect on July 1, 2025.

Initial Adjustment Amounts

The following is a list of current dollar amounts that apply prior to July 1, 2020, and the set of first adjustment amounts that will take effect on July 1, 2020.

  1. For purposes of the minimum amount under § 229.10(c)(1)(vii), the dollar amount in effect prior to July 1, 2020 is $200; effective July 1, 2020, the amount will be $225;
  2. For purposes of the cash withdrawal amount under § 229.12(d), the dollar amount in effect prior to July 1, 2020, the amount is $400; effective July 1, 2020, the amount will be $450;
  3. For purposes of the new account amount, large deposit threshold, and the repeatedly overdrawn threshold under §S 229.13(a), (b), and (d) respectively, the dollar amount in effect prior to July 1, 2020, the amount is $5,000; effective July 1, 2020, the amount will be $5,525; and
  4. For purposes of the civil liability amounts under § 229.21(a), the dollar amounts in effect prior to July 1, 2020, are $100, $1,000, and $500,000 respectively; effective July 1, 2020, the amounts will be $100, $1,100, and $552,500 respectively.

Updating Disclosures & Notices

Institutions will need to update funds availability policies, disclosures, and notices (including change-in-terms notices for existing accounts) that will be provided on and after the applicable effective date to reflect the appropriate adjusted amount(s). It should be noted that rule has not changed the timing or content requirements for such policies, disclosures, and notices.

Revised and New Commentary Examples in the Regulation

The rule has revised and added certain examples in the commentary to reflect the July 1, 2020 adjustment amounts, and to address the new adjustment amount calculation methodology. However, the rule neither addresses nor modifies model hold notice verbiage or format, as a separate rulemaking is underway for that purpose.

Conclusion

Fortunately, the rule provides a substantial period of time before the first set of adjusted amounts is effective on July 1, 2020. Institutions should read the rule and begin reviewing their funds availability policies, disclosures, and notices to identify needed changes, and devise an implementation strategy for accounts opened prior to July 1, 2020, and those opened on or after that date. In addition, the plan should address procedures for future adjustments. The final rule may be viewed at: https://www.govinfo.gov/content/pkg/FR-2019-07-03/pdf/2019-13668.pdf 

By, Ally Bates

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House icon and keys

Who Must Sign The Mortgage?

The below article is the Special Focus section of the May 2019 Compliance Journal. The full issue may be viewed by clicking here.

When originating a mortgage loan, banks often find themselves asking “who needs to sign the mortgage”. It’s a great question and the trite, lawyerly answer, is “it depends”! Given the fact that Wisconsin is a community property state and has a marital property act which includes homestead protections, the answer is not necessarily easy.

There are, of course, certain straightforward scenarios that follow the “General Rule”. The General Rule is this: only those parties in title to the property securing the loan are required to sign the mortgage. Of course, there is an exception to the General Rule – when you have a married person(s) in title to the property securing the loan, the spouse of the titled individual may be required to sign the mortgage.

The following hypotheticals demonstrate application of the General Rule.

  1. Mom and Daughter, both unmarried individuals, are borrowers on a loan. The loan will be secured by Mom’s home, for which Mom is the sole titleholder. Though Mom and Daughter are both borrowers, only Mom must sign the mortgage as the sole titleholder.
  2. Same facts as (1) above, except both Mom and Grandma are in title to the property. Grandma is unmarried. In this case, though Mom and Daughter are borrowers, Mom and Grandma must sign the mortgage because they are both titleholders.
  3. Son and Son’s Wife are borrowers on the loan and Dad is a Guarantor. The loan will be secured by a home in which Son and Son’s wife permanently reside, but Dad and Uncle are the titleholders. Dad and Uncle are both unmarried. In this case, Dad and Uncle must sign the mortgage. Son and Son’s Wife are not required to sign the mortgage despite the fact that they are married and the property is their permanent residence – in this case, neither spouse is in title to the property and thus no exceptions to the General Rule apply, as described in further detail below.

Of course, every good rule has exceptions. In this case, the exception to the General Rule is as follows: If a married person is in title to the property securing the loan, the spouse of that individual will also be required to sign the mortgage if the conveyance alienates either or both spouses’ homestead interest, even if the spouse is not in title. See Wis. Stats §706.02(1)(f). This requirement to obtain the spouse’s signature (the “exception”), however, does not apply to purchase money mortgages. See Wis. Stats §706.02(1)(f). In other words, if the mortgage is a purchase money mortgage, you’re back to the General Rule and the spouse of the married titleholder will not be required to sign the mortgage if the spouse is not going to be listed as an owner of the property, even if the property is homestead property or either or both spouses.  

Thus, assuming the bank is not originating a purchase money mortgage, the bank must require signatures of all titleholders PLUS the spouse of a married titleholder if the property is the homestead property of either or both spouses. 

Banks should note that a “homestead” is defined under Wis. Stats. § 706.01(7) as “the dwelling, and so much of the land surrounding it as is reasonably necessary for use of the dwelling as a home, but not less than one-fourth acre, if available, and not exceeding 40 acres.” Customers should indicate to the Bank whether the property is homestead property and such information should be contained on the mortgage itself.

If the bank does not obtain the signature of the married titleholder and the spouse of the titleholder, the mortgage is void and unenforceable. This interpretation of Wis. Stats. § 706.02(1) and (1)(f) was recently confirmed in a 2017 court case – U.S. Bank National Association v. Charles E. Stehno III, 2017 WI App. 57 (August 30, 2017). In Stehno, the Bank attempted to foreclose on mortgages signed by Charles Stehno in December 2002 and April 2003. The property was Stehno’s homestead at the time he signed the mortgages. However, the mortgages were not signed by his then-spouse, Candice Wells. Therefore, according to the court, the mortgages were invalid from the start against both spouses because only Stehno signed them. 

The following hypotheticals demonstrate application of the Exception to the General Rule:

  1. Husband and Wife are refinancing their homestead property. They are both listed as borrowers on the loan. Husband is the sole titleholder on the property. Both Husband and Wife must sign the mortgage because it’s conveying an interest in the homestead property of both spouses on a non-purchase money loan.
  2. Daughter and Daughter’s Husband are borrowers on second mortgage loan. The property securing the loan is titled in Dad’s name only and it’s Dad’s homestead property. Dad is married to Stepmom who does not live in the property. Both Dad and Stepmom must sign the mortgage because this is a non-purchase money loan which conveys the homestead interest of one spouse.
  3. Daughter and Son are refinancing their parents’ homestead property and are borrowers on the loan. Dad is married to Mom and the property securing the loan is both Dad’s and Mom’s homestead. Dad and Grandma are in title to the property. Grandma is unmarried. Dad, Mom, and Grandma must sign the Mortgage. Dad and Grandma must sign because they are titleholders. Mom must sign because this is a non-purchase money loan which conveys the homestead interest of Mom and Dad.
  4. Husband and Wife are looking to originate a purchase money mortgage loan for which they will both be borrowers. The loan will be secured by property held by husband only. Husband only will live in the property as his homestead. In this case, only husband must sign the mortgage because this is a purchase money loan and, therefore, the Exception to the General Rule does not apply.

In summary, taken altogether, the signatures needed on a mortgage are as follows: (1) All titleholders and (2) if the loan is not secured by a purchase money mortgage, the spouse of any married titleholder to the extent the property is the homestead of one or both spouses.

Finally, it’s best to obtain a title insurance policy that lists the owners of the property being mortgaged. Title insurance companies will also list the names of all individuals required to sign the mortgage so banks may have additional comfort that the correct individuals are signing the mortgage.

WBA wishes to thank Atty. Lauren C. Capitini, Boardman & Clark, llp for providing this article.

Learn more about the Wisconsin Marital Property Act at the June session of the WBA Compliance Forum.

By, Ally Bates

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What Are Brokered Deposits and What Is the Significance of FDIC Reform?

The below article is the Special Focus section of the April 2019 Compliance Journal. The full issue may be viewed by clicking here.

Brokered deposits are relatively simple in concept but subject to complex regulatory restrictions. By concept, “brokered deposit” is a term used to describe a source of funding for financial institutions. That is, funds managed by a deposit broker, being an individual who accepts and places funds in investment instruments at financial institutions, on behalf of others. This concept has evolved over the years, grown controversial, and subjected to regulatory restriction. To that extent, the question is: what deposits are considered brokered for purposes of regulatory coverage? 

According to section 29 of the Federal Deposit Insurance Act (FDI Act) and Section 227 of the Federal Deposit Insurance Corporation’s (FDIC) rules and regulations, brokered deposit means any deposit that is obtained, directly or indirectly, from or through the mediation or assistance of a deposit broker.1 A deposit broker is:

  1. Any person engaged in the business of placing deposits, or facilitating the placement of deposits, of third parties with insured depository institutions, or the business of placing deposits with insured depository institutions for the purpose of selling interests in those deposits to third parties; and
  2. An agent or trustee who establishes a deposit account to facilitate a business arrangement with an insured depository institution to use the proceeds of the account to fund a prearranged loan.

This broad language gives FDIC significant discretion to determine whether a deposit is brokered, making the above question difficult to answer. 

Emerging technologies continue to create innovative deposit opportunities. For example, internet and mobile banking did not exist when the rules were written. Brokered deposits were born from new technologies, but those technologies continue to evolve, and with them, the concept of what a brokered deposit is. 

Background 

The inception of brokered deposits came with the ability to transfer funds electronically. These technologies made it quick, easy, and cheap to access before un-reached markets, which enabled greater bank liquidity and growth. Controversy exists as to whether such growth contributed to the 1980 financial crisis, an examination of which is outside the scope of this article. However, the 1980 financial crisis did result in FDIC launching a study into brokered deposits which led the agency to write rules in 1989 and amend them in 1991. 

The Financial Institutions Reform, Recovery, and Enforcement Act of 1989 added Section 29 of the FDI Act, titled “Brokered Deposits” (Section 29). Section 29 places certain restrictions on “troubled” institutions. Specifically, Section 29 provides:

  1. Acceptance of brokered deposits is restricted to well-capitalized insured depository institutions.
  2. Less than well-capitalized institutions may only offer brokered deposits under certain circumstances, and with restricted rates.

In 1991 Congress enacted the Federal Deposit Insurance Corporation Improvement Act of 1991 (FDICIA). The FDICIA resulted in threshold adjustments to the brokered deposit restrictions under Section 29 and gave FDIC the ability to waive those restrictions under certain circumstances. 

More recently, the Economic Growth, Regulatory Relief, and Consumer Protection Act (EGRRCPA) amended Section 29 which excepted certain reciprocal deposits from treatment as brokered deposits. As seen above, Section 29 does not define the term “brokered deposit.” Rather, it defines the term “deposit broker.” Following EGRRCPA, on February 6, 2019, FDIC published an advance notice of proposed rulemaking and request for comment on unsafe and unsound banking practices: brokered deposits and interest rate restrictions (ANPR). The ANPR announces FDIC’s comprehensive review of its regulatory approach to brokered deposits and their interest rate caps. As part of its re-evaluation FDIC seeks comment on how it should revamp its definition of brokered deposits and interest rate restrictions. 

While the EGRRCPA implementation is specific to reciprocal deposits, FDIC’s ANPR is broader in scope, and presents an opportunity to re-examine the definition and treatment of brokered deposits as a whole. 

Impact 

How Brokered Deposits are Used 

Brokered deposits are a relatively new mechanism to the financial service industry. They provide:

  1. A quick, cheap, alternative sources of funding from national markets.
  2. An additional tool for institutions to maintain liquidity and interest rate risk analysis for balance sheet management.
  3. A potential tool for community banks to expand their deposits and maintain funds that do not move away when the local market shifts.
  4. Flexibility in availability of funds to institutions with varying demands in regional markets for deposits vs. loans.
  5. Greater opportunities to match deposit terms to loan funding.
  6. Alternative, competitive rates for investors.
  7. An additional tool for investing institutions to manage funds.

Significance of Regulation under Current Rules 

As discussed above, Section 29 restricts acceptance of brokered deposits and limits deposit interest rates. A well-capitalized institution is, generally, unrestricted. However, an undercapitalized institution may not accept, renew, or roll over any brokered deposit. An adequately capitalized institution may not accept, renew, or roll over any brokered deposit unless FDIC grants a waiver. Even though a well-capitalized institution is unrestricted, examiners consider the presence of core2 and brokered deposits when evaluating liquidity management programs and assigning liquidity ratings.

Furthermore, brokered deposits are a significant source of assets for some institutions. Institutions also seek to meet their customers deposit needs in an age of constantly evolving technologies. This creates uncertainty as to whether a particular deposit qualifies as a brokered deposit. The answer to that question is complex, as it lies not only in statute, but FDIC issued studies, interpretations, advisory opinions, regulations, and an FAQ on identifying, accepting, and reporting brokered deposits. 

Brokered deposit determinations are fact-specific and influenced by a number of factors. FDIC has broad discretion in application of its rules, which involves complex methodologies for determining and adjusting rates, and considers brokered deposit determinations on a case-by-case basis. For example, the term deposit broker has been applied to social media platforms, fintech, homeowners associations, and employee benefits providers. How FDIC views brokered deposits is also up to interpretation. Fortunately, FDIC states its view of brokered deposits in its 2016 FAQ:3 

“Brokered deposits can be a suitable funding source when properly managed as part of an overall, prudent funding strategy. However, some banks have used brokered deposits to fund unsound or rapid expansion of loan and investment portfolios, which has contributed to weakened financial and liquidity positions over successive economic cycles. The overuse of brokered deposits and the improper management of brokered deposits by problem institutions have contributed to bank failures and losses to the Deposit Insurance Fund.”

FDIC still appears to view brokered deposits as volatile and scrutinizes them accordingly. One direct result is rate cap limitations. By rule, rate caps only apply to less-than well capitalized banks. However, regulators have looked to the limits during exams, regardless of capital levels, pointing to potential volatility. Furthermore, under its 2009 calculation method, current rate caps are artificially low and hardly reflect what a customer can get from other sources. For example, as of April 22, 2019, a 12-month CD had a national average rate of 0.66% and a cap at 1.141%.4 On April 22, 2019, the Treasury yield was at 2.46%.5  

So, the current rules require financial institutions to identify deposits that are brokered, mind the rate cap limitations, and consider liquidity rating implications, in anticipation of regulatory examination. As technologies continue to evolve, and the financial industry follows those trends, the brokered deposit regulations designed before the age of online banking are outdated. For example, such broad coverage means banks seeking deposits through the internet could be subject to rate caps.

Significance of FDIC’s ANPR

The ANPR is an opportunity to comment and guide FDIC’s future approach to brokered deposits. Issues to comment on include:

  1. Clarify the definition of brokered deposit and deposit broker for the modern era of technology.
  2. Create a methodology to calculate a rate cap that appropriately reflects the cost of deposits.
  3. Provide examples of what brokered deposits mean to your institution with today’s modern technologies (ex: internet deposits such as online, mobile banking, and social media).
  4. Refocus of policy goals: original intent was to restrict large volumes of volatile funds. Brokered deposits were suspect of this category of deposit, but did not, and do not, necessarily continue to merit fierce restrictions.
  5. Reconsider limitations on brokered deposit offerings for well-capitalized institutions.

FDIC’s ANPR means a potential to modernize and even narrow the designation of a deposit as brokered, given the current wide scope of interpretation, stigmatization, limitation, and regulatory burden over a broad categorization of deposits. An update to Section 29 could mean new opportunities for banks to seek funding from new sources and explore new technological applications to deposits.

Conclusion

In 2019, many consumers bank from their phone. Various internet technologies give access to funds quickly, and new technologies are surely on the horizon. As businesses, banks need to accommodate these technologies in order to stay competitive. The ANPR is an opportunity to explore how brokered deposits are treated and can be better utilized. Comments can direct FDIC’s regulatory framework to enhance the functionality of brokered deposits as another deposit tool. 

Comments on the ANPR are due May 7, 2019. After the ANPR, FDIC will issue a proposed rule, with another opportunity for comment prior to a final rule. The ANPR can be found here: https://www.fdic.gov/news/board/2018/2018-12-18-notice-sum-i-fr.pdf 

1. 2 C.F.R. § 337.6(a)(2)

2. Core deposits are distinct from brokered deposits in that they are considered “stable,” including checking, savings, and CD accounts made by individuals rather than a deposit broker.

3. FIL-42-2016, Identifying, Accepting and Reporting Brokered Deposits: Frequently Asked Questions (Updated June 30, 2016; Revised July 14, 2016).

4. https://www.fdic.gov/regulations/resources/rates/

5. https://www.macrotrends.net/2492/1-year-treasury-rate-yield-chart

By, Ally Bates

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Private Flood Insurance

The below article is the Special Focus section of the March 2019 Compliance Journal. The full issue may be viewed by clicking here.

On February 12, 2019 the Federal Financial Institutions Examination Council published a final rule on loans in areas having special flood hazards (2019 final rule). The 2019 final rule amends the flood regulations for the Office of the Comptroller of the Currency, the Board of Governors of the Federal Reserve System, the Federal Deposit Insurance Corporation, the Farm Credit Administration, and the National Credit Union Administration (Agencies). The Agencies issued the 2019 final rule to implement the private flood insurance provisions of the Biggert-Waters Flood Insurance Reform Act of 2012 (Biggert-Waters Act). The 2019 final rule was published in the Federal Register on February 20, 2019 and compliance is manditory on July 1, 2019; however, lenders may begin following the rule now.

Background

The Biggert-Waters Act includes a statutory definition of private flood insurance and directs the Agencies to implement acceptance through rulemaking. In 2013 the Agencies proposed a rule requiring the acceptance of private flood insurance pursuant to the statutory definition. The proposed rule generated interpretive uncertainties that ultimately resulted in the Agencies issuing a revised proposed rule in 2016. The 2019 final rule is an attempt to clarify the definition of private flood insurance under the Biggert-Waters Act.

2019 Final Rule

In addition to attempting to clarify the statutory definition of private flood insurance, the 2019 final rule includes a compliance aid to enable institutions to identify acceptable private policies. Additionally, subject to certain restrictions, it permits institutions to exercise discretionary acceptance of flood insurance policies that do not meet the definition of private flood insurance. Finally, the rule specifies how lenders may accept policies issued by “mutual aid societies” such as certain Amish Aid Plans.

Definition of Private Flood Insurance

The statutory definition of private flood insurance under the Biggert-Waters Act incorporated factors from the Federal Emergency Management Agency’s Mandatory Purchase of Flood Insurance Guidelines. The 2019 final rule attempts to clarify this statutory definition. As such, institutions familiar with the statutory definition will notice slight variations when compared to the 2019 final rule’s definition. For purposes of this article, the analysis will focus on the 2019 final rule’s definition and not make a comparison.

Under the 2019 final rule, private flood insurance means an insurance policy that: 

  1. Is issued by an insurance company that is: 
    • Licensed, admitted, or otherwise approved to engage in the business of insurance by the insurance regulator of the State or jurisdiction in which the property to be insured is located; or 
    • Recognized, or not disapproved, as a surplus lines insurer by the insurance regulator of the State or jurisdiction in which the property to be insured is located in the case of a policy of difference in conditions, multiple peril, all risk, or other blanket coverage insuring nonresidential commercial property; 
  2. Provides flood insurance coverage that is at least as broad as the coverage provided under a Standard Flood Insurance Policy (SFIP) for the same type of property, including when considering deductibles, exclusions, and conditions offered by the insurer. To be at least as broad as the coverage provided under an SFIP, the policy must, at a minimum: 
    • Define the term “flood” to include the events defined as a “flood” in an SFIP; 
    • Contain the coverage specified in an SFIP, including that relating to building property coverage; personal property coverage, if purchased by the insured mortgagor(s); other coverages; and increased cost of compliance coverage; 
    • Contain deductibles no higher than the specified maximum, and include similar nonapplicability provisions, as under an SFIP, for any total policy coverage amount up to the maximum available under the National Flood Insurance Program (NFIP) at the time the policy is provided to the lender; 
    • Provide coverage for direct physical loss caused by a flood and may only exclude other causes of loss that are excluded in an SFIP. Any exclusions other than those in an SFIP may pertain only to coverage that is in addition to the amount and type of coverage that could be provided by an SFIP or have the effect of providing broader coverage to the policyholder; and 
    • Not contain conditions that narrow the coverage provided in an SFIP; 
  3. Includes all of the following:
    • A requirement for the insurer to give written notice 45 days before cancellation or non-renewal of flood insurance coverage to:  
      • The insured; and 
      • The lending institution that made the designated loan secured by the property covered by the flood insurance, or the servicer acting on its behalf; 
    • Information about the availability of flood insurance coverage under the NFIP; 
    • A mortgage interest clause similar to the clause contained in an SFIP; and 
    • A provision requiring an insured to file suit not later than one year after the date of a written denial of all or part of a claim under the policy; and
  4. Contains cancellation provisions that are as restrictive as the provisions contained in an SFIP.

Compliance Aid

Pursuant to the above definition, a national bank or Federal savings association must accept private flood insurance in satisfaction of the flood insurance purchase requirements. Thus, a financial institution is required to accept private flood insurance and must also ensure it meets the above definition. However, the 2019 final rule provides a compliance aid to assist in that mandatory acceptance. Pursuant to the compliance aid, a financial institution may determine that a policy meets the definition of private flood insurance without reviewing the policy, if the following statement is included within the policy or as an endorsement to the policy:

“This policy meets the definition of private flood insurance contained in 42 U.S.C. 4012a(b)(7) and the corresponding regulation.”

While the compliance aid provides a safe harbor to financial institutions that accept policies containing the above language, there is no requirement for insurers to include the compliance aid language. Furthermore, because the 2019 final rule prescribes mandatory acceptance of private flood insurance that meets the above definition, financial institutions must accept policies that meet the above definition whether it includes the compliance aid or not. Meaning, a financial institution cannot reject a policy for the sole reason that it does not contain the compliance aid language.

Discretionary Acceptance

The 2019 final rule provides financial institutions the discretionary ability to accept or reject policies that do not meet the above definition of private flood insurance. Lenders may accept such policies, at their own discretion, if the policy:

  1. Provides coverage in the amount required by the NFIP; 
  2. Is issued by an insurer that is licensed, admitted, or otherwise approved to engage in the business of insurance by the insurance regulator of the State or jurisdiction in which the property to be insured is located; or in the case of a policy of difference in conditions, multiple peril, all risk, or other blanket coverage insuring nonresidential commercial property, is issued by a surplus lines insurer recognized, or not disapproved, by the insurance regulator of the State or jurisdiction where the property to be insured is located; 
  3. Covers both the mortgagor(s) and the mortgagee(s) as loss payees, except in the case of a policy that is provided by a condominium association, cooperative, homeowners association, or other applicable group and for which the premium is paid by the condominium association, cooperative, homeowners association, or other applicable group as a common expense; and 
  4. Provides sufficient protection of the designated loan, consistent with general safety and soundness principles, and the national bank or Federal savings association documents its conclusion regarding sufficiency of the protection of the loan in writing.

Mutual Aid Societies

In order to meet the mandatory acceptance provisions for private flood insurance, the 2019 final rule permits lenders to accept policies written by mutual aid societies if:

  1. The applicable supervisory agency has determined that such plans qualify as flood insurance for purposes of the Act; 
  2. The plan provides coverage in the amount required by the NFIP; 
  3. The plan covers both the mortgagor(s) and the mortgagee(s) as loss payees; and
  4. The plan provides sufficient protection of the designated loan, consistent with general safety and soundness principles, and the national bank or Federal savings association documents its conclusion regarding sufficiency of the protection of the loan in writing.

In addition, the rule defines mutual aid society to mean an organization:

  1. Whose members share a common religious, charitable, educational, or fraternal bond; 
  2. That covers losses caused by damage to members’ property pursuant to an agreement, including damage caused by flooding, in accordance with this common bond; and
  3. That has a demonstrated history of fulfilling the terms of agreements to cover losses to members’ property caused by flooding.

Conclusion

With the 2019 final rule becoming effective July 1, 2019, and optional compliance available under the 2019 final rule now, WBA recommends financial institutions review their policies on acceptance of private flood insurance. Financial institutions will need to understand the definition of private flood insurance policies pursuant to the rule, even if they had previously adhered to the statutory definition, as the 2019 final rule implements slight changes. Furthermore, institutions should be prepared to understand the relation of the compliance aid to the mandatory acceptance requirements.

The 2019 final rule may be found here: https://www.govinfo.gov/content/pkg/FR-2019-02-20/pdf/2019-02650.pdf ■

By, Ally Bates

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Legal Q&A: NPCs Covered by CDD Requirements for Certification of Beneficial Ownership

Q: Are non-profit corporations covered by the customer due diligence requirements for certification of beneficial ownership?

A: Yes. All corporations that file articles of incorporation with the State of Wisconsin are covered by the Customer Due Diligence (CDD) Rule regardless of non-profit status.

The CDD Rule requires covered financial institutions to develop written procedures to identify and verify beneficial owners of legal entity customers upon opening of new account. A legal entity customer is described, in part, as a Corporation, limited liability company, or other entity that is created by the filing of a public document with a Secretary of State. Thus, a non-profit corporation would be a legal entity customer for purposes of the CDD rule.

The key determination is whether the customer is a "legal entity customer." Tax status, such as non-profit status, does not directly affect a customer's legal entity status. Meaning, a non-profit organization such as a church could decide to incorporate, file articles of organization, or otherwise file with the State and be covered by the CDD Rule. Typically, however, a non-profit organization will opt for an unincorporated association status. Unincorporated associations are not legal entity customers and are not covered by the CDD rule. Wisconsin's Uniform Unincorporated Nonprofit Association Act can be found under chapter 184 of the Wisconsin Statutes.

For this reason, non-profits are often exempt from the CDD rule. This is, however, by their decision to organize as an unincorporated association rather than their tax status.

Note: The above information is not intended to provide legal advice; rather, it is intended to provide general information about banking issues. Consult your institution's attorney for special legal advice or assistance.

By, Scott Birrenkott

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Legal Q&A: Authority to Act Under a POA Agreement

Q: How can I be Certain an Agent has Authority to Act under a Power of Attorney Agreement?

A: WBA continues to field a variety of questions about when and how an agent may act under a Power of Attorney (POA) agreement. This Q&A is dedicated to that question generally.

A POA agreement is a legal document whereby one party (the principal) designates authority to act on their behalf to another party (the agent). Always ensure that any POA agreement bank receives relates to powers over finances. Take a copy of and review any POA agreement related to finances the bank may receive for its customers. Customers may bring in the model agreement provided by Wisconsin in accordance with Chapter 244 or one drafted by an attorney. Both are equally valid methods, but may contain different terms and provisions. Confirm whether the POA agreement is: durable, non-durable, or springing. This refers to when the agent may act: either while the principal is incapacitated, cease while the principal is incapacitated, or after a predetermined event.

All of the agent’s authority to act comes from what is written within the POA agreement. Ideally, the POA agreement is clear and specific. Sometimes, it may not be. For example, the POA agreement may refer to “general powers of finances.” Wisconsin Statute Section 244.41 indicates which authority is covered by a general grant and those powers that require a specific grant. You will want to review that portion of the statute to assist in determining the agent’s authority. In any case, carefully review the document, and consider obtaining an opinion from the bank’s own counsel.

Special rules exist for agency on joint deposit accounts. All parties to the joint account must designate the agent to have authority on the account for the agency to be valid. However, only one party needs to revoke that authority in order for the revocation to be effective. 

Generally, agents may not appoint other agents, and generally may not conduct estate planning activities on behalf of the principle. Look for specific language granting this authority if an agent wishes to act in this way and consider obtaining an opinion from the bank’s own counsel.

A POA agreement for personal finances of an individual doesn’t automatically mean that an agent can act with respect to any fiduciary authority the ward has. For example, while a trustee may have the authority to appoint an agent over a trust, in order for the trustee to appoint an agent over a trust they should do so in their capacity as a trustee rather than as an individual.

As a final reminder, POA agreements for health care do not apply to deposit accounts. They relate to health care decisions rather than finances.

As always, if you have any questions on POA matters or other compliance-related concerns, call the WBA legal hotline at 608-441-1200 or email us at wbalegal@wisbank.com.

Note: The above information is not intended to provide legal advice; rather, it is intended to provide general information about banking issues. Consult your institution's attorney for special legal advice or assistance.

By, Scott Birrenkott

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Legal Q&A: POD Beneficiaries for Deposit Accounts

Q: Can a Deposit Account with a Payable on Death Beneficiary have a Contingent Beneficiary?

A: No. Wisconsin Section 705 covers non-probate transfers at death. WBA does not read section 705 to permit contingent beneficiaries.

The WBA payable on death beneficiary designation form was created in accordance with the below interpretation of Wisconsin Section 705 and thus does not permit contingent beneficiaries. It has been WBA’s longstanding opinion that the POD statute does not permit identification of contingent beneficiaries to accounts governed by Subchapter 1 of the Chapter 705. Accounts covered by this statute include most standard checking, savings and certificate of deposit accounts established by a standard deposit account agreement.

The POD statute specifies who is entitled to payment on a POD account on the death of the last surviving accountholder. Under 705.06(1)(c), the funds are paid to the beneficiaries who survive the death of the last surviving accountholder. If none of the beneficiaries survive, the funds are paid to the estate of the last surviving accountholder. This is the way the WBA form is drafted.

The statute provides a second option under 705.04(2)(d), under which funds otherwise payable to a beneficiary who predeceases the death of the last surviving accountholder, would pass to the beneficiary’s issue who would take under 854.06(3).

When the option to pay the beneficiary’s issue was added to the POD statute, it was WBA’s understanding that the decision was made not to draft for this option. We believe that not all persons would want the issue (without identification of specific children) to receive payment. Further, the bank would not have any easy way to identify all of the issue who would be entitled to the payment. The identity of a person’s issue can change throughout the term of the account.

However, the statute does not permit any other payment of fund in a POD account. The statue does not authorize payment to named contingent beneficiaries.

The WBA POD beneficiary form was drafted to follow the above. Thus, if a bank wishes to contract in a way to appoint contingent beneficiaries for a customer’s deposit account we recommend working with the bank’s own counsel to either modify WBA’s form or create a separate designation. If your bank does not use WBA forms we recommend consulting with your forms drafters to determine what their interpretation of Section 705 is with respect to contingent beneficiaries.

Note: The above information is not intended to provide legal advice; rather, it is intended to provide general information about banking issues. Consult your institution’s attorney for special legal advice or assistance.

By, Scott Birrenkott

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Structural Integrity: Make compliance part of your institution’s DNA

Structural Integrity
Make compliance part of your institution’s DNA

Compliance is top-of-mind for every bank executive today – it might even keep you up at night – but do all of your employees feel the same level of responsibility? They should.

There’s a difference between following prescribed protocols from regulators and having a truly effective and efficient compliance system. In the struggle to keep ahead of new and changing regulations and complex expectations from examiners, some banks have fallen into the rut of using their compliance department as the last line of defense. However, a holistic approach to compliance, where key elements are knit into an integrated whole and every employee feels personal ownership of their role within the compliance system, tends to be more effective (and more efficient) than viewing the compliance department as a safety net.

Key Features

The foundation of a holistic compliance system is the distribution of ownership across all departments and the bank’s strategic plan. “Compliance is the responsibility of the organization as a whole, so it needs to be distributed,” explained Elliot Berman, Principal at Bowtie Advisors. According to Berman, distributed compliance systems are one of the most effective responses by financial institutions to the continuing challenge of meeting the resource needs of today’s regulatory expectations about compliance. A distributed system is not just an idea; it must be put down on paper as part of the bank’s plans and processes to create accountability. “It is critical that each area of the bank examine its compliance risks and articulate in their operating plans how they will manage them,” said Joe Fikejs, COO of Bank Mutual, Milwaukee. “Then, they need to be held accountable to the goals and plans that are set. This best practice also reiterates the message that compliance is not just the responsibility of the compliance department.”

Another key feature of a holistic compliance system is compliance personnel that are seen as collaborative partners to be consulted in the early stages of every project rather than gatekeepers or the final step in a process. “I prefer the ‘compliance first’ approach,” said Ami Dregne, compliance officer at Citizens First Bank, Viroqua. “I don’t like being the last stop before something goes out.” Berman also prefers this model of spreading responsibility because it allows the compliance team to be subject matter experts. “That’s a more effective use of their expertise,” he said. “I’ve seen organizations where compliance is viewed as the ‘department of no’ and that’s not conducive to success.” Dregne also advocated for a collaborative relationship between compliance and the rest of bank staff. “You don’t want staff to feel like the compliance officer is ‘Bad Cop,’” she said.

Implementation

When implementing a distributed compliance system, first lay the groundwork with communication and support from upper management. “Having management involved is key so that the employees know and trust the compliance team will tell them how things need to be done in order to stay compliant, rather than just make their jobs harder for no reason," Dregne explained. A hands-on management approach is also essential to foster a sense of ownership for all staff. “You won’t have a strong risk-conscious culture until all employees feel they have key roles that they take ownership of,” said Fikejs. “It is as simple as connecting the dots between regulation and key processes.” Drawing those connections for staff doesn’t require that management be subject matter experts, either. “It’s not a compliance issue, really,” said Berman. “It’s a communication and operations issue.”

Another facet of this holistic approach to compliance that cannot be overlooked is the need for ongoing training. “Weaving compliance and risk management across all key areas of a financial institution’s strategic plan is the start, but it cannot stop there,” said Fikejs. “It needs to be reinforced on a regular basis at key meetings, training and in communications.” Compliance training doesn’t have to be torturous, either. “Compliance is not as exciting as other functions in banking, so try to have fun with it,” Fikejs suggested. “Use gamification at meetings to reinforce key messages.” It’s also important not to let your compliance training schedule slip into “peaks and valleys,” according to Berman. Even though changes to regulations and procedures require mandatory training to update employees, it is also important to provide ongoing refresher training. “Find a balance between the ‘big training’ and the reminders,” he advised.

Finally, equip your compliance personnel for success by ensuring they have access to all the tools and resources they need to coordinate your compliance program. One of the most powerful resources out there is a wide network of peers. “It’s important to have a peer network you can rely on for perspective,” said Dregne. “Many compliance officers wear many hats and some are stronger in certain areas, so we lean on each other a lot.” Regular contact with industry thought leaders and other compliance experts will help your team guide the institution to consistent success.

As with many business functions, the bank’s compliance system should also undergo a continuous improvement process. “Review processes and workflows frequently to ensure unnecessary complexities and controls are removed,” Fikejs recommended. “The more simplistic the process, typically the better.” The ultimate goal is to empower everyone in the bank to work in tandem with the compliance team and take ownership of their individual compliance role. With that approach in place, the whole institution will benefit from a more efficient and effective compliance system.

By, Amber Seitz

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questions@wisbank.com

608-441-1200

4721 S Biltmore Ln.
Madison, WI 53718

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