By Joseph Lynyak, Reed Smith

At long last, the FDIC was able to achieve its goal of substantially revamping the fundamental rules applicable to its deposit insurance contract with commercial banks. In an effective procedural gambit, the deposit insurance bill agreed to between the House and the Senate late last year was included as part of the budget reconciliation package endorsed by the White House and signed by President Bush.

This process ended many years of private and public sector policy debates regarding deposit insurance reform - with bankers expressing concern about the return to the days of insurance premiums, while FDIC officials describing gloomy scenarios in which the deposit insurance funds could become unable to meet an unanticipated round of bank failures.

The legislation as signed by President Bush - the Federal Deposit Insurance Reform Act of 2005 - will require modification to virtually all of the FDIC’s current deposit insurance assessment rules. Several of the major changes that were adopted are as follows:

• The Bank Insurance Fund (BIF) and the Savings Association Savings Fund (SAIF) will be merged  into a new Deposit Insurance Fund (DIF)

• The general deposit insurance limit of $100,000 will become subject to an inflation adjustment process

• Retirement account limits will be raised to $250,000

• The deposit reserve ratio may fluctuate and may range between 1.15% and 1.50%

• The FDIC will now have substantially greater flexibility to charge deposit insurance premiums if economic conditions warrant

• Banks will become eligible for assessment credits for past payments into the BIF and the SAIF equal to an assumed credit pool of $4.7 billion

Although these changes may at first appear to be somewhat technical in nature, community bankers will need to stay abreast of the manner by which the FDIC implements the changes—particularly since these rules may affect short-term and long term business strategy and profitability.

Here is a short summary of how these items may affect community banks:

Payment of DIF Assessments.  Although there are many bankers who cannot recall the past time they paid deposit insurance premiums, the FDIC will now have significantly increased flexibility to determine when to commence charging deposit assessments, as well as the amount of the charges. The methodology by which assessments will be calculated - including the entitlement of assessment credits - may affect a bank’s profitability over the next several years.

Baby Boomer Marketing Opportunity.  As the Baby Boom Generation continues to mature (e.g., to age), many observers note that they are likely to begin to gravitate to far safer investments than stocks and attendant market fluctuations. Accordingly, the increase in the insurance limitations on retirement accounts could become an attractive marketing tool to banks, who will be able to point out the safety and consistency of earnings related to insured savings accounts versus uncontrolled market risk related to securities investments.

The Law of Unintended Consequences.  The legislation that was signed by President Bush is hyper-technical in nature and requires the FDIC to write extensive new rules and regulations to implement the same. The inherent ambiguity of this type of statutory language creates the opportunity for regulatory mischief. For example, already disputes have broken out between banks that have bought and sold branch deposits regarding the entitlement to the assessment credits that will become available. (In the minimum, bankers who are considering mergers and branch transactions should affirmatively address these issues in negotiations and contractual agreements.)

In conclusion, deposit insurance reform is upon us and will begin to affect business projections and marketing plans. How the implementation of these changes by the FDIC ultimately affects community banks is a matter that bears watching and inquiry.

  <back to March 2006 Directors Digest>