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Nutter Bank Report, February 2011

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02.28.2011 | Legal Update

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1. Report: CFPB May Exercise Authority Without a Senate-Confirmed Director
2. FDIC Issues Proposal to Limit Incentive Compensation
3. Final Conformance Period for the Volcker Rule Set by the Federal Reserve
4. Federal Reserve Revises Escrow Requirements for Jumbo Home Mortgage Loans
5. Other Developments: Deposit Insurance Assessments and Thrift Financial Reports

1. Report: CFPB May Exercise Authority Without a Senate-Confirmed Director

The Inspectors General of the Treasury Department and the Federal Reserve have delivered a report concluding that the Bureau of Consumer Financial Protection (CFPB) may exercise a wide range of rule-making and examination powers even if the CFPB does not have a Senate-confirmed Director by the “designated transfer date.” The “designated transfer date” is the date on which certain regulatory authority under a number of consumer protection laws will be transferred to the CFPB from various federal agencies, currently set for July 21, 2011. The report of the Inspectors General was issued last month in response to requests by Rep. Spencer Bachus, the chairman of the House Financial Services Committee and Rep. Judy Biggert, the chairman of the House Financial Services Committee’s Subcommittee on Insurance, Housing, and Community Opportunity, for information about the Treasury Department’s activities to establish the CFPB. One of the questions posed by the chairmen was whether certain interim authority granted to the Treasury Secretary by the Dodd-Frank Wall Street Reform and Consumer Protection Act (Dodd-Frank Act) terminates on the designated transfer date and whether, after that date, the CFPB can function only if a Director has been confirmed with the advice and consent of the Senate. The Inspectors General concluded that the CFPB can continue to exercise much of its regulatory authority, including certain rulemaking and examination authority, even if the Senate has not confirmed a Director of the CFPB by the designated transfer date.

      Nutter Notes:  The Dodd-Frank Act established the CFPB as an independent agency within the Federal Reserve that will have authority to make and enforce rules that govern financial products and services offered by banks and other financial institutions to consumers. The report of the Inspectors General determined that the Dodd-Frank Act grants the Treasury Secretary the authority to carry out certain functions of the CFPB before a Director is confirmed by the Senate. Those functions include the authority to prescribe rules, issue orders and produce guidance related to the federal consumer financial laws that were, prior to the designated transfer date, within the authority of the Federal Reserve, the OCC, the OTS, the FDIC and the NCUA. The Inspectors General also concluded that the CFPB may, without a Senate-confirmed Director, conduct examinations of banks, savings associations and credit unions with total assets in excess of $10 billion, and their affiliates, to determine compliance with federal consumer financial laws. The CFPB may also conduct all consumer protection functions relating to the Real Estate Settlement Procedures Act of 1974, the Secure and Fair Enforcement for Mortgage Licensing Act of 2008, and the Interstate Land Sales Full Disclosure Act that were previously within the authority of the Secretary of HUD prior to the designated transfer date. The Treasury Secretary’s authority to carry out these and other transferred functions terminates when a Director is confirmed by the Senate, according to the report. The report also states that the Treasury Secretary is not permitted to exercise certain newly-established CFPB authorities, such as the CFPB’s authority to prohibit unfair, deceptive, or abusive acts or practices in connection with consumer financial products and services, without a Senate-confirmed Director.

2. FDIC Issues Proposal to Limit Incentive Compensation

The FDIC has proposed a rule to be issued jointly with the other federal banking agencies, the SEC and the Federal Housing Finance Agency that would limit certain types of incentive-based compensation arrangements. The proposal issued on February 7 would implement Section 956 of the Dodd-Frank Act, which prohibits incentive-based compensation arrangements that are deemed to be excessive, may lead to material losses, or encourage inappropriate risk taking by certain financial institutions, including banks, thrifts and their holding companies. The proposed rule would not apply to banks with total consolidated assets of less than $1 billion, and contains heightened standards for institutions with $50 billion or more in total consolidated assets. The proposed rule would prohibit incentive-based compensation arrangements that provide excessive compensation and incentive-based compensation arrangements that provide compensation that could lead to a material financial loss. The proposed rule would also require covered institutions to adopt and implement policies and procedures for incentive-based compensation arrangements that are commensurate with the size and complexity of the institution and require annual reports on incentive compensation structures to the institution’s primary federal regulator. Comments on the proposed rule will be due within 45 days after publication in the Federal Register, which will not occur until the other federal agencies adopt the proposal.

      Nutter Notes:  Under the proposed rule, annual reporting of incentive-based compensation would have to disclose the structure of incentive-based compensation arrangements sufficient to allow the agency to determine whether the structure provides “excessive compensation, fees, or benefits” or “could lead to material financial loss” to the institution. The Dodd-Frank Act does not require a covered financial institution to report the actual compensation of particular executives as part of the reporting requirement. The proposed rule includes standards for determining whether an incentive-based compensation arrangement provides “excessive compensation” that are comparable to, and based on, the standards established under Section 39 of the Federal Deposit Insurance Act. Compensation would be considered excessive when amounts paid are unreasonable or disproportionate to, among other things, the amount, nature, quality, and scope of services performed by a covered person (which includes executive officers, employees, directors, and principal shareholders). In making a determination about whether incentive-based compensation arrangements provide excessive compensation to a covered person, the federal agencies would consider the combined value of all cash and non-cash benefits, the compensation history of the person and other individuals with comparable expertise, and the financial condition of the institution. The agencies would also consider comparable compensation practices at comparable institutions, the projected total cost and benefit to the institution for post-employment benefits, and any connection between the individual and any fraudulent act or omission, breach of trust or fiduciary duty, or insider abuse with regard to the institution. Each agency would also be permitted to consider any other factor the agency determines to be relevant.

3. Final Conformance Period for the Volcker Rule Set by the Federal Reserve

The Federal Reserve has issued a final rule that gives banking organizations a limited period of time to conform their activities and investments to the prohibitions and restrictions on proprietary trading and relationships with hedge funds and private equity funds imposed by the provisions of Section 619 of the Dodd-Frank Act commonly referred to as the “Volcker Rule.” Under the final rule released on February 17, banking organizations generally have 2 years after the earlier of July 21, 2012 or the date that is 12 months after the date on which the Federal Reserve and other agencies jointly issue rules addressing definitional or other aspects of the Volcker Rule to conform their activities and investments to the prohibitions and restrictions on proprietary trading and relationships with hedge funds and private equity funds contemplated by Section 13(b)(2) of the Bank Holding Company Act (added by Section 619 of the Dodd-Frank Act). The meanings of certain defined terms and other issues related to implementation of the Volcker Rule will be the subject of that interagency rulemaking process; the current rule only addresses those matters that are related to implementation of the conformance period provisions of the Volcker Rule. The final rule becomes effective on April 1, 2011.

      Nutter Notes:  The Volcker Rule generally prohibits banking organizations from engaging in proprietary trading in securities, derivatives, or certain other financial instruments, and from investing in, sponsoring, or having certain relationships with hedge funds or private equity funds. The Dodd-Frank Act allows the Federal Reserve to extend the 2-year conformance period by up to 3 additional 1-year periods, for an aggregate conformance period of 5 years. In order to grant any extension, the Federal Reserve must determine that the extension is consistent with the purposes of the Volcker Rule and would not be detrimental to the public interest. The final rule requires that any banking organization that seeks a 1-year extension of the conformance period must first submit a written request to the Federal Reserve. Any such request must provide the reasons why the banking organization believes the extension should be granted and provide a detailed explanation of the banking organization’s plan for divesting or conforming the activity or investment. The final rule allows the Federal Reserve to impose conditions on any extension to protect the safety and soundness of banking organizations or the financial stability of the United States, among other factors.

4. Federal Reserve Revises Escrow Requirements for Jumbo Home Mortgage Loans

The Federal Reserve has issued a final rule to implement a provision of the Dodd-Frank Act that amends the federal Truth in Lending Act to increase the annual percentage rate (APR) threshold used to determine whether a mortgage lender is required to establish an escrow account for property taxes and insurance for first-lien, “jumbo” home mortgage loans. Under the final rule issued on February 23, which amends Regulation Z, the escrow requirement will apply to first-lien jumbo loans only if the loan’s APR is 2.5 percentage points or more above the average prime offer rate. A jumbo loan is a loan exceeding the conforming loan-size limit for purchase by Freddie Mac. The current maximum principal obligation for a mortgage loan to be eligible for purchase in 2011 by Freddie Mac is $417,000 for a single-family property that is not located in a designated high-cost area. Higher limits apply to mortgage loans secured by properties with two to four residential units. The APR threshold for non-jumbo loans remains unchanged at 1.5 percentage points above the average prime offer rate for a comparable transaction. Raising the APR threshold applicable to jumbo loans eliminates the mandatory escrow requirement for loans with an APR above the existing threshold but below the new threshold. Creditors may, at their option, elect to continue to use the 1.5 percentage point threshold for jumbo loans, but they are not required to do so. The final rule is effective for covered loans for which the creditor receives an application on or after April 1, 2011.

    Nutter Notes:  In connection with the final rule issued on February 23, the Federal Reserve requested public comment on a proposed amendment to Regulation Z to revise the escrow account requirements for certain higher-priced home mortgage loans. The proposal would implement a requirement under the Dodd-Frank Act to lengthen the time for which a mandatory escrow account established for a higher-priced mortgage loan must be maintained. The Federal Reserve’s proposal would expand the minimum period for mandatory escrow accounts for first-lien, higher-priced mortgage loans from one to five years, and longer under certain circumstances, such as when the loan is delinquent or in default. A higher-priced mortgage loan is a home loan secured by the borrower’s principal dwelling with an APR that exceeds the average prime offer rate for a comparable transaction by 1.5 or more percentage points for first lien loans, or by 3.5 or more percentage points for subordinate lien loans. The proposal also would implement new consumer disclosure requirements contained in the Dodd-Frank Act. Disclosures explaining, as applicable, how the escrow account works or the effects of not having an escrow account would be required at least three business days before closing a home mortgage loan. The proposed rule also would require disclosures to consumers at least three business days before an escrow account is closed. Comments on the proposed rule will be due within 60 days after publication in the Federal Register, which is expected shortly.

5. Other Developments: Deposit Insurance Assessments and Thrift Financial Reports

  • FDIC Approves Final Rule to Change Deposit Insurance Assessments

The FDIC issued a final rule on February 7 that implements changes to the deposit insurance assessment system required by the Dodd-Frank Act, which changed the deposit insurance assessment base from adjusted domestic deposits to average consolidated total assets minus average tangible equity.

       Nutter Notes:  The final rule revises the assessment rate schedule effective April 1, 2011, and adopts additional rate schedules that will go into effect when the Deposit Insurance Fund reserve ratio reaches various milestones. The final rule also revises the large bank pricing system to charge higher assessment rates to large banks with higher risk profiles.

  • Federal Banking Agencies Propose Reporting Changes for Thrift Institutions

The federal banking agencies have proposed changes pursuant to the Dodd-Frank Act to reporting requirements for savings associations and savings and loan holding companies regulated by the OTS in connection with the transfer of OTS functions to the OCC, the FDIC and the Federal Reserve on July 21, 2011, unless extended. Comments on the proposals are due by April 11, 2011.

     Nutter Notes:  The proposed changes would, among other things, require savings associations to file quarterly Call Reports and require savings and loan holding companies to file the same reports with the Federal Reserve that bank holding companies file, beginning with the March 31, 2012 report date. The proposed changes would also require savings associations to file specified data on deposits with the FDIC beginning with the June 30, 2011 report date and end collection of monthly median cost of funds data from savings associations, effective January 31, 2012.

Nutter Bank Report

Nutter Bank Report is a monthly electronic publication of the Banking and Financial Services Group of the law firm of Nutter McClennen & Fish LLP. Chambers and Partners, the international law firm rating service, has ranked Nutter’s Banking and Financial Services practice among the top banking practices in the nation. The 2009 Chambers and Partners review says that a “real strength of this practice is its strong partners and . . . excellent team work.” Clients praised Nutter banking lawyers as “practical, efficient and smart.” Visit the U.S. rankings at ChambersandPartners.com. The Nutter Bank Report is edited by Matthew D. Hanaghan. Assistance in the preparation of this issue was provided by Lisa M. Jentzen. The information in this publication is not legal advice. For further information, contact:

Kenneth F. Ehrlich
kehrlich@nutter.com
Tel: (617) 439-2989

Michael K. Krebs
mkrebs@nutter.com

Tel: (617) 439-2288

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This update is for information purposes only and should not be construed as legal advice on any specific facts or circumstances. Under the rules of the Supreme Judicial Court of Massachusetts, this material may be considered as advertising.   

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