Author Archive: Brent Farley

40 Favorite Free Resources for Regulatory Attorneys (and Bank Compliance Officers)

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One of the biggest problems with regulatory work in the financial services area is that good compliance resources are scattered and difficult to find, whether you pay for them or not. This guide pulls together some excellent free resources for compliance professionals to kickstart research into new or difficult compliance questions. For a new compliance professional, the below guide ought to reduce about three months of scrambling trying to figure out where to look and what to look for in answering questions about banking compliance matters.

When I began working as a compliance officer and regulatory attorney in the banking industry, I quickly found that the usual legal resources an attorney would use in a litigation practice or transactional practice did not cover banking regulatory topics with any reliability. The major case law search providers did not anticipate the sorts of searches, resources, and topics a compliance officer or regulatory attorney regularly needs in order to respond to daily demands for overcoming regulatory obstacles or responding to the ongoing needs of a bank. Great paid and unpaid resources tended to be obscure and completely unknown to professionals who are not already involved in regulatory work. The mainstream research services are doing a much better job lately. However, many of the free resources still outdo the paid resources across the board.

Because it was so hard to find good materials early on, with the help of other compliance experts, I slowly put together lists of great compliance resources for compliance officers and regulatory attorneys. The list below is based on the research patterns that I often take when encountering a new regulatory question.

Secondary Sources and Outline Materials

There are several excellent free resources that offer quick background information on regulatory topics that might be new to entering and experienced regulatory professionals. Professionals working for agencies and for banks have been putting together guides and outlines for many years to help deal with the difficulty of researching and overcoming layered regulatory problems. Many of these resources are available online.

Examination Manuals and Guides

Office of the Comptroller of the Currency (“OCC”) Handbooks –
https://www.occ.treas.gov/publications-and-resources/publications/comptrollers-handbook/index-comptrollers-handbook.html

The OCC has compiled great summaries on regulatory topics within its handbooks and examination materials. These are a great place to start for questions on regulatory topics. The manuals are reasonably well cited, so they are a good place to start a research trail. Most of the topics apply to both state and national banks.

Be aware that these documents field the agency’s opinion on regulatory matters, so it is important to confirm agency positions by reference to primary statutory and rule materials, and, in some cases, case law.

Federal Reserve (“Fed”) Examination Manuals –https://www.federalreserve.gov/publications/supervision_cbem.htm

Examination manuals offer insight on how the Fed will look at and investigate a particular topic. The Fed manuals usually have good summary materials for specific regulatory topics and agency positions on regulatory matters. These manuals are also well cited and are a good place to start a research trail.

Federal Deposit Insurance Corporation (“FDIC”) Examination Manuals – https://www.fdic.gov/resources/supervision-and-examinations/

Same value as other agency materials. FDIC manuals have great summaries and can be a good place to get started on new topics or difficult issues.

FFIEC Examination Manuals – https://bsaaml.ffiec.gov/manual

FFIEC manuals are useful for the same reasons but have materials that are more focused on Bank Secrecy Act requirements, Anti Money Laundering Programs, Office of Foreign Assets Control lists and regulations, sanctions and reporting requirements, and so on.

Consumer Financial Protection Bureau (“CFPB”) Examination Manuals – https://www.consumerfinance.gov/compliance/supervision-examinations/

CFPB manuals usually have great summaries on consumer law and regulatory matters. Like other federally-produced materials, the CFPB manuals have good summaries and typically stake out the agency’s position on interpretive issues.

Targeted Searches

Advanced Search Engine Searches – https://www.google.com/advanced_search?hl=en&fg=1

If you use the advanced search features on a search engine, you can restrict a search to a specific domain, like https://www.jpmorgan.com/, and further restrict results to certain file types, like pdfs and power point files. When you search in this way, the results tend to pull up presentations, papers, memos, opinions, and other documents that might be relevant to your inquiry. This also brings up interesting results from larger industry sites, like https://www.chicagofed.org/  or https://www.3m.com/.

Forums, Blogs, Law Firm Websites

Bankers Online Forum – https://www.bankersonline.com/forum

Search the Forum – Enter this text into a Google search field: “[topic] site: https://www.bankersonline.com/forum/ubbthreads.php

The Bankers Online forum is a longstanding and active forum that retains forum topics in a searchable format. This is a peer to peer forum full of answers to regulatory questions that are both basic and difficult to find in any regulatory manual. There are several regular posters who do a great job of making sure that accurate and complete information is offered as answers to questions. Many thanks to those who regularly participate. Please do double check answers by reference to primary sources. Many times answers are cited, so you can double check on the accuracy and verify conclusions.

Supervisory Reports and Outlook Documents

Fed –https://consumercomplianceoutlook.org/

FDIC –https://www.fdic.gov/regulations/examinations/supervisory/insights/

https://www.fdic.gov/regulations/examinations/consumer-compliance-supervisory-highlights/index.html

https://www.fdic.gov/resources/supervision-and-examinations/

The federal agencies each have additional publications that discuss current regulatory concerns. Regular supervisory outlook and highlights publications usually contain a good summary of the regulations impacting a particular activity when the article addresses that particular issue.

Online Searches – Law Firm Websites

Many attorneys have begun writing summary materials to post online on their websites. These tend to be reasonably well-cited and are becoming a reasonable source for research for some types of questions. Most attorneys are very concerned about the reliability of the written materials they produce, so law firm sites tend to be more reliable than most types of websites. I recommend checking the date of issuance and confirming research before relying on these materials.

Law Firm Regulatory Blogs

There have been some great regulatory blogs. These seem to shift and change over time.

Farley Law – farleylawpllc.com

Niche Bank Lawyer – nichebanklawyer.com

Adding to these posts one at a time.

Primary Resources

I have several of these sources bookmarked. Several are faster and more accurate than trying to work through a legal research provider to find primary banking regulatory materials.

Texas Department of Banking Law and Guidance Manual –

https://txdob.ctspublish.com/texas/browse/txdobset/welcome/root

The Texas Department of Banking provides an excellent searchable resource with primary materials regarding Texas Law that applies to supervised financial institutions. The resource allows keyword searching and covers statutes, regulations, advisory opinions, and other key materials. This is a great place to start when looking at Texas law issues.

Texas Constitution and Statutes – https://statutes.capitol.texas.gov/

Texas Administrative Code –

https://www.sos.texas.gov/texreg/index.shtml

https://texreg.sos.state.tx.us/public/readtac$ext.viewtac

Cornell Legal Information Institute – https://www.law.cornell.edu/

Cornell does a great job of hosting US statutes and regulatory material. Typing a statute or regulation citation into a Google search bar will usually pull up the correct provision. Most internal references are linked for ease of use. The site has been adding help text to defined terms that is not always correct but is getting better.

eCFR –

https://www.ecfr.gov/cgi-bin/ECFR?page=browse

This used to be really hard to use but has gotten much better. The internal and targeted search functions have improved significantly as well. Links have been built to connect to applicable federal register materials.

Federal Register Online –https://www.federalregister.gov/

Searchable federal register resources. If you know a citation, the issuing agency and date, or a very specific set of key words, you should be able to find what you are looking for. Topic based searches work well but tend to bring up a long list of relevant pages to look at.

CFPB’s Electronic Regulations –

https://www.consumerfinance.gov/rules-policy/regulations/

Great source for looking at consumer regulatory material, comments, appendices, and comparing current and past versions.

Bankers Online Alphabet Soup – https://www.bankersonline.com/regulations

Great place to find current regulations and comparisons. Comparable to, and a predecessor to the CFPB site but addresses just about any banking regulation I can think of. Regs. A – ZZ or more. Hence, Alphabet Soup.

Google Scholar Case Research – https://scholar.google.com/

Google Scholar used to be a very poor resource for case law but has gotten much better in recent years. Searches retrieve relevant topic materials and has rudimentary shepardization capability.

UT Guide to Searching Texas Legislative History –

https://tarlton.law.utexas.edu/texas-legislative-history

I have found this guide helpful in digging up history where Lexis or Westlaw fail.

Updates and List Services

Regulations, guidance, enforcement actions, and public opinion shift over time. In the regulatory arena, it is important to stay on top of regulatory changes. There are some good trade association materials and news sources that do a good job of packaging and delivering this information. However, you can also get it directly – and a little more quickly – by signing up for RSS feeds, agency email publications, and other similar sources.

U.S. Congress –

https://www.congress.gov/get-alerts

Congress has a great website for purposes of tracking recorded bill activity. The site of course doesn’t record every conversation, but it does cover official actions throughout the legislative process.

White House –

https://www.whitehouse.gov/briefing-room/presidential-actions/

Lately, White House press releases and executive orders have been worth watching as they have had broad-based impact on vaccination requirements, SEC rules, and more. You can sign up to receive notices of press releases and orders via the White House website.

Federal Register –

https://www.federalregister.gov/

The Federal Register has flexible options for receiving new postings from agencies you select or for receiving news about updates to specific parts of the Code of Federal Regulations.

Texas Legislature Online – https://capitol.texas.gov/resources/followabill.aspx

The Texas Legislature maintains a website that is useful for tracking bill activity.

Texas Administrative Code – https://www.sos.texas.gov/texreg/index.shtml

Texas Administrative Code – https://www.sos.texas.gov/texreg/index.shtml

The Texas Secretary of State maintains a website where you can find the entirety of the Texas Administrative Code. You can search this using the site’s search features or an advanced Google search. You can also find information about upcoming and past agency meetings. If you want to be updated on new and proposed rulemakings, you can contact the agency responsible for the rulemaking you need to follow. The agency will help you get set up to receive updates on rulemaking activity.

OCC News –

https://www.occ.treas.gov/news-events/newsroom/index.html

The OCC provides regular updates on its activities as well. You can sign up for updates on regulations, press releases, enforcement actions, and other relevant materials for delivery to your email inbox.

Fed News –

https://www.federalreserve.gov/newsevents/subscribe.htm

The Fed provides regular email updates on its activities based on topics and publication types. You can sign up for emails regarding regulatory issuances, information regarding enforcement actions, speeches, press releases, and statistical releases. The Fed has a huge number of publications and data regarding the economy and monetary issues. The publications other than the regulatory and legal publications can be worth reviewing as well.

CFPB News – https://www.consumerfinance.gov/compliance/compliance-resources/signup/

Same for CFPB updates and published notices.

FDIC News –

https://www.fdic.gov/news/press-releases/2022/

Same for FDIC updates and published notices.

FinCEN News –

https://www.fincen.gov/news-room/news

Same for FinCEN updates and published notices.

FFIEC News –

https://www.ffiec.gov/press.htm

Same for FFIEC updates and published notices

Texas Department of Banking – Supervisory Releases and Announcements –

https://www.dob.texas.gov/applications-forms-publications/supervisory-update-news-summary

The Texas Department of Banking issues a regular supervisory update email that contains a summary of regulatory activity relevant to Texas Banks. The Department will also issue updates on DOB related regulations. Inquire at txdob.email@dob.texas.gov to receive this on a regular basis.

Texas Supreme Court –

https://www.txcourts.gov/supreme

Find case law and get updates on case status at the Texas Supreme Court’s website.

News Feeds/RSS Feeds

It is possible to set up a service that will regularly search news articles based on your own keywords and parameters. You can use these reports and releases to capture additional notes regarding significant events which are reported by the news media.

Enforcement Action Archives

Often, it is helpful to look through past enforcement actions and letters issued by a regulator to get a better idea as to how the regulator might see a particular issue.

OCC Enforcement Actions –

https://apps.occ.gov/EASearch

FDIC Enforcement Actions –

https://orders.fdic.gov/s/

Fed Enforcement Actions –

https://www.federalreserve.gov/supervisionreg/enforcementactions.htm

FinCEN Enforcement Actions –

https://www.fincen.gov/news-room/enforcement-actions

CFPB Enforcement Actions –

https://www.consumerfinance.gov/enforcement/actions/

Texas Department of Banking Enforcement Orders –

https://www.dob.texas.gov/laws-regulations/enforcement-orders

Comments Regarding Enforcement Actions

Not all government provided websites have great search capabilities. In many cases, you can use a Google advanced search to search for keywords found in the folder or directories where the enforcement documents are stored online. This permits better keyword search capability.

This can be done by finding an enforcement action and looking at the full URL. If you do a site search for the terms you would like and include the entire URL, except the text past the last “/” mark, you will search the folder where that enforcement action file was found. Many times, all the related files are in the same folder, so you can use Google search to find the rest. Please feel free to reach out if you have questions about this.

white concrete structure

Another Take on PACE Lending: Banks as PACE Lenders

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Banks Can Make PACE Loans.

Banks can make PACE loans. Not only can banks make PACE loans, but commercial banks ought to actively consider the possibility of making their own PACE loans.

What Are PACE Loans?

PACE stands for Property Assessed Clean Energy. PACE loans are loans that may be used to fund clean energy generation improvements and energy efficiency improvements for real property. Many bankers are familiar with using PACE loans to fund installation of solar panels for clean power generation. However, funding solar panel installation is really the tip of the iceberg for types of projects that can be funded by PACE loans. Pace loans may be used to fund energy efficient improvements like retrofitting or installing energy efficient windows, upgrading insulation for buildings, rainwater collection systems, recycled water use, upgrading HVAC systems, installing more efficient lighting and electrical systems, and much more.

The Case for PACE Lending.

One of the complaints we hear from banks about PACE loans is that a PACE loan takes priority over a senior mortgage position and makes it difficult for the senior lender to secure its position. Usually, this complaint comes as a negative perspective from the senior lender for a real estate redevelopment project. However, there really isn’t any reason why a bank couldn’t turn the tables on the third-party lender and make the PACE loan itself.

Since PACE loans offer an attractive first-lien position and a favorable collection position, banks who make commercial mortgage loans ought to look at the possibility becoming a PACE lender. This way the bank could gain the advantage of a super priority lean and the tax assessment process for collections. These features of PACE loans reduce the overall risk associated with a real estate loan and provide for a steady payment process.

Before tossing aside PACE loans as a possible opportunity, consider that residential lenders and solar installers have had great success in using PACE funding to fund small residential solar improvements. Since it is very much possible to streamline PACE lending for residential purposes, it should be well within a commercial bank’s capability to establish and streamline a PACE lending program for commercial real estate loans.  

PACE Specific Items.

The learning curve for PACE lending is not insurmountable. A bank officer who is familiar with commercial lending can readily become proficient in PACE lending. The collateral types and terms for PACE loans are similar to other construction loans. The repayment sources and payment timeline for PACE loans are similar as well. PACE loans can be used in conjunction with traditional senior loans, and escrow accounts may be established to further control risk of nonpayment of PACE loans.

Factors of PACE loans that may be new to traditional commercial banks might include a) learning how the energy efficiency assessment process works, b) becoming familiar with pace lending documents, and c) understanding in greater detail how the property assessment process works.

Since PACE loans are intended to fund energy efficiency improvements, prior to extending a PACE loan, an assessment must be made regarding the value of the proposed energy efficient improvements for a PACE lending project. A third party performs this assessment and produces a report regarding the value of energy efficient improvements. The amount the PACE loan must be based on the assessed improvement value.

The term of the loan must also be tied to useful life of the energy efficient improvements. That is, if a solar panel installation has a life of 20 years come the term of the loan may not exceed 20 years.

Second Senior Lien.

Commercial PACE lending is relatively untouched by commercial banks. In many cases, we think this is because banks usually look at PACE loans only from the perspective of a senior lender. However, any time banks can have a priority lien position that rivals a tax authority, banks should consider the opportunity. Where it makes sense, why not have two senior liens?  

Farley Law, PLLC provides regulatory services to banks and financial institutions. We help forward-looking banks and fintechs develop specialty lending programs and noninterest income services. Have a question or comment? Send us a note at banking@farleylawpllc.com, or set up an introductory call using our bookings service.

clear light bulb planter on gray rock

Another Take on PACE Lending

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Using PACE Loans with Traditional Mortgages

Many commercial banks have been trepidatious about permitting PACE loans alongside the bank’s senior mortgage position in commercial real estate financing. However, where underwritten and structured appropriately, PACE loans can work well as a secondary loan alongside a traditional commercial mortgage. 

Why PACE Loans?

Property Assessed Clean Energy (“PACE”) PACE loans are an effective way for property owners and developers to finance “green” energy-efficient improvements on their real property at a low, long-term interest rate with reasonable payments. PACE loans may be used to finance residential improvements, such as installation of solar panels. On a larger scale, PACE loans may also be used to finance commercial developments and rehabilitations that include energy efficient upgrades, like new windows, HVAC upgrades, and so on. PACE loans are flexible. They can be used alone, with traditional senior mortgage loans, and along with other types of funding, like publicly funded improvements, and tax incentives.

PACE lenders usually offer an attractive interest rate because the lender is in a great position to collect payment. After a PACE loan is funded, the borrower makes regular payments to a PACE administrator who forwards the payments to the PACE lender. The lender might be a government entity, a bank, or an independent lender. If the borrower fails to make timely payments on a PACE loan, the creditor may use the same process the tax assessor uses to collect the payment assessments. Just like a taxing authority, the PACE lender has a priority interest over a senior mortgage lender and can foreclose over other mortgage holders and lien holders. 

Overcoming the PACE Dilemma for Senior Lenders

Because the PACE lender has a priority lien over senior mortgage lenders, many banks have been reluctant to allow PACE lending as a part of funding real estate improvements.

However, because PACE payment assessments may only be collected annually over time, the downside risk for non-payment can be mitigated and controlled.

PACE Loan Payments Are Set at the Beginning and Can’t Be Accelerated

Tax assessors have had a priority interest in collecting real property taxes over mortgage loans for many years. Taxing authorities are entitled to foreclose on real property where the owner has failed to pay property taxes in a timely manner. However, unlike a mortgage lender, taxing authorities cannot accelerate the payment of the next 240 months of estimated tax payments to be paid immediately by the borrower.

The Senior Lender Can Control PACE Loan Payments

Because the amount of delinquent taxes in one or two years is usually a small part of the overall value of a property and the overall value of a loan, lenders can usually mitigate the risk of non-payment of property taxes by a) making sure the bank has the right to pay the taxes and add the payment to the loan and b) permitting the bank to foreclose or take control of the property if taxes are not being paid. The bank should also employ lockbox agreements to cover concerns about proper collection and forwarding of rents. To cover these points, the following provisions should normally be included in the bank’s loan documents:

  1. The loan documents should provide that the bank may pay past-due property taxes and add the amount paid to the loan balance.
  2. The loan documents should make the non-payment of property taxes as an event of default by the borrower.
  3. The bank’s remedies upon a non-payment default should include the right to accelerate the loan payments and foreclose on the property.
  4. The bank’s remedies upon a non-payment of default should also include the right to take control of the property as necessary.

Risks arising from non-payment of PACE loans may be mitigated in a similar way. PACE payment assessments may only be assessed one year at a time. The PACE lender may not accelerate the payments. For this reason, a senior mortgage lender may address and mitigate the risk of non-payment and foreclosure by the PACE lender much like the lender mitigates the risk of non-payment of property taxes. That is, by making sure the senior lender can make the PACE loan payments, adding the payment to the balance of the loan, and by making non-payment of the PACE payments an event of default like any other default.

The senior lender might also consider whether it would be useful to set up a reserve to cover initial payments or an escrow account to reserve funds for paying the PACE loan payments.  

Where PACE loan assessments are addressed like tax assessments, a senior lender can make a much more solid case for permitting a PACE loan to be part funding improvements on a borrower’s property.

Benefits for the Senior Lender for Permitting a PACE Loan

Allowing a borrower to use a PACE loan can improve the overall credit quality of a commercial development or rehabilitation. Some of the impacts a PACE loan may have are: a) reducing the LTV ratio of the senior debt, b) reducing the overall cost of capital, c) reducing lending limit pressures for large lending relationships, and d) providing a means for funding “green” fixtures, like solar panel installations and gray water applications that might not be suitable for some lenders.

Hopefully, taking a look at PACE loans from another perspective can open up additional lending opportunities for banks in regions where PACE loans are permitted.

Also published at Farleylawpllc.com.

Banking Indian Nations

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Hands exchanging money

Deposits and Treasury Services for Indian Nations and their Subsidiaries

Indian Nations, their members, and related businesses run on tribal properties are historically underserved communities who have an ongoing and growing need for banking services. Historically, many tribal governments, their citizens, and their businesses have had relatively little in the way of resources and commerce, which can limit banking opportunities in these communities. However, there are a number of significant business successes run by members of Indian Nations. Love’s Travel Stops of Tom Love, a member of the Chickasaw Nation is one example. In recent years, a wider number of Indian Nations have successfully found ways to drive new commerce and earn new money on their own lands on a broader and more diversified basis. Developing commerce has, of course grown demand and need for banking services for lending, deposit services, cash management services, and other financial services for Indian Nation members and communities.

In some cases, and tribes have been able to bring in new and significant funds and resources based on activities like oil and gas drilling, tourism, and running hospitality and casino services and venues. Increases in cash flow and resources ought to lead to further development of other businesses and industries that operate within and close to Indian Nations.  The influx in revenue and business have created new opportunities for other industries to serve businesses on Indian Nation lands.  

Because banking Indian Nations is an area that requires some additional knowledge beyond nationwide offering of banking services, banking Indian Nations offers an excellent niche banking opportunity with moderate barrier to entry. For a banking service provider who is willing to get to know the necessary background and develop a relationship with Indian Nation communities, there are opportunities for lending, deposit services, cash management, and other basic but critical banking services.

Developing Familiarity with Banking Indian Nations

Much of the barrier to entry can be dealt with by developing some familiarity with the ins and outs of the nature of laws and governing bodies of Indian Nations. Banking can deliver most services efficiently by having a basic understanding of laws and by making some limited adjustments to service contracts.

Sovereign Status

Indian Nations have their own sovereign power and make their own laws. Indian Nations are not subject to the state laws of the state which surrounds the reserved territory. Congress has plenary power over Indian tribal lands and nations which means it may enact laws and legislation to govern Indian Nations in their lands. However, since Indian Nations have their own sovereign power, Indian Nations govern their own affairs within their own lands. Indian Nations have their own courts and own lawmaking organizations and authorities.

Addressing Differences in Laws

Though the variety in legal authorities sounds like a recipe for legal difficulties, many Indian Nations have enacted laws and rules that coordinate with uniform laws efforts or are otherwise similar to state law. For example, many governing bodies have enacted versions of the Uniform Commercial Code in an effort to make business transactions simpler and more consistent on and off Indian Nation lands.

Also, just as with contracts across state lines, it is common practice and permissible to use choice of law contract provisions to clarify which laws apply and which do not. Choice of venue and forum clauses can be used to select an appropriate court and location for resolving disputes regarding a contract. Agreeing to arbitration is a possible option for dispute resolution.

Sovereign Immunity

Similar to municipal and state bodies, the sovereign status of Indian Nations provides them immunity from most types of lawsuits and legal actions. As with any city, it is usually not possible to bring suit against a local government if you don’t like its taxes or policy. It is possible, however, for an Indian Nation to waive its sovereign immunity by contract. Cities, states, and the federal government regularly waive their immunity by entering into contracts that may be enforced against them in court. Indian Nations may do the same.

Indian Nation Subsidiaries

Also like municipal and state governments, Indian Nations may form subsidiary corporations for providing services or operate businesses. It is not uncommon for an Indian Nation to operate a hospitality service as a subsidiary to the nation’s governing body. Government subsidiaries may also have the benefit of sovereign immunity.

Addressing Legal Hurdles by Contract

Considering the points above, a bank can offer deposit services and cash management services to an Indian Nation, its businesses, and residents by making some relatively simple adjustments to service agreements. One of the simpler approaches may be to adjust deposit contracts and service agreements to provide for dispute resolution by arbitration, set a choice of law provision that is acceptable to both parties, and select an appropriate location for holding disputes. For agreements to provide services to an Indian Nation itself or a subsidiary of the nation, the agreement should include a limited waiver of immunity for purposes of managing disputes between the financial institution and the Indian Nation. Where a bank and an Indian Nation are both agreeable to these contract adjustments, services provided by a bank can be readily and efficiently offered to sovereign organizations.  

While dealing with banking services for a sovereign nation may sound intimidating and out of reach, there are some legal solutions that make banking Indian Nations and their residents and business feasible for banks who are willing to spend a little time getting to know the rules of the road.

Prize-Linked Savings: Save to Win!

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Growing money, stacks of coins

In the United States, legal lotteries and raffles are the exception, rather than the norm. Most states ban lotteries with few exceptions. However, in recent years, many states have opened up lotteries ever so slightly to allow for promotions that encourage people to save money. These savings promotions come in the form of a prize-linked savings account.

Prize-Linked Savings Accounts

A prize linked savings account offers account holders a chance to win an amount of money simply by making a deposit of money in a savings account. The deposit and prizes may vary, but, to illustrate, a bank might offer account holders one chance to win $25,000 for every $15 deposit an account holder makes within a month’s period of time. After the month is over, the bank would run a drawing based on the numbers of $15 deposits made by each account holder, and one lucky winner would gain $25,000.

One critical difference between prize-linked savings accounts and traditional lotteries is that the account holder keeps her deposits and interest earned on those deposits. Reports from pilot programs seem to show that these types of deposits tend to accumulate, rather than disappear. (See the links at the end of this article.) This is encouraging as prize-linked savings have been a successful draw for people who might not otherwise retain an account at a bank.

From a depository institution perspective, this program presents a niche banking opportunity. That is, offering a unique and still little-used incentive for opening a savings account and making regular deposits. The cost of prizes, spread over many accounts, does not need to unreasonably increase the cost of funding to the bank. For new account holders, this can be an attractive way to earn a little interest and also to get a chance to increase the income from a deposit account.

Niche Banking Opportunity

As this sort of prize linked savings program directly falls within the definition of a lottery, states wishing to permit this sort of program have been changing their lottery laws to allow this savings promotion to be conducted legally by banks and other financial institutions. Federal laws prohibiting banks from conducting a lottery have also been changed to allow banks and financial institutions to offer prize-linked accounts.

Lawful Lottery

In Texas, banks may offer prize linked savings account where a chance to win is obtained by the deposit of an amount of money in a savings account or savings program. The fees, interest earned, and withdrawal limitations for the prize-linked account must be commensurate with the fees, interest earned, and withdrawal limitations applied to other accounts at the bank offering the program. The program must also be administered in a safe and sound manner for the financial institution.  

Federal law has been amended to permit prize linked savings accounts where a person may obtain a chance to win by depositing a specified amount of money in a savings account or savings program. Each chance to win must be equal, and the prize must be designated in advance. The text of the change implies that the prize could be money or other prizes, like a trip, hotel stay, or valuable property.  

Many other states permit similar prize-linked savings account programs that banks and other financial institutions may offer to their customers.  

Pilots and Studies

Michigan Pilot  

South Africa Study

Heard of other success stories? Please send a note.

Turning to History for Lending Opportunities: Lending into Historic Tax Credit Developments

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Moody Mansion in Galveston

A historical and stable niche lending opportunity is found lending into historic rehabilitation projects. There are 10s of 1,000s of historic buildings across the United States. Many of them need a face lift or adaptive rehabilitation. Many of these historic structures are in key areas of town and carry a strong sentimental value for their communities. Lending for the rehabilitation and maintenance of these buildings can check several important boxes for community banks, often including community revitalization, positive press, high profile developments, community reinvestment act credit, catalytic investments, and more.

Federal historic tax credits provide a critical supplement for rehabilitating historic structures. They also provide for interesting niche lending opportunities. The Internal Revenue Code provides for an income tax credit of 20% of the rehabilitation costs of qualified historic structure. The tax credit may be used to offset federal income taxes. The federal historic tax credit may be taken over five years and unused portions may be carried forward for up to 20 years. The tax credit benefit may be transferred in a way by making an allocation of partnership income and credits to a third-party in return for an equity capital investment in the rehabilitation. This incentive was created to encourage the revitalization and reuse of historic structures that are often torn down to make way for less expensive development of newer improvements. Since its introduction, the federal historic tax credit has been used to aid the rehabilitation of over 40,000 structures in the United States.

Texas offers an additional powerful incentive for the redevelopment of historic structures. Texas historic tax credits of up to 25% of the rehabilitation costs of a qualified historic structure may be used to offset the cost of rehabilitating a historic structure. The credit may be used against franchise tax liability or insurance premiums tax liability. The credit is a useful tool for bringing cash equity into a redevelopment because the Texas historic tax credit may be freely transferred in return for cash. The Texas credit has been highly effective at encouraging the rehabilitation of historic structures in the State of Texas and may be used in conjunction with the federal credit. Over $2 billion in project costs have been supported by the Texas historic tax credits.

A number of other states also have state level historic tax credit programs or other redevelopment incentive programs that may be used alone or in conjunction with the federal historic tax credit.

Galveston Arts Center, San Angelo Auditorium, Tower Life Building

Both state and federal programs are frequently used to bring sources of cash equity into the rehabilitation and redevelopment of historic structures. That is, tax credit investors or purchasers are introduced to bring cash in return for the use of the credits generated by the rehabilitation. The capital injection can be used to pay rehabilitation expenses and does not need to be repaid like a loan.

The advantage and opportunity for traditional construction and permanent lenders is that a project with a 5-15% equity contribution by its owner can turn into a project with a 50-60% equity contribution. Up to 45% of the project costs of the redevelopment can be covered without introducing debt or other expensive sources of funding. Overall, using the historic tax credits reduces the debt service and stabilizes the project’s prospects for success. The credits can be used for many types of properties, including office, retail, industrial, special purpose, and, dare I say it in 2020, hospitality. For state only historic tax credit projects, this opportunity comes with little added complexity and can be treated much like another construction loan.

For construction and senior lenders lending into federal historic tax credit projects, the barrier to entry lies in complexity. Understanding the ins and outs of allocating federal income tax credits to a third party takes effort. The IRS code imposes restrictions on owners of buildings rehabilitated with federal historic tax credits for five years following completion of the project. This means that loan workout and foreclosure scenarios must be carefully planned in advance and may require more creativity than typical construction loans. Nevertheless, large and small institutions have been lending into historic tax credit projects for over 40 years and have developed adequate strategies for managing historic rehabilitation projects.  

For a construction banker willing to learn a new construction niche, making a bridge loan in support of a historic tax credit project carries a risk profile that is similar to construction lending and carries substantial benefits. Most of the cash generated by historic tax credits project becomes available upon completion of the project. For projects where the tax credits are is necessary to pay for the construction costs, a bridge lender may advance funds in anticipation of receiving tax credit dollars at the end of the project. The bridge loan may be secured by a lien on the tax credit proceeds and interests which control the proceeds. The proceeds from the transfer of tax credits would then be used to repay the loan at the completion of the project. The tax credit bridge loan does not require a lien on the real estate.

Advantages of tax credit bridge lending are a) this is a niche banking opportunity for which there are few competitors; b) the bridge lender does not need to compete with a senior lender for its security interest; c) repayment of the bridge loan is not dependent on the income from the project; d) once the construction is complete, the loan is repaid without any risk for the failure of permanent financing; and e) moderate cost overruns actually make repayment easier. The risks of bridge lending resemble construction lending. Risks to consider include construction completion, casualty risk for the structure, and non-payment of construction period interest. These risks and others can be adequately mitigated through insurance, interest reserves, underwriting, and other traditional risk management strategies. For an alert construction lender, historic tax credit bridge lending is an opportunity worth looking at.

As noted above, historic tax credit incentives have been used to finance the construction of over 40,000 buildings over more than 40 years throughout the United States. Most of these projects have had the support of bank financing, yet relatively few banks are involved in this area of lending. The longstanding success of these programs and limited competition make this a great niche banking opportunity.  

Driskill Hotel

Earn Fee Income By Providing Underwriting Expertise

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Homes and housing development

A couple of weeks ago, I found a compelling request for qualifications from a very active housing finance corporation in a large Texas city. The request asked for “Asset Management and Underwriting Services” to support several housing finance corporations run mostly by the city.  

If you are a banker staring down the barrel of a recession and another long low-interest environment, the title should read more like “Low-Risk, Non-Interest Income for My Bank Where I Can Earn Community Reinvestment Act Credit”.

This would be a fantastic niche banking activity. Banks have been outsourcing functions to other vendors for years. So much so, that many banks really only retain a few important competencies in house. Many banks pay vendors to provide resources for every other function. Why not turn the tables and provide core underwriting knowledge and expertise as a vendor of investment advisory and counseling services?

The underlying request here is for needed expertise in vetting proposals for the financing and construction of housing resources. This is for a city that has a strong demand for affordable housing. The housing finance corporations are very active in providing financing and housing. The asset management and underwriting services would be compensated by a government entity without requiring any change to the bank’s balance sheet. Banks are well positioned to provide this sort of service since most banks retain substantial expertise in investment and loan underwriting. In an environment where interest rate margins are compressed, why not consider providing underwriting advisory services for a fee?

Assisting housing finance corporations in providing affordable housing is a service that directly benefits low to moderate income persons. This is a community development activity that would garner CRA credit for most banks. This also means CRA credit without taking on credit risk. Even without CRA credit, furthering the construction of affordable also fills an increasingly critical need in cities nationwide. This niche banking services opportunity could probably be extended to other areas with similar needs.

Obviously, investing in the bonds produced by these housing finance corporations is the traditional move for most banks. For many banks, investing in the bonds will better fit their strategic needs. However, thinking outside the box a little here, for some banks it may make a lot more sense to earn reasonable fee income in an outstanding niche banking activity without putting additional assets and risk on their balance sheet.  

Can Banks Provide Underwriting Services to a Third Party for a Fee?

Yes, national banks can engage in providing underwriting services or counseling to government entities and instrumentalities, like housing corporations. National banks are authorized to:

“[act] as investment adviser (including an adviser with investment discretion) or financial adviser or counselor to governmental entities or instrumentalities, businesses, or individuals, including advising registered investment companies and mortgage or real estate investment trusts, furnishing economic forecasts or other economic information, providing investment advice related to futures and options on futures, and providing consumer financial counseling….” 12 CFR 5.34(e)(5)(v)(I).

National banks are also authorized to:

“[provide] financial and transactional advice and assistance, including advice and assistance for customers in structuring, arranging, and executing mergers and acquisitions, divestitures, joint ventures, leveraged buyouts, swaps, foreign exchange, derivative transactions, coin and bullion, and capital restructurings….” 12 CFR 5.34(e)(5)(v)(K);

This portion of the federal regulation focuses on new activities in which a national bank operating subsidiary is authorized to engage. Bank operating subsidiaries may engage in activities in which a bank could engage directly. The activities described in (e)(5)(v) are permissible for national banks and national bank operating subsidiaries.

Curious to see the RFP? Send me a note on the Contact Us Page.

Find Your Banking Niche by Looking Over Someone Else’s Shoulder

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Looking over someone’s shoulder does not need to mean copying someone else’s handiwork, but it can be helpful to look at what other banks have done to generate ideas to find your own niche banking activities.

Banks are restricted in the activities that they can take on. Banks generally cannot engage in general commercial activities. Instead, banks are limited to the business of banking, financial activities, and certain closely related activities.

Interpretive Letters

Over the years, many banks have seen opportunities in activities that are financial or closely related to banking but may not be making a loan or taking a deposit. To get clear authorization to engage in a new activity in the gray area of closely related activities, banks can approach their appropriate banking regulator for a letter of interpretation or other formal approval for the bank to engage in a new activity.  These formal opinions are public and are often published by the regulator that issued the opinion.

This means that any bank or bank attorney can peruse these opinions for ideas and opportunities that have been approved at least once before. These letters and approvals are not too hard to find. In some cases, is possible to find summaries of approvable activities for banks. Not all opinions of this nature have precedential value, but they certainly give an idea of what a regulator sees as an appropriate activity for a bank.

OCC Approved Activities

Click here for a list of activities that the OCC has considered to be permissible for national banks. This list is not comprehensive and comes as a comparison of activities that are permissible for national banks versus federal savings associations. A few of the interesting things at a national bank can do are:

  • Provide a collections system for a public authority
  • Invest in a data interchange service (payment network framework) Banks can offer and invest in payments services and the supporting infrastructure.
  • Produce, market and sell software to assist with the performance of authorized banking functions (core banking, bookkeeping, file management, etc.)
  • Solicit and offer “affinity” relationships or special services under a specific trade name

FDIC Approved Activities

A list of activities insured state-bank activities recognized by the FDIC is here. There is a good chance that if a national bank can take on an activity, so can a state bank. State bank and national bank parity laws deserve a more thorough discussion than this article can provide. Not all state and federal regulators see eye to eye on activities that are permissible for a bank, so the list of authorized activities for a national bank is a good place to start for a state bank but should not end the inquiry. Many states have a similar formal approval process for new bank activities.

FRB Approved Activities

Click here for a list of activities they have been approved for subsidiaries of bank holding companies. In many cases a sister company to bank may engage in activities that the bank itself could not. A few interesting activities in this list are:

  • Acquiring debt that is in default at the time of acquisition
  • Private placement services for securities
  • Management consulting services
  • Equity investments in community development activities

If you are looking for inspiration on what the next step for your bank might be, sometimes looking over the shoulders of other banks can provide a spark of imagination. Another great thing about these lists is they also give you an idea of what other activities a bank regulator may consider to be acceptable.

Low Hanging Fruit: Insurance Sales

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French Fries

Banks can act as insurance agencies and sell insurance policies. Insurance sales is a common activity for banks because insurance sales pairs very well with extending secured loans. Collateral needs to be protected. Most of the time, this means the borrower must get insurance for the collateral. Since the customer is already dealing with the bank for a loan, the insurance quote is a simple and effective cross-sell. Not quite a simple as “would you like fries with that?” but the same idea. The bank can earn a commission on the sale of the insurance policy.

This niche banking op will exist, regardless the number of competitor insurance agents. This is because the bank is the first to know of the insurance need and because the bank already has a relationship with the customer.

Maybe this is an obvious tactic since banks have been selling insurance for at least a hundred years, but plenty of banks have not taken advantage of this opportunity. Insurance sales checks a number of important boxes for banks. Commission income is non-interest income. The capital investment to start is low. The risk profile is low if properly managed. There are also overlapping skill sets in the sale of insurance and the sale of financial products like loans.

Strategy for Structuring Insurance Activities

Below are some of the ways banks can structure new and existing insurance activities.

A national bank is authorized to act as an insurance agency directly. Texas and many other states authorize their state banks to act as insurance agents directly. The advantage of this format is that licensed bank employees can offer quotes, referrals, sales support, and the bank may pay commissions and referral fees directly to licensed employees. Where the agency is an affiliate or subsidiary, the cross-sell may be less seamless. Referral fee programs for employees may also be limited or restricted where the bank is not acting as an insurance agency handling the policy.

A national bank can create or invest in a subsidiary that acts as an insurance agency. Texas state banks and many other state charters can do the same. A bank holding company can also invest in a subsidiary insurance agency as a sister corporation of the bank. Structuring the agency as a subsidiary or affiliate may be a means of bringing in outside expertise and investment to start the agency. This may also be a means of acquiring an existing book of business from an established insurance agency. Separating the insurance agency activity may offer the bank some liability protection from the insurance sales activity. Affiliate transaction limitations play a role in deciding whether an insurance agency should be a bank or bank holding company subsidiary. More on this in another post.

Some large insurance organizations are aware that banks have a unique opportunity for offering insurance products to their customers and offer turn-key insurance agency solutions to banks. With this strategy, the insurance organization handles quotes, onboarding, most of the sales activities, and all of the back-end operations. This setup allows a bank to earn commissions income on the sale of insurance without needing to get into the weeds of licensing and training. More on this strategy coming up in a later post.

Regulatory Matters

Licensing

States regulate the business of insurance. By and large, states license insurance agencies who sell policies and insurers who underwrite policies separately. If the bank engages directly as an insurance agency, the bank will need to obtain an insurance agency license. We’ll cover bank affiliates as insurers in a separate post. States may vary in how they handle licensing for agencies and agents or in how they handle compensation and referrals.

In Texas, employees who sell insurance must also obtain an individual license to sell insurance and must have adequate training. In Texas, an employee must hold a license to give quotes, discuss coverage, and give details on the terms of an insurance policy. Non-license holders may point out that the bank offers insurance and may point an interested customer toward a licensed agent for further information. Texas permits a bank to pay a non-license holder a nominal referral fee if the fee is not conditioned on the sale of insurance.

Anti-Tying

Banks generally may not tie insurance products to loans. That is, they may not require a customer to obtain an insurance policy from the bank as a condition of obtaining a loan. The bank may be required by state or federal law to deliver an anti-tying notice to the customer at the time of a loan application if the bank intends to solicit insurance in connection with the loan.

RESPA

If a bank will be referring a customer to an affiliated insurance agency in connection with a federally-related mortgage loan, the bank must provide an affiliated business arrangement notice to the borrower before making the referral. Where the insurance agency is an affiliate, compensation for any referral should not be paid from the affiliate to bank employees. The only compensation the affiliate may provide the bank is by way of a bona fide dividend if the affiliate is a subsidiary of the bank.

FDIC Insurance Disclaimer

If insurance products and deposit products are offered in a branch location where deposit products are offered, the not-not-not insurance product disclaimer must be shown at stations where insurance products are offered.

 

Is there something else you want to see covered? Please fill out the contact form to get a hold of me.

What is Niche Banking Law?

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Wouldn’t it be great to have a monopoly on banking services in your area?
That climate now seems to be a thing of the past. In an era where banking
services are accessible through a phone or computer and cashless payments are
becoming more and more available, few, if any banks, really have a monopoly on
banking services provided in their area.

It is very much possible, however, to be or become the only bank available
in your area to provide a very focused type of service or calculated mix of
services. For example, not every bank is comfortable with handling loans to
funeral homes because they are special purpose properties with unique business
and cash flow models. However, a banker who understands the business model and
what makes a successful funeral home is able to provide a suite of services
targeted at small businesses in a stable industry. If the geography is properly
targeted, the bank offering services to funeral homes may be the only realistic
show in town.

The grounds become even more fertile and rich where the area of focus is not
well known and is surrounded by a learning curve. Think of small business
lending or U.S. Department of Agriculture based loans. Not every bank can
handle these types of loans, but banks that can have a distinctive advantage
for certain types of small business loans or for targeted agricultural loans.
The guarantees provided through these programs mitigate much of the risk for
these types of loans and allow banks to operate with a reasonable risk profile
in an otherwise risky market segment. There are myriad other opportunities like
these that may be a good fit for the right bank.

The very focused service or bundle of services is what I call niche banking.
Niches are opportunities to provide profitable services to a targeted market,
targeted enough that the provider becomes a near monopoly for that service
opportunity nationally or for a targeted geographic area. Since understanding
the legal hurdles and risk profile of a niche is a formidable barrier to entry
for most niches, this blog aims to draw out the legal framework and describe
the legal risk for as many of these niches as I can get to.