[Senate Hearing 109-937]
[From the U.S. Government Publishing Office]
S. Hrg. 109-937
THE CONSIDERATION OF
REGULATORY RELIEF PROPOSALS
=======================================================================
HEARING
before the
COMMITTEE ON
BANKING,HOUSING,AND URBAN AFFAIRS
UNITED STATES SENATE
ONE HUNDRED NINTH CONGRESS
FIRST SESSION
ON
PROPOSALS TO REDUCE UNNECESSARY REGULATORY BURDEN ON DEPOSITORY
INSTITUTIONS INSURED BY THE FEDERAL DEPOSIT INSURANCE CORPORATION
__________
JUNE 21, 2005
__________
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COMMITTEE ON BANKING, HOUSING, AND URBAN AFFAIRS
RICHARD C. SHELBY, Alabama, Chairman
ROBERT F. BENNETT, Utah PAUL S. SARBANES, Maryland
WAYNE ALLARD, Colorado CHRISTOPHER J. DODD, Connecticut
MICHAEL B. ENZI, Wyoming TIM JOHNSON, South Dakota
CHUCK HAGEL, Nebraska JACK REED, Rhode Island
RICK SANTORUM, Pennsylvania CHARLES E. SCHUMER, New York
JIM BUNNING, Kentucky EVAN BAYH, Indiana
MIKE CRAPO, Idaho THOMAS R. CARPER, Delaware
JOHN E. SUNUNU, New Hampshire DEBBIE STABENOW, Michigan
ELIZABETH DOLE, North Carolina ROBERT MENENDEZ, New Jersey
MEL MARTINEZ, Florida
Kathleen L. Casey, Staff Director and Counsel
Steven B. Harris, Democratic Staff Director and Chief Counsel
Mark F. Oesterle, Counsel
Gregg Richard, International Trade and Finance Subcommittee Staff
Director
Mike Nielsen, Financial Institutions Subcommittee Staff Director
John V. O'Hara, Senior Investigative Counsel
Martin J. Gruenberg, Democratic Senior Counsel
Patience R. Singleton, Democratic Counsel
Stephen R. Kroll, Democratic Special Counsel
Ellen K. Weis, Democratic Legislative Assistant
Dean V. Shahinian, Democratic Counsel
Lynsey Graham Rea, Democratic Counsel
Joseph R. Kolinski, Chief Clerk and Computer Systems Administrator
George E. Whittle, Editor
(ii)
C O N T E N T S
----------
TUESDAY, JUNE 21, 2005
Page
Opening statement of Senator Crapo............................... 1
Opening statements, comments, or prepared statements of:
Senator Sarbanes............................................. 12
Senator Carper............................................... 17
WITNESSES
John M. Reich, Vice Chairman, Federal Deposit Insurance
Corporation.................................................... 2
Prepared statement........................................... 55
Response to written questions of Senator Bunning............. 203
Julie L. Williams, Acting Comptroller of the Currency, Office of
the Comptroller of the Currency................................ 4
Prepared statement........................................... 64
Response to written questions of Senator Bunning............. 206
Mark W. Olson, Member, Board of Governors of the Federal Reserve
System......................................................... 6
Prepared statement........................................... 73
Response to written questions of Senator Bunning............. 210
Richard M. Riccobono, Acting Director, Office of Thrift
Supervision.................................................... 7
Prepared statement........................................... 80
Response to written questions of Senator Bunning............. 215
JoAnn M. Johnson, Chairman, National Credit Union Administration. 9
Prepared statement........................................... 106
Response to written questions of:
Senator Bunning.......................................... 218
Senator Crapo............................................ 220
Eric McClure, Commissioner, Missouri Division of Finance on
behalf of the Conference of State Bank Supervisors............. 10
Prepared statement........................................... 112
Response to written questions of Senator Crapo............... 224
Steve Bartlett, President and Chief Executive Officer, The
Financial Services Roundtable.................................. 25
Prepared statement........................................... 117
Carolyn Carter, Counsel, National Consumer Law Center............ 27
Prepared statement........................................... 125
Arthur R. Connelly, Chairman & CEO, South Shore Savings Bank,
South Weymouth, MA and Member, Executive Committee of the Board
of Directors America's Community Bankers, Washington, DC....... 28
Prepared statement........................................... 154
David Hayes, President and CEO, Security Bank, Dyersburg, TN, and
Chairman, Independent Community Bankers of America, Washington,
DC............................................................. 30
Prepared statement........................................... 161
Christopher A. Korst, Senior Vice President, Rent-A-Center, Inc.. 32
Prepared statement........................................... 167
Chris Loseth, President & CEO, Potlatch No.1 Federal Credit Union
and Chairman, Idaho Credit Union League Government Affairs
Committee on behalf of the Credit Union National Association... 34
Prepared statement........................................... 170
Edward Pinto, President, Courtesy Settlement Services, LLC on
behalf of the National Federation of Independent Business...... 36
Prepared statement........................................... 187
Eugene F. Maloney, Executive Vice President, Federated Investors,
Inc............................................................ 38
Prepared statement........................................... 188
Travis Plunkett, Legislative Director, Consumer Federation of
America........................................................ 40
Prepared statement........................................... 125
Bradley E. Rock, President and Chief Executive Officer, Bank of
Smithtown, and Chairman, Government Relations Council, American
Bankers Association............................................ 41
Prepared statement........................................... 191
Michael Vadala, President and CEO, The Summit Federal Credit
Union on behalf of the National Association of Federal Credit
Unions......................................................... 43
Prepared statement........................................... 195
Response to written questions of Senator Crapo............... 226
THE CONSIDERATION OF
REGULATORY RELIEF PROPOSALS
----------
TUESDAY, JUNE 21, 2005
U.S. Senate,
Committee on Banking, Housing, and Urban Affairs,
Washington, DC.
The Committee met at 10:02 a.m., in room SD-538, Dirksen
Senate Office Building, Senator Mike Crapo, presiding.
OPENING STATEMENT OF SENATOR MIKE CRAPO
Senator Crapo. Good morning, everyone. This is the hearing
of the Committee on Banking, Housing, and Urban Affairs on the
consideration of regulatory relief proposals.
Chairman Shelby is not going to be able to be with us this
morning, and has asked that I chair this hearing. Because of
the multitude of things going on this morning, we do not know
how many of the other Senators are going to make it. We know at
about 11:30 it is going to be very sparse around here, so we
will begin proceeding without them, and as other Senators may
show, we will give them an opportunity to make their opening
statements.
Last year, the Banking Committee held a hearing on
proposals providing regulatory relief for banks, credit unions,
and thrifts. The hearing covered all points of view and was
made up of three panels of witnesses, Members of Congress,
regulators, trade organizations, and consumer groups. The
witnesses built a strong legislative record by describing the
cost of regulations and by providing specific recommendations
to reduce this ever-growing burden without compromising safety
and soundness.
The sheer volume of regulatory requirements facing the
financial services industry today presents a daunting task for
any institution. Many of the witnesses also noted that this is
not simply an issue for banks and credit unions. The customer
feels the impact in the form of higher prices, and in some
cases, diminished product choice.
One example that was stressed as an outdated regulation is
the Depression era provision prohibiting the payment of
interest on demand deposits, otherwise known as business
checking accounts. At the end of the hearing, I asked FDIC Vice
Chairman Reich as the leader of the interagency EGRPRA Task
Force to review the testimony presented at the hearing and to
prepare a matrix of all the recommendations and positions for
the Committee. The result was 136 burden-reduction proposals.
Since that time the list has grown to 187. That was a huge
undertaking and I am very appreciative of the hard work and
cooperation of so many involved, especially Vice Chairman
Reich.
As this comprehensive list demonstrates, it is important
for Congress to periodically review the laws applicable to the
financial services industry to ensure that compliance and red
tape does not impose an unreasonable and unproductive burden on
the economy and truly achieves its important goals.
Today, we are going to receive testimony from regulators,
financial services industry groups, consumer groups, and small
businesses on these proposals. As we proceed we need to make
sure that we enact enough meaningful reform so that the cost of
change is not a burden in and of itself.
The specific recommendations of witnesses today will be of
great use to me and to other Members of the Senate Banking
Committee as we create legislation to address the important
issues of financial services regulatory reform.
Our first panel today will be the regulators. I believe
that all of the witnesses have received very clear instructions
that we want you to be very careful to stay within the time
limits. We have a very full hearing. As you might see, the
table has been modified. The second panel is going to be 11
witnesses, and I have never quite seen how we could accommodate
the table to fit that many, but it appears that they have done
so, and we are going to need to have the witnesses stick within
their 5-minute allotted time period so that we have time for
interaction and discussion of the issues that are presented.
Let us start with the first panel composed of John M.
Reich, Vice Chairman of the Federal Deposit Insurance
Corporation; Julie Williams, the Acting Comptroller of the
Office of the Comptroller of the Currency; Mark Olson, Member
of the Board of Governors of the Federal Reserve System;
Richard M. Riccobono, the Acting Director of the Office of
Thrift Supervision; JoAnn Johnson, the Chairman of the Board of
Directors of the National Credit Union Administration; and Eric
McClure, Commissioner of the Missouri Division of Finance.
Ladies and gentlemen, we will proceed in that order, and we
will begin with you, Mr. Reich.
STATEMENT OF JOHN M. REICH
VICE CHAIRMAN,
FEDERAL DEPOSIT INSURANCE CORPORATION
Mr. Reich. Thank you very much, Mr. Chairman. I appreciate
very much the opportunity to be here today. I want to thank you
particularly, Senator Crapo, for your interest, your leadership
and your commitment to this endeavor.
After 2 years of work under the EGRPRA mandate we are
prepared to make our initial recommendations to Congress. We
have issued many regulations for public comment and received
nearly 1,000 comment letters in response. We have held 12
outreach meetings around the country with bankers and community
and consumer groups.
My own involvement in this project has increased my
awareness of the developing fragility of the long tradition of
community banking in this country. It has intensified my
commitment to pursue meaningful regulatory relief legislation.
But as a bank regulator I also know it is important to maintain
the safety and soundness of the industry and to protect
consumer rights.
I am here today as Vice Chairman of the FDIC, but also as
the nominal leader of the interagency regulatory review project
mandated by the EGRPRA Act. When Congress enacted EGRPRA in
1996 it directed the agencies to work together in an effort to
eliminate outdated, unnecessary, and unduly burdensome
regulations. I am pleased to report that over the last 2 years
the agencies represented at this table have worked together
closely to fulfill the objectives set out in the EGRPRA
statute. I believe we have made considerable progress, but we
still have much work to do.
My written statement indicates a number of substantive
initiatives the agencies have taken to reduce burden. These
initiatives include streamlining our examination process,
proposing amendments to the CRA regulations, working to improve
the required privacy notices, and providing detailed guidance
to the industry to assure uniform and consistent examination of
and compliance with the Bank Secrecy Act and the U.S.A. PATRIOT
Act.
Since most of our regulations are, in fact, mandated by
statute, it is my sincere hope that Congress will agree with
our premise concerning accumulated regulatory burden and the
need to do something about it and will accept our
recommendations to make a number of changes to the underlying
statutes.
Last year, this Committee held a regulatory burden hearing
in which 18 witnesses testified, including myself. At that
hearing Senator Crapo asked me to review the testimonies,
extracting all the regulatory burden reduction proposals made
at that hearing. The result was a matrix containing a total of
136 burden reduction proposals.
I called together representatives of all the bank and
thrift trade groups in a single meeting to review the
proposals. Out of that meeting came an agreement among the
trade groups to either jointly support or not oppose 78 of
those 136 proposals.
The FDIC subsequently reviewed the 78 industry consensus
items to determine whether in our judgment there were
significant safety and soundness, consumer protection, or other
public policy concerns with the industry proposals. As a result
of our review we decided to affirmatively support 58 of the 78.
We took no position on 15 proposals and we opposed 5 of the
proposals. Since that time we have been working on a consensus
building process among the Federal bank regulators.
The next step toward this objective was to share FDIC's
views with the other regulatory agencies. After considerable
interagency discussions, the agencies have agreed to jointly
support 12 of the industry consensus items. They are outlined
in my written testimony. I refer to them as ``the bankers'
dozen,'' but I hope that the 12 are only the beginning.
Included in the matrix are dozens of proposals beyond the
original 12 which are supported by more than one agency, and
where no significant safety and soundness, consumer protection,
or other public policy concerns have been raised. To be fair,
however, some agencies have indicated they have not had the
opportunity to fully consider all of the proposals, and have
therefore taken no official position on them. My hope is that
at the end of all reviews there will be a significantly greater
number of consensus provisions that will be recommended to and
accepted by Congress.
Mr. Chairman, banks large and small labor under the
cumulative weight of our regulation. I believe that the EGRPRA
process created by Congress appropriately addresses the problem
of accumulated regulatory burden. I have expressed on several
occasions publicly my concern that if we do not provide relief,
a vital part of the banking system, namely America's community
banks, may be in jeopardy.
Mr. Chairman, I believe the time for action is now. I urge
the Committee to review our recommendations carefully and hope
you will accept and incorporate them into a regulatory relief
bill which will provide real relief for the industry. I look
forward to working with the Committee toward this end.
Thank you very much for this opportunity to testify and I
look forward to the questions.
Senator Crapo. Thank you very much, Mr. Reich.
Ms. Williams.
STATEMENT OF JULIE L. WILLIAMS
ACTING COMPTROLLER OF THE CURRENCY,
OFFICE OF THE COMPTROLLER OF THE CURRENCY
Ms. Williams. Thank you. Mr. Chairman, Senator Bunning, I
appreciate the opportunity to appear before you today to
discuss the challenge of reducing unnecessary regulatory burden
on our Nation's banking institutions. The Office of the
Comptroller of the Currency welcomes the Committee's effort to
advance regulatory burden relief legislation. I also want to
express particular appreciation to you, Mr. Chairman, for your
commitment and dedication to this issue.
My written testimony and the appendices to that testimony
describe a number of burden-reducing initiatives that the OCC
supports. This morning I also want to touch upon two broader
themes that I hope will guide our efforts to reduce unnecessary
regulatory burden.
My testimony emphasizes that the regulatory burdens on our
banks arise from several sources. First, we, as Federal bank
regulators, have a responsibility to look carefully at the
regulations we adopt to ensure that they are no more burdensome
than is necessary to protect safety and soundness, foster the
integrity of bank operations, and safeguard the interests of
consumers.
In this connection I must mention the EGRPRA regulatory
burden reduction initiative that is being led so capably by
FDIC Vice Chairman John Reich. As part of this process, the
OCC, together with the other Federal banking agencies has been
soliciting and reviewing public comment on our regulations and
participating in banker and consumer outreach meetings around
the country. Using the input gathered from the public comment
and outreach process, the banking agencies, as Vice Chairman
Reich has noted, are now developing specific recommendations
for regulatory as well as legislative relief.
Second, we also must recognize that not all the regulatory
burdens imposed on banks today come from regulations
promulgated by the bank regulators. Thus, we welcome the
interest of the Committee in issues such as implementation of
Bank Secrecy Act and antimoney laundering standards and
reporting requirements, and in the ongoing efforts by the
Securities and Exchange Commission to implement the so-called
``push-out'' provisions of the Gramm-Leach-Bliley Act in a
manner that is both faithful to GLBA's intent and not so
burdensome as to drive traditional banking functions out of
banks.
A third key source of regulatory burden is Federal
legislation, and relief from some manifestations of unnecessary
regulatory burden does require action by Congress. My written
testimony contains a number of recommendations for legislative
changes, and this list includes consensus recommendations
developed and agreed to in our discussions with the other
banking agencies and with the industry.
Before closing, I would like to highlight two broader
themes that I hope will guide us in our efforts to tackle
unnecessary regulatory burdens. The first involves consumer
protection disclosure requirements. Here is an area where we
have an opportunity to reduce regulatory burden and improve the
effectiveness of disclosures to consumers. Today, our system
imposes massive disclosure requirements and massive costs on
financial institutions, but do these requirements effectively
inform consumers? I firmly believe that it is possible to
provide the information that consumers need and want in a
concise, streamlined, and understandable form. The Federal
banking agencies have broken new ground here by employing
consumer testing as an essential part of our rulemaking to
simplify the GLBA privacy notices. This project has the
potential to produce more effective and meaningful disclosures
for consumers and reduced burden on institutions that generate
and distribute private notices. We need to do more of this.
My second point goes back to basics. Why do we care about
regulatory burden? We care because unnecessary regulatory
burden saps the efficiency and competitiveness of American
enterprise. And, we particularly care because of the critical
impact of regulatory burden on our Nation's community banks.
Community banks thrive on their ability to provide customer
service, but the very size of community banks means that they
have more limited resources available to absorb regulatory
overhead expenses.
We need to recognize that the risks presented by certain
activities undertaken by a community bank are simply not
commensurate with the risks of that activity conducted on a
much larger, complex scale. One-size-fits-all may not be a
risk-based, or a sensible, approach to regulation in many
areas. I hope we can do more to identify those areas where
distinctions between banks based on the size and complexity and
scope of their operations makes sense as a regulatory approach.
In conclusion, Mr. Chairman, on behalf of the OCC, thank
you for holding this hearing. We would be pleased to work with
you and the staff to make the goal of regulatory burden relief
a reality. Thank you.
Senator Crapo. Thank you very much, Ms. Williams.
Mr. Olson.
STATEMENT OF MARK W. OLSON, MEMBER,
BOARD OF GOVERNORS OF THE FEDERAL RESERVE SYSTEM
Mr. Olson. Thank you very much, Senator Crapo, Members of
the Committee. Thank you for holding this hearing, and thank
you for inviting the Federal Reserve to testify.
The Federal Reserve Board strongly supports efforts to
streamline laws and regulations without compromising safety and
soundness. We have taken a number of initiatives in that
direction. In 2003, the Board responded to a request from
Senator Shelby to provide legislative proposals consistent with
that goal. We applaud also the efforts of John Reich and the
FDIC in taking the leadership role with respect to the EGRPRA
efforts, and we applaud your efforts, Senator Crapo, in putting
together the matrix.
We have provided our specific approval or support for a
number of legislative regulatory relief proposals. There are
other initiatives that are in that matrix that we will continue
to look at in an effort to clarify our position. A significant
number of them we will probably have no opposition to. I
suspect, we will support additional proposal, and there will be
a small number where we probably will have some objection.
Our complete testimony is included in the written record,
but let me just highlight three priorities for this morning.
The first is the ability to pay interest on reserves and
reserve requirement flexibility. Banks are now required to
provide reserves on transaction accounts between 8 and 14
percent, and that reserve requirement gives banks an incentive
to look for ways to get around the reserve requirements by
providing sweep arrangements or other initiatives that will
eliminate the reserve requirement.
Authorizing the Federal Reserve to pay interest on those
reserves would simplify that process. It would also be an
important tool to us in our implementation of monetary policy.
The payment of interest would perhaps give us an assurance of
reserve levels with which monetary policy is based in terms of
monitoring the money supply. It could also potentially reduce
the need for mandatory reserves, at minimal cost to the
Treasury because the fact that the vault cash for many
institutions could provide most of the reserve requirements so
the impact on the Treasury we suspect would be minimal.
The second priority is to allow depository institutions to
pay interest on demand deposits which you have appropriately
characterized as a Depression-era regulation. We strongly
support removal of the prohibition of paying interest on demand
deposits. Again, many institutions provide a fairly complex,
cumbersome sweep mechanism to allow for the payment of
interest. That is more easily done by larger banks than by
smaller banks, and the removal of that prohibition we think
would certainly constitute regulatory relief.
The final priority that we would like to mention this
morning is the small bank examination flexibility. Currently,
on-site examinations are required for all banks every 12
months, except an exclusion is granted for banks of under $250
million in assets, meeting certain capital and managerial
standards. Our proposal is to raise that limit to $500 million
which we think would reduce the regulatory burden for perhaps
as many as 1,100 additional institutions.
Mr. Chairman, I would be happy to expand on any of those
remarks in the question and answer period.
Senator Crapo. Thank you very much, Mr. Olson.
Mr. Riccobono.
STATEMENT OF RICHARD M. RICCOBONO
ACTING DIRECTOR, OFFICE OF THRIFT SUPERVISION
Mr. Riccobono. Good morning, Senator Crapo and Members of
the Committee and thank you for the opportunity to testify on
regulatory burden relief on behalf of the OTS. I want to thank
the Committee for holding this hearing and I want to thank you
in particular, Senator Crapo, for your leadership and
continuing focus in this area.
I would also like to thank and recognize the efforts of
FDIC Vice Chairman John Reich on the interagency EGRPRA
project. And, Senator, I would have said those nice things
about Vice Chairman Reich even if he was not going to be my
boss soon.
[Laughter.]
We look forward to working with the Committee on
legislation to address the issues we discussed today.
While it is always important to remove unnecessary
regulatory obstacles in our financial services industry that
hinder profitability, innovation, and competition, and in turn
job creation and economic growth, this is a particular good
time to be discussing these issues given where we are in the
economic cycle. Today, we have an opportunity to explore
numerous proposals to eliminate old laws, that while originally
well-intended, no longer serve a useful purpose.
Before addressing these issues it is important to note that
there are two areas not addressed in my statement that many of
our institutions have identified as unduly burdensome, the Bank
Secrecy Act requirements and the rules under Sarbanes-Oxley.
Virtually all institutions raise these issues as regulatory
relief priorities. While we recognize the need for relief in
these areas, I do not believe we are at a point right now to
make sound recommendations on effective reforms without
compromising the underlying purpose of these laws, but we are
working on it.
In my written statement I describe a number of proposals
that would significantly reduce burden on saving associations.
I ask that the full text of that statement be included in the
record.
Senator Crapo. Without objection.
Mr. Riccobono. Four items that we believe provide the most
significant relief for savings associations are: Eliminating
the duplicative regulation of savings associations under the
Federal securities laws; eliminating the existing arbitrary
limits on savings association consumer lending activities;
updating commercial and small business lending limits for
savings associations; and establishing succession authority for
the position of the OTS Director.
Currently banks and savings associations may engage in the
same types of activities covered by the investment adviser and
broker/dealer requirements of the Federal securities laws.
These activities are subject to supervision by the banking
agencies that is more rigorous than that imposed by the SEC,
yet savings associations are subject to an additional layer of
regulation and review by the SEC that yields no additional
supervisory benefit. While the bank and thrift charters are
tailored to provide powers focused on different business
strategies, in areas where powers are similar, the rule should
be similar. No sound public policy rationale is served by
imposing additional and unwarranted administrative costs on a
savings association to register as an investment adviser or as
a broker/dealer under the Federal securities laws. OTS strongly
supports legislation to exempt savings associations from these
duplicative investment adviser and broker/dealer registration
requirements.
Another important proposal for OTS is eliminating a
statutory anomaly that subjects the consumer lending authority
of Federal savings associations to a 35 percent of assets
limitation, but permits unlimited credit card lending. This
exists even though both types of credit may be extended for the
same purpose. Removing the 35 percent cap on consumer lending
will permit savings associations to engage in secured consumer
lending activities to the same extent as unsecured credit card
lending. This makes sense not only from a regulatory burden
reduction perspective, but also for reasons of safety and
soundness.
We also support updating statutory limits on the ability of
Federal savings associations to make small business and other
commercial loans. Currently, Federal savings associations
lending for commercial purposes is capped at 20 percent of
assets, and commercial loans in excess of 10 percent must be in
small business lending.
Legislation removing the current limit on small business
lending and increasing the cap on other commercial lending will
provide savings associations greater flexibility to promote
safety and soundness through diversification, more
opportunities to counter the cyclical nature of the mortgage
market, and additional resources to manage their operation
safely and soundly.
A final but important issue is the statutory succession
authority for the position of OTS Director. In many respects
this issue is more important for the thrift industry than it is
for OTS. We strongly urge consideration of a provision
authorizing the Treasury Secretary to appoint a succession of
individuals within OTS to serve as OTS Acting Director in order
to assure agency continuity. It is equally important to
modernize the existing statutory appointment authority for the
OTS Director, by providing every appointee a full 5-year term.
Statutory succession authority would avoid relying on the
Vacancies Act to fill any vacancy that occurs during or after
the term of an OTS Director. This is important, given our
continuing focus on maintaining the stability of our financial
system in the event of a national emergency.
OTS is committed to reducing burden whenever it has the
opportunity to do so consistent with safety and soundness and
consumer protections. We look forward to working with you,
Senator Crapo, and the Committee to address these and other
regulatory burden reduction items we discuss in my written
statement.
I will be happy to answer any questions. Thank you.
Senator Crapo. Thank you very much, Mr. Riccobono.
Before we move to Ms. Johnson, I should have stated at the
outset that the written statements of all of the witnesses, not
just this panel, but all of the witnesses, will be made a part
of the record.
Ms. Johnson.
STATEMENT OF JOANN M. JOHNSON
CHAIRMAN, BOARD OF DIRECTORS,
NATIONAL CREDIT UNION ADMINISTRATION
Ms. Johnson. Thank you, Senator Crapo and Members of the
Committee. On behalf of the National Credit Union
Administration, I am pleased to be here today to present our
views on regulatory reform initiatives.
The reform proposals being considered by Congress will
benefit consumers and the economy by enabling financial
institutions and their regulators to better perform the role
and functions required of them.
In my oral statement I will briefly address some of the
proposals that are of the greater importance to NCUA. The first
is prompt corrective action reform. Prompt corrective action,
capital requirements for credit unions enacted in 1998 as part
of the Credit Union Membership Access Act, are an important
tool for both NCUA and credit unions in managing the safety and
soundness of the credit union system and protecting the
interests of the National Credit Union Share Insurance Fund.
Our 7 years of experience with the current system, however,
have shown there are significant flaws and need for
improvement. PCA, in its current form, establishes a one-size-
fits-all approach for credit unions that relies primarily on a
high-leverage requirement. This system penalizes low-risk
credit unions and makes it difficult to use PCA as intended, as
an incentive for credit unions to manage risk in their balance
sheets.
NCUA has developed a comprehensive proposal for PCA reform
that addresses these concerns. NCUA's proposal establishes a
more reasonable leverage requirement to work in tandem with
more effective risk-based requirements.
Our proposal accounts for the 1 percent method of
capitalizing the Share Insurance Fund and its effect on the
overall capital in the insurance fund and the credit union
system. The result is a leverage requirement for credit unions
that averages 5.7 percent under our proposal, as compared to 5
percent in the banking system.
We have submitted our proposal for Congress's consideration
and it has been included in the new CURIA proposal introduced
in the House of Representatives. I urge the Senate to include
our proposal in any financial reform legislation that is
considered and acted upon this year.
As I have previously testified, an important technical
amendment is needed to the statutory definition of ``net
worth'' for credit unions. FASB has indicated it supports a
legislative modification to the definition of ``net worth'' and
that such a solution will not impact their standard setting
activities. I am encouraged that the House voted just last week
in support of a legislative solution to this problem, and I
urge the Senate to give its prompt consideration.
Federal credit unions are authorized to provide check
cashing and money transfer services to members. To enable
credit unions to better reach the unbanked, they should be
authorized to provide these services to anyone eligible to
become a member. This is particularly important to furthering
efforts to serve those of limited means who are forced to pay
excessive fees.
The current statutory limitation on member business lending
by federally insured credit unions, which is 12\1/4\ percent of
assets for most credit unions, is arbitrary and constrains many
credit unions in meeting the business loan needs of their
members. Credit union have an historic and effective record of
meeting small business loan needs of their members, and this is
an issue of great importance in the many credit unions that are
expanding into underserved areas and low-income communities.
NCUA's strict regulation of member business lending ensures
that it is carried out on a safe and sound basis.
With these facts in mind, NCUA strongly supports proposals
to increase the member business loan limit to 20 percent of
assets and raise the threshold for covered loans to a level set
by the NCUA Board, not to exceed $100,000.
NCUA continues to support other provisions in the
previously considered regulatory relief bills, such as improved
voluntary merger authority; relief from SEC registration
requirements for the limited securities activities in which
credit unions are involved; lifting certain loan restrictions
regarding maturity limits; and increasing investments in
CUSO's.
Also we have reviewed the other credit union provisions
included in the previously mentioned bills and in Senator
Crapo's matrix, and NCUA has no safety and soundness concerns
with these provisions.
Thank you, Mr. Chairman, for the opportunity to appear
before you today on behalf of NCUA to discuss the public
benefits of regulatory efficiency for NCUA, credit unions and
84 million credit union members.
I am pleased to respond to any questions the Committee may
have or to be a source of additional information if you
require. Thank you.
Senator Crapo. Thank you very much, Ms. Johnson.
Mr. McClure.
STATEMENT OF ERIC McCLURE
COMMISSIONER, MISSOURI DIVISION OF FINANCE,
ON BEHALF OF
THE CONFERENCE OF STATE BANK SUPERVISORS
Mr. McClure. Good morning, Senator Crapo, Senator Sarbanes,
Members of the Committee. I am excited and honored to be here
today. My name is Eric McClure. I am the Banking Commissioner
in Missouri. I am here on behalf of the Conference of State
Bank Supervisors, of which I am Chairman. I appreciate you
inviting CSBS to be here today to discuss strategies for
reducing regulatory burden on our Nation's banks.
We especially appreciate this opportunity to discuss these
issues because we are the chartering authority and primary
regulator for the vast majority of the Nation's community
banks. We believe a bank's most important tool against
regulatory burden is its ability to make meaningful choices
about both its regulatory and its operating structures.
The State charter has been and continues to be the charter
of choice for most community-based institutions because the
State-level supervisory environment is locally focused,
accessible, meaningful, and flexible, and that matches just the
way our banks do business.
Our State banking industry is a success story. Our banks
are focused on the success of their communities because they
share in the success of their communities. While our current
regulatory structure and statutory framework may recognize some
differences among financial institutions, too often it mandates
overarching one-size-fits-all requirements for any institution
that can be described by the word ``bank.'' These requirements
are often unduly burdensome on smaller or community-based
institutions.
My colleagues and I are seeing growing disparity in our
Nation's financial services industry. The industry is becoming
bifurcated between large and small institutions. Congress must
recognize this reality and the impact this two-tiered system
has on our economy. Excessive statutory burdens are crushing
community banks and slowing the economic engine of small
business in the United States. Regulatory burden relief for
community banks would be a booster shot in the arm for our
Nation's economic well-being.
CSBS does not endorse approaches such as the Communities
First Act, as introduced in the House by Congressman Ryun from
Kansas, that recognize and encourage the benefits of diversity
within our banking system. We ask that Congress include some
type of targeted relief for community banks in any regulatory
relief legislation.
Today, I would like to highlight a few specific changes to
Federal law that would help reduce regulatory burden on our
banks. We ask that the Committee include these provisions in
any legislation it approves.
First, we ask that Congress extend the mandatory Federal
examination cycle from 12 months to 18 months for healthy,
well-managed banks with assets of up to $1 billion, just as has
been done for many years for banks with less than $250 million
in assets. We believe this is real regulatory relief and that
advances in off-site monitoring techniques and technology and
the health of the banking industry make annual on-site
examinations unnecessary for the vast majority of our healthy
financial institutions.
Second, many of our banks are operating in multiple States.
CSBS and the State banking departments have developed
comprehensive protocols that govern coordinated supervision of
State-chartered banks that operate branches in more than one
State. To further support these efforts, we strongly support
including language in a Senate regulatory relief bill that
reinforces these principles and protocols. We also believe that
de novo branching across State lines is a good idea whose time
has come.
Finally, CSBS believes that a State banking regulator
should have a vote on the Federal Financial Institutions
Examination Council. While we have input at council meetings,
we do not get a vote on policies that affect the institutions
that we charter and supervise. We ask that Congress change the
State position on the council from one of observer to that of a
full voting member.
As you consider additional ways to reduce these burdens, we
urge you to remember that the strength of our banking system is
its diversity. The fact that we have a very large number of
banks of different sizes and specialties that meet the needs of
the world's most diverse economy every day is something that we
celebrate. Regulatory relief measures must allow for further
innovation and coordination at both the State and Federal
levels for the benefit of institutions of all sizes. I am a
career regulator, but I am extremely sensitive to regulatory
burden, as are my fellow State supervisors, and we must
constantly look for ways to be smart, focused, and reasonable
in our regulatory approach.
Your own efforts, Chairman Shelby's efforts in this area,
have greatly reduced unnecessary regulatory burden on financial
institutions. We commend the Chairman and the Members of this
Committee for their efforts in this area, and we thank you for
this opportunity to testify and look forward to any questions
that you or the Committee Members may have.
Senator Crapo. Thank you very much.
Before we go to questions of this panel, we have been
joined by three other Senators: Senator Sarbanes, Senator
Bunning, and Senator Stabenow, although Senators Bunning and
Stabenow have already had to leave for other obligations. It is
going to be a morning like that. This is an incredibly busy
morning. But I would like to move back and give Senator
Sarbanes, our Ranking Member, an opportunity for an opening
statement at this point.
STATEMENT OF SENATOR PAUL S. SARBANES
Senator Sarbanes. Thank you very much, Mr. Chairman. I will
be very brief.
First, I want to welcome the representatives of the Federal
and State financial institution regulatory agencies and also
the next panel that will follow with the representatives of
various industry and consumer groups. This is an important
hearing, and I am pleased to be able to participate in it. I am
not sure I will be able to stay the whole morning.
Let me just say at the outset that the term ``regulatory
reform'' or ``regulatory relief'' is a broad term. A lot of it
is in the eye of the beholder, and it can encompass virtually
any change that might be sought to Federal laws governing
federally insured financial institutions.
I gather there is a list of 12 proposed legislative changes
that have been jointly endorsed by the Federal Reserve, the
Comptroller of the Currency, the FDIC, and the OTS. In
addition, each of the Federal financial institution regulatory
agencies has a supplementary set of suggestions to make, as I
understand it. I believe the Fed includes eight additional
proposals in its testimony. The OCC has a list of 27. The OTS
has a list of 11. NCUA has a list of 16. And I think at your
request, Mr. Chairman--and I want to commend you for the effort
you have been making in this effort on this issue--the FDIC has
compiled a matrix of 136 proposals by the regulators, industry,
and consumer groups based on the hearing held last year in this
Committee and, furthermore, that an additional 50 proposals
have been added to the matrix.
I would just make this observation: Many of these proposals
are rather complex and far-reaching. There also appears, I
think, to be a tendency to characterize at least some of these
proposals as consensus proposals. It is not altogether clear to
me who constitutes that consensus or who is embraced within the
parameters when you are developing a consensus proposal. And I
have a question I will put to Mr. Reich at some point which I
think underscores that concerns.
So, Mr. Chairman, as we move ahead, I obviously think that
we need to exercise some very careful review of each of these
proposals. There is a whole range of options here, as it were,
and I think we need to weigh each of them carefully. Some of
them, you know, virtually everyone says is a good idea; others
provoke a considerable amount of discussion and dissension.
Thank you very much.
Senator Crapo. Thank you very much, Senator Sarbanes.
I will begin with the questioning, and, frankly, I will
start out along the same line that Senator Sarbanes has started
out in his comments. As has been indicated by Senator Sarbanes
and myself and I think most of the witnesses, there are a
number of proposals on the table. We have a very extensive
matrix in front of us, and we have witnesses from many
different interest groups and perspectives to follow this panel
of Federal and State regulators, who each have their
perspective on the different proposals that are before us.
One of the concerns that I have is that I want to try to
bring some finality to this process. It is my objective to move
to a markup as soon as we can, and it is very clear that we are
not going to include in the markup every single proposal that
has been put before this Committee. In fact, as Senator
Sarbanes indicated and as others on the panel have indicated,
there are some proposals that I oppose, there are some that I
strongly support. There are some that I support but which I
believe it may not be the right time for them to be included in
the legislation or some that are still under consideration.
Each of these proposals has a different status among
different perspectives and different interests. But we have
before us here the regulators who have an opinion or who have
an expertise on a number of these proposals. It appears to me
that there has been some hesitation from the regulators to
comment on the proposals that are outside of their immediate
jurisdiction. And although that is very understandable, I want
to make sure that silence or lack of comment on a certain
position is not construed as opposition or as a concern about
safety and soundness.
And so what I would like to do, at least to try to bring
some finality as to whether there is opposition on some of
these proposals, is to in a rather prompt way move forward to
get some finality on the agency evaluation of the proposals
that are before us in the matrix, and this is what I have in
mind.
Since the agencies have had the 136 provisions of the
matrix before them for several months, at least, and, in fact,
many of these have been proposed by the agencies themselves, I
would like to bring this review and comment period to a close
in a short period of time. It is my idea that if the agency
does not comment on a particular provision within the next
short timeframe, I would like us to understand that the
assumption will be that the agency has no formal objection to
us evaluating those provisions. In other words, I would like
you to be able to at least tell us the provisions to which you
have an objection.
Mr. Reich, you have been the one who has been coordinating
this, and I wondered if it would be agreeable to you if I ask
you to coordinate with the other agencies to identify the
provisions upon which there is any objection from any of the
agencies. Is that agreeable to you, Mr. Reich?
Mr. Reich. Absolutely. I would be happy to do that, Senator
Crapo.
Senator Crapo. And do you believe that you could accomplish
that by about July 1?
[Laughter.]
I heard that sigh.
Mr. Reich. That is an ambitious timetable, but I will be
happy to work with my fellow regulators at this table to
accomplish that deadline.
Senator Crapo. Do you think the rest of you could work with
him to try to achieve that? Again, I am not asking you to
comment on every position. I am just asking you to tell us if
there are proposals to which you have objections, to identify
those.
Ms. Williams. Senator, if I could just note that we have
not seen the text for some of the proposals. We would need to
be looking at the text rather than just a description of it.
But we certainly want to cooperate and do so expeditiously.
Senator Crapo. All right. I appreciate that.
Yes, Mr. Olson.
Mr. Olson. Senator, a very similar response from the Fed.
There are some proposals where we would like to see the full
text as well, but we certainly endorse the direction that you
are going, and we will try and work within the timeframe to
provide a more specific response. There are a few proposals for
which we have already indicated concerns that we have, and to
the extent that we have additional concerns, we will express
those.
Senator Crapo. I appreciate that.
Any other comments?
Mr. Riccobono. I think it is a great idea. It is what is
needed to wrap this up, and you absolutely have our commitment.
Senator Crapo. Thank you.
All right. I see that my time has expired or will in just a
few seconds here on my first round.
Senator Sarbanes.
Senator Sarbanes. Thank you very much, Mr. Chairman.
Actually, your question leads into an issue I want to raise,
and I have a somewhat different perspective on this matter than
the one that has just been enunciated by Senator Crapo.
First, Mr. Reich, let me ask you, you are the head of the
interagency group reviewing various regulations pursuant to the
Economic Growth and Regulatory Paperwork Reduction Act. Is that
correct?
Mr. Reich. Yes, sir, Senator.
Senator Sarbanes. Who constitutes the interagency group?
Mr. Reich. The member agencies of the FFIEC, the OCC, the
Fed, the OTS, the FDIC, and the NCUA.
Senator Sarbanes. And how did you become the head of the
group?
Mr. Reich. Two years ago, Chairman Donald E. Powell of the
FDIC was Chairman of the FFIEC. He asked if I would undertake
as an assignment the leadership of an interagency effort to
comply with the mandates of EGRPRA.
Senator Sarbanes. Now, whose views do you think the
interagency group needs to hear from or consult in the course
of doing its work?
Mr. Reich. Well, we, of course, start with the banking
industry and the views of the industry, and we have sought
industry comment through two different methods--the public
comment process as well as interagency meetings around the
country. We met in Seattle, Orlando, New York, San Francisco,
and many points in-between. We have accumulated dozens, in
fact, hundreds of comments. We have also met with community and
consumer groups in this area, in the Washington metropolitan
area, Chicago, and San Francisco. We have a consumer and
community group meeting planned in Boston later this year.
I have considered it to be important to obtain a consensus
of the agencies represented at this table under the belief that
if the recommendations that we come forth with have been vetted
by each one of our agencies for safety and soundness concerns
and for consumer protection concerns, that the fact that the
recommendations have been vetted at each of our agencies and
that we are able to reach a consensus agreement would hopefully
supply some confidence to the Congress and to the Senate
Banking Committee that these have been thoughtfully considered.
At the FDIC we have a policy committee consisting of broad
representation of members who have vetted each of the proposals
for safety and soundness concerns and consumer protection
concerns. I assume that the other agencies have followed a
similar process.
So, I hope that is responsive to your question.
Senator Sarbanes. Well, that moves me along the path a bit.
I am concerned that the regulators are not undertaking
sufficient outreach to the consumer and community groups. And,
in fact, we have heard complaints from them about the process.
As I understand it, the agencies have sponsored nine bank
outreach meetings across the Nation, but only three with
consumer groups.
First of all, as I understand it, you do them separately.
You do not convene an outreach in which you have the banking
and the consumer groups present and interacting with one
another, which seems to me you may be losing an important part
of the process, particularly if you are concerned about
developing a consensus. Groups have complained about a lack of
time to adequately present their points. The website of the
Economic Growth and Regulatory Paperwork Reduction Act contains
a prominently listed top-ten issues for banks, but there does
not seem to be a corresponding section containing prominent
consumer and community group issues.
I would like you to provide to the Committee detailed
information on your outreach effort to banks, thrifts, and
consumers. How are the cities chosen? How are the participants
chosen? How are entities and individuals informed of the
outreach meetings? I think it is very important that your
process be thorough and comprehensive.
Now, people may differ in the end on the recommendations,
and that is something we have to deal with, but I do not think
we want a situation in which people can with legitimacy claim
that the process did not work fairly to all concerned. And I
think we need to be very sensitive to that.
For instance, in your statement this morning, you say that
you developed this matrix with a total of 136 burden reduction
proposals. That is in your statement. And you then go on to
say,
Thereafter, I convened a meeting of banking industry
representatives from the American Bankers Association,
America's Community Bankers, the Independent Community Bankers
of America, and the Financial Services Roundtable, who together
reviewed the matrix of 136 proposals in an effort to determine
which of these proposals they could all support as industry
consensus items. This process yielded a list of 78 banking
industry consensus items.
My first question is: Did you also convene a meeting of
consumer groups to review the matrix and give you their views?
Mr. Reich. I did not convene such a meeting, Senator.
Senator Sarbanes. Why not?
Mr. Reich. I have been operating under the assumption that
several consensus undertakings were important in order for us
to make recommendations to the Congress--first of all, that the
industry needed to be supportive of the items that were under
consideration; and, second, the regulators also needed to be
supportive.
We have held 3-day-long meetings with consumer groups, and
as I indicated, a fourth one is planned. We have invited many
people to these consumer group meetings. Our attendance has
been somewhat less than we expected. We have received a fair
amount of input from the consumer groups, and I have felt that
we have made a reasonable effort to communicate with consumer
groups and allow them appropriate participation in the process.
We are not trying to minimize their input or eliminate their
input.
One of the reasons that we decided to hold separate
meetings between the bankers and the consumer groups was to
stimulate maximum input from each group, with some apprehension
that if there was a combined meeting that some people would
feel inhibited from participating fully. And so that was the
reason that we decided to have separate groups, so that the
people representing each group would feel free to speak freely.
Senator Sarbanes. I have to tell you I think there is a
problem here. I am looking at the agenda for the meetings in
San Francisco. The bankers meeting went from 9 to 3 o'clock in
the afternoon. The consumer one went from 9 to noon. The
consumer groups tell us that they do not feel they are getting
a fair shake just in terms of being heard, let alone what
recommendations are made. It seems to me imperative that there
be a very open and fair hearing process to give us some
assurance the regulators are reaching a balanced judgment.
I do not think that developing a matrix by the regulators
and then meeting with the industry groups and reaching a
consensus within that circle alone constitutes a genuine
consensus in terms of moving forward on these issues. Clearly,
these consumer groups and community groups and so forth have an
important role to play, and the notion that the regulators and
the industry groups can get together and strike the bargain, so
to speak, and then that constitutes the recommendation does not
seem to me to be developing the kind of credibility and
legitimacy that we need for these proposals.
Now, some of these proposals are inherently controversial.
I mean, they affect important issues, banking and commerce, for
example, and later I have a question of Mr. Olson on that
subject, one I have taken a keen interest in consumer
protection rights and so forth and so on. So if you could get
that information to me with respect to the outreach efforts, we
would be very interested in going over it carefully just to see
how this process has been working, or not working, as the case
may be.
Mr. Chairman, I see the red light is on. Thank you.
Mr. Reich. I will be happy to do that, Senator.
Senator Sarbanes. Thank you very much.
Senator Crapo. Thank you very much.
We have been joined by Senator Carper.
Senator Carper.
STATEMENT OF SENATOR THOMAS R. CARPER
Senator Carper. Thank you, Mr. Chairman.
To our guests, our witnesses this morning, thanks for
joining us. It is good to see you all. I have a question.
Initially I thought I would just direct it to Mr. McClure. Are
you from Missouri?
Mr. McClure. Yes, sir.
Senator Carper. Okay. Are you the examiner for the banks
there?
Mr. McClure. Yes, sir.
Senator Carper. State-chartered banks, and you are here
representing the Conference of State Bank Supervisors?
Mr. McClure. Yes, sir.
Senator Carper. I want to ask a question of you, but I
think I am going to ask the others to respond as well, but I
will let you be the lead-off hitter, if you would.
As we all know, in the wake of the corporate scandals of
the early part of this decade, we passed the historic Sarbanes-
Oxley bill, and in the years since its enactment, we have
heard--I have heard and my guess is we all have heard from a
lot of people things they like about it and some things that
they do not like about it. One of the things we have heard some
people do not care very much for is Section 404. I think while
Section 404 is producing benefits, we have also heard from some
other entities about problems with the implementation. We have
heard from some how cumbersome it is, from some others how
expensive it is. And some say that the cost is resulting--it is
the first year that it has been done, and it is the start-up
costs. Others say that they see a broader problem.
I am encouraged that in response to some of the concerns
that were raised, I think the SEC held, maybe in April, what
they describe as a roundtable to hear from a lot of different
people. And I would just ask of you, Mr. McClure, and our other
witnesses today if you would not mind commenting, just sharing
with us your views on the implementation of Section 404, the
cost versus its benefit, realizing we are only a couple of
years into this, and any suggestions for future Congressional
or agency action that you might like to present to us.
Mr. McClure. Okay. Thank you very much for the opportunity
to answer the question.
Senator Carper. You bet.
Mr. McClure. I have to confess, I am not familiar with
Section 404 per se. What is that regarding?
Senator Carper. I tell you what, let me just go to our next
witness.
Mr. McClure. Okay.
Senator Carper. That is probably not fair to have picked on
you, and I do not want to do that. I will just go to Ms.
Johnson and we will just work our way down. Thank you for your
candor. You do not hear that every day, from either side of the
table.
Ms. Johnson. Thank you, Senator. NCUA has issued a guidance
letter in regard to Sarbanes-Oxley encouraging many of the
specific recommendations within that legislation. We are also
raising the awareness as we have the opportunity to meet with
different groups, especially in regard to independent auditing
and other measures within Sarbanes-Oxley. So credit unions do
not specifically fall under Sarbanes-Oxley, but it is something
that we have taken very seriously and are encouraging and
really promoting.
Senator Carper. All right. Thanks.
Our next witness, do you pronounce your name Riccobono?
Mr. Riccobono. Riccobono, yes.
Senator Carper. Riccobono.
Mr. Riccobono. Riccobono.
Senator Carper. All right. People call me Crapo sometimes,
but it is really Carper. When they call me Crapo, I always say,
``I have been called worse.''
[Laughter.]
Truth be known, sometimes he gets called Carper. I hope he
responds similarly. Mr. Riccobono.
Senator Sarbanes. The two of you have a tough time of it,
don't you?
Senator Carper. We do.
[Laughter.]
Mr. Riccobono. I think we have heard very much the same
thing from our institutions, and I would say, it is one of
those things that you are trying to look for a balance. The
first thing that, personally, I must tell you, my reaction to
this is we put all this in place because of a lapse in our
accounting professional in our accounting industry, and now we
have raised their revenue five-fold by all of this. So
something just tells me it is not quite right and it needs to
be fixed.
With respect to banking, I think many of the reforms that
were put in place were needed but already existed within the
banking laws put in place by this Committee and the House as
well, and existed prior to all of the lapses that took place.
So, perhaps a relook at that maybe as time goes on and we
do this cost/benefit analysis, because it has turned out to be
an incredibly expensive undertaking, and I guess I would ask
the question of what do we ultimately get out of it with
respect to an industry already very heavily regulated.
Senator Carper. All right. Thanks.
Mr. Olson, with a special focus on 404, if you would,
Section 404, for our last three witnesses. Thanks.
Mr. Olson. I have some trepidation speaking as an expert on
Sarbanes-Oxley when Sarbanes is in the room.
Senator Carper. We all feel that way.
Mr. Olson. It appears that the wording in Section 404 is
very similar to what was in FDICIA 112 that passed in 1991.
FDICIA 112 required the external auditor to opine on
management's assertions regarding the adequacy of internal
controls and financial reporting. All banks over $500 million
were required to conform to FDICIA 112. So, incrementally, we
expected there would be minimal additional cost for the banks
to comply with 404. But the cost was substantial. It was not as
a result of what was in the legislation, we believe, but the
additional cost was the difference of interpretations involving
the SEC, PCAOB, and the accounting industry with respect to the
extent to which they could rely on the attestations from their
own internal audit.
So, I think initially there was some confusion as to the
extent to which each could rely on the other's work. The
hearing that you referred to that the SEC held, our sense is
that that helped relieve the confusion. And so we think that we
should be able to remove that gap, but that is what we are
waiting to see.
Senator Carper. All right. Good. Thanks, Mr. Olson.
Ms. Williams.
Ms. Williams. Senator, I agree completely with what
Governor Olson noted about the FDICIA provisions and Section
404. What has happened is that the PCAOB's auditing standard
number 2 is very complicated and requires very extensive work
by auditors, in their view, to satisfy the requirements of
Section 404. What you have for a number of depository
institutions is a perfect storm of the convergence of the
Section 404 requirements and the FDICIA requirements, which are
not the same. So you can have some institutions that are
subject to both, and some institutions that are not subject to
Section 404 because they are not registered companies, but yet
are subject to increased costs from their auditors, reacting to
the potential exposure and additional work that they do under
Section 404.
So there is a complex combination of issues that we have
today as a result of the application of the 404 standards and
the application of FDICIA standards to depository institutions
with assets above $500 million, regardless of whether they are
registered, and then you have a class of institutions that are
subject to both and the standards are not the same.
Senator Carper. All right. Thanks.
Mr. Chairman, my time has expired. Could we hear just
briefly from Mr. Reich, please?
Mr. Reich. Senator, I agree with many of the comments
expressed by Governor Olson and Ms. Williams. Through my
contacts with bankers over the past 2 years, through outreach
meetings and through events that we host at the FDIC, we have
heard many comments from bankers who are subject to Section 404
and bankers who are not subject to 404 about the impact that
they have seen on the bills from their external auditing firms.
My own view is that the internal control process has been a
critical element of the banking business from day one. Bank
examiners examine the internal controls of every operation of
the bank. It is a component of the CAMELS rating: Capital,
Asset quality, Management, Earnings, and Liquidity. Internal
controls are integral to the entire operation of the bank, and
bankers, particularly those that are not subject to 404, are
experiencing increased audit fees from CPA firms who are taking
a more diligent approach. Those bankers are feeling that there
is a great deal of redundant and unnecessary cost without
benefit.
Senator Carper. All right. Thank you all.
Thank you, Mr. Chairman.
Senator Crapo. Thank you very much.
Let me begin a second round with a couple more questions of
my own, and in that context, Mr. Reich, I do not know that it
needs to have a lot of clarification, but I want to be sure we
all understand the difference between the EGRPRA process and
the process of this Committee in terms of the evaluation of
these proposals. And I would also like your perspective on that
because you have basically been tasked to be the task force
leader for the EGRPRA process, and then also in the Committee
hearing last year agreed to coordinate for me in terms of some
of the evaluation that was undertaken.
But a year ago, when we had our hearing on regulatory
burden relief before this Committee, as we had indicated
earlier, there were 18 witnesses. A lot of proposals came
forward in that testimony, and at that time, as you indicated
in your testimony today, I asked you, since you were already in
the position of being the interagency EGRPRA task force leader,
if you would help us to consolidate and develop a matrix on the
proposals that had come to this Committee. In my mind, those
are to a certain extent connected, the EGRPRA process and this
Committee's review, but also to a certain extent different.
Could you clarify how you view this?
Mr. Reich. How I view the matrix and the origination of the
matrix?
Senator Crapo. Yes.
Mr. Reich. Well, it is a combination of issues that have
been raised by bankers around the country and a combination of
issues that were raised by those who testified at the hearing a
year ago. It is a combination of recommendations that have
originated both within the EGRPRA process and external to the
EGRPRA process.
Senator Crapo. And then as a result of the request that I
made of you last year with regard to helping us to put together
the compilation, which is now called the matrix, of these
issues that were proposed to us, you have taken further action
at our request, as well as at, I assume, at your initiative, to
try to develop consensus and to determine where there is
opposition and where there is support and the like. I have
observed that, and I have not observed that I had seen any
effort to preclude any group from having input. I can certainly
say to Senator Sarbanes, once we received the 136 proposals, we
made it very public that this was the parameter with which we
were operating. We put it on our website. We invited comment
from anybody who wanted to make comment and have been very open
to receive comment and input from anybody who wanted to make
comment and, in fact, have received sufficient comment that we
have been asked to add another 50 or so recommendations for
people to evaluate, some of which have come from consumer
groups who are interested in the issue.
The point that I want to make is that I guess I do differ a
little bit with the perspective that there has been any effort
here to reduce or to inhibit the opportunity for any interest
group in this country or any individual in this country from
having the opportunity to give input on this information. In
fact, we have tried to do everything we can to make it as
widely spread and to distribute the information as widely as we
can.
I would just ask this question of each member of the panel,
with the exception maybe of Mr. McClure, who has not been a
part of this process until today, as to whether you believe
there has been adequate opportunity for the consumer groups to
give their input on this set of proposals. I will start with
you, Mr. Reich.
Mr. Reich. I believe that we have made a serious effort to
obtain input from community groups and consumer groups.
Senator Sarbanes. If the consumer groups and the community
groups feel that they have not had sufficient access, is that a
matter of concern to you?
Mr. Reich. Yes, it is, Senator. And I am willing to address
that by scheduling meetings with them anytime, anywhere.
Senator Crapo. I do not know that the rest of you need to
comment unless you would like to. But I view this, to a certain
extent, that the agencies, the Federal regulators who have
authority over these issues have authority to evaluate consumer
interests and a responsibility to make certain that consumer
interests are evaluated. And I just wanted to know if you felt
that consumer groups had had an opportunity to provide
information.
Mr. Olson. As you know, the Federal Reserve has a Consumer
Advisory Council. And, as it happens, they are meeting today. I
can at the next meeting be sure that this issue will be on
their agenda so we can get additional input from that group.
Senator Crapo. I can certainly agree with the tenor of
Senator Sarbanes' last question, and that is, if the consumer
groups feel that they have not had an opportunity, then
certainly we should make it clear or I will make it clear right
now from the Committee's perspective that their input is
welcome and our doors are open. And I think that each of you
should be encouraged to make an additional outreach to make
sure that their input on the proposals before us is received.
Ms. Johnson. Senator, I would add that the National Credit
Union Administration has not been a part of those separate
meetings that have gone around the country. But what we did--
the consumers for credit unions are actually the members, and
so last fall NCUA actually held a forum--we called it a capital
summit--to comment especially on the risk-based capital
proposal to get the input from the members themselves and what
the benefit might be.
On the other proposals that are before us today, we have
made great efforts, as we are out addressing credit unions and
their conferences, whatever, those are made up of credit union
members, and so we do bring these proposals before them on a
regular basis.
Senator Crapo. We have just been notified--I did not
realize it, but there is a vote on, and so we are going to have
to call a quick recess. But we have a couple of minutes left
before the vote wraps up, and Senator Sarbanes would like to
have another opportunity for questioning before we break for
the vote, which we will then do.
Senator Sarbanes.
Senator Sarbanes. Thank you very much, Mr. Chairman. I want
to just clarify two points.
First of all, my concern about the process that has been
followed by the EGRPRA group is reflected in Mr. Reich's
statement: We got the matrix.
Thereafter, I convened a meeting of banking industry
representatives . . . to determine which of these proposals
they could all support as industry consensus items. [That]
yielded 78 banking industry consensus items.
The FDIC reviewed the 78 banking industry consensus
proposals for safety and soundness, consumer protection . . .
other public policy concerns and determined that we could
affirmatively support 58 of the 78 industry consensus
proposals. There are others that we have ``no objection'' to .
. . take ``no position'' on . . . five of [them] that FDIC
opposes.
The next step in the consensus building process was to
share our positions with the other Federal banking agencies in
an effort to reach interagency consensus.
Then you say you were able to agree on some of these
consensus proposals.
Now, my reading of that is a truncated process, not fully
inclusive and not fully comprehensive. Now, I have not gone to
the substance of the proposals. I may be for some, I may be
against some. I mean, I do not really know at this point. I
intend to examine them very carefully. But I do have this very
strong concern about the process, and I just want to
reemphasize it, and I would appreciate receiving the
information I asked for.
Now, Ms. Johnson, if you all did it differently, you were
not part of this group, if you could submit to us the process
which the National Credit Union Administration followed, that
would be very helpful to us.
Ms. Johnson. I would be glad to do so.
Senator Sarbanes. Now, before we break, obviously since I
was in the room when Sarbanes-Oxley was mentioned, all the
statute requires is two short paragraphs. One paragraph is it
says you have to have a system of internal controls. Does
anyone on the panel believe that these companies should not
have a system of internal controls? Is there anyone who thinks
that?
[No response.]
Senator Sarbanes. I take it no from the response.
Now, the second paragraph says--again, a very short
paragraph. It says that ``these systems of internal controls
have to be certified and attested to so you have some assurance
that they are a bone fide system of internal controls and not
simply a fake system of internal controls, which, of course, if
you had that would vitiate the requirement for a system of
internal controls.''
It seems to me, as far as the statute is concerned, there
is not an arguable other position. Now the question becomes the
implementation since the statute does not contain the
implementation, and that was left to the SEC and the PCAOB to
do.
They have made very substantial progress, and they are
trying very hard to address some of the concerns that have been
raised of a delay of the applicable dates of some of these
things. The SEC has asked the Council of Sponsoring
Organizations, who are the authors of the framework of internal
controls, to provide additional guidance about the way that
framework should be applied, particularly to smaller companies.
The SEC has established an advisory committee to look at the
impact of the Act, again, with a primary focus on smaller
companies.
The PCAOB is holding a series of fora on auditing in the
small business environment. They have held meetings with
accountants in Denver; Fort Lee, New Jersey; meetings are
scheduled in Pittsburgh, Orlando, Boston, and so forth. So
there is an effort here to fine-tune the provision.
Now, it is quite true that the requirement to some extent
was taken from the Federal Deposit Insurance Corporation
Improvement Act. In fact, these requirements had been applied
to banks. The FDIC has excluded banks of less than $500 million
from the internal control rules because it felt that
application of controls to such banks was not necessary to
protect the bank insurance fund. But the purpose of Sarbanes-
Oxley is different, and that is to protect investors in public
companies. And I see no reason why banks that choose to sell
their stock to the public should be treated differently from
other public companies in terms of the requirements that they
have to meet.
So it becomes a question of what is the proper auditing
process and the proper governance, but the provisions are very
broad, and the implementations of them have been left to the
SEC and the PCAOB, and I think both Donaldson and McDonough
have shown considerable sensitivity to some of the concerns
that have been raised in terms of trying to fine-tune it.
We are barely 2 years into this regime, and I think the
auditors may have been particularly rigid in the early stages.
They are trying to give them guidance now as to how they
proceed. But it seems to me if we are going to standards, I see
no reason why a bank which is a public company and listed on an
exchange, whose stock can be bought by investors, should not
meet the same requirements that other public companies have to
meet.
I do not think I understood anyone on the panel to argue to
the contrary. Am I incorrect about that?
Mr. Olson. That is correct. We did not argue to the
contrary. The distinction that we noted is the one that you
referenced. It is the incremental cost of complying with 404
over and above 112 for whom it applies, that both apply. And I
agree with your conclusion also that the SEC and PCAOB and
their respective leadership do appear to be looking at working
out some of the lack of understanding or confusion on that
issue.
Senator Sarbanes. The expectation is that the costs will go
down in subsequent years, first because there was an overload,
I think, in the first year, because a lot of people had to meet
the standards. Second, if you did not have a fully developed
system of internal controls, you, in effect, had to make what
may amount to a capital investment in order to get them into
place. The assumption is in subsequent years the costs for
applying them will diminish. But, in any event, we ought not to
lose sight of the basic purpose, which is to get people up to
standard, and we have had a lot of testimony from various
companies that the internal controls have significantly
enhanced their control over their company, their ability to
know what is going on, and as a consequence, many of them have
corrected defaults or oversights that existed in their
processes which they think have served them well.
Mr. Chairman, I gather that they are going to close the
vote if we do not----
Senator Crapo. They have told us we have about 6 minutes to
get there.
Senator Sarbanes. All right. I will cease and desist. Thank
you very much.
Senator Crapo. Because of this, what I propose to do at
this point is to recess for about 10 or 15 minutes. I would
like to have gotten into more with this panel, but we have
another large panel. If you do not have an objection, I will
excuse this panel, and when we come back, we will start the
next panel.
Senator Sarbanes. I will forego the questions I wanted to
ask. I wanted to ask Mr. Olson about the----
Senator Crapo. I had a couple of questions, too. If you
would like, we can----
Senator Sarbanes. No, I think we should let the panel go.
Mr. Olson. I am looking forward to responding, too, so I
will either do it here or in writing, whichever you prefer.
Senator Sarbanes. Why don't you send me a response in
writing about the industrial loan companies, because it has
been suggested in the testimony of one of the people on the
next panel that the Fed supports Section 401 of H.R. 1375, and
that provision has been interpreted to allow industrial loan
companies to branch de novo interstate. And I understand that
the Fed is very much opposed----
Mr. Olson. The Fed does not support applying that provision
to ILC's. To banks, yes. To ILC's, no.
Senator Sarbanes. Okay.
Senator Crapo. All right. Thank you. And I have a few
questions of my own. I did want to get into some of these other
issues, and I apologize that we have been stopped from doing
that by this vote. But I will submit some written questions,
and I think you may get some other written questions from other
Members of the Committee as well.
With that, we thank this panel. We excuse this panel. We
recess the Committee and hopefully we will reconvene in just a
few short minutes. Thank you.
[Recess.]
This hearing will reconvene, and I appreciate everybody's
patience with our short delay.
I have to say, I think we were just talking about whether
this might be a record. It is the largest panel I have ever
been in a Committee that has been before us, but perhaps that
is just an indication of the interest in this issue.
Let me introduce the panel that we have before us. I would
like to encourage everybody to remember my instructions to try
to pay attention this light up here or that one there, if you
can see it. I do not think very many can see the one on your
table very well. But it is going to be important to try to
stick to the time limits. As you probably have noted, your
testimony is read and reviewed, and your testimony will all be
a part of the record.
Our second panel--and this will be the order in which we
hear you--consists of Mr. Steve Bartlett, President and CEO of
Financial Services Roundtable; Ms. Carolyn Carter, Counsel for
the National Consumer Law Center; Mr. Arthur Connelly, Chairman
and CEO of the South Shore Savings Bank; Mr. David Hayes,
President and CEO of the Security Bank; Mr. Christopher A.
Korst, Senior Vice President of Rent-A-Center, Inc.; Mr. Chris
Loseth, President and CEO of the Potlatch No. 1 Federal Credit
Union from Idaho; Mr. Ed Pinto, President of Courtesy
Settlement Services; Mr. Eugene Maloney, Executive Vice
President of Federated Investors, Inc.; Mr. Travis Plunkett,
Legislative Director of Consumer Federation of America; Mr.
Bradley Rock, President and CEO of the Bank of Smithtown; and
Mr. Michael Vadala, President and CEO of the Summit Federal
Credit Union.
Now, did I miss anybody?
[No response.]
Good. Now, I do not know if you are sitting in the order in
which I read your names, but we will go by the order in which I
read your names, and that means we will start with you, Mr.
Bartlett.
STATEMENT OF STEVE BARTLETT
PRESIDENT AND CHIEF EXECUTIVE OFFICER,
FINANCIAL SERVICES ROUNDTABLE
Mr. Bartlett. Thank you, Mr. Chairman.
Mr. Chairman, my name is Steve Bartlett and I am testifying
on behalf of the Financial Services Roundtable. The Roundtable
represents some 100 of the largest integrated financial
services companies in America.
Mr. Chairman, I am here to impress on you and the Members
of the Committee the urgency of regulatory relief. It has been
6 years since the passage of Gramm-Leach-Bliley, the last time
that many of these issues were addressed. Many of those issues,
in fact, predated Gramm-Leach-Bliley. Since then, though,
technology, mobility, and consumer demands have accelerated,
and our companies are increasingly unable to respond to those
changes. So, I am going to describe in my oral testimony
several of the ways in which we believe regulatory relief is
long overdue, and I have submitted a much longer list in my
written testimony.
First, Mr. Chairman, one that was not on the list 6 years
ago is suspicious activity reports. The current system of SAR's
reporting is simply not working. It is not working for law
enforcement, and it is not working for consumer access. The
best evidence of that is the dramatic increase in SAR's
filings: From 1997, some 81,000 SAR's; this year, we think it
will hit about 600,000, and it may be a million or more next
year or the year thereafter.
This dramatic increase, in fact, stops law enforcement from
being able to use SAR's, but it also masks an even larger
problem, and that is that many consumers are simply pushed out
of the banking market by the requirements of SAR's or the Bank
Secrecy Act. The failure to file a SAR has become--the reason
we believe that SAR's have--defensive SAR's have increased so
dramatically is it has become a criminal issue. That means that
a financial institution simply cannot afford the risks with the
failure to file a single SAR's. There are no clear standards
for when SAR's should be filed, and so the net result is
defensive filings.
There are several solutions which I have submitted in
writing, but the most important is that Congress should give
financial institutions a safe harbor from prosecution when an
institution has an isolated incident of failing to file a
suspicious activity and the institution has a satisfactory
anti-money laundering program in effect.
Second, Mr. Chairman, is interstate branching. It has been
over 10 years ago that Congress enacted the loophole
legislation of the Riegle-Neal Interstate Banking Efficiency
Act of 1994. That Act eliminated some of the legal barriers to
interstate banking, but essentially just set up another type of
loophole. Consumers now have somewhat better access to products
and services, and the financial services industry is somewhat
more competitive. But, frankly, Mr. Chairman, it is still a
loophole. Riegle-Neal is at best a law that gets around the ban
on interstate branching. It is time for Congress to eliminate
that ban and legalize interstate branching, as happens in every
other industry in the country, and allow customers to follow
their banks and vice versa.
Third is the elimination of costly unintended regulatory
barriers for thrifts. Over the years, Congress has permitted
thrift institutions to engage in the same type of retail
brokerage and investment activities as commercial banks so that
thrifts now look, walk, act, and talk like banks. But for
reasons which are lost in the muddle of history, Congress has
not given thrifts the same exemption from Federal securities
laws that are available to banks. And so thrifts, unlike banks,
face unnecessary and costly SEC registration requirements for
no apparent reason of either safety and soundness or consumer
protection. So we urge the Committee to establish exemptions
for thrifts that are comparable to exemptions for commercial
banks.
Fourth, diversity jurisdiction. For companies other than
national banks and Federal savings associations, Federal law
clearly provides that a business corporation will be deemed to
be a citizen of, one, the State in which it is incorporated
and, two, the State in which it has its principal place of
business. But several court decisions have eroded that to where
now the rule is quite muddy and, in fact, access to Federal
courts is in many cases being denied.
Fifth, simplified privacy notices. Like all consumers,
Roundtable member companies have found that the privacy notices
required by Gramm-Leach-Bliley are overly confusing and largely
ignored because of the confusing aspect as well as the size by
many consumers. We recommend that the Committee use this
opportunity to simplify the form of notice required by Gramm-
Leach-Bliley. Regulators have tried to do that, but they simply
do not have the statutory authority.
And sixth is we believe that the SEC regulation of broker-
dealers, it is time for Congress to act. Title II of Gramm-
Leach-Bliley we believe was clear. It was intended to provide
for SEC regulation of new securities activities of banks but
permit banks to continue to engage directly in traditional
trust and accommodation activities that have long been
regulated by banking agencies. We think that this Committee
should restore Congressional intent on that front.
We do call on Congress to act, or at least this Committee
to act before Independence Day to give the Nation's consumers
an independence from these costly regulations.
Senator Crapo. Thank you, Mr. Bartlett.
Ms. Carter.
STATEMENT OF CAROLYN CARTER
COUNSEL, NATIONAL CONSUMER LAW CENTER
Ms. Carter. Thank you, Mr. Chairman, for the opportunity to
address you today. My name is Carolyn Carter. I am testifying
on behalf of the low-income clients of the National Consumer
Law Center and also on behalf of a host of other consumer
protection organizations. I will address just a few of the
issues covered in the written testimony we filed jointly with
Consumer Federation of America. Travis Plunkett of CFA will
address several other issues. And as the process goes forward,
consumer groups would very much like greater involvement in
consensus building and decisionmaking on these important
issues.
First, we urge you not to expand diversity jurisdiction for
national banks. Expanding diversity jurisdiction would move
thousands of foreclosure cases, thousands and thousands of
foreclosure cases onto the Federal dockets, even though those
cases deal primarily with issues of State law, not Federal law.
Federal courts have enough on their plates and should not be
turned into foreclosure processing machines. Homeowners facing
foreclosure should have their cases heard in locally
accessible, nearby their community courts.
Another proposal, Senate bill 603, proposes to roll back
consumer protection requirements for rent-to-own transactions
in Wisconsin, New Jersey, Vermont, and several other States. If
this were a consumer protection measure, as it is being termed
by some industry groups, consumer groups would support it. It
is not and we urge you to reject it.
There is also a proposal before you to exempt mortgage
services from the notice requirements of the Fair Debt
Collection Practices Act. There have been many abuses involving
mortgage servicers in recent years. The FTC has undertaken
massive cases against mortgage servicers because of abuses. The
notice that would be eliminated is an important notice because
it alerts consumers of their rights under the Fair Debt
Collection Practices Act. The exemption is fashioned as a
narrow exception, but, in fact, it is not. It is a broad
exception for reasons explained in our written testimony.
Consumers need more, not less, protection against abusive
mortgage servicing.
Another proposal deals with the right of rescission under
the Truth in Lending Act. A consumer now has 3 days after
closing to rescind a transaction that places the family home at
risk. The consumer can review the transaction and back out of
it if it is abusive, if it is different from what the lender
promised, or if it is just a bad idea to place the family home
at risk for an extension of credit. The right of rescission
deters bait-and-switch tactics because the lender knows that
the consumer will be able to review those documents after
closing. And it is critical to preserving homeownership. The
proposals before you would create three enormous exceptions
that would completely gut the right of rescission. It would
give the green light to predatory lending, and we urge you to
oppose it.
Finally, let me say a few words about disclosure
requirements. The Acting Comptroller of the Currency stated
today that she favors more concise, streamlined, and
understandable requirements for disclosures. And we agree with
that, but we strongly disagree with any implication that in the
name of streamlining, consumers should be deprived of
information they now receive.
It is true that most people can absorb only a few bits of
information when they initially see a disclosure statement or
another document. But if the information is presented in a
uniform manner, a uniform format, uniform terminology, the
consumer can pick out what he or she needs. For example, with
nutritional labeling, if I am interested in sodium I can pick
that right out because I know exactly where it is going to be
on the label. But the person sitting next to me can pick out
protein content and can disregard everything else. The same is
true of credit disclosure, and that means that the disclosure
requirements must be detailed, they must be prescriptive,
because otherwise the disclosures will not be uniform. And
prescriptive, detailed requirements actually in my opinion make
compliance easier because every financial institution then does
not have to reinvent the wheel.
It should also be remembered that credit disclosures serve
not just an immediate function but a long-term function. Unlike
a nutritional label, which I may read once and then throw away
when I eat the product, consumers save their financial papers
and refer to them from time to time throughout the life of the
transaction, for example, during that 3-day window for
rescission. So consumer testing, which we strongly support,
should look not just at what consumers can absorb when they
first see a disclosure statement, but also what they can absorb
and use in the long-run.
Thank you.
Senator Crapo. Thank you very much, Ms. Carter.
Mr. Connelly.
STATEMENT OF ARTHUR R. CONNELLY
CHAIRMAN AND CHIEF EXECUTIVE OFFICER,
SOUTH SHORE SAVINGS BANK, SOUTH WEYMOUTH, MA
AND MEMBER,
EXECUTIVE COMMITTEE OF THE BOARD OF DIRECTORS,
AMERICA'S COMMUNITY BANKERS, WASHINGTON, DC
Mr. Connelly. Thank you. Senator Crapo, Senator Sarbanes,
other Members of the Committee, I am Arthur Connelly, Chairman
and CEO of the South Shore Savings Bank in South Weymouth,
Massachusetts. We are a $900 million mutual State-chartered
savings bank.
America's Community Bankers is pleased to have this
opportunity to discuss our recommendations to reduce the
regulatory burden community banks face and the unnecessary
costs that we endure as a result.
These costs take their toll. Ten years ago, there were
12,000 banks in the United States. Today, only 9,000 of us have
been left standing. We are particularly concerned about how the
regulatory agencies are implementing laws intended to prevent
money laundering and promote corporate governance. Community
bankers fully support the goals of the laws against money
laundering. We are resolute participants in the fight against
crime, and especially terrorism. Yet we face an atmosphere of
uncertainty and confusion because regulatory staff in the
field, the region, and in Washington are giving banks
inconsistent messages. There are also inconsistent regulatory
messages between bank regulatory and law enforcement agencies.
Community bankers also support the Sarbanes-Oxley Act.
However, the implementation of the Act by the SEC as well as
PCAOB together with the way accounting firms interpret
regulations have led to unintended consequences that are pretty
costly and burdensome. This is true for all community banks,
whether they are publicly traded, privately held, or mutual,
like my own.
ACB has provided concrete suggestions to the banking
agencies and other regulators on ways to cut the costs of
compliance. ACB wants for the record to thank Senator Sarbanes
for his assistance in securing the participation of community
bankers in an SEC roundtable on the implementation of Sarbanes-
Oxley. ACB will continue to work with Government agencies to
improve the regulation of anti-money laundering and corporate
governance laws. Congress has an important oversight role to
ensure that a constructive dialogue between industry and
regulators continues.
Our written statement endorses 32 amendments to the current
laws that will reduce unnecessary regulations on community
banks. Let me mention just three.
First, a modest increase in the business lending limit for
Federal savings associations is a high priority for ACB
members. Community banks who operate under Federal savings
association charters are experiencing an increased demand for
small business loans. To meet this demand, ACB wants to
eliminate the lending limit restriction on these loans and
increase the lending limit on other commercial loans by 20
percent. Savings associations could then make more loans to
small and medium-sized businesses, enhancing their role as
community-based lenders. This would clearly promote community
development, economic growth, and job creation. And, after all,
that is what it is all about: Community development, economic
growth, and job creation.
Second, ACB strongly urges the elimination of required
annual privacy notices for banks that do not share information
with nonaffiliated third parties. We should provide customers
with an initial notice and be allowed to provide subsequent
notices only when the terms are modified. At my bank, for
instance, we send out thousands of such notices each year at a
significant cost, in both dollars and staff time, even though
our policies and procedures have remained consistent over many
years. The bottom line is that this redundancy does not enhance
consumer protection at all. Redundancy really numbers our
customers with volume.
The third point, ACB vigorously believes that the truth
business of savings associations should have parity with banks
under both the SEC Act as well as the Investment Advisers Act.
There is no substantive reason to subject savings associations
to different requirements. Savings associations and banks
should operate under the same basic regulatory requirement when
engaged in identical trust, brokerage, and other activities.
These three recommendations, along with our written
statement, will make it easier and less costly for us to help
our communities grow and prosper and create new jobs.
On behalf of America's Community Bankers, I want to thank
you for your invitation to testify today, and we look forward
to working with you and your staff, and I will be happy to
answer any questions at the appropriate time.
Senator Crapo. Thank you, Mr. Connelly.
Mr. Hayes.
STATEMENT OF DAVID HAYES
PRESIDENT AND CHIEF EXECUTIVE OFFICER,
SECURITY BANK, DYERSBURG, TN, AND CHAIRMAN,
INDEPENDENT COMMUNITY BANKERS OF AMERICA
Mr. Hayes. Thank you, sir. Mr. Chairman, Senator Sarbanes,
my name is David Hayes, and I am President and CEO of Security
Bank and the Chairman of the Independent Community Bankers of
America. My bank is located in Dyersburg, Tennessee, which is a
town of 19,000, an hour and a half from Memphis, and we have 70
employees and we have $135 million in assets.
The ICBA appreciates the opportunity to testify today on
behalf of our 5,000 member banks throughout this great Nation.
We are especially pleased with your leadership, Senator Crapo,
taking a broad approach to drafting regulatory relief for the
Committee's consideration. It is vital that Congress expand on
previous regulatory relief bills as they included regulatory
relief for big banks, thrifts, credit unions, but little for
our Nation's community banks. We are about reduction of
regulation, not expansion of powers.
Community banks are the economic engines of Main Street
America. There are reasons many of our country's businesses and
communities continue to thrive. Local banks are particularly
attuned to the needs of their communities and are uniquely able
to facilitate local economic development through community and
small business lending.
Community bankers are leaders in their communities. They
spend time on economic development and not-for-profit
organizations. All their efforts improve their communities.
Increasingly, unnecessary regulation takes our time away from
our customers and our communities. Our future depends on our
community.
I assure you community bankers are not crying wolf. Recent
studies highlighted in our written statement show that
community banks are losing market share. I agree with Vice
Chairman John Reich that the disproportionate impact of
regulatory burden on community banks is the leading cause of
consolidation in our industry. Community bankers are saying,
``We have had enough.'' Quite simply, community bankers are
drowning in paperwork. If we do not get meaningful relief soon,
more and more banks will throw up their hands and give up their
independence. It is like being caught in quicksand. It has us
and is pulling us down to death.
That is the reason the ICBA closely worked with
Representative Jim Ryun on the Communities First Act. H.R. 2061
provides relief critical to community banks and their customers
and would strengthen communities by freeing up resources
currently being used for unnecessary compliance. We, like other
financial groups, have been working on the interagency
regulatory burden reduction project chaired by Vice Chairman
Reich of the FDIC and endorse virtually all of the regulatory
provisions.
The Vice Chairman has done an excellent job in identifying
unnecessary bank regulations. Many of these are hard-wired in
Federal statute. The Communities First Act would make key
statutory changes building on the concept of a tiered
regulatory and supervision system that recognizes the
differences between community banks and more complex
institutions.
Let me give you a couple of examples that affect my bank.
Section 102 of the Act would permit strong banks with assets of
$1 billion or less to file a short form call report in two of
four quarters in any given year. The current call report
instructions and schedules fill 458 pages. They are expensive
and time-consuming to produce. Quarterly filings by community
banks are not essential to the agencies. In a bank like mine,
the world just does not change dramatically between March 31
and June 30 of each year. The FDIC will not lose track of me,
and I assure you Chairman Greenspan will still be able to
conduct monetary policy without our real-time data.
This is especially true today as I look at the retirement
of my cashier who has been doing this job for many years, and I
have to go out and try and find that person who will take that
laborious task.
One of the most wasteful provisions of Gramm-Leach-Bliley
has been the requirement that financial institutions send
annual privacy notices, which most customers do not read. I
question do we all read them, and I think the answer is no. We
would recommend that an institution not be required to send an
annual notice except for those times in which something
substantial has changed in the method in which they do business
or provide information to their customers. While any size
institution could take advantage of this, I can tell you, my
customers and the trash collectors in our city would greatly
appreciate that.
The other item is the truth in lending 3-day right of
rescission. Many times customers have said, ``David, I signed
the note. I want my money. Why do I have to wait 3 days?'' So
there are issues that we deal with in communities eyeball to
eyeball with our customers, and we really understand the value
of the customer relationship and the customer understanding the
financial transaction.
Thank you very much.
Senator Crapo. Thank you very much, Mr. Hayes.
Mr. Korst.
STATEMENT OF CHRISTOPHER A. KORST
SENIOR VICE PRESIDENT, RENT-A-CENTER, INC.
Mr. Korst. Thank you, Mr. Chairman. Good afternoon, Senator
Sarbanes.
My name is Chris Korst, and I am Senior Vice President with
Rent-A-Center, Inc., based in Plano, Texas. I appear today in
support of S. 603, legislation that would regulate the rental-
purchase or rent-to-own transaction for the first time at the
Federal level, and in support of its inclusion in the proposed
regulatory relief legislation. I speak to the Committee on
behalf of the Coalition for Fair Rental Regulation, which
includes in its membership roughly 4,300 of the 8,000 rental-
purchase stores operating in the United States. Additionally,
we are joined in support of this legislation by the Association
of Progressive Rental Organizations, the national trade
association representing rental dealers throughout the country.
S. 603 has been introduced once again in this Congress by
Senator Mary Landrieu and is cosponsored by a number of other
Senators, including Senators Shelby, Bunning, and Johnson on
this Committee. In proposing this legislation, Senator Landrieu
and her colleagues have successfully struck a balance between
the interests of the consumers on the one hand and the rental
merchants on the other.
By way of background, the rental-purchase industry offers
household durable goods--appliances, furniture, electronics,
and computers--along with musical or band instruments for rent
on a weekly or monthly basis. Customers are never obligated to
rent beyond the initial term and can return the rented product
at any time without penalty or without further financial
obligation. Customers also have the option to continue renting
after the initial or any renewal period and can do so simply by
paying an additional weekly or monthly rental payment in
advance of that rental period. In addition to that, our
customers also have the option to purchase the property they
are renting either by making the required number of renewal
payments set forth in the agreement or by exercising an early
purchase option, paying cash for the item at any time during
the transaction.
This transaction appeals to a wide variety of consumers,
including parents of children who this week want to learn the
play the violin, only to find out a few weeks or months later
their interests in that instrument have lagged. Military
personnel use our services, as do college students and many
others including campaign offices, summer rentals, and so
forth, people who have similar limited or short-term needs or
wants.
Importantly, however, because we do not check our
consumer's credit histories and do not require down payments or
security deposits, this transaction is also frequently used by
individuals and families who are just starting out and who have
not yet established good credit or who have damaged or bad
credit and whose monthly income is insufficient to allow them
to save and make major purchases with cash. For these
consumers, rent-to-own offers an opportunity to obtain the
immediate use of, and ownership if they so desire, the things
that we all take for granted--beds for our children to sleep
on, washers and dryers so that our customers do not spend all
weekend at the laundromat, computers so that their children can
keep up in school, decent furniture to sit on and eat at, and
so on.
Rent-to-own gives working-class individuals and families a
choice without the burden of debt and with all the flexibility
they need to meet their sometimes uncertain economic
circumstances.
Specifically, S. 603 does five major things:
One, it defines the transaction in a manner that is
consistent with existing State rent-to-own laws, Federal tax
provisions, and with the views of both the Federal Reserve
Board staff and the Federal Trade Commission as expressed in
their testimony before the House Financial Services Committee
in the 107th Congress.
Two, it would provide for comprehensive disclosure of key
financial terms in advertising and on price cards on
merchandise displayed in our stores, as well as in the body of
the rental contracts themselves.
Three, the bill would establish a list of prohibited
practices, a list similar in content and substance to the
practices prohibited under the Federal Trade Commission Act.
Four, the bill adopts certain universal substantive
regulations shared by all existing State rental laws.
And, five, the bill adopts the remedies available to
aggrieved and injured consumers under the Truth in Lending Act.
In summary, this legislation would go farther in providing
substantive protections to rent-to-own consumers than does any
other Federal consumer protection law on the books today.
I would like to touch briefly on two additional points.
First, regarding the issue of this legislation and its relation
to existing State laws, if enacted, this legislation would
serve only to establish a floor of regulation of the rent-to-
own transaction. State legislatures would have the full
opportunity to pass stronger laws and regulations, modify
existing statutes, or even outlaw the transactions entirely if
that is what those bodies believe was appropriate. Thus, it is
clear that this bill does not preempt State law. At the same
time, this bill would finally establish a Federal definition of
the transaction rental-purchase consistent with the definitions
found in the existing State statutes and within the Internal
Revenue Code.
Importantly, just as is the case under other Federal
consumer protection laws, including Truth in Lending and the
Consumer Lease Act, States would not be permitted to define or
mischaracterize this transaction in a manner that would be
inconsistent with the definition in this bill.
Finally, as you may be aware, some groups have called for
any Federal rental-purchase legislation to include the
disclosure of an imputed or estimated annual percentage rate in
these agreements. We believe that this view is misguided for
several reasons.
First, in order for a transaction of any kind to include an
interest component, there must be debt; that is, a consumer
must owe a sum certain and must be unconditionally obligated to
repay that sum. That is simply not the case under the typical
rent-to-own transaction.
Second, the notion of imputed interest misleads consumers
and misrepresents the true economics of the rent-to-own
transaction, which has many benefits, services, and options
that traditional credit transactions just do not offer,
including delivery and set-up, maintenance on the merchandise
throughout the rental, and replacement items if the original
item cannot be repaired in the customer's home.
Additionally, as noted previously, rental customers always
enjoy the absolute right to terminate the transaction and
return the products without penalty at any time.
Finally, referring to the Federal Trade Commission's
seminal report on the rent-to-own industry in the year 2000, I
would like to quote from that report. First, they state,
Unlike a credit sale, rent-to-own customers do not incur
any debt, can return the merchandise at any time without any
obligation for the remaining payments, and do not obtain
ownership rights or equity in the merchandise until all
payments are completed. An APR disclosure requirement for rent-
to-own transactions may be difficult to implement and could
result in inaccurate disclosures that mislead consumers.
Thank you, Mr. Chairman.
Senator Crapo. Thank you, Mr. Korst.
Mr. Loseth.
STATEMENT OF CHRIS LOSETH
PRESIDENT AND CHIEF EXECUTIVE OFFICER,
POTLATCH NO. 1 FEDERAL CREDIT UNION AND
CHAIRMAN, IDAHO CREDIT UNION LEAGUE
GOVERNMENT AFFAIRS COMMITTEE,
ON BEHALF OF THE CREDIT UNION NATIONAL ASSOCIATION
Mr. Loseth. Chairman Crapo, Senator Sarbanes, and Members
of the Committee, on behalf of the Credit Union National
Association, I appreciate this opportunity to express CUNA's
views on the legislation to help alleviate the regulatory
burden under which many insured financial institutions operate.
I am Chris Loseth, President and CEO of Potlatch Credit Union
in Lewiston, Idaho.
As a cooperative financial institution, credit unions have
not been shielded from the mounting regulatory responsibilities
facing insured depositories in this country, but given the
limited time available, I will devote my statement to
describing a few exceptionally important issues for credit
unions.
As part of our mission, credit unions are devoted to
providing affordable service to all of our members including
those of modest means. One provision that has been passed by
the House and is in legislation introduced by Senator Sarbanes
would go a long way toward helping credit unions fulfill this
part of their mission. It would permit credit unions to provide
check cashing and wire transfer services to nonmembers within
their field of membership.
Accomplishing our mission can also be greatly enhanced by
revisiting two major components of the 1998 passed Credit Union
Membership Access Act. Perhaps the most critical issue on the
horizon for credit unions is the need for reforming the prompt
corrective action regulations governing credit unions. Credit
unions have higher statutory capital requirements than banks,
but credit unions' cooperative structure creates a systemic
incentive against excessive risk taking, so they may actually
require less capital to meet potential losses than do other
depository institutions.
And because of the conservative management style, credit
unions generally seek to always be classified as well rather
than adequately capitalized. To do that they must remain
significantly cushioned above the 7 percent requirement.
CUNA believes that the best way to reform PCA would be to
transform the system into one that is much more explicitly
based on risk measurement, as outlined by the NCUA proposal and
embodied in a House introduced bill, H.R. 2317 or CURIA. It
would place much greater emphasis on ensuring that there is
adequate net worth in relation to the risk a particular credit
union undertakes. At the same time, CUNA believes credit union
PCA should incorporate a meaningful leverage requirement,
comparable to that in effect for other federally insured
institutions.
CUNA strongly supports the NCUA's proposed new rigorous
safety and soundness regulatory regime for credit unions, which
is anchored by meaningful net worth requirements. And credit
unions agree that any credit union with net worth ratios well
below those required to be adequately capitalized should be
subject to prompt and stringent corrective action. There is no
desire to shield such credit unions from PCA. They are indeed
the appropriate targets of PCA. Reforming PCA along these lines
would preserve and strengthen the fund.
Also, the Financial Accounting Standards Board is
finalizing guidance on the new accounting treatment of mergers
of cooperatives that would create a new component of net worth,
in addition to retained earnings, after a credit union merger.
The unintended effect of the FASB rule will be to no longer
permit a continuing credit union to include the merging credit
union's net worth in its PCA calculations.
Senior legal staff at FASB have indicated support for a
legislative approach to correct this problem, and we urge the
Committee to likewise support such an effort, well in advance
of the effective date so credit unions will have certainty
regarding the accounting treatment of mergers.
The other issue I would like to address is the current cap
on member business lending. There was no safety and soundness
reason to oppose these limits as the historical record is clear
that such loans are even safer than other types of credit union
loans.
In fact, public policy argues strongly in favor of
eliminating or increasing the limits from the current 12.25
percent to 20 percent suggested in CURIA. Small business is the
backbone of our economy, and responsible for the vast majority
of new jobs in America. Yet, a recent SBA study reveals that
small businesses are having greater difficulty in getting loans
in areas where bank consolidation has taken hold. The 1998
passed law severely restricts small business access to credit
and impedes economic growth in America.
Furthermore, the NCUA should be given the authority to
increase the current $50,000 threshold, as proposed in CURIA,
up to $100,000. This would be especially helpful to smaller
credit unions, as they would then be able to provide the
smallest of these loans without the expense of setting up a
formal program.
In summary, Mr. Chairman, we are grateful to the Committee
for holding this important hearing. We strongly urge the
Committee to act on this very important issue this year, and to
make sure that the provisions discussed in my testimony are
part of any Congressional action taken to provide financial
institutions regulatory relief.
The future of credit unions and their 86 million members
will be determined by our ability to provide relief in these
important areas.
Thank you.
Senator Crapo. Thank you very much, Mr. Loseth.
Mr. Pinto.
STATEMENT OF EDWARD PINTO
PRESIDENT, COURTESY SETTLEMENT SERVICES, LLC,
ON BEHALF OF
THE NATIONAL FEDERATION OF INDEPENDENT BUSINESS
Mr. Pinto. I am Ed Pinto, President of Courtesy Settlement
Services, LLC. Thank you, Chairman Crapo and Ranking Member
Sarbanes, for the opportunity to testify on behalf of the
National Federation of Independent Business regarding interest-
bearing checking accounts for small businesses.
I am pleased to report that 86 percent of NFIB members
support allowing business owners to earn interest on their
business checking accounts. I am also pleased to hear the House
has overwhelmingly voted in favor of H.R. 1224 by a vote of 424
to 1, indicating a strong bipartisan desire to overturn this
archaic and Depression-era law that prohibits the payment of
interest on business checking accounts. I was also pleased to
hear earlier this morning with the panel of regulators that
some of the regulators also indicated that they endorsed the
repeal of this restriction.
Big banks have consistently opposed repealing this ban on
interest checking, and at the same time a proposed compromise
legislation that would delay the implementation of this repeal
by 3 years. Their efforts to insulate themselves from the free
market have hurt small businesses in this country, the
acknowledged job creation engine of this country.
I view this bill as necessary consumer protection
legislation, and every day it is delayed is an injustice to the
over 25 million taxpayers filing business income tax returns
with the IRS. Let me repeat that number, 25 million business
income taxpayers in this country. That may seem like small
potatoes in terms of what they might earn on interest on
checking, maybe $100 or $200 per year, but multiply that by 25
million and leverage that job creation power by the ability of
our Nation's business to create jobs, and the impact would be
large.
The House passed bill as currently written has a 2-year
delay, and that is already a compromise, and NFIB strongly
urges the Committee to resist efforts to further lengthen the
phase-in period. Please do not deny this much-needed
legislation to tens of millions of taxpayers.
While it had been 16 years since I first started my first
business, I can still vividly recall to my astonishment at
being told that a business could not earn interest on a
checking account. I was further astonished to find that not
only did it not pay interest, but I would also be charged fees
for the privilege of having that account. My banker said, ``But
do not worry,'' and then introduced me to the spellbinding
concept of compensating balances. Boy, was I in for an
education, and one that had nothing to do with growing my
business. I remember thinking that all this seemed quite fine
and not exactly consumer friendly. I had been earning interest
for years in my personal checking account, which had a much
smaller balance. I kept asking, ``Why no interest?'' And I was
simply told it was against the law.
Later as my business prospered my banker suggested that I
set up what she called a ``sweep account,'' which she told me
did not have the benefit of FDIC insurance, but did pay
interest, and that is what we did. And it was very complicated.
First, we analyzed my account history to determine how much to
keep in the regular account so as to earn enough to avoid the
fees that I had to pay on that regular account.
Next, we had to project what would be earned in interest
and compare that to the additional fees that the compensating
sweep account would have. Then I had to authorize an amount to
be swept each night, and here I had a choice. I could either
call the bank every afternoon to make arrangements, or they
would do it automatically based on a preset formula. Not being
a glutton for punishment I selected the automatic option. After
this exercise I barely remembered why I had started my business
in the first place, but that was just the beginning.
As any new business owner will tell you, there are better
ways to spend your time than calling your banker every day, but
small business owners, by our nature, break out in hives at the
thought of money sitting in a noninterest bearing account. What
I did not know was that a sweep account was really designed for
a larger company, one with in-house accounting, financial staff
to keep up with the flow of money on account-to-account
transactions. For the small business owners with a business to
run it can be a paperwork nightmare.
We soon found that the sweep account, while addressing the
noninterest bearing issue, resulted in a flood of paper from
the bank. Each day we got a reconciliation statement just to
let us know the money had been shifted around in the previous
24 hours, and because this was done via mail, there was always
a 2- to 3-day delay in the information flow, so we never really
knew what was going on with the funds. Of course the mail piled
up unopened at the rate of about 250 letters per year, which we
then throw out periodically and add to the trash.
To add insult to injury, my so-called interest earnings
were paying for all of this paperwork. Do not get me wrong, I
am not arguing against sweep accounts, but they are a
bookkeeping hassle for small businesses. Would these misguided
resources not be better spent on tasks that help grow small
businesses, rather than generating a flood of paperwork. For
obvious reasons the make-work nature of the sweep account ended
up significantly reducing the interest earnings, and that was
really adding insult to injury.
We could have been much better off leaving the money in a
noninterest bearing account, which is what many business owners
do and what I now do, a fact that restricts much-needed job
creation capital for those who need it most.
I know there are simpler alternatives, and that would be to
allow for the payment of interest. Even banks, it does not make
sense for banks to continue this prohibition because making a
change would be very simple. They are already doing it on
consumer accounts. The Senate has an opportunity to eliminate
an archaic law that has run headlong into the creativity of the
free market. The current law saddles America's small businesses
with an inefficient alternative that costs them billions in
annual revenue, revenue that could to create jobs.
Please give banks the choice to offer interest-bearing
accounts, a choice that takes on greater urgency now that
interest rates are going up and interest earned on these
accounts becomes more substantial. Please consider this and
resist efforts to lengthen the phase-in period, and act now.
Thank you for the opportunity to express my views.
Senator Crapo. Thank you, Mr. Pinto.
Mr. Maloney.
STATEMENT OF EUGENE F. MALONEY
EXECUTIVE VICE PRESIDENT, FEDERATED INVESTORS, INC.
Mr. Maloney. Senator, I appreciate the opportunity to be
here this morning. My name is Eugene F. Maloney. I am Executive
Vice President, Corporate Counsel, and a member of the
Executive Committee of Federated Investors.
Federated is a Pittsburgh-based financial services holding
company whose shares are listed on the New York Stock Exchange.
Through a family of mutual funds used by or in behalf of
financial intermediaries and other institutional investors, we
manage approximately $200 billion. For the past 20 years, I
have been a member of the faculty of Austin University Law
School, where I teach a course entitled the Securities
Activities of Banks. Our mutual funds are used by over 1,000
community banks, either within their own portfolios or on
behalf of clients of their trust departments.
In connection with the proposed removal of Regulation Q,
thereby permitting banks and thrifts to pay interest on
business checking, my firm's position is that we are strongly
in favor of any rule, regulation, or legislation that results
in our community bank friends becoming more competitive, more
profitable, or being able to operate their businesses more
efficiently.
We are concerned that the current initiative to repeal
Regulation Q, if not evaluated in a historical context, will
have the exact opposite result. This conclusion is based on my
personal experience with the introduction of ceilingless
deposit accounts in 1982, and the impact that it had on our
client base. Friends of longstanding lost their jobs, their
pensions, and their self-esteem because of the failure by
Government officials and Members of Congress to fully think
through the economic impact of ceiling deposit accounts on our
banking system and its profitability. This failure cost every
man, woman, and child in the United States $1,500.
When this matter was before Congress last year, the House
Committee report included a detailed estimate of the
implications for Federal tax revenues and the budgetary impact
of paying interest on required reserve balances, but not on the
impact on earnings or assets of banks.
During the House Committee hearings, in response to
questioning as to whether the legislation would weaken any play
in the market, Governor Meyer of the Federal Reserve Board
replied, ``No.'' In response to a question as to whether the
Board had any estimate as to the amount of deposits that are
lost by banks due to the current prohibition against the
payment of interest on business checking, Governor Meyer
replied, ``No, I do not have any numbers to share with you.''
In anticipation of my appearance before the Committee
today, we commissioned a study by Treasury Strategies of
Chicago to provide us with their views on the impact of the
repeal of Regulation Q. Some key findings that we offer for
your consideration today are as follows:
Companies now maintain liquid assets of approximately $5
trillion. And 57 percent of corporate liquidity is now in
deposits or investments that mature in 30 days or less. As we
speak, banks are adjusting their balance sheets to mitigate
interest rate risk to maintain their spread revenues.
This is a volatile mix. It becomes obvious that if higher-
than-market interest rates are offered to bank corporate
customers, we risk a repeat of the 1980's debacle of massive
amounts of money moving to institutions that are ill-prepared
to rationally deploy it.
Treasury Strategies has suggested the following options to
prevent this from occurring: Do not increase from 6 to 24 the
number of permissible transfers per month into MMDA accounts;
Cap the interest rates payable on these deregulated accounts
during the phase-in period. Their suggestion is 40 percent of
the 90-day Treasury bill rate; Limit the amount of interest-
bearing demand deposits a bank can hold as a percentage of its
capital; Limit interest payments to just uninsured deposits;
Collateralize the deregulated deposits; Implement a phased
approach;
Other anticipated fallout we expect to occur should the
repeal go forward are as follows: Increased credit risk which
will raise the banks' rate of loan charge-offs; Pressure on
banks' profitability and subsequent increases in charges for
discrete services. Some statistics on this point are as
follows: (a) profit risk of $4 billion; (b) increased interest
expense of $6 to $7.5 billion per year; and (c) for the banks
studied by Treasury Strategies, it has been determined that in
order to break even on their business customer base, banks will
need to grow deposits or raise service charges as follows: With
respect to small business, grow deposits by 80 percent or raise
service charges by 34 percent. With respect to mid-size
companies, grow deposits by 35 percent or raise service charges
by 16 percent.
The reason I am here today is to make a fact-based attempt
to prevent history from repeating itself. I appreciate being
given the opportunity to share my thoughts with the Committee.
Senator Crapo. Thank you very much, Mr. Maloney.
And at this point we are going to go back to this end of
the table here to Mr. Plunkett.
STATEMENT OF TRAVIS PLUNKETT
LEGISLATIVE DIRECTOR,
CONSUMER FEDERATION OF AMERICA
Mr. Plunkett. Thank you, Mr. Chairman and Senator Sarbanes.
My name is Travis Plunkett. I am the Legislative Director of
the Consumer Federation of America. I appreciate the
opportunity to offer the comments of CFA and a broad range of
other consumer and community groups on regulatory relief
proposals.
I will touch on two issues: The efforts to allow industrial
loan companies to expand, and attempts to weaken reporting
requirements under the Home Mortgage Disclosure Act.
A number of bills have been offered in both the House and
the Senate in recent years that take the very dangerous step of
allowing industrial loan companies to expand, either by
offering business checking services or by branching nationwide,
or both.
ILC's are State-chartered, FDIC-insured banks that were set
up at the beginning of the 20th century to make small loans to
industrial workers. In 1987, Congress granted an exemption to
the Bank Holding Company Act for ILC's because there were few
of them, they were only sporadically chartered in a small
number of States, they held very few assets and they were
limited in the lending and services they offered.
Since that time everything about ILC's has grown. As of
2003, one ILC owned by Merrill Lynch had more than $60 billion
in assets, while 8 other large ILC's had at least a billion in
assets, and a collective total of more than $13 billion in
insured deposits. The five States that are allowed to charter
ILC's are now aggressively encouraging new ILC's to form. They
are allowing these institutions to call themselves banks, and
they are giving them almost all of the powers of State-
chartered commercial banks. They are also promoting the lower
level of oversight they offer compared to those pesky
regulators at the Federal Reserve.
ILC's now constitute what is essentially a shadow banking
system that puts taxpayer-backed deposits at risk. This
parallel system also siphons commercial deposits from properly
regulated bank holding companies. The key problem with ILC
regulation is that while the Federal Reserve has the power to
examine the parent of a commercial bank and impose capital
standards, in an industrial loan company structure, only the
bank can be examined. Regulators cannot impose capital
requirements on the parent companies. Holding company
regulation is also essential to ensuring that financial
weaknesses, conflicts of interest, malfeasance, or incompetent
leadership at the parent company will not endanger taxpayer-
insured deposits at the bank.
Commercial firms and financial firms such as Merrill Lynch,
American Express, and Morgan Stanley, own ILC's and want to own
ILC's. We have concerns about ownership of ILC's by both types
of companies, and the recent corporate scandals show the
hazards of ILC membership by both types of companies.
Next, we are concerned about industry proposals to reduce
the number of financial institutions required to provide
disclosure under the Home Mortgage Disclosure Act. HMDA
requires certain mortgage lenders with offices in metropolitan
areas to collect, report, and disclose annual data about
applications, originations, home purchases, and refinancings of
home purchases and home improvement loans. HMDA provides the
public and banking regulators with crucial data about whether
lenders are serving the housing needs of the communities in
which they are located.
Industry representatives have advocated that HMDA reporting
thresholds for mortgage lenders be raised from $34 million in
assets to $250 million in assets. While such an adjustment may
seem relatively minor, it is not. Raising the threshold to $250
million would exempt about 25 percent of depository
institutions and 25 percent of current HMDA filers from
submitting HMDA reports. In many States, lenders in this size
category represent the vast majority of all banking
institutions. The elimination of loan-level HMDA reporting for
these lenders would hamper enforcement of key laws such as the
Equal Credit Opportunity Act, the Fair Housing Act, and the
Community Reinvestment Act.
Since 1990, over 1,200 institutions with between $34
million and $250 million in assets received below satisfactory
CRA ratings.
It is also important to note that because of technological
advances, it has never been easier or cheaper to comply with
HMDA. Software for HMDA reporting is readily available and
relatively inexpensive. The Federal Financial Institutions
Examination Council offers free HMDA software on its website
for any institution that wants to use it.
For these reasons we urge the Committee not to make changes
to HMDA reporting thresholds regarding ILC's. We urge the
Committee not only to not expand ILC powers, but to also look
at the ILC exemption under the Bank Holding Company Act and to
plug the ILC loophole. This will prevent ILC's from becoming a
separate shadow banking system that is inadequately regulated.
Thank you.
Senator Crapo. Thank you very much, Mr. Plunkett.
Now we will come back over to Mr. Rock.
STATEMENT OF BRADLEY E. ROCK
PRESIDENT AND CHIEF EXECUTIVE OFFICER,
BANK OF SMITHTOWN AND CHAIRMAN,
GOVERNMENT RELATIONS COUNCIL,
AMERICAN BANKERS ASSOCIATION
Mr. Rock. Thank you, Mr. Chairman. My name is Brad Rock. I
am Chairman, President and CEO of Bank of Smithtown, a $750
million community bank founded in 1910, which is located on
Long Island in Smithtown, New York.
I would like to make 3 key points. First, compliance costs
drain bank resources, taking away from the needs of our
customers and our communities. Every new law, regulation, or
rule means two things, more expensive bank credit and less of
it.
During the past decade banks have shouldered the effects of
some of the most imposing legislation of the past 100 years.
Compliance costs for banks today are between $38 and $42
billion per year, and these do not include costs associated
with the USA PATRIOT Act, the Sarbanes-Oxley Act, the SEC,
FASB, and the Public Company Accounting Oversight Board.
If we were to reduce the regulatory costs by just 20
percent, the reduction would support additional bank lending of
up to $84 billion. The impact on our economy would be huge.
Second, regulatory burden is significant for banks of all
sizes, but small banks struggle the most. There are more than
3,200 banks with fewer than 25 employees. Nearly 1,000 banks
have fewer than 10 employees. These banks simply do not have
the human resources to implement the thousands of pages of
regulations, policy statements, and directives they receive
every year.
Countless hours are spent on compliance paperwork at all
levels from bank directors and CEO's to managers and tellers.
At my bank every person has major compliance responsibilities
and one person has a full-time job just to coordinate all of
the compliance activities. I personally spend about 1\1/2\ days
per week on compliance issues. Some CEO's tell me that they are
now spending nearly half their time on regulatory issues. This
means that bank CEO's spend more than 5 million hours each year
on compliance, time that could be better spent on ways to
improve banking in their communities and to meet the changing
needs of their customers.
The costs do not stop there. My bank pays more than
$100,000 each year to outside firms to help us to comply with
regulatory burdens. This one expense alone, if it were used as
capital, would support an additional $1 million of lending in
my community.
My third point is this. Only the involvement of Congress
can result in a reduction of costly regulatory burdens. Bankers
have seen previous relief efforts come and go without effect
while the overall burden has kept rising. In my written
testimony, I list some of the areas in which ABA is seeking
reform. Let me briefly describe two which have been
particularly costly in recent years.
Under the Bank Secrecy Act banks fill out more than 13
million cash transaction reports annually. Most of these
reports are filed for companies that are traded on the public
exchanges and are well-known by both the bank and the
Government. These transactions have nothing to do with
potentially criminal activity. The 35-year-old rules related to
cash transaction reports have lost their usefulness due to
several developments, including more comprehensive suspicious
activity reporting, robust customer identification obligations,
and mandates to match Government lists to bank accounts.
Consider a small bank that has 25 employees or less. Many
banks of this size have had to hire an additional full-time
employee for the sole purpose of completing reports related to
the Bank Secrecy Act. The cost benefit analysis does not make
sense.
Also, as a result of the Sarbanes-Oxley Act, accountants
have more than doubled their fees. One community bank in New
York saw its accounting fees jump from $193,000 in 2003 to more
than $600,000 in 2004. New accounting standards frequently
cause almost complete duplication of bank internal audits
without increasing safety and soundness.
In conclusion, unnecessary paperwork and regulation erodes
the ability of banks to serve customers and support the
economic growth of our communities.
We look forward to working with you to find ways to bring
greater balance to the regulatory process. Thank you.
Senator Crapo. Thank you very much, Mr. Rock.
And finally Mr. Vadala.
STATEMENT OF MICHAEL VADALA
PRESIDENT AND CHIEF EXECUTIVE OFFICER,
THE SUMMIT FEDERAL CREDIT UNION,
ON BEHALF OF
THE NATIONAL ASSOCIATION OF FEDERAL CREDIT UNIONS
Mr. Vadala. Thank you. Good afternoon, Senator Crapo and
Ranking Member Sarbanes. My name is Mike Vadala. I am the
President and CEO of The Summit Federal Credit Union located in
Rochester, New York. I am here today on behalf of the National
Association of Federal Credit Unions to express our views on
the need for regulatory relief and reform for credit unions.
As with all credit unions, The Summit is a not-for-profit
financial cooperative governed by a volunteer Board of
Directors who are elected by our member-owners. The Summit was
founded in 1941 and has 47,000 members and just over $340
million in assets.
America's credit unions have always remained true to our
original mission of promoting thrift and providing a source of
credit for provident and productive purposes. I am pleased to
report to you today that America's credit unions are vibrant
and healthy, and that membership in credit unions continues to
grow, now serving over 86 million members.
Yet, according to data obtained from the Federal Reserve
Board, credit unions have the same market share today as they
did in 1980, 1.4 percent of financial assets, and as a
consequence provide little competitive threat to other
financial institutions.
While developing a comprehensive regulatory relief package,
we hope the Committee will include the credit union provisions
contained in the Financial Services Regulatory Relief Act,
which passed the House last year, and also consider including
additional provisions from the Credit Union Regulatory
Improvements Act of 2005, CURIA, which has been introduced in
the House.
NAFCU supports these bills, and I would like to talk about
a few of the specific provisions in them at this time. NAFCU
urges the Committee to modify the prompt corrective action
system, or PCA, for federally insured credit unions to include
risk assets as proposed by the NCUA and included in Title I of
the CURIA bill. This would result in a more appropriate
measurement to determine the relative risk of a credit union's
balance sheet, and also ensure the safety and soundness of
credit unions and our share insurance fund.
It is important to note this proposal would not expand the
authority for NCUA to authorize secondary capital accounts.
Rather, we are moving from a model where one-size-fits-all to a
model that considers the specific risk posed by each individual
credit union. This proposal reduces the standard net worth or
leverage ratio requirements for credit unions to a level
comparable to, but still greater than, what is required of
FDIC-insured institutions. Strength is gained because this
proposal introduces a system involving complementary leverage
and risk-based standards working in tandem.
NAFCU also asks the Committee to reconsider the member
business loan cap, which was established as part of the Credit
Union Membership Access Act in 1998, replacing the current
formula with a simple and more reasonable rate of 20 percent of
the total assets of a credit union.
We support revising the definition of member business
loans, giving NCUA the authority to exclude loans of $100,000
or less from counting against the cap.
A 2001 Treasury Department study entitled ``Credit Union
Member Business Lending'' concluded that, ``credit unions'
business lending currently has no effect on the viability and
profitability of other insured depository institutions.'' That
same study found that 86 percent of credit union member
business loans are made for businesses with assets under
$500,000. Many small business people feel that credit unions
can fill a need in the marketplace for these loans.
Finally, we urge the Committee to make a relatively simple
change that would address what could become a problem for
merging credit unions when FASB changes merger accounting rules
from the pooling method to the purchase method. Legislation to
address this issue in the form of the Net Worth Amendment for
Credit Unions Act, H.R. 1042, was passed by the House just last
week. We hope that the language from this bill will also be
included in any regulatory relief package introduced in the
Senate.
To be clear, we are not asking you to legislate accounting
rules, but rather we are asking you to change a definition so
that the acquired equity of merging credit unions is properly
included in total net worth for PCA purposes.
In conclusion, the cumulative safety and soundness of
credit unions is unquestionable. Nevertheless, there is a need
for change in today's financial services marketplace. NAFCU
urges the Committee to consider the provisions we have outlined
in this testimony for inclusion in any regulatory relief bill.
Appropriately designed regulatory relief will ensure continued
safety and soundness and allow us to better serve the 86
million members of America's credit unions.
We would like to thank you, Senator Crapo, for your
leadership. We look forward to working with the Committee on
this important matter, and we welcome your comments or
questions.
Thank you.
Senator Crapo. Thank you very much, Mr. Vadala, and I want
to thank the entire panel.
Like I said at the outset, this is the largest panel I have
ever seen. I think that it shows the breadth of interest in
this kind of an issue and the number of interest groups,
whether it be credit unions, community banks, independent
bankers, large banks, consumers, or customers, the interest in
the financial reform that we are talking about here is broad
and extensive, and primarily that is because it is so important
to the American consumers and the impact on the people who rely
on financial services.
I just want to make a comment at the outset and then ask a
couple of questions. The comment is this: As I believe
everybody knows, we have taken the broad approach to this
issue. We want to have all of these interests and concerns
raised to the Committee so that we can evaluate them and
determine how to achieve as much reform and improvement as we
can possibly achieve. At the same time we do not want to make
mistakes or make things worse, as has been indicated by some of
the witnesses about some of the proposals. I would say the
proposals, we have tried to get these proposals out there, and
I think most people have notified us of their concerns about
areas where they do have concern with the proposals. The
testimony that we received today, both the oral testimony as
well as the written testimony, has been very helpful in helping
us to further identify not only areas where there is support
and consensus, but also areas where there is concern and
objection.
I would just encourage everybody, as soon as possible, to
make sure you get your comment and concerns in to us to the
extent they have not already been done in your testimony today,
and that invitation goes beyond this Committee.
I was thinking about this, and in fact, Senator Sarbanes
and I were talking in the hall. As you look at these
recommendations, there are some of them that are obviously good
ideas about which to this point we have seen no objection.
There are some of them which--I will not speak for Senator
Sarbanes, but which I do not like. I am sure there are some
that he does not like, and there are some that you do not like.
There are some that I do not like that may end up getting on
the bill because everybody else likes them, or the politics of
the circumstance and the dynamics make it such that they are
supported well enough to move forward. There are some which I
do like and which I would like to see in the bill, which the
circumstances may not justify at this point if we want a bill
that is going to move, and about which there is a large amount
of opposition.
So this is going to be a process that requires an intense
amount of analysis and work between us here on the Committee,
and I would encourage you to give us as much input as you can
as we seek to move forward so that we can identify the areas
where there is consensus, we can identify the areas where we
may need to take some further time and move in a separate piece
of legislation or the like.
So anyway, I just encourage everybody to continue what you
have already been doing in giving us your ideas.
With that, let me just ask a question on one of the areas
in which I have a lot of interest, but which, frankly, is an
area where I suspect there may be some controversy, and that is
the privacy simplification issue. Mr. Bartlett, you raised
that, and I think, Mr. Hayes, you indicated that you were not
sure that very many people actually read these privacy notices.
I have said this before in public forums, but because I serve
on the Banking Committee and I am involved in a process that is
evaluating these things, I try to read every one that I
receive. I am not only convinced, Mr. Hayes, that most people
do not read them, but I am also not sure that they can. I know
that it is very difficult for me to read these and to
understand exactly what rights I am being told that I have.
Now, I very strongly believe that it is a good idea for the
protection of the privacy of this information, and I very
strongly believe that we need to notify people of those rights.
But I guess I would start out by asking Mr. Bartlett and
Mr. Hayes if maybe you could suggest what you think a properly
simplified privacy notice should look like, and then I would be
glad to let others who might have an opinion on this jump in.
Mr. Bartlett. Mr. Chairman, we have had 6 years experience
now, so it is clear that what we are doing now is at best
nonproductive for the American consumers, and in many cases,
counterproductive. Number 1 is provide a safe harbor to the
regulators to draft a short form that institutions can rely on,
that is the single source, largest source of the complexity is
that companies have to protect themselves from various kinds of
allegations they think could be leveled against them, and so
that is what adds to the complexity.
Senator Crapo. Are you telling me that lawyers write these
notices?
[Laughter.]
Mr. Bartlett. Of course, because these are legally required
notices with some detail in Title 5 of Gramm-Leach-Bliley.
Senator Crapo. I knew that by reading them, but go ahead.
[Laughter.]
By the way, I am a lawyer too.
Mr. Bartlett. So if in fact we want to simplify them, then
give the regulators the right for a safe harbor to create a
simplified notice, a safe harbor, and if a company uses that
then they are safe.
Second, reduce the number of notices to at a time in which
there is some kind of a change in the customer relationship.
You can define that in a lot of different ways. But the idea of
annual notices seemed like a good idea at the time, 6 years
ago, but has proved to be a pretty idea in terms of the effect
of the notices.
So those are the two big changes that should be made. We
support notices but they should be made usable for the
consumers.
Senator Crapo. Mr. Hayes.
Mr. Hayes. I would never insinuate that a lawyer writes
those notices.
[Laughter.]
I was talking to Congressman Ford yesterday in Memphis, and
we got engaged in a broader issue than this dealing with
financial literacy, but I think it translates over to general
literacy of a population that we have. And quite honestly, I
think there is the challenge, is how do we write something that
a normal, real person can understand? I mean to me it is, ``We
do not sell your information. We do not give your
information.'' You know, it has to be very succinct, written as
newspapers are, on an educational level that people can
understand. It cannot be written in legalese that people say,
``I do not understand it,'' and throw it away. I mean I think
it is important. Privacy of information, no matter who you are,
is very important. And to be told what happens with your
information is very important to the individual, but we have to
make it so that people understand.
Once we articulate that and provide that, it is really
somewhat of a nuisance to continually send that out. So, I mean
I think at the end of the day, we value our customers. That is
what gives us revenue. That is what drives our business. That
is what drives our community. I think we are trying to always
be fair, but let us be real and let us write it to where people
can understand what we are saying.
Senator Crapo. Thank you.
Anybody else want to----
Mr. Plunkett. Senator.
Senator Crapo. Yes.
Mr. Plunkett. Senator, if I could comment on this from a
consumer point of view. The primary problem with the Gramm-
Leach-Bliley privacy notices is that the notices are provided
to consumers on an opt-out basis. That is, unless consumers
respond to a notice that is often buried in an envelope with
much other information, then they are not able to stop the
sharing of their private financial information with third
parties.
Consumers typically do not respond to opt-outs. Our
recommendation at the time the Gramm-Leach-Bliley Act was put
on the books was make it an opt-in. Give consumers the
affirmative right to stop the sharing of information, include
both affiliate information--internal sharing among financial
affiliates--and third-party information. Tell the institutions
that they cannot share this information unless the consumer
responds affirmatively.
These institutions are very good at marketing. They would
make a strong pitch as to why it is in the consumers' interest
to allow the banks to share information. But the consumer would
be in control of that process. That is the primary way to
improve these privacy notices.
Now, assuming that Congress does not listen to my advice,
it is true, it is actually the fault of both the financial
institutions and the regulators that the privacy notices are
written so poorly. The institutions themselves are protecting
themselves from legal liability. The regulators have provided a
poor starting point, a poor model for understandable privacy
notices. You do not need a safe harbor to change that. We could
sit down with consumers, regulators and the industry--once
again, this is an industry that is extremely good at talking to
consumers in an understandable fashion when they want to--and
we could come up with privacy notices that everybody would be
comfortable with and that you would not need a safe harbor to
promote.
Senator Crapo. Mr. Connelly, and then I will have to move
to Senator Sarbanes.
Mr. Connelly. Thank you, Senator. At my bank we understand
that sacred trust between the customer and the bank, and we do
not share information with any third parties. I would suggest
that the current privacy notice, we understand what privacy is,
but it is pretty tough to explain it when you get one of those
notices. And I think that notice is analogous to the current
HIPAA notices that you might get when you go to your doctor's
office or your local pharmacy. Though it is a good law, I am
told by the receptionist at my doctor's office that I have to
sign this. I am also told that nobody reads the notice. Maybe
after the first time you got the notice you might have read it,
but you sign it, and then for regulatory purposes everybody is
covered, as they say.
So that we strongly support maybe a revised disclosure that
takes care of all circumstances unless there is a major change,
and in fact, the regulators could be empowered to delineate
what constitutes a major change. Then you would have to
renotice the customer.
Senator Crapo. Thank you very much. I appreciate that. This
is a very tough issue we have been working on for sometime now,
but I commit to keep working on it until we get it resolved.
Senator Sarbanes.
Senator Sarbanes. Thank you very much, Mr. Chairman.
Mr. Connelly, I just make the observation if all banks
followed the practice of your banks, there probably would not
be any legislation required and we would not have the problem
of privacy notices.
This notion that somehow that Congress is looking to do
these things, we are prompted into them by the derelictions
that take place in the workings of the marketplace. Let me give
you an example right now. How many of you think there should be
legislation on data breaches?
[Three witnesses raised their hands.]
Now, why do you think that? You think that because of what
has happened recently. Had none of this transpired, no one
would be talking about data breaches and thinking about
legislation on it.
On June 17, MasterCard International reported a breach of
payment card data which potentially exposed more than 40
million cards of all brands to fraud. Even the FDIC lost some
records of 6,000 of their employees, current and former. The
breach was discovered when employees learned that identity
thieves were taking out signature loans in their names at a
credit union. We know about CitiFinancial, MCI, Bank of
Commerce, Bank of America, Commerce Bank, PNC Bank, and
Wacovia. Bank employees may have stolen financial records of
700,000 customers of four banks. The bank employees sold the
financial records to collection agencies. Time-Warner, then
some of the universities, HSBC.
We are not looking for these things, but the deficiencies
in the system which make this possible may require legislation.
When I took over the chairmanship of this Committee I never
expected to do Sarbanes-Oxley. We had an entirely different
agenda. Then Enron collapsed, WorldCom collapsed. We had a
panic in the markets and so forth.
Let me ask Mr. Plunkett this question. In your statement,
you point out that securities firms that own ILC's have taken
the lead in promoting the ILC expansions. They have not been
shy about stating that they want to expand ILC powers because
they do not want to deal with the regulatory oversight they
would face from the Federal Reserve if they purchased a bank as
they are allowed to do under Gramm-Leach-Bliley. Instead they
offer to set up a shadow banking system through the ILC. They
want to be able to offer the same services and loans as
commercial banks without the same regulatory oversight. Could
you develop that point?
Mr. Plunkett. Yes, sir. To use a bad analogy, we have
investment firms, all of the big ones, who either own ILC's or
want to own ILC's, attempting to skirt the requirements of the
Gramm-Leach-Bliley Act regarding Federal Reserve oversight of
bank holding companies. They are offering in many cases banking
services that are indistinguishable from other banks. So they
are walking like a duck, they are quacking like a duck, but
they are not regulated like a duck.
Our concern is that these firms very recently have shown
themselves vulnerable to conflicts of interest that have hurt
their investors. One need only have picked up the paper in the
last 2 weeks to see that major fines by the SEC were handed
down against Citi and one other large investment bank in the
Enron case to remind us that this has been the situation. We
have heard a lot of discussion about ILC's on the House side, a
great deal of discussion about commercial firms owning ILC's,
and there are significant reasons why that is a bad idea. But
one item that seems to have escaped a lot of notice is the
current ownership of ILC's by investment firms and the hazards
there.
I would just like to bring that to the Committee's
attention and ask that the Committee examine that concern
equally with the concern about commercial firms owning ILC's.
Senator Sarbanes. Mr. Bartlett, when you are in favor of
that House provision for de novo banking, were you reading the
provision to permit the ILC's to do this, or I mean had you not
read it that way?
Mr. Bartlett. Mr. Chairman, I support the entire provision.
I would answer in two ways. First of all, our organization,
supports ILC's and have a fundamental disagreement with what
was said, but there is a disagreement about ILC's. We believe
that ILC's are duly chartered, and in fact are a depository
institution regulated both by State banking authorities and by
the FDIC.
But more to the point for this bill, we believe that the
action for this bill, particularly for interstate branching, is
an issue of banking and of the issues in this bill, and so
these issues should be dealt with. Interstate branching is an
issue that needs to be addressed, interstate branching should
be permitted for banks. The ILC issue becomes one issue that
needs to be debated, perhaps some middle ground found, some
kind of a resolution of it, but the core of interstate
branching is interstate branching from Baltimore to
Philadelphia, having nothing to do with ILC's.
Senator Sarbanes. So you disagree with the Federal
Reserve's position on ILC's; is that correct?
Mr. Bartlett. I do, but I do believe the whole ILC issue is
an issue that does requires some additional debate, that can
find a middle ground, and that we should find a middle ground,
but it should not be allowed to stop this legislation.
Senator Sarbanes. Of course the more you load on this
legislation, the more difficult it is to move it along. I think
that is pretty obvious.
Mr. Korst, I wanted to ask you a question. I am not quite
sure I understood your testimony. Is it your position or is it
the implications of the position you are taking that no State
would be preempted with respect to the laws that it has dealing
with the rent-to-own issue?
Mr. Korst. Yes, That is correct.
Senator Sarbanes. I see. So States like New Jersey,
Wisconsin, and other States like that, which currently have
some fairly extensive consumer protections, would be able to
keep them all in place?
Mr. Korst. I think a point of clarification in a couple of
those States.
Senator Sarbanes. That is what I am seeking. That is why I
am asking the question.
Mr. Korst. In Minnesota, Wisconsin, and New Jersey,
Senator, in the absence of any defining State regulation, and
additionally in the absence of any controlling Federal statute,
over the past 20 years there has been a considerable amount of
litigation in both State and Federal Court, and a number of
conflicting decisions by those courts. What S. 603 would do
would resolve the issue. And by the way, the issue that has
been at play there is, are these transactions to be considered
consumer credit sales under the existing State consumer credit
sales laws, which by the way, were enacted well before these
transactions came into existence in the marketplace, or are
they something different?
And in the absence of any clear defining regulatory
standard, litigation has created some murky and difficult legal
circumstances in those States. S. 603 would resolve that issue
by placing into the Federal consumer protection statutes a
Federal definition of what constitutes a rental purchase
transaction.
Senator Sarbanes. Would that definition be binding on all
States?
Mr. Korst. Yes, sir.
Senator Sarbanes. So a State whose regulatory framework
currently depended on a different definition would be
preempted; is that correct?
Mr. Korst. States would not be permitted, under S. 603, if
it were to be enacted, to mischaracterize the transaction as
something it is not. In that respect I suggest that this
proposal is consistent with Congress's direction on truth in
lending and consumer leasing, wherein Congress established
definitions of credit transaction and consumer lease, provided
a minimum amount of consumer protections----
Senator Sarbanes. You would preempt the definition on the
part of all States; is that correct?
Mr. Korst. I am sorry, Senator.
Senator Sarbanes. You would preempt the definition on the
part of all States. You would require them all to use your
definition.
Mr. Korst. That is correct.
Senator Sarbanes. Even if they are now using a different
definition.
Mr. Korst. To the extent there are any States that have----
Senator Sarbanes. With respect to the definition, I would
call that preemption.
Mr. Korst. And I think the view that we have----
Senator Sarbanes. Do you have a different name for it?
Mr. Korst. Pardon me.
Senator Sarbanes. Do you have a different name for it?
Mr. Korst. No. We believe, however that Congress----
Senator Sarbanes. Let me ask you this question. What
percent of the merchandise under rent-to-own eventually become
purchases?
Mr. Korst. Just about all of it is purchased at some point
in the inventory life, Senator. Some percentage of it, just
under 5 percent, is actually either stolen or returned to us in
an unrentable or unusable condition. But the balance of the
merchandise is eventually owned by one of our customers in some
form or fashion.
However, the way out transaction works, of course,
consumers have the option to terminate at any time and to
return the goods. In fact, most do. Twenty-five percent of our
transactions result in customers acquiring ownership. The other
75 percent, the transaction is terminated and the property is
returned to us. During the life of our inventory, on average it
is rented by 4\1/2\ different consumers, and so when I say all
of our merchandise is owned eventually by some consumer, in
most cases it is after it has been rented by 3 or 4 or 5 or 6
different consumers, and then the last consumer ultimately
acquires ownership of that property.
Senator Sarbanes. I wanted to ask the people at the panel--
and it follows up on a question I put to the previous panel. I
do not know how many of you were here for that. First of all,
do you feel that you have been adequately consulted by the
regulators as they explore the question of what recommendations
to make for the consideration of the Congress?
Ms. Carter. Consumer groups would greatly appreciate
greater involvement in this process, and not just at the
initial stage when comments are given, but at the consensus
development stage.
Senator Sarbanes. Anyone else?
Mr. Loseth. Yes, Senator Sarbanes. CUNA has worked close
with the NCUA on different aspects of CURIA, different aspects
of member business lending, and prompt corrective action, and
we feel that we are working together well with the
recommendations that are in the bill.
Senator Sarbanes. Do any of you--sorry, go ahead.
Mr. Hayes. I feel like we have been very engaged in the
process. I mean we are very close to our customers. We are very
close to our banks that are throughout the country. We travel
throughout the country, and we are getting that input and that
input is being exchanged with the regulatory authorities, and I
think the process has been very good, because we are putting
things on paper. It is a tough job. As I sat here on this side,
not on that side, I mean we could spend 5 days together in a
room, and in some cases we may not be agreeing on every item.
But I think at the end of the day we have to come to some
agreement on some items to move forward or we will be sitting
here 5 years from now talking about the same issues.
Senator Sarbanes. Mr. Connelly.
Mr. Hayes. So there is a process that we have to figure out
how to do it.
Senator Sarbanes. Mr. Connelly.
Mr. Connelly. Sir, we have had open and continuing dialogue
with both the regulator, community and consumer groups, and I
would suggest that Senator Crapo has been very open about
inviting consumer groups to provide more input. I think
Chairman Reich will probably make additional outreaches. And I
guess the answer is, now is the time. We believe that we have
very adequately and continually participated with consumer
groups as it relates to the needs in our community and who----
Senator Sarbanes. Do you see problems--I am asking the
industry people now--in the regulators having these
consultation groups that would encompass both industry and
consumer representatives, particularly as you are trying to see
what kind of consensus can be reached?
I know on the one hand that gives you more of a challenge
since you will be at a table with the people that are not of
like mind. But it seems to me it is a setup a little bit if
everyone at the session is essentially of the same mind when we
are trying to see if we cannot work through this situation
toward achieving some consensus which would then have an
enhanced credibility and an enhanced legitimacy. What is the
problem with sessions of that sort, other than it is a more
difficult meeting to presume, may well be a more difficult
meeting to work through?
Mr. Rock. Senator, I think that increased input from all
sides of the issue is always a good thing, but by the same
token, it does not surprise me that on some issues that are in
that matrix that there has not been much input from the
consumer side because some of those issues are very technical
and very specific to narrow areas of the industry. For example,
if you were to ask consumer groups or consumers about the
effectiveness of a 314(a) inquiry, response and inquiry
practice, I do not think that many consumer groups or consumers
would be familiar with that and have meaningful input on that.
So it does not surprise me that perhaps there has not been
input on some of those items that are in the matrix.
Senator Sarbanes. I think the question is whether there has
been input on most or all of the items in the matrix, but I
will ask the consumer groups to answer to that themselves.
Mr. Plunkett. Senator, the key idea, which you have hit on,
is a meaningful dialogue, and a meaningful dialogue--your point
is well taken, a meeting where the regulators can hear the
pitch from the financial services people, see if consumer
groups have followed the issue, have a response, ask industry
representatives to address consumer concerns, get immediate
feedback, have a dialogue. That allows the regulators to better
understand the pros and the cons of various proposals, and it
gives us, the consumer community, the opportunity to have not
just input, as Carolyn Carter said, but to have meaningful
input when it comes to decisionmaking.
Mr. Vadala. Senator, NCUA did a very good job of getting
input on PCA in particular. They had a summit meeting which
brought people together. They got written comments. They had
witnesses appear at the summit, kept it open for public
comment, trying to get diverse views on this issue, and have
talked to other regulatory agencies. So, I really believe that
they have done a great job on that particular issue and on many
of the others. We are very happy with what they have done.
Mr. Loseth. Senator, most of the changes in regulations, as
they affect credit unions, directly affect the members of the
credit union who own the credit union. So from what I can tell
from the provisions in the bill, most all of these changes will
result in putting money back in the pockets of Americans.
Mr. Connelly. Senator, I think that today is an example of
where people from different perspectives come together and
express their thoughts, and can do it collaboratively and
collegially, and I would suggest that with Senator Crapo's
invitation for more openness--I think maybe Chairman Reich got
that sense--there is still time to be more open to the consumer
advocacy perspective, and it should certainly be taken into
consideration by your Committee.
Senator Sarbanes. Mr. Chairman, I know the hour is late. I
want to thank this panel for their contribution. I particularly
want to thank--these are the statements from today's testimony,
and it is obvious that many people have put a great deal of
time and effort into preparing these statements. In many
instance they are quite detailed. I think that is extremely
helpful to us because on this issue much of the difficulty is
in the details.
It is easy enough to lodge a general complaint about some
requirement that the regulators now have in place. The question
is, was it put there for a good reason? Does the reason still
serve a purpose? Is there some way it can be done with some
less onerous requirements?
But I do not see how just listening to the general
complaint one can move to a decision that we just should not
have this thing. I mean the general complaint reflects a sense
in the industry that they are overloaded. But as you address
the overload you have to take each requirement, it seems to me,
and analyze it very carefully as to the purpose it serves and
so forth.
Now, we are getting a lot of complaints about the Bank
Secrecy Act and so forth, but of course, on the other side, we
have very important questions about the financing of terrorism,
the financing of criminal activities, and so forth. So we need
to look at all of that.
Actually, some of the people most on the other side on that
issue are people in the Department of Justice, in FinCEN at the
Treasury and so forth, who think these requirements are very
important to their efforts to try to deal with I think what
most people would concede are serious problems. So how you work
that out is an important challenge. I think the detail is
extremely important. It is easy enough to make the generalized
statements, but then when you come to taking action on it you
have to come down into the details and take a careful look at
what the pros and cons and the pluses and minuses are in terms
of other interests that are involved and other objectives we
are trying to achieve.
So it is obvious a lot of work went into these statements,
and I want to thank the panel members for it.
Thank you, Mr. Chairman.
Senator Crapo. Thank you, Senator Sarbanes, and I certainly
agree with that. The two hearings we have had on this issue
plus the incredible amount of input that we have received
outside of the hearings has been very, very helpful in our
efforts to move forward on the process of trying to go from the
general complaint and the general objective of getting reform
to the specifics, and I appreciate the witnesses very much.
I had a bunch of other questions, but the time has gotten
away from us, and we are going to have to wrap up the hearing
at this point. I will submit some written questions, and I
think you should all expect that you would get some written
questions from some of the other Senators who did not arrive
here, and we would appreciate it if you would be willing to
respond to those questions.
I again want to thank all of you for your input, encourage
you to move ahead. I think one of you said that the time is
now. And the time is now. We want to move ahead very quickly
now to try to get prepared for a markup, and start into the
next phase of this process where we will be moving ahead
aggressively to achieve the objectives of this bill.
With that, again, I thank all the witnesses, and this
hearing will be concluded.
[Whereupon, at 1:22 p.m., the hearing was adjourned.]
[Prepared statements and response to written questions
supplied for the record follow:]
PREPARED STATEMENT OF JOHN M. REICH *
Vice Chairman, Federal Deposit Insurance Corporation
June 21, 2005
Mr. Chairman, Ranking Member Sarbanes, and Members of the
Committee, I very much appreciate the opportunity to testify and update
you on our efforts to reduce unnecessary regulatory burden on
depository institutions insured by the Federal Deposit Insurance
Corporation (FDIC). I am here today as the leader of the interagency
regulatory review process mandated by the Economic Growth and
Regulatory Paperwork Reduction Act (EGRPRA). In this capacity, and as a
former community banker with over 23 years of experience, I share your
commitment to pursue meaningful regulatory relief legislation, while
maintaining the safety and soundness of the banking industry and
protecting important consumer rights. This is an important endeavor and
I think our Nation's financial institutions, particularly America's
smaller community banks, are counting on us to succeed in our efforts
to reduce regulatory burden.
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* Appendix held in Committee files.
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My testimony this morning will discuss the importance of balancing
the relative costs and benefits of regulations, the proliferation of
regulation in recent years and the high costs on the industry. It will
also discuss the cumulative effect of regulations on our Nation's bank
and thrift institutions, particularly smaller community banks. I will
also outline our interagency efforts to review regulations and address
the existing regulatory burden, as mandated by EGRPRA. I then will
describe actions the FDIC has taken to reduce burdens imposed by our
own regulations and operating procedures. Finally, I will outline a
dozen specific legislative proposals to reduce regulatory burden that
all of the Federal bank and thrift regulators have agreed to support,
as well as many more that are supported by more than one regulatory
agency.
The Importance of Balancing the Costs and Benefits of Regulation
Our bank regulatory system has served us quite well, often helping
to restrain imprudent risk-taking, protect important consumer rights
and fulfill other vital public policy objectives. Statutes and
regulations help preserve confidence in the banking industry and in the
financial markets by ensuring that institutions operate in a safe and
sound manner, promoting transparency in financial reporting, and
encouraging fair business practices. However, as more and more laws are
passed, and new regulations are adopted to implement those laws, it is
incumbent upon policymakers to ensure that the intended benefits
justify the considerable costs. We need to take stock periodically of
the cumulative effect of all regulatory requirements on the industry.
No one would advocate a system where people spend more time trying to
figure out how to comply with all the laws than engaging in their
primary economic activity. As Federal Reserve Board Chairman Alan
Greenspan said in a speech a few months ago, ``to be effective
regulators we must also attempt to balance the burdens imposed on banks
with the regulations' success in obtaining the intended benefits and to
discover permissible and more efficient ways of doing so.'' I could not
agree more. It is all about balance, and I am afraid that the scales
have now tipped too heavily to one side and need to be rebalanced.
The Proliferation and High Cost of Regulation on the Industry
In my testimony before this Committee last year, I reported that,
since enactment of the Financial Institutions Reform, Recovery and
Enforcement Act (FIRREA) in 1989, the Federal bank and thrift
regulatory agencies promulgated a total of 801 final rules. Since I
testified in June of last year, the agencies adopted an additional 50
final rules, which means that there have been a total of 851 final
rules adopted since FIRREA--an average of about 50 new or amended rules
promulgated every year. This does not include the rules adopted by the
Securities and Exchange Commission (SEC), Financial Accounting
Standards Board (FASB), Public Company Accounting Oversight Board
(PCAOB), American Institute of Certified Public Accountants (AICPA) and
a whole host of State regulatory authorities nor regulations that apply
to companies in general (such as tax and environmental rules).
It is a challenge for bankers to maintain the capacity to respond
to the steady stream of new regulations while continuing to comply with
existing ones. Recently enacted laws reflect important public policy
choices concerning, for example, the quality of the credit reporting
system, identity theft, national security and changes in technology.
However, it is incumbent upon the regulators who write implementing
regulations, as well as the Congress, to be mindful of the need to
avoid unnecessarily increasing regulatory burden on the industry as we
implement new requirements mandated by legislation.
Rule changes, particularly for smaller community banks with limited
staff, can be costly since implementation often requires computers to
be reprogrammed, staff retrained, manuals updated and new forms
produced. Even if some of the rules do not apply to a particular
institution, someone has to at least read the rules and make that
determination. The 4,094 insured institutions with less than $100
million in assets last year have, on average, fewer than 20 employees
and the 1,000 smallest community banks and thrifts in the country
average fewer than 10 employees. It is hard to imagine how those
institutions can continue to serve their customers' needs and also meet
myriad new regulatory requirements.
The cost of all of our regulatory requirements is hard to measure
because it tends to become indivisible, if not invisible, from a bank's
other activities. While there are no definitive studies, a survey of
the evidence by a Federal Reserve Board economist in 1998 found that
total regulatory costs account for 12 to 13 percent of banks'
noninterest expense, or about $38 billion in 2004 (The Cost of Bank
Regulation: A Review of the Evidence,'' Gregory Elliehausen, Federal
Reserve Bulletin, April 1998). Regulatory burden is an issue for all
banks, but I believe that the burden falls heaviest on America's
smaller community banks, as explained in the next section.
The Impact of Regulatory Burden on Community Banks
New regulations have a greater impact on community banks,
especially smaller community banks (under $100 million in assets), than
on larger institutions due to their inability to spread start up and
implementation costs over a large number of transactions. The magnified
impact of regulatory burden on small banks is a significant concern to
me. Community banks play a vital role in the economic well-being of
countless individuals, neighborhoods, businesses, and organizations
throughout our country, serving as the very lifeblood of their
communities. These banks are found in all communities--urban, suburban,
rural, and small towns. They are a major source of local credit. Data
from the June 2004 Call Reports indicates that over 90 percent of
commercial loans at small community banks were made to small
businesses. In addition, the data indicates that community banks with
less than $1 billion in assets, which hold only 14 percent of industry
assets, account for 45 percent of all loans to small businesses and
farms.
Community banks generally know personally many small business
owners and establish lending relationships with these individuals and
their businesses. These small businesses, in turn, provide the majority
of new jobs in our economy. Small businesses with fewer than 500
employees account for approximately three-quarters of all new jobs
created every year in this country. The loss of community institutions
can result in losses in civic leadership, charitable contributions, and
local investment in school and other municipal debt. I have a real
concern that the volume and complexity of existing banking regulations,
coupled with new laws and regulations, are increasingly posing a threat
to the survival of our community banks.
Over the last 20 years, there has been substantial consolidation in
the banking industry. This can be seen most dramatically in the numbers
of small community banks. At the end of 1984, there were 11,705 small
community banks with assets of less than $100 million in today's
dollars. At year-end 2004, the number of small community banks dropped
by 65 percent to just 4,094 (see Chart 1). For institutions with assets
of $1 billion or less in 2004 dollars, there has been a decline of
8,761 institutions, or 51 percent over the 20-year period. This chart
underscores the point that the rate of contraction in the number of
community banks increases with decreasing asset size. The smaller the
institutions, the greater the rate of contraction--even when we adjust
size for inflation.
The decline in the number of community banks has three main
components: Mergers; growth out of the community bank category; and
failures. These factors were only partially offset by the creation of
more than 2,500 new banks during 1985-2005. (In the above calculations,
bank asset size is adjusted for inflation. Thus, a bank with $100
million in assets today is compared with one having about $63 million
in assets in 1985.) A number of other market forces, such as interstate
banking and changes to State branching laws impacted the consolidation
of the banking industry. The bank and thrift crisis of the 1980's and
the resulting large number of failures and mergers among small
institutions serving neighboring communities also contributed to the
decline in the smallest financial institutions. It is probable that
together those factors were the greatest factors in reducing small bank
numbers.
However, I believe regulatory burden plays a significant role in
shaping the industry, including the number and viability of community
banks. While many new banks have been chartered in the past two
decades, I fear that, left unchecked, regulatory burden may eventually
pose a barrier to the creation of new banks. Keeping barriers to the
entry of new banks low is critical to ensuring that small business and
consumer needs are met, especially as bank mergers continue to reduce
choices in some local markets.
More dramatic than the decline in numbers of institutions has been
the decline in market share of community banks. As Chart 2 indicates,
the asset share of small community banks decreased from 9 percent to 2
percent in the past 20 years, while the share of institutions with less
than $1 billion in assets fell from 33 percent to 14 percent. This
chart understates the real loss of market share for these institutions,
since it does not reflect the growing importance of asset management
activities that generate revenues but do not create assets on
institutions' balance sheets. Chart 3, which presents community banks'
share of industry earnings, shows a greater loss of share, from 12
percent to 2 percent for small community banks, and from 44 percent to
13 percent for institutions with less than $1 billion in assets.
It may seem a paradox to discuss profitability concerns at a time
when the banking industry is reporting record earnings. Last year, the
industry as a whole earned a record $122.9 billion, surpassing the
previous annual record of $120.5 billion set in 2003. When you look
behind the numbers, however, you see a considerable disparity in the
earnings picture between the largest and smallest banks in the country.
The 117 largest banks in the country (those with assets over $10
billion), which represent 1.3 percent of the total number of insured
institutions, earned $89.3 billion or about 73 percent of total
industry earnings. This is in contrast to the 4,094 banks with assets
under $100 million, which represent 46 percent of the total number of
insured institutions and earned about $2.1 billion or only 1.7 percent
of total industry earnings (see Chart 3). Moreover, when the data is
examined further, you find that banks with assets over $1 billion had
an average return on assets (ROA) of 1.31 percent, while those with
assets under $1 billion had an average ROA of 1.16 percent (see Chart
4).
The ROA comparisons understate the actual disparity in performance
between community banks and their larger counterparts. The 15 basis-
point difference in nominal ROA last year increases to a 43 basis-point
gap when the data is adjusted for the accounting effects of large-bank
mergers and different tax treatment of Subchapter S corporations. One
of the main causes of the growing difference is the greater ability of
large institutions to spread their overhead costs across a larger and
more diverse base of revenues. Chart 5 illustrates the growing
efficiency gap separating large and small institutions. It shows the
extent to which noninterest expenses absorb operating revenues.
Throughout the early 1990's, both large and small institutions were
able to control expense growth and increase revenues so that their
efficiency ratios improved (declined) in tandem. During the past 6
years, however, larger institutions have been able to continue to
improve their efficiency, whereas community banks have not. The
regressive burden of regulation, which increased considerably during
this period, contributed to this divergence in performance. Last year,
more than one out of every 10 small community banks was unprofitable.
That was more than four times the proportion of larger institutions
that were unprofitable. These numbers make it clear that community
banks, while healthy in terms of their supervisory ratings, are
operating at a lower level of profitability than the largest banks in
the country. At least part of this disparity in earnings stems from the
disproportionate impact that regulations and other fixed noninterest
costs have on community banks.
Community bankers are increasingly worried that their
institutions--and all that they mean to their communities--may not be
able to operate at an acceptable level of profitability for their
investors for too many more years under what they describe as a
``never-ending avalanche'' of regulations. As reported in the American
Banker (May 25, 2004), regulatory burden was an important factor in the
decision by two community banks to sell their institutions. While we
have only anecdotal evidence on this point, conversations concerning
merger or sale of institutions are likely occurring today in many
community bank boardrooms all over the United States.
It is not just the total volume of regulatory requirements that
pose problems for banks, but also the relative distribution of
regulatory burden across various industries that could hit community
banks hard in the future. For example, community bankers are
increasingly subject to more intense competition from credit unions
that, in many cases, have evolved from small niche players to full-
service retail depository institutions. In the past 10 years, the
number of credit unions with assets exceeding $1 billion increased
almost five-fold, from 20 institutions in 1994 to 99 institutions
today--and the credit union industry continues to grow nationwide. With
ever-expanding fields of membership and banking products, credit unions
are now competing head-to-head with banks and thrifts in many
communities, yet the conditions under which this competition exists
enable credit unions to operate with a number of advantages over banks
and thrifts. These advantages include exemption from taxation, not
being subject to the Community Reinvestment Act, and operation under a
regulatory framework that has supported and encouraged the growth of
the credit union movement, including broadening the ``field of
membership.'' These advantages make for an uneven playing field, a
condition that Congress should reexamine and seek to resolve.
Interagency Effort to Reduce Regulatory Burden
In 1996, Congress passed the Economic Growth and Regulatory
Paperwork Reduction Act (EGRPRA). EGRPRA requires the Federal Financial
Institutions Examination Council (FFIEC) and each of its member
agencies to review their regulations at least once every 10 years, in
an effort to eliminate any regulatory requirements that are outdated,
unnecessary or unduly burdensome. For the past 2 years, I have been
leading the interagency effort and am pleased to report that we are
making progress.
Under the EGRPRA statute, the agencies are required to categorize
their regulations by type (such as ``safety and soundness'' or
``consumer protection'' rules) and then publish each category for
public comment. The agencies have already jointly published four
separate requests for comment in the Federal Register. The first
notice, published on June 16, 2003, sought comment on our overall
regulatory review plan as well as the initial three categories of
regulations: Applications and Reporting; Powers and Activities; and
International Operations. The second interagency notice, published on
January 20, 2004, sought public comment on the lending-related consumer
protection regulations, which include Truth-in-Lending (Regulation Z),
Equal Credit Opportunity Act (ECOA), Home Mortgage Disclosure Act
(HMDA), Fair Housing, Consumer Leasing, Flood Insurance and Unfair and
Deceptive Acts and Practices. The third notice, published on July 20,
2004, sought public comment on remaining consumer protection
regulations (which relate primarily to deposit
accounts/relationships). The fourth notice, published on February 3,
2005, sought public comment on our antimoney laundering, safety and
soundness and securities regulations.
These four requests for comments have covered a total of 99
separate regulations. In response to these requests, the agencies
received a total of 846 comment letters from bankers, consumer and
community groups, trade associations and other interested parties. Each
of the recommendations is being carefully reviewed and
analyzed by the agency staffs. Based on these reviews, the appropriate
agency or agencies may bring forward, and request public comment on,
proposals to change specific regulations.
Banker, consumer and public insight into these issues is critical
to the success of our effort. The regulatory agencies have tried to
make it as easy as possible for all interested parties to be informed
about the EGRPRA project and to let us know what are the most critical
regulatory burden issues. The EGRPRA website, which can be found at
www.egrpra.gov, provides an overview of the EGRPRA review process, with
direct links to the actual text of each regulation. Comments submitted
through the website are automatically transmitted to all of the
financial institution regulatory agencies and posted on the EGRPRA
website. The website has proven to be a popular source for information
about the project, with thousands of hits being reported every month.
While written comments are important to the agencies' efforts to
reduce regulatory burden, it also is important to have face-to-face
meetings with bankers and consumer group representatives so they have
an opportunity to communicate their views on the issues directly. Over
the past 2 years, the agencies sponsored a total of nine banker
outreach meetings in different cities around the country to heighten
industry awareness of the EGRPRA project. Two additional meetings are
scheduled for tomorrow in New Orleans and September 21 in Boston. The
meetings provide an opportunity for the agencies to listen to bankers'
regulatory burden concerns, explore comments and suggestions, and
identify possible solutions. To date, more than 450 bankers (mostly
CEO's) and representatives from the national and State trade
associations participated in these meetings with representatives from
FDIC, FRB, OCC, OTS, CSBS, and the State regulatory agencies. Summaries
of the issues raised during the meetings are posted on the EGRPRA
website.
We also held three outreach meetings for consumer and community
groups. Representatives from a number of consumer and community groups
participated in the meetings, along with representatives from the FDIC,
FRB, OCC, OTS, NCUA, and CSBS. The meetings provided a useful
perspective on the effectiveness of many existing regulations. We will
hold one additional meeting with consumer and community groups on
September 22 in Boston, Massachusetts, and we are willing to hold
additional meetings if there is sufficient interest among consumer and
community groups.
Response by the Regulatory Agencies
The tremendous regulatory burden that exists was not created
overnight and unfortunately, from my perspective, cannot be eradicated
overnight. It is a slow and arduous process, but I believe that we are
making some headway. In fact, the banking and thrift regulatory
agencies are working together closely and harmoniously on a number of
projects to address unnecessary burdens affirmatively. In addition to
eliminating outdated and unnecessary regulations, the agencies have
identified more efficient ways of achieving important public policy
goals of existing statutes. Although we have much work ahead of us,
there has been significant progress to date. Here are some notable
examples:
Community Reinvestment Act Regulations
On February 22, 2005, the FDIC, along with the OCC, issued a
proposal to amend the Community Reinvestment Act (CRA) regulations. The
Federal Reserve Board issued a very similar proposal shortly
thereafter. The agencies' proposal would raise the ``small bank''
threshold in the CRA regulations to $1 billion in assets, without
regard to holding company assets. This would represent a significant
increase in the small bank threshold from the current level of $250
million which was established in 1995. Under the proposal, just over
1,566 additional banks (those with assets between $250 and $1 billion)
would be subject to small bank reporting and streamlined examination
standards.
This proposal does not exempt any institutions from complying with
CRA--all banks, regardless of size, will be required to be thoroughly
evaluated within the business context in which they operate. The
proposal includes a ``community development test'' for banks between
$250 million and $1 billion in assets which would be separately rated
in CRA examinations. This community development test would provide
eligible banks with greater flexibility to meet CRA requirements than
the large bank test under which they are currently evaluated. Another
effect of the proposal would be the elimination of certain collection
and reporting requirements that currently apply to banks between $250
million and $1 billion in assets.
These changes to the regulation, if adopted as proposed, would
result in significant regulatory burden reduction for a number of
institutions. I recognize that there are many competing interests and
that community groups, in particular, as well as many Members of
Congress, generally oppose any increase at all in the threshold level--
and I remain receptive to all points of view. The comment period for
this proposal closed on May 10, 2005, and the FDIC received
approximately 3,800 comment letters. It is my hope that, after
carefully considering all comments, the agencies will agree on a final
rule before the end of this year.
Privacy Notices
On December 30, 2003, the Federal bank, thrift and credit union
regulatory agencies, in conjunction with the Federal Trade Commission,
SEC, and the Commodity Futures Trading Commission, issued an Advanced
Notice of Proposed Rulemaking (ANPR), seeking public comment on ways to
improve the privacy notices required by the Gramm-Leach-Bliley Act.
Although there are many issues raised in the ANPR, the heart of the
document solicited comment on how the privacy notices could be improved
to be more readable and useful to consumers, while reducing the burden
on banks and other service providers required to distribute the
notices. In response to the comments received, the agencies are
conducting consumer research and testing that will be used to develop
privacy notices that meet these goals. As they do so, it is important
for the agencies to continue to be mindful that changes to privacy
notices and the requirements for their distribution may themselves
create new costs for the banking industry.
Consumer Disclosures
In recent speeches, Acting Comptroller Julie Williams called for a
comprehensive review of existing consumer disclosures to make them more
useful and understandable for consumers as well as less burdensome for
banks. I applaud her efforts to highlight this issue and agree that we
should take a careful look at the large number and actual content of
all consumer disclosures required by law. Consumers may in fact be
experiencing ``information overload.'' Beginning with the Truth in
Lending Act 35 years ago, through the privacy provisions of the Gramm-
Leach-Bliley Act and culminating with the recently enacted FACT Act,
there are now dozens of consumer laws and regulations, any number of
which might apply, depending on the transaction. Chart 6 graphically
depicts some of the laws and regulations that a bank must be concerned
with under different mortgage lending scenarios.
The sheer number of potential disclosures raises several questions:
(1) Are the numbers of disclosures too many for banks and consumers to
deal with effectively; (2) do consumers find the disclosures too
complicated, conflicting, and duplicative; and (3) are these
disclosures failing to achieve their designated purpose in helping
consumers become informed customers of financial services? I think we
need to look at the whole panoply of disclosures and find ways to
eliminate the existing overlap, duplication, and confusion. We may have
reached a point where we have ``nondisclosure by over-disclosure.'' I
look forward to working with my fellow regulators to improve the
current situation with respect to consumer disclosures.
BSA and USA PATRIOT Act Guidance
There is no question that financial institutions and the regulators
must be extremely vigilant in their efforts to implement the Bank
Secrecy Act (BSA) in order to thwart terrorist financing efforts and
money-laundering. Last year, bankers filed over 13 million Currency
Transaction Reports (CTR's) and over 300,000 Suspicious Activity
Reports (SAR's) with the Financial Crimes Enforcement Network (FinCEN).
Although FinCEN is providing more information to bankers than
previously, bankers still believe they are filing millions of CTR's and
SAR's that are not utilized for any law enforcement purpose.
Consequently, bankers believe that a costly burden is being carried by
the industry which is providing little benefit to anyone. In an effort
to address this concern and enhance the effectiveness of these
programs, the financial institution regulatory agencies are working
together with FinCEN and various law enforcement agencies, through task
forces of the Bank Secrecy Act Advisory Group, to find ways to
streamline reporting requirements for CTR's and SAR's and make the
reports that are filed more useful for law enforcement and to
communicate with bankers more effectively.
In the next week or so, the bank and thrift regulatory agencies are
expected to issue detailed BSA examination procedures that will address
many of the questions bankers have about BSA compliance. To further
assist banks, the agencies and FinCEN issued interpretive guidance
designed to clarify the requirements for appropriately assessing and
minimizing risks posed when providing banking services to Money
Services Businesses. Bankers understand the vital importance of knowing
their customers and thus generally do not object to taking additional
steps necessary to verify the identity of their customers. However,
bankers wanted guidance from the regulators on how to establish
appropriate customer identification requirements under the USA PATRIOT
Act. In response, the bank and thrift regulatory agencies, the Treasury
Department and FinCEN issued interpretive guidance to all financial
institutions to assist them in developing a Customer Identification
Program (CIP). The interagency guidance answered the most frequently
asked questions about the requirements of the CIP rule. Finally, with
respect to the requirements of the Office of Foreign Assets Control
(OFAC), the agencies are working to develop examination procedures and
guidance for OFAC compliance.
I have met on several occasions with FinCEN's Director, William
Fox, and pledged to work with him to make reporting under the BSA more
effective and efficient, while still meeting the important crime-
fighting objectives of antiterrorism and antimoney-laundering laws. I
am convinced that we can find ways to make this system more effective
for law enforcement, while at the same time make it more cost efficient
and less burdensome for bankers.
FDIC Efforts to Relieve Regulatory Burden
In addition to the above-noted interagency efforts to reduce
regulatory burden, the FDIC, under the leadership of Chairman Powell,
has undertaken a number of initiatives to improve the efficiency of our
operations and reduce regulatory burden, without compromising safety
and soundness or undermining important consumer protections. Over the
last several years, we have streamlined our examination processes and
procedures with an eye toward better allocating FDIC resources to areas
that could ultimately pose greater risks to the insurance funds--such
as problem banks, large financial institutions, high-risk lending,
internal controls, and fraud. Some of our initiatives to reduce
regulatory burden include the following:
(1) Raised the threshold for well-rated, well-capitalized banks to
qualify for streamlined safety and soundness examinations under the
FDIC MERIT examination program from $250 million to $1 billion so
that the FDIC's resources are better focused on managing risk to
the insurance funds;
(2) Implemented more risk-focused compliance, trust, and IT specialty
examinations, placing greater emphasis on an institution's
administration of its compliance and fiduciary responsibilities and
less on transaction testing;
(3) Initiated electronic filing of branch applications through ``FDIC
Connect'' and began exploring alternatives for further streamlining
the deposit insurance application process in connection with new
charters and mergers;
(4) Simplified the deposit insurance coverage rules for living trust
accounts so that the rules are easier to understand and administer;
(5) Simplified the assessment process by providing institutions with
electronic invoices and eliminating most of the paperwork
associated with paying assessments;
(6) Amended our international banking regulations to expand the
availability of general consent authority for foreign branching and
investments in certain circumstances and replaced the fixed asset
pledge with a risk-based pledge requirement;
(7) Reviewed existing Financial Institution Letters (FIL's) to
eliminate outdated or unnecessary directives and completely changed
the basic format of the FIL's to make them easier to read.
(8) Provided greater resources to bank directors, including the
establishment of a ``Director's Corner'' on the FDIC website, as a
one-stop site for Directors to obtain useful and practical
information to in fulfilling their responsibilities, and the
sponsorship of many ``Director's Colleges'' around the country;
(9) Made it easier for banks to assist low and moderate-income
individuals, and obtain CRA credit for doing so, by developing
Money Smart, a financial literacy curriculum and making available
the Money Smart Program free-of-charge to all insured institutions;
(10) Implemented an interagency charter and Federal deposit insurance
application that eliminates duplicative information requests by
consolidating into one uniform document, the different reporting
requirements of the three regulatory agencies (FDIC, OCC, and OTS);
(11) Revised our internal delegations of authority to push more
decisionmaking out to the field level to expedite decisionmaking
and provide institutions with their final Reports of Examination on
an expedited basis; and
(12) Provided bankers with a customized version of the FDIC Electronic
Deposit Insurance Estimator (EDIE), a CD-ROM, and downloadable
version of the web-based EDIE, which allows bankers easier access
to information to help determine the extent to which a customer's
funds are insured by the FDIC.
(13) Amended the FDIC's securities disclosure regulations for banks
subject to the registration and disclosure requirements of the
Securities Exchange Act of 1934 so that the reporting requirements
remain substantially similar to those required of all publicly
traded companies by the Sarbanes-Oxley Act of 2002.
(14) Adopted revised guidelines for supervisory and assessment appeals
to provide more transparency and independence in the appeals
process.
The FDIC is aware that regulatory burden does not emanate only from
statutes and regulations, but often comes from internal processes and
procedures. Therefore, we continually strive to improve the way we
conduct our affairs, always looking for more efficient and effective
ways to meet our responsibilities.
Legislative Proposals to Reduce Regulatory Burden
Mr. Chairman, I wish to commend you, Senator Crapo, and the other
distinguished Members of your Committee for your efforts to develop
legislation to remove unnecessary regulatory burden from the banking
industry. Since most of our regulations are mandated by statute, I
believe it is critical that the agencies work hard not only on the
regulatory front, but also on the legislative front, to alert Congress
to unnecessary regulatory burden. In fact, the EGRPRA statute requires
us to identify and address unnecessary regulatory burdens that must be
addressed by legislative action.
Almost a year ago, I testified on regulatory burden relief before
this Committee, along with 18 other witnesses. At the end of the
hearing, Senator Crapo asked me, as the leader of the interagency
EGRPRA task force, to review the testimony presented at the hearing and
extract the various regulatory burden reduction proposals. The result
was a matrix with a total of 136 burden reduction proposals.
Thereafter, I convened a meeting of banking industry
representatives from the American Bankers Association, America's
Community Bankers, the Independent Community Bankers of America, and
the Financial Services Roundtable, who together reviewed the matrix of
136 proposals in an effort to determine which of these proposals they
could all support as industry consensus items. This process yielded a
list of 78 banking industry consensus items.
The FDIC reviewed the 78 banking industry consensus proposals for
safety and soundness, consumer protection and other public policy
concerns and determined that we could affirmatively support 58 of the
78 industry consensus proposals. There are other proposals that, after
review, the FDIC determined we have ``no objection'' to or we take ``no
position'' on, since the proposals do not affect either the FDIC or the
institutions we regulate. There are only five of the banking industry
consensus proposals that the FDIC opposes.
The next step in the consensus building process was to share our
positions with the other Federal banking agencies in an effort to reach
interagency consensus. After much work, negotiation, and compromise,
the FRB, OCC, OTS, and the FDIC agreed to support twelve of the banking
industry consensus proposals. This ``bankers' dozen'' includes the
following specific proposals for regulatory burden relief, which are
described in greater detail in the testimony's Appendix:
Authorize the Federal Reserve to Pay Interest on Reserves
This amendment gives the Federal Reserve express authority to pay
interest on balances that depository institutions are required to
maintain at the Federal Reserve Banks. By law, depository institutions
are required to hold funds against transaction accounts held by
customers of those institutions. These funds must be held in cash or on
reserve at Federal Reserve Banks. Over the years, institutions have
tried to minimize their reserve requirements. Allowing the Federal
Reserve Banks to pay interest on those reserves should put an end to
economically wasteful efforts by banks to circumvent the reserve
requirements. Moreover, it could be helpful in ensuring that the
Federal Reserve will be able to continue to implement monetary policy
with its existing procedures.
Increase Flexibility for the Federal Reserve Board to Establish Reserve
Requirements
This proposal gives the Federal Reserve Board greater discretion in
setting reserve requirements for transaction accounts below the ranges
established in the Monetary Control Act of 1980. The provision
eliminates current statutory minimum reserve requirements for
transaction accounts, thereby allowing the Board to set lower reserve
requirements, to the extent such action is consistent with the
effective implementation of monetary policy.
Repeal Certain Reporting Requirements Relating to Insider Lending
These amendments repeal certain reporting requirements related to
insider lending imposed on banks and savings associations, their
executive officers, and their principal shareholders. The reports
recommended for elimination are: (1) reports by executive officers to
the board of directors whenever an executive officer obtains a loan
from another bank in an amount more than he or she could obtain from
his or her own bank; (2) quarterly reports from banks regarding any
loans the bank has made to its executive officers; and (3) annual
reports from bank executive officers and principal shareholders to the
bank's board of directors regarding their outstanding loans from a
correspondent bank.
Federal banking agencies have found that these particular reports
do not contribute significantly to the monitoring of insider lending or
the prevention of insider abuse. Identifying insider lending is part of
the normal examination and supervision process. The proposed amendments
would not alter the restrictions on insider loans or limit the
authority of the Federal banking agencies to take enforcement action
against a bank or its insiders for violations of those restrictions.
Streamline Depository Institution Merger Application Requirements
This proposal streamlines merger application requirements by
eliminating the requirement that each Federal banking agency must
request a competitive factors report from the other three Federal
banking agencies, in addition to requesting a
report from the Attorney General. Instead, the agency reviewing the
application would be required to request a report only from the
Attorney General and give notice to the FDIC as insurer.
Shorten Post-Approval Waiting Period on Bank Mergers and Acquisitions
Where
There Are No Adverse Effects on Competition
The proposed amendments to the Banking Holding Company Act and the
Federal Deposit Insurance Act shortens the current 15-day minimum post-
approval waiting period for certain bank acquisitions and mergers when
the appropriate Federal banking agency and the Attorney General agree
that the transaction would not have significant adverse effects on
competition. Under those circumstances, the waiting period could be
shortened to 5 days. However, these amendments do not shorten the time
period for private parties to challenge the transaction under the
Community Reinvestment Act.
Improve Information Sharing with Foreign Supervisors
This proposal amends Section 15 of the International Banking Act of
1978 to add a provision to ensure that the Federal Reserve, OCC, FDIC,
and OTS cannot be compelled to disclose information obtained from a
foreign supervisor in certain circumstances. Disclosure could not be
compelled if public disclosure of the information would be a violation
of the applicable foreign law and the U.S. banking agency
obtained the information under an information sharing arrangement or
other procedure established to administer and enforce the banking laws.
This amendment provides assurance to foreign supervisors that may
otherwise be reluctant to enter into information sharing agreements
with U.S. banking agencies because of concerns that those agencies
could not keep the information confidential and public disclosure could
subject the foreign supervisor to a violation of its home country law.
It also facilitates information sharing necessary to supervise
institutions operating internationally, lessening duplicative data
collection by individual national regulators. The banking agency,
however, cannot use this provision as a basis to withhold information
from Congress or to refuse to comply with a valid court order in an
action brought by the United States or the agency.
Provide an Inflation Adjustment for the Small Depository Institution
Exception
under the Depository Institution Management Interlocks Act
This amendment increases the threshold for the small depository
institution exception under the Depository Institution Management
Interlocks Act. Under current law, a management official generally may
not serve as a management official for another nonaffiliated depository
institution or depository institution holding company if their offices
are located, or they have an affiliate located, in the same
metropolitan statistical area (MSA). For institutions with less than
$20 million in assets, this MSA restriction does not apply. The
proposal increases the MSA threshold, which dates back to 1978, to $100
million.
Exempt Merger Transactions Between an Insured Depository Institution
and
One or More of its Affiliates from Competitive Factors Review and
Post-Approval Waiting Periods
This proposal amends the Bank Merger Act (12 U.S.C. 1828(c)) to
exempt certain merger transactions from both the competitive factors
review and post-approval waiting periods. It applies only to merger
transactions between an insured depository institution and one or more
of its affiliates, as this type of merger is generally considered to
have no affect on competition.
Increase Flexibility for Flood Insurance
These amendments make a number of changes to the Flood Disaster
Protection Act of 1973 to: (1) increase the maximum dollar amount
qualifying for the ``small loan'' exception to the requirement to
purchase flood insurance and adjust that maximum loan amount
periodically based on the Consumer Price Index; (2) eliminate the 15-
day gap between the 30-day grace period during which flood insurance
coverage continues after policy expiration and the 45-day period
required after policy expiration before a lender can purchase insurance
on the borrower's behalf; and (3) replace the current mandatory system
for imposing civil monetary penalties in
response to significant violations of the flood insurance requirements
with a discretionary system for doing so. These amendments would both
reduce burden on lenders and give the Federal supervisory agencies
greater discretion to tailor their responses to violations more closely
to the facts of individual cases.
Enhance Examination Flexibility
This proposal raises the total asset threshold for small
institutions to qualify for an 18-month examination cycle from $250
million to $500 million, thus potentially permitting more institutions
to qualify for less frequent examinations. The FDI Act requires the
banking agencies to conduct a full-scale, on-site examination of the
insured depository institutions under their jurisdiction at least once
every 12 months. The Act provides an exception for small institutions--
that is, institutions with total assets of less than $250 million--that
are well-capitalized and well-managed, and meet other criteria.
Examinations of these qualifying smaller institutions are required at
least once every 18 months. The proposal would reduce regulatory burden
on low-risk, smaller institutions and permit the banking agencies to
focus their resources on the highest-risk institutions.
Call Report Streamlining
This proposal requires the Federal banking agencies to review
information and schedules required to be filed in Reports of Condition
(Call Reports) every 5 years to determine if some of the required
information and schedules can be eliminated. Preparing the Call Report
has become a significant burden for many banks. A bank must report a
substantial amount of financial and statistical information with its
Call Report schedules that appears to be unnecessary to assessing the
financial health of the institution and determining the amount of
insured deposits it holds. This amendment requires the agencies to
review the real need for information routinely so as to reduce that
burden.
Authorize Member Bank to Use Pass-Through Reserve Accounts
This amendment allows banks that are members of the Federal Reserve
System to count as reserves their deposits in affiliated or
correspondent banks that are in turn ``passed through'' by those banks
to the Federal Reserve Banks as required reserve balances. It extends
to these member banks a privilege that was granted to nonmember
institutions at the time of the Depository Institutions Deregulation
and Monetary Control Act of 1980.
Additional Proposals
The above-noted, industry-backed proposals have the unanimous
support of all the Federal bank and thrift regulatory agencies.
However, they are not the only legislative proposals to reduce
regulatory burden that are supported by one or more of the regulatory
agencies. In fact, many of the other banking industry consensus items
have support from multiple Federal banking agencies. In a matrix of
legislative proposals prepared by Senate staff, there are dozens of
proposals with multiple agency support, no objection, or no position.
(It is important to note that the indication of ``no position'' by some
agencies does not indicate that the agency has decided not to object to
a particular proposal.) These proposals may yet yield a number of
industry consensus regulatory burden relief proposals agreeable to all
of the Federal banking agencies. We are continuing to work toward this
goal within the context of the Interagency EGRPRA Task Force.
The EGRPRA process has produced a wealth of proposals. The
synergism that has resulted from the EGRPRA process makes me believe
that there is real momentum behind the effort to reduce regulatory
burden on the industry. I look forward to working with the Committee on
developing a comprehensive legislative package that provides real
regulatory relief for the industry. I am certain that this hearing will
provide valuable input for the comprehensive package.
Conclusion
Mr. Chairman, as I stated at the outset, the EGRPRA process
addresses the problem of regulatory burden for every federally insured
financial institution. Banks and thrifts, both large and small, labor
under the cumulative weight of our regulations. If we do not do
something to stem the tide of ever increasing regulation, a vital part
of the banking system will disappear from many of the communities that
need it the most. That is why it is incumbent upon all of us--Congress,
regulators, industry, and consumer groups--to work together to
eliminate any outdated, unnecessary, or unduly burdensome regulations.
I remain personally committed to accomplishing that objective, no
matter how difficult it may be to achieve.
Now is the time to take action to address the unnecessary
regulations that face the banking industry every day. There seems to be
a real consensus building to address this issue. I remain confident
that, if we all work together, we can find ways to regulate that are
both more effective and less burdensome, without jeopardizing the
safety and soundness of the industry or diluting important consumer
protections.
Thank you for providing me with this opportunity to testify.
----------
PREPARED STATEMENT OF JULIE L. WILLIAMS *
Acting Comptroller of the Currency
Office of the Comptroller of the Currency
June 21, 2005
Introduction
Chairman Shelby, Ranking Member Sarbanes, and Members of the
Committee, I appreciate this opportunity to appear before you today to
discuss the challenge of reducing unnecessary regulatory burden on
America's banks. I also want to take this opportunity to express
appreciation to Senator Crapo for his commitment and dedication to this
issue.
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* Appendix held in Committee files.
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The Office of the Comptroller of the Currency (OCC) welcomes the
opportunity to discuss this challenge and to offer suggestions for
reforms, including some suggestions particularly affecting national
banks and the national banking system. We appreciate your efforts to
pursue regulatory burden relief legislation, as evidenced by this
hearing today.
Unnecessary burdens are not simply a matter of bank costs. When
unnecessary regulatory burdens drive up the cost of doing business for
banks, bank customers feel the impact in the form of higher prices and,
in some cases, diminished product choice. Unnecessary regulatory burden
also can become an issue of competitive viability, particularly for our
Nation's community banks. Over-regulation neither encourages greater
competition nor improved allocation of resources; to the contrary, it
can shackle competition and lead to inefficient use of resources.
The regulatory burdens imposed on our banks arise from several
sources. One source is regulations promulgated by the Federal banking
agencies. Thus, when we review the regulations we already have on the
books and consider new ones, we have a responsibility to ensure that
our regulations effectively protect safety and soundness, foster the
integrity of bank operations, and safeguard the interests of consumers,
and do not impose regulatory burdens that exceed what is necessary to
achieve those goals, and thereby act as a drag on our banks' efficiency
and competitiveness.
We also need to recognize that not all the regulatory burdens
imposed on banks today come from regulations promulgated by bank
regulators. Thus, we welcome the interest of the Committee in issues
such as regulatory implementation of the Bank Secrecy Act and anti-
money laundering standards, and the ongoing efforts by the Securities
and Exchange Commission (SEC) to implement the so-called ``push-out''
provisions of the Gramm-Leach-Bliley Act (GLBA) in a manner that is
faithful to GLBA's intent and not so burdensome as to drive established
banking functions out of banks.
Another source of regulatory burden is mandates of Federal
legislation. Thus, relief from some manifestations of unnecessary
regulatory burden requires action by Congress. My testimony contains a
number of recommendations for legislative changes to reduce unnecessary
regulatory burden by adding provisions to law to provide new
flexibilities, modify requirements to be less burdensome, and in some
cases, eliminate certain requirements currently in the law. This
hearing today is a crucial stage in that process.
In summary, my testimony will:
First, summarize how the Federal banking agencies are working
together under the able leadership of Federal Deposit Insurance
Corporation (FDIC) Vice Chairman Reich through the process required
by the Economic Growth and Regulatory Paperwork Reduction Act of
1996 (EGRPRA) to identify unnecessary regulatory burdens;
Second, summarize some important regulatory initiatives that
the OCC is pursuing with the other Federal banking agencies to
reduce burden;
Third, summarize several of the OCC's priority legislative
items for regulatory burden relief;
Fourth, in the area of consumer protection, explain how we can
both reduce unnecessary regulatory burden and more effectively use
disclosures to provide information to consumers in a more
meaningful way;
Fifth, provide an overview of some other legislative items
that the OCC supports that are included in a regulator/industry
consensus package; and
Sixth, provide some additional comments about other
legislative proposals.
Regulatory Initiatives to Address Regulatory Burden
EGRPRA Process
The OCC is an active participant in and supporter of the regulatory
burden reduction initiative being led by FDIC Vice Chairman Reich.
Under Vice Chairman Reich's capable and dedicated leadership, the
Federal banking agencies are working together to conduct the regulatory
review required under Section 2222 of EGRPRA. Section 2222 requires the
Federal Financial Institutions Examination Council and each Federal
banking agency to identify outdated, unnecessary regulatory
requirements and, in a report to Congress, to address whether such
regulatory burdens can be changed through regulation or require
legislative action. The current review period ends in September 2006.
The Federal banking agencies--the OCC, the Board of Governors of
the Federal Reserve System (Fed), the FDIC, and the Office of Thrift
Supervision (OTS)--have divided their regulations into thirteen
categories for purposes of publishing those regulations for review as
part of the EGRPRA process. Since the first joint notice was published
in mid-2003, the agencies have issued a total of four joint notices for
public comment and are about to put out a fifth. To date, we have
received over 700 comments on our notices. We anticipate that a sixth
and final joint notice will be published in the first half of 2006.
Every comment received will be considered in formulating the agencies'
recommendations for specific regulatory changes as well as legislative
recommendations.
Moreover, in addition to soliciting written comments, the Federal
banking agencies, in conjunction with the Conference of State Bank
Supervisors and State regulatory agencies, have held nine banker
outreach meetings in different cities and
regions throughout the country to hear firsthand the bankers' concerns
and suggestions to reduce burden. Additional outreach meetings may be
scheduled. The agencies also are making every effort to ensure that
there is ample opportunity for consumers and the industry to
participate in this process, and we have held three consumer and
community outreach meetings, including one in the Washington, DC area.
Other Burden Reduction Regulatory Initiatives
The OCC constantly reviews its regulations to identify
opportunities to streamline regulations or regulatory processes, while
ensuring that the goals of protecting safety and soundness, maintaining
the integrity of bank operations, and safeguarding the interests of
consumers are met. In the mid-1990's, pursuant to our comprehensive
``Regulation Review'' project, we went through every regulation in our
rulebook with that goal in mind. We have since conducted several
supplemental reviews focused on particular areas where we thought
further improvements could be made. The following are several
significant regulatory projects we are pursuing to identify and reduce
unnecessary regulatory burdens.
Improving the Value and Reducing the Burden of Privacy Notices. The
OCC, together with the other Federal banking agencies, the Federal
Trade Commission, the SEC, and the Commodity Futures Trading
Commission, have undertaken an unprecedented initiative to simplify the
privacy notices required under GLBA. Over a year ago, the agencies
asked for comments on whether to consider amending their respective
privacy regulations to allow, or require, financial institutions to
provide alternative types of privacy notices, such as a short-form
privacy notice, that would be more understandable and useful for
consumers and less burdensome for banks to provide. The agencies also
asked commenters to provide sample privacy notices that they believe
work well for consumers, and to provide the results of any consumer
testing that has been conducted in this area.
The OCC and the other agencies then engaged experts in plain
language disclosures and consumer testing to assist in conducting a
series of focus groups and consumer interviews to find out what
information consumers find most meaningful, and the most effective way
to disclose that information to them. We expect that this consumer
testing will be completed by the end of the year and will form the
basis for a proposal to revise the current privacy notice rules.
Personally, I believe this project has the potential to be a win-win
for consumers and financial institutions--more effective and meaningful
disclosures for consumers, and reduced burden on institutions that
produce and distribute privacy notices.
Reducing CRA Burden on Small Banks. Recently, the OCC, the Fed, and
the FDIC proposed amendments to our Community Reinvestment Act (CRA)
regulations. The comment period closed a little over a month ago--on
May 10. Current CRA rules define a ``small bank'' as a bank with assets
of up to $250 million. Banks above that asset threshold are categorized
as ``large'' banks for CRA purposes and are subject to a three-part
test that separately assesses their lending, services, and investments
in their assessment areas.
The proposal would create a new class of ``intermediate'' small
banks, namely those with assets between $250 million and $1 billion.
``Intermediate'' small banks would be subject to the streamlined small
bank lending test and a flexible new community development test that
would look to the mix of community development lending, investment, and
services that a bank provides, particularly in light of the bank's
resources and capacities, and the needs of the communities it serves.
``Intermediate'' small banks also would no longer be subject to certain
data collection and reporting requirements.
The OCC, the Fed, and the FDIC joined in this proposal, which we
thought was an effort to carefully balance the goals of reducing
unnecessary regulatory reporting burdens with achieving the goals of
the CRA. We are now reviewing the comments we received in response to
the proposal and hope to conclude the rulemaking process in the near
future.
OCC Support for Regulatory Burden Relief Legislation
The OCC also has recommended a package of legislative amendments
that we believe will help reduce unnecessary regulatory burden on
national banks and other depository institutions. I am pleased to
present those items to you today for your consideration. In addition,
the banking agencies have been discussing jointly recommending certain
legislative changes to reduce burdens that have been identified as part
of the EGRPRA process. The consensus items supported by the four
Federal banking agencies and the industry also are discussed below in
my testimony.\1\ As the legislative process moves forward, we may
jointly support additional items.
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\1\ It is important to point out that, while a particular item
recommended by the OCC, for example, may not be on the consensus list,
this does not necessarily mean that a particular trade group or another
Federal agency would oppose the item. In most cases, it simply means
that an industry group or a Federal banking agency has not taken a
position on the item.
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My testimony highlights some of the important items that the OCC
believes will reduce regulatory burden on our banking system and
benefit consumers. We have highlighted other changes that the OCC
believes will significantly enhance safety and soundness. These and
other suggestions are discussed in more detail in Appendix #1 to my
testimony.\2\
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\2\ Many of the suggested changes that we discuss were included in
H.R. 1375, the Financial Services Regulatory Relief Act of 2004, as
passed by the House in the last Congress on March 18, 2004. However, we
also are recommending some amendments that were not part of the House-
passed bill.
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National Bank-Related Provisions
Repealing State Opt-In Requirements for De Novo Branching. Repeal
of the State opt-in requirement that applies to banks that choose to
expand interstate by establishing branches de novo would remove a
significant unnecessary burden imposed on both national and State banks
that seek to establish new interstate branch facilities to enhance
service to customers. Under the Riegle-Neal Interstate Banking and
Branching Efficiency Act of 1994, interstate expansion through bank
mergers
generally is subject to a State ``opt-out'' that had to be in place by
June 1, 1997. Interstate bank mergers are now permissible in all 50
states. De novo branching, however, is permissible only in those
approximately 23 States that have affirmatively opted-in to allow the
establishment of new branches in the State. Approximately 17 of these
23 States impose a reciprocity requirement.
In many cases, in order to serve customers in multistate
metropolitan areas or regional markets, banks must structure artificial
and unnecessarily expensive transactions in order to establish a new
branch across a State border. Enactment of this recommended amendment
would relieve these unnecessary and costly burdens on both national and
State banks.
Resolving Issues About Federal Court Diversity Jurisdiction.
Another high priority item is an amendment that would resolve the
differing interpretations of the State citizenship rule for national
banks (and Federal thrifts) for purposes of determining Federal court
diversity jurisdiction. This issue has significant practical
consequences in terms of unnecessary legal costs and operational
uncertainties for both national banks and Federal thrifts. We are
cooperating with the OTS on this issue and we would be pleased to work
with your staff on a legislative proposal.
The controversy has taken on increased importance for national
banks in light of a recent Federal appeals court decision by the Fourth
Circuit in November 2004 that created a split in the circuits by
finding that, for purposes of determining diversity jurisdiction, a
national bank is a citizen of every State in which it has a branch or
potentially any other type of permanent office.\3\ Under the Fourth
Circuit's diversity jurisdiction interpretation, federally chartered
national banks would be denied access to Federal court any time any
opposing party is a citizen of a State in which the bank has a branch.
While a national bank with just one interstate branch would be affected
by this decision, the consequences are most severe for national banks
that have established interstate branches in multiple States.
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\3\ See Wachovia Bank v. Schmidt, 388 F.3d 414 (4th Cir. 2004).
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The Fourth Circuit's opinion has created uncertain standards on
this issue since every other Federal Circuit Court has reached a
contrary conclusion. In October 2004, the Fifth Circuit held that, in
determining citizenship for purposes of Federal court diversity
jurisdiction, a national bank is not located at its interstate branch
locations.\4\ Similarly, in 2001, the Seventh Circuit found that a
national bank is a citizen of only the State of its principal place of
business and the State listed in its organization certificate.\5\
Indeed, over 60 years ago, the Ninth Circuit considered this issue and
concluded that a national bank is a citizen only of the State where it
maintains its principal place of business.\6\
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\4\ See Horton v. Bank One, N.A., 387 F.3d 426 (5th Cir. 2004).
\5\ See Firstar Bank, N.A. v. Faul, 253 F.3d 982 (7th Cir. 2001).
\6\ See American Surety Co. v. Bank of California, 133 F.2d 160
(9th Cir. 1943).
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Although the Supreme Court has recently agreed to review the Fourth
Circuit's decision, this review does not supplant the need for a
uniform rule that would apply to national banks and Federal savings
associations to ensure that all federally chartered depository
institutions are treated in the same manner with respect to access to
Federal court in diversity cases.\7\ Providing more certainty on this
issue would reduce burden on national banks and Federal thrifts,
including the substantial costs associated with repeatedly litigating
this issue.
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\7\ Federal thrifts are subject to similar uncertainty as national
banks because Federal law does not currently specify their citizenship
for purposes of diversity jurisdiction. Thus, courts have concluded
that a Federal thrift generally is not a citizen of any State. See, for
example, First Nationwide Bank v. Gelt Funding, Inc., No. 92 Civ. 0790,
1992 U.S. Dist. LEXIS 18278, at 30 (S.D.N.Y. Nov. 30, 1992).
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Providing Relief for Subchapter S National Banks. Another priority
item supported by the OCC is an amendment that would allow directors of
national banks that are organized as Subchapter S corporations to
purchase subordinated debt instead of capital stock to satisfy the
directors' qualifying shares requirements in national banking law. As a
result, the directors purchasing such debt would not be counted as
shareholders for purposes of the 100-shareholder limit that applies to
Subchapter S corporations. This relief would make it possible for more
community banks with national bank charters to organize in Subchapter S
form while still requiring that such national bank directors retain
their personal stake in the financial soundness of these banks.
Simplifying Dividend Calculations for National Banks. Under current
law, the formula for calculating the amount that a national bank may
pay in dividends is both complex and antiquated and unnecessary for
purposes of safety and soundness. The amendment supported by the OCC
would make it easier for national banks to perform this calculation,
while retaining safeguards in the current law that provide that
national banks (and State member banks) \8\ need the approval of the
Comptroller (or the Fed in the case of State member banks) to pay a
dividend that exceeds the current year's net income combined with any
retained net income for the preceding 2 years. The amendment would
ensure that the OCC (and the Fed for State member banks) would continue
to have the opportunity to deny any dividend request that may deplete
the net income of a bank that may be moving toward troubled condition.
Other safeguards, such as Prompt Corrective Action, which prohibit any
insured depository institution from paying any dividend if, after that
payment, the institution would be undercapitalized (see 12 U.S.C.
Sec. 1831o(d)(1)) would remain in place.
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\8\ See 12 U.S.C. Sec. 324 and 12 CFR Sec. 208.5 generally applying
the national bank dividend approval requirements to state member banks.
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Modernizing Corporate Governance. The OCC also supports an
amendment that would eliminate a requirement that precludes a national
bank from prescribing, in its articles of association, the method for
election of directors that best suits its business goals and needs.
Unlike most other companies and State banks, national banks cannot
choose whether or not to permit cumulative voting in the election of
their directors. Instead, current law requires a national bank to
permit its shareholders to vote their shares cumulatively. Providing a
national bank with the authority to decide for itself whether to permit
cumulative voting in its articles of association would conform the
National Bank Act to modern corporate codes and provide a national bank
with the same corporate flexibility available to most corporations and
State banks.
Modernizing Corporate Structure Options. Another amendment
supported by the OCC is an amendment to national banking law clarifying
that the OCC may permit a national bank to organize in any business
form, in addition to a ``body corporate.'' An example of an alternative
form of organization that may be permissible would be a limited
liability national association, comparable to a limited liability
company. The provision also would clarify that the OCC by regulation
may provide the organizational characteristics of a national bank
operating in an alternative form,
consistent with safety and soundness. Except as provided by these
organizational characteristics, all national banks, notwithstanding
their form of organization, would have the same rights and privileges
and be subject to the same restrictions, responsibilities, and
enforcement authority.
For example, organization as a limited liability national
association may be a particularly attractive option for community
banks. The bank may then be able to take advantage of the pass-through
tax treatment for comparable entities organized as limited liability
companies (LLC's) under certain tax laws and eliminate double taxation
under which the same earnings are taxed both at the corporate level as
corporate income and at the shareholder level as dividends. Some States
currently permit State banks to be organized as unincorporated LLC's
and the FDIC adopted a rule allowing certain state bank LLC's to
qualify for Federal deposit insurance. This amendment would clarify
that the OCC can permit national banks to organize in an alternative
business form, such as an LLC, in the same manner.
Paying Interest on Demand Deposits. The OCC supports amendments to
the banking laws to repeal the statutory prohibition that prevents
banks from paying interest on demand deposits.\9\ The prohibition on
paying interest on demand deposits was enacted approximately 70 years
ago for the purpose of deterring large banks from attracting deposits
away from community banks. The rationale for this provision is no
longer applicable today and financial product innovations, such as
sweep services, allow banks and their customers to avoid the statutory
restrictions. Repealing this prohibition would reduce burden on
consumers, including small businesses, and reduce costs associated with
establishing such additional accounts to avoid the restrictions.
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\9\ This provision was included in H.R. 1224, the Business Checking
Freedom Act of 2005, as recently reported by the House Financial
Services Committee and as passed by the House on May 24, 2005.
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Giving National Banks More Flexibility in Main Office Relocations.
The OCC supports an amendment to national banking law that will reduce
unnecessary burdens on a national bank seeking to relocate its main
office within its home State. The amendment would provide that a
national bank that is merging or consolidating with another bank in the
same State pursuant to national banking law, rather than the Riegle-
Neal Interstate Banking and Branching Efficiency Act of 1994 (Riegle-
Neal) which applies only to interstate mergers and consolidations, has
the same opportunity to retain certain offices that it would have if
the merger or consolidation were an interstate merger subject to
Riegle-Neal. The amendment would allow a national bank, with the
Comptroller's approval, to retain and operate as its main office any
main office or branch of any bank involved in the transaction in the
same manner that it could do if this were a Riegle-Neal transaction.
This would give a national bank more flexibility when making the
business decision to relocate its main office to a branch location
within the same State.
Enhancing National Banks' Community Development Investments. The
OCC supports an amendment that would increase the maximum amount of a
national bank's investments that are designed primarily to promote the
public welfare either directly or by purchasing interests in an entity
primarily engaged in making these investments, such as a community
development corporation. We recommend increasing the maximum
permissible amount of such investments from 10 percent to 15 percent of
the bank's capital and surplus. The maximum limit only applies if the
bank is adequately capitalized and only if the OCC determines that this
higher limit will not pose a significant risk to the deposit insurance
fund. Today, more than 90 percent of national banks investments under
this authority are in low-income housing tax credit projects and losses
associated with such projects are minimal. Allowing certain adequately
capitalized national banks to modestly increase their community
development investments subject to the requirements of the statute will
enable them to expand investments that have been profitable, relatively
low-risk, and beneficial to their communities.
Federal Branches and Agencies of Foreign Banks
The OCC also licenses and supervises Federal branches and agencies
of foreign banks. Federal branches and agencies generally are subject
to the same rights and privileges, as well as the same duties,
restrictions, penalties, liabilities, conditions, and limitations and
laws that apply to national banks. Branches and agencies of foreign
banks, however, also are subject to other requirements under the
International Banking Act of 1978 (IBA) that are unique to their
organizational structure and operations in the United States as an
office of a foreign bank. In this regard, the OCC is recommending
amendments to reduce certain unnecessary burdens on Federal branches
and agencies while preserving national treatment with national banks.
Implementing Risk-Based Requirements for Federal Branches and
Agencies. A priority item for the OCC in this regard is an amendment to
the IBA to allow the OCC to set the capital equivalency deposit (CED)
for Federal branches and agencies to reflect their risk profile. We
support an amendment that would allow the OCC, after consultation with
the Federal Financial Institutions Examination Council, to adopt
regulations setting the CED on a risk-based institution-by-institution
basis. This approach would closely resemble the risk-based capital
framework that applies to both national and State banks.
OCC Operations
Improving Ability to Obtain Information from Regulated Entities.
The OCC supports an amendment that would permit all of the Federal
banking agencies--the OCC, FDIC, OTS, and the Fed--to establish and use
advisory committees in the same manner. Under current law, only the Fed
is exempt from the disclosure requirements under the Federal Advisory
Committee Act (FACA). Yet, all types of
insured institutions and their regulators have a need to share
information and to conduct open and frank discussions that may involve
nonpublic information about the impact of supervisory or policy issues.
Because of the potentially sensitive nature of this type of
information, the public meeting and disclosure requirements under FACA
may inhibit the supervised institutions from providing the agencies
their candid views. Importantly, this is information that any one bank
could provide to its regulator and discuss on a confidential basis. It
is only when several banks simultaneously do so in a collective
discussion and offer suggestions to regulators that issues are raised
under FACA. Our amendment would cure this anomaly and enhance the
dialogue between all depository institutions and their Federal bank
regulators.
Safety and Soundness
The OCC also supports a number of amendments that would promote and
maintain the safety and soundness and facilitate the ability of
regulators to address and resolve problem bank situations.
Enforcing Written Agreements and Commitments. The OCC supports an
amendment that would expressly authorize the Federal banking agencies
to enforce written agreements and conditions imposed in writing in
connection with an application or when the agency imposes conditions as
part of its decision not to disapprove a notice, for example, a Change
in Bank Control Act (CBCA) notice.
This amendment would rectify the results of certain Federal court
decisions that conditioned the agencies' authority to enforce such
conditions or agreements with respect to a nonbank party to the
agreement on a showing that the nonbank party was ``unjustly
enriched.'' We believe that this amendment will enhance the safety and
soundness of depository institutions and protect the deposit insurance
funds from unnecessary losses.
Barring Convicted Felons From Participating in the Affairs of
Depository Institutions. The OCC also supports an amendment to the
banking laws that would give the Federal banking agencies the authority
to prohibit a person convicted of a crime involving dishonesty, breach
of trust, or money laundering from participating in the affairs of an
uninsured national or State bank or uninsured branch or agency of a
foreign bank without the consent of the agency. Under current law, the
ability to keep these ``bad actors'' out of depository institutions
applies only to insured depository institutions. Thus, for example, it
would be harder to prevent an individual convicted of such crimes from
serving as an official of an uninsured trust bank whose operations are
subject to the highest fiduciary standards, then to keep that
individual from an administrative position at an insured bank.
Strengthening the Supervision of ``Stripped-Charter'' Institutions.
The OCC supports an amendment to the CBCA to address issues that have
arisen when a stripped-charter institution (that is, an insured bank
that has no ongoing business operations because, for example, all of
the business operations have been transferred to another institution)
is the subject of a change-in-control notice. The agencies' primary
concern with such CBCA notices is that the CBCA is sometimes used as a
route to acquire a bank with deposit insurance without submitting an
application for a de novo charter and an application for deposit
insurance, even though the risks presented by the two transactions may
be substantively identical. In general, the scope of review of a de
novo charter application or deposit insurance application is more
comprehensive than the current statutory grounds for denial of a notice
under the CBCA. There also are significant differences between the
application and notice procedures. In the case of an application, the
banking agency must affirmatively approve the request before a
transaction can be consummated. Under the CBCA, if the Federal banking
agency does not act to disapprove a notice within certain time frames,
the acquiring person may consummate the transaction. To address these
concerns, the OCC supports an amendment that (1) would expand the
criteria in the CBCA that allow a Federal banking agency to extend the
time period to consider a CBCA notice so that the agency may consider
business plan information, and (2) would allow the agency to use that
information in determining whether to disapprove the notice.
Reducing Burdens and Enhancing Effectiveness of Consumer Compliance
Disclosures
Many of the areas that are often identified as prospects for
regulatory burden reduction involve requirements designed for the
protection of consumers. Over the years, those requirements--mandated
by Congress and initiated by regulators--have accreted, and in the
disclosure area, in particular, consumers today receive disclosures so
voluminous and so technical that many simply do not read them--or when
they do, do not understand them.
No matter how well-intentioned, the current disclosures being
provided to consumers in many respects are not delivering the
information that consumers need to make informed decisions about their
rights and responsibilities, but they are imposing significant costs on
the industry and consuming precious resources.
In recent years, bank regulators and Congress have mandated that
more and more information be provided to consumers in the financial
services area. New disclosures have been added on top of old ones. The
result today is a mass of disclosure requirements that generally do not
effectively communicate to consumers, and impose excessive burden on
the institutions required to provide those disclosures.
There are two arenas--legislative and regulatory--in which we can
make changes to produce better, more effective, and less burdensome
approaches to consumer disclosures.
With respect to legislation to improve disclosures, we can learn
much from the experience of the Food and Drug Administration (FDA) in
developing the ``Nutrition Facts'' label. This well-recognized--and
easily understood disclosure is on virtually every food product we buy.
The effort that led to the FDA's nutrition labeling began with a
clear statement from Congress that the FDA was directed to accomplish
certain objectives. While Congress specified that certain nutrition
facts were to be disclosed, it gave the FDA the flexibility to delete
or add to these requirements in the interest of assisting consumers in
``maintaining healthy dietary practices.'' The current disclosure is
the result of several years of hard work and extensive input from
consumers. The ``Nutrition Facts'' box disclosure was developed based
on goals set out by Congress and then extensive research and consumer
testing was used to determine what really worked to achieve those
goals.
This experience teaches important lessons that we need to apply to
information provided to consumers about financial services products:
First, financial services legislation should articulate the
goals to be achieved through a particular consumer protection
disclosure regime, rather than directing the precise content or
wording of the disclosure.
Second, the legislation should provide adequate time for the
bank regulators to include consumer testing as part of their
rulemaking processes.
Third, Congress should require that the regulators must
consider both the burden associated with implementing any new
standards, as well as the effectiveness of the disclosures.
With respect to the regulatory efforts to improve disclosures, as
discussed above, we are today using consumer testing--through focus
groups and consumer interviews--to identify the content and format of
privacy notices that consumers find the most helpful and easy to
comprehend. We are hopeful that this initiative will pave the way for
better integration of consumer testing as a standard element of
developing consumer disclosure regulations.
On another front, the OCC also took the unusual step several months
ago of submitting a comment letter to the Federal Reserve Board on its
Advance Notice of
Proposed Rulemaking related to credit card disclosures, discussing both
the development of the FDA's ``Nutrition Facts'' label and the efforts
of the Financial Services Authority (FSA) in the United Kingdom to
develop revised disclosures for a variety of financial products. Our
comments highlighted some of the lessons learned from the FDA's and
FSA's efforts and urged the Fed to take guidance from this experience:
Focus on key information that is central to the consumer's
decisionmaking (provide supplementary information separately in a
fair and clear manner);
Ensure that key information is highlighted in such a way that
consumers will notice it and understand its significance;
Employ a standardized disclosure format that consumers can
readily navigate; and
Use simple language and an otherwise user-friendly manner of
disclosure.
Banking Agency and Industry Consensus Items
As a result of the dialogue between the Federal banking agencies--
the OCC, the Fed, the FDIC, and the OTS--and the banking industry \10\
as part of the EGRPRA process and other discussions over the last
several years on regulatory burden relief legislation, it has become
apparent that there are a number of items that we all support. These
consensus items are discussed in more detail in Appendix #2. Several of
the items on the consensus list also were included in H.R. 1375 as
passed by the House in the last Congress.
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\10\ Banking industry groups participating include the American
Bankers Association, America's Community Bankers, the Independent
Community Bankers of America, and the Financial Services Roundtable.
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In brief, the banking industry groups and the four Federal banking
agencies all support amendments to Federal law that would:
Authorize the Fed to pay interest on reserve accounts under
the Federal Reserve Act (FRA); \11\
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\11\ This amendment was included in H.R. 1224, the Business
Checking Freedom Act of 2005, as recently reported by the House
Financial Services Committee and as passed by the House on May 24,
2005.
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Provide that member banks may satisfy the reserve requirements
under the FRA through pass-through deposits;
Provide the Fed with more flexibility to set reserve
requirements under the FRA;
Repeal certain reporting requirements relating to insider
lending under the FRA;
Streamline depository institutions' requirements under the
Bank Merger Act (BMA) to eliminate the requirement that the agency
acting on the application must request competitive factor reports
from all of the other Federal banking agencies;
Shorten the post-approval waiting period under the BMA in
cases where there is no adverse effect on competition;
Exempt mergers between depository institutions and affiliates
from the competitive factors review and post-approval waiting
periods under the BMA;
Improve information sharing with foreign supervisors under the
IBA;
Provide an inflation adjustment for the small depository
institution exception under the Depository Institution Management
Interlocks Act;
Amend the Flood Disaster Protection Act of 1973 to:
(1) increase the ``small loan'' exception from the flood insurance
requirements from $5,000 to $20,000 and allow for future
increases based on the Consumer Price Index;
(2) allow lenders to force-place new flood insurance coverage if a
borrower's coverage lapses or is inadequate so that the new
coverage is effective at approximately the same time that the
30-day grace period expires on the lapsed policy; and
(3) repeal the rigid requirement that the Federal supervisor of a
lending institution must impose civil money penalties if the
institution has a pattern or practice of committing certain
violations and give the supervisor more flexibility to take
other appropriate actions;
Enhance examination flexibility under the Federal Deposit
Insurance Act (FDIA) by increasing the small bank threshold from
$250 million to $500 million so that more small banks may qualify
to be examined on an 18-month rather than an annual cycle; \12\ and
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\12\ A's discussed in Appendix #1, the OCC also supports enhancing
examination flexibility under the FDIA by giving the Federal banking
agencies the discretion to adjust the examination cycle for an insured
depository institution (for a period of time not to exceed 6 months) if
necessary for safety and soundness and the effective examination and
supervision of insured depository institutions.
Provide that the Federal banking agencies will review the
requirements for banks' reports of condition under the FDIA every 5
years and reduce or eliminate any requirements that are no longer
necessary or appropriate.
Comments on other Legislative Proposals
We would like to take this opportunity to also make you aware of
our views on some other legislative proposals that we understand may be
under consideration.
Maintaining Parity Between Permissible Securities and Stock
Investments of National Banks and State Member Banks. The OCC
understands that it has been suggested that the Federal Reserve Act (12
U.S.C. Sec. 335) \13\ be amended in a way that would undo the long-
standing parity between national banks' and State member banks'
permissible direct and indirect investments. This parity dates back to
the 1933 Glass-Steagall Act and was carefully maintained when GLBA was
enacted in 1999. The OCC would oppose any changes to Sec. 335 that
remove restrictions on State member banks' investments unless
corresponding changes are made for national banks. National banks are
also member banks. If Congress determines that such restrictions are no
longer necessary for the safety and soundness of State member banks,
then, as a matter of competitive equity and reducing unnecessary
regulatory burden, these restrictions should no longer be applied to
national banks.
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\13\ 12 U.S.C. Sec. 335 states:
``State member banks shall be subject to the same limitations and
conditions with respect to the purchasing, selling, underwriting, and
holding of investment securities and stock as are applicable in the
case of national banks under paragraph `Seventh' of Section 5136 of the
Revised Statutes, as amended [12 U.S.C. Sec. 24(Seventh)]. This
paragraph shall not apply to an interest held by a State member bank in
accordance with section 5136A of the Revised Statutes of the United
States [12 U.S.C. Sec. 24a] and subject to the same conditions and
limitations provided in such section.''
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The second sentence in Sec. 335 was enacted in 1999 as part of the
GLBA compromise relating to financial subsidiary activities. Consistent
with the parity framework, this sentence provides that the restrictions
in the first sentence do not apply to any interest held by a State
member bank in accordance with the amendments made by GLBA that permit
national banks to have financial subsidiaries, subject to the same
conditions and limitations that apply to national banks. Thus, State
member banks' financial subsidiaries are subject to the same
limitations and prudential safeguards that apply to national banks'
financial subsidiaries. This sentence was the result of a carefully
crafted compromise to ensure that parallel firewalls, safeguards, and
rules were applied to financial subsidiaries of national and State
member banks.
Enhancing Investments in Bank and Thrift Service Companies. The OCC
generally supports proposals that would permit banks to invest in
thrift service companies and would permit savings associations to
invest in bank service companies. Moreover, the OCC would not object to
removing the geographic restrictions on the operations of thrift
service corporations as long as the Bank Service Company Act is
similarly amended to remove the geographic restrictions on bank service
companies.
Conclusion
Mr. Chairman, on behalf of the OCC, I thank you for your leadership
in holding these hearings. The OCC strongly supports initiatives that
will reduce unnecessary burden on the industry in a responsible, safe
and sound manner. We would be pleased to work with you and your staff
to make that goal a reality.
I would be happy to answer any questions you may have.
----------
PREPARED STATEMENT OF MARK W. OLSON *
Member, Board of Governors of the Federal Reserve System
June 21, 2005
Chairman Shelby, Senator Sarbanes, and Members of the Committee,
thank you for the opportunity to testify on issues related to
regulatory relief. The Board is aware of the current and growing
regulatory burden that is imposed on this Nation's banking
organizations. Often this burden falls particularly hard on small
institutions, which have fewer resources than their larger brethren.
The Board strongly supports the efforts of Congress to review
periodically the Federal banking laws to determine whether they can be
streamlined without compromising the safety and soundness of banking
organizations, consumer protections, or other important objectives that
Congress has established for the financial system. In 2003, at Chairman
Shelby's request, the Board provided the Committee with a number of
legislative proposals that we believe are consistent with this goal.
Since then, the Board has continued to work with the other Federal
banking agencies and your staffs on regulatory relief matters and the
Board recently agreed to support several additional regulatory relief
proposals. A summary of the proposals supported by the Board is
included in the appendix to my testimony.
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* Appendix held in Committee files.
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In my remarks, I will highlight the Board's three highest priority
proposals. These three proposals would allow the Federal Reserve to pay
interest on balances held by depository institutions at Reserve Banks,
provide the Board greater flexibility in setting reserve requirements,
and permit depository institutions to pay interest on demand deposits.
These amendments would improve efficiency in the financial sector,
assist small banks and small businesses, and enhance the Federal
Reserve's toolkit for efficiently conducting monetary policy. I also
will mention a few additional proposals that the Board supports and
that would provide meaningful regulatory relief to banking
organizations. The Board looks forward to working with Congress, our
fellow banking agencies, and other interested parties in developing and
analyzing other potential regulatory relief proposals as the
legislative process moves forward.
For its part, the Board strives to review each of our regulations
at least once every 5 years to identify those provisions that are out
of date or otherwise unnecessary. The Board also has been an active
participant in the ongoing regulatory
review process being conducted by the Federal banking agencies pursuant
to the Economic Growth and Regulatory Paperwork Reduction Act (EGRPRA).
EGRPRA requires the Federal banking agencies, at least once every 10
years, to review and seek public comment on the burden associated with
the full range of the agencies' regulations that affect insured
depository institutions. The Board and the other banking agencies are
in the midst of the first 10-year review cycle, and I am pleased to
report that we are on track to complete this process by the 2006
deadline. The agencies already have solicited comments on four broad
categories of regulations--including those governing applications,
activities, money laundering, and consumer protection in lending
transactions--and have conducted outreach meetings throughout the
country to encourage public participation in the EGRPRA process. In
response to these efforts, the agencies have received comments from
more than 1,000 entities and individuals on ways to reduce the
regulatory burden on banking organizations. The Board will consider and
incorporate the comments relevant to our regulations as we move forward
with our own regulation review efforts.
While the banking agencies can achieve some burden reductions
through administrative action, Congress plays a critical role in the
regulatory relief process. Many proposals to reduce regulatory burden
require Congressional action to implement. Moreover, the Congress has
ultimate responsibility for establishing the overall regulatory
framework for banking organizations, and through its actions Congress
can ensure that regulatory relief is consistent with the framework it
has established to maintain the safety and soundness of banking
organizations and promote other important public policy goals.
Interest on Reserves and Reserve Requirement Flexibility
For the purpose of implementing monetary policy, the Board is
obliged by law to establish reserve requirements on certain deposits
held at depository institutions. By law, the Board currently must set
the ratio of required reserves on transaction deposits above a certain
threshold at between 8 and 14 percent. Because the Federal Reserve does
not pay interest on the balances held at Reserve Banks to meet reserve
requirements, depositories have an incentive to reduce their reserve
balances to a minimum. To do so, they engage in a variety of reserve
avoidance activities, including sweep arrangements that move funds from
deposits that are subject to reserve requirements to deposits and money
market investments that are not. These sweep programs and similar
activities absorb real resources and therefore diminish the efficiency
of our banking system. The Board's proposed amendment would authorize
the Federal Reserve to pay depository institutions interest on their
required reserve balances. Paying interest on these required reserve
balances would remove a substantial portion of the incentive for
depositories to engage in reserve avoidance measures, and the resulting
improvements in efficiency should eventually be passed through to bank
borrowers and depositors.
Besides required reserve balances, depository institutions also
voluntarily hold two other types of balances in their Reserve Bank
accounts--contractual clearing balances and excess reserve balances. A
depository institution holds contractual clearing balances when it
needs a higher level of balances than its required reserve balances in
order to pay checks or make wire transfers out of its account at the
Federal Reserve without incurring overnight overdrafts. Currently, such
clearing balances do not earn explicit interest, but they do earn
implicit interest in the form of credits that may be used to pay for
Federal Reserve services, such as check clearing. Excess reserve
balances are funds held by depository institutions in their accounts at
Reserve Banks in excess of their required reserve and contractual
clearing balances. Excess reserve balances currently do not earn
explicit or implicit interest.
The Board's proposed amendment would authorize the Federal Reserve
to pay explicit interest on contractual clearing balances and excess
reserve balances, as well as required reserve balances. This authority
would enhance the Federal Reserve's ability to efficiently conduct
monetary policy, and would complement another of the Board's proposed
amendments, which would give the Board greater flexibility in setting
reserve requirements for depository institutions.
In order for the Federal Open Market Committee (FOMC) to conduct
monetary policy effectively, it is important that a sufficient and
predictable demand for balances at the Reserve Banks exist so that the
System knows the volume of reserves to supply (or remove) through open
market operations to achieve the FOMC's target Federal funds rate.
Authorizing the Federal Reserve to pay explicit interest on contractual
clearing balances and excess reserve balances, in addition to required
reserve balances, could potentially provide a demand for voluntary
balances that would be stable enough for monetary policy to be
implemented effectively through existing procedures without the need
for required reserve balances. In these circumstances, the Board, if
authorized, could consider reducing--or even eliminating--reserve
requirements, thereby reducing a regulatory burden for all depository
institutions, without adversely affecting the Federal Reserve's ability
to conduct monetary policy.
Having the authority to pay interest on excess reserves also could
help mitigate potential volatility in overnight interest rates. If the
Federal Reserve was authorized to pay interest on excess reserves, and
did so, the rate paid would act as a minimum for overnight interest
rates, because banks would not generally lend to other banks at a lower
rate than they could earn by keeping their excess funds at a Reserve
Bank. Although the Board sees no need to pay interest on excess
reserves in the near future, and any movement in this direction would
need further study, the ability to do so would be a potentially useful
addition to the monetary toolkit of the Federal Reserve.
The payment of interest on required reserve balances, or reductions
in reserve requirements, would lower the revenues received by the
Treasury from the Federal Reserve. The extent of the potential revenue
loss, however, has fallen over the last decade as banks have
increasingly implemented reserve-avoidance techniques. Paying interest
on contractual clearing balances would primarily involve a switch to
explicit interest from the implicit interest currently paid in the form
of credits, and therefore would have essentially no net cost to the
Treasury.
Interest on Demand Deposits
The Board also strongly supports repealing the statutory
restrictions that currently prohibit depository institutions from
paying interest on demand deposits. The Board's proposed amendment
would allow all depository institutions that have the legal authority
to offer demand deposits to pay interest on those deposits. As I will
explain a little later, however, the Board opposes amendments that
would separately authorize industrial loan companies that operate
outside the supervisory and regulatory framework established for other
insured banks to offer, for the first time, interest bearing
transaction accounts to business customers.
Repealing the prohibition of interest on demand deposits would
improve the overall efficiency of our financial sector and, in
particular, should assist small banks in attracting and retaining
business deposits. To compete for the liquid assets of businesses,
banks have been compelled to set up complicated procedures to pay
implicit interest on compensating balance accounts and they spend
resources--and charge fees--for sweeping the excess demand deposits of
businesses into money market investments on a nightly basis. Small
banks, however, often do not have the resources to develop the sweep or
other programs that are needed to compete for the deposits of business
customers. Moreover, from the standpoint of the overall economy, the
expenses incurred by institutions of all sizes to implement these
programs are a waste of resources and would be unnecessary if
institutions were permitted to pay interest on demand deposits
directly.
The costs incurred by banks in operating these programs are passed
on, directly or indirectly, to their large and small business
customers. Authorizing banks to pay interest on demand deposits would
eliminate the need for these customers to pay for more costly sweep and
compensating balance arrangements to earn a return on their demand
deposits. The payment of interest on demand deposits would have no
direct effect on Federal revenues, as interest payments would be
deductible for banks but taxable for the firms that received them.
Some proposals, such as H.R. 1224--the Business Checking Freedom
Act of 2005--which recently passed the House, would delay the
effectiveness of the authorization of interest on demand deposits for 2
years. The Board believes that a short implementation delay of 1 year,
or even less, would be in the best interest of the public and the
efficiency of our financial sector. A separate provision of H.R. 1224
would, in effect, allow implicit interest to be paid on demand deposits
without any delay through a new type of sweep arrangement, but this
provision would not promote efficiency. It would allow banks to offer a
reservable money market deposit account (MMDA) from which twenty-four
transfers a month could be made to other accounts of the same
depositor. Banks would be able to sweep balances from demand deposits
into these MMDA's each night, pay interest on them, and then sweep them
back into demand deposits the next day. This type of account would
likely permit banks to pay interest on demand deposits more selectively
than with direct
interest payments. The twenty-four-transfer MMDA, which would be useful
only during the transition period before direct interest payments were
allowed, could be implemented at lower cost by banks already having
sweep programs. However, other banks would face a competitive
disadvantage and pressures to incur the cost of setting up this new
program during the transition for the 1 year interim period. Moreover,
some businesses would not benefit from this MMDA. Hence, the Board does
not advocate this twenty-four-transfer account.
Small Bank Examination Flexibility
The Board also supports an amendment that would expand the number
of small institutions that qualify for an extended examination cycle.
Federal law currently mandates that the appropriate Federal banking
agency conduct an on-site examination of each insured depository
institution at least once every 12 months. The statute, however,
permits institutions that have $250 million or less in assets and that
meet certain capital, managerial, and other criteria to be examined on
an 18-month cycle. As the primary Federal supervisors for State-
chartered banks, the Board and Federal Deposit Insurance Corporation
(FDIC) may alternate responsibility for conducting these examinations
with the appropriate State supervisory authority if the Board or FDIC
determines that the State examination carries out the purposes of the
statute.
The $250 million asset cutoff for an 18-month examination cycle has
not been raised since 1994. The Board's proposed amendment would raise
this asset cap from $250 million to $500 million, thus potentially
allowing approximately an additional 1,100 insured depository
institutions to qualify for an 18-month examination cycle.
The proposed amendment would provide meaningful relief to small
institutions without jeopardizing the safety and soundness of insured
depository institutions. Under the proposed amendment, an institution
with less than $500 million in assets would qualify for the 18-month
examination cycle only if the institution was well-capitalized, well-
managed, and met the other criteria established by Congress in the
Federal Deposit Insurance Corporation Improvement Act of 1991. The
amendment also would continue to require that all insured depository
institutions undergo a full-scope, on-site examination at least once
every 12 or 18 months. Importantly, the agencies would continue to have
the ability to examine any institution more frequently and at any time
if the agency determines an examination is necessary or appropriate.
Despite advances in off-site monitoring, the Board continues to
believe that regular on-site examinations play a critical role in
helping bank supervisors detect and correct asset, risk-management, or
internal control problems at an institution before these problems
result in claims on the deposit insurance funds. The mandatory 12- or
18-month on-site examination cycle imposes important discipline on the
Federal banking agencies, ensures that insured depository institutions
do not go unexamined for extended periods, and has contributed
significantly to the safety and soundness of insured depository
institutions. For these reasons, the Board opposes alternative
amendments that would allow an agency to indefinitely lengthen the exam
cycle for any institution in order to allocate and conserve the
agency's examination resources.
Permit the Board to Grant Exceptions to Attribution Rule
The Board has proposed another amendment that we believe will help
banking organizations maintain attractive benefits programs for their
employees. The Bank Holding Company Act (BHC Act) generally prohibits a
bank holding company from owning, in the aggregate, more than 5 percent
of the voting shares of any company without the Board's approval. The
BHC Act also provides that any shares held by a trust for the benefit
of a bank holding company's shareholders or employees are deemed to be
controlled by the bank holding company itself. This attribution rule
was intended to prevent a bank holding company from using a trust
established for the benefit of its management, shareholders, or
employees to evade the BHC Act's restrictions on the acquisition of
shares of banks and nonbanking companies.
While this attribution rule has proved to be a useful tool in
preventing evasions of the BHC Act, it does not always provide an
appropriate result. For example, it may not be appropriate to apply the
attribution rule when the shares in question are acquired by a 401(k)
plan that is widely held by, and operated for the benefit of, the
employees of the bank holding company. In these situations, the bank
holding company may not have the ability to influence the purchase or
sale decisions of the employees or otherwise control the shares that
are held by the plan in trust for its employees. The suggested
amendment would allow the Board to address these situations by
authorizing the Board to grant exceptions from the attribution rule
where appropriate.
Reduce Cross-Marketing Restrictions
Another amendment proposed by the Board would modify the cross-
marketing restrictions imposed by the Gramm-Leach-Bliley Act (GLB Act)
on the merchant banking and insurance company investments of financial
holding companies. The GLB Act generally prohibits a depository
institution controlled by a financial holding company from engaging in
cross-marketing activities with a nonfinancial company that is owned by
the same financial holding company under the GLB Act's merchant banking
or insurance company investment authorities. However, the GLB Act
currently permits a depository institution subsidiary of a financial
holding company, with Board approval, to engage in limited cross-
marketing activities through statement stuffers and Internet websites
with nonfinancial companies that are held under the Act's insurance
company investment authority (but not the act's merchant banking
authority).
The Board's proposed amendment would allow depository institutions
controlled by a financial holding company to engage in cross-marketing
activities with companies held under the merchant banking authority to
the same extent, and subject to the same restrictions, as companies
held under the insurance company investment authority. We believe that
this parity of treatment is appropriate, and see no reason to treat the
merchant banking and insurance investments of financial holding
companies differently for purposes of the cross-marketing restrictions
of the GLB Act.
A second aspect of the amendment would liberalize the cross-
marketing restrictions that apply to both merchant banking and
insurance company investments. This aspect of the amendment would
permit a depository institution subsidiary of a financial holding
company to engage in cross-marketing activities with a nonfinancial
company held under either the merchant banking or insurance company
investment authority if the nonfinancial company is not controlled by
the financial holding company. When a financial holding company does
not control a portfolio company, cross-marketing activities are
unlikely to materially undermine the separation between the
nonfinancial portfolio company and the financial holding company's
depository institution subsidiaries.
Industrial Loan Companies
As I noted earlier, the Board strongly supports allowing depository
institutions to pay interest on demand deposits. The Board, however,
opposes proposals that would allow industrial loan companies (ILC's) to
offer interest-bearing, negotiable order of withdrawal (NOW) accounts
to business customers if the corporate owner of the ILC takes advantage
of the special exemption in current law that allows the owner to
operate outside the prudential framework that Congress has established
for the corporate owners of other types of insured banks.
ILC's are State-chartered, FDIC-insured banks that were first
established early in the 20th century to make small loans to industrial
workers. As insured banks, ILC's are supervised by the FDIC as well as
by the chartering State. However, under a special exemption in current
law, any type of company, including a commercial or retail firm, may
acquire an ILC in a handful of States--principally Utah, California,
and Nevada--and avoid the activity restrictions and supervisory
requirements imposed on bank holding companies under the Federal BHC
Act.
When the special exemption for ILC's was initially granted in 1987,
ILC's were mostly small, local institutions that did not offer demand
deposits or other types of checking accounts. In light of these facts,
Congress conditioned the exemption on a requirement that any ILC's
chartered after 1987 remain small (below $100 million in assets) or
refrain from offering demand deposits that are withdrawable by check or
similar means.
This special exemption has been aggressively exploited since 1987.
Some grandfathered States have allowed their ILC's to exercise many of
the same powers as commercial banks and have begun to charter new
ILC's. Today, several ILC's are owned by large, internationally active
financial or commercial firms. In addition, a number of ILC's
themselves have grown large, with one holding more than $50 billion in
deposits and an additional six holding more than $1 billion in
deposits.
Affirmatively granting ILC's the ability to offer business NOW
accounts would permit ILC's to become the functional equivalent of
full-service insured banks. This result would be inconsistent with both
the historical functions of ILC's and the terms of their special
exemption in current law.
Because the parent companies of exempt ILC's are not subject to the
BHC Act, authorizing ILC's to operate essentially as full-service banks
would create an unlevel competitive playing field among banking
organizations and undermine the framework Congress has established for
the corporate owners of full-service banks. It would allow firms that
are not subject to the consolidated supervisory framework of the BHC
Act--including consolidated capital, examination, and reporting
requirements--to own and control the functional equivalent of a full-
service bank. It also would allow a foreign bank to acquire control of
the equivalent of a full-service insured bank without meeting the
requirement under the BHC Act that the foreign bank be subject to
comprehensive supervision on a consolidated basis in its home country.
In addition, it would allow financial firms to acquire the equivalent
of a full-service bank without complying with the capital, managerial,
and Community Reinvestment Act (CRA) requirements established by
Congress in the GLB Act.
Congress has established consolidated supervision as a fundamental
component of bank supervision in the United States because consolidated
supervision provides important protection to the insured banks that are
part of a larger organization and to the Federal safety net that
supports those banks. Financial trouble in one part of an organization
can spread rapidly to other parts. To protect an insured bank that is
part of a larger organization, a supervisor needs to have the authority
and tools to understand the risks that exist within the parent
organization and its affiliates and, if necessary, address any
significant capital, managerial, or other deficiencies before they pose
a danger to the bank. This is particularly true today, as holding
companies increasingly manage their operations--and the risks that
arise from these operations--in a centralized manner that cuts across
legal entities. Risks that cross legal entities and that are managed on
a consolidated basis simply cannot be monitored properly through
supervision directed at one, or even several, of the legal entities
within the overall organization. For these reasons, Congress since 1956
has required that the parent companies of full-service insured banks be
subject to consolidated supervision under the BHC Act. In addition,
following the collapse of Bank of Commerce and Credit International
(BCCI), Congress has required that foreign banks seeking to acquire
control of a U.S. bank under the BHC Act be subject to comprehensive
supervision on a consolidated basis in the foreign bank's home country.
Authorizing exempt ILC's to operate as essentially full-service
banks also would undermine the framework that Congress has
established--and recently reaffirmed in the GLB Act--to limit the
affiliation of banks and commercial entities. This is because any type
of company, including a commercial firm, may own an exempt ILC without
regard to the activity restrictions in the BHC Act that are designed to
maintain the separation of banking and commerce.
H.R. 1224 attempts to address the banking and commerce concerns
raised by allowing ILC's to offer business NOW accounts by placing
certain limits on the types of ILC's that may engage in these new
activities. However, as Governor Kohn recently testified in the House
on behalf of the Board, the limits contained in H.R. 1224 do not
adequately address these concerns. Moreover, H.R. 1224 fails to address
the supervisory issues associated with allowing domestic firms and
foreign banks that are not subject to consolidated supervision to
control the functional equivalent of a full-service insured bank.
Let me be clear. The Board does not oppose granting ILC's the
ability to offer business NOW accounts if the corporate owners of ILC's
engaged in these expanded activities are covered by the same
supervisory and regulatory framework that applies to the owners of
other full-service insured banks. Stated simply, if ILC's want to
benefit from expanded powers and become functionally indistinguishable
from other insured banks, then they and their corporate parents should
be subject to the same rules that apply to the owners of other full-
service insured banks. For the same reasons discussed above, the Board
opposes amendments that would allow exempt ILC's to open de novo
branches throughout the United States.
Affirmatively granting exempt ILC's the authority to offer business
NOW accounts also is not necessary to ensure or provide parity among
insured banks. The Board's proposed amendment would allow all
depository institutions that have the authority to offer demand
deposits the ability to pay interest on those deposits. Thus, the
Board's proposed amendment would treat all depository institutions
equally. Separately granting exempt ILC's the ability to offer the
functional equivalent of a corporate demand deposit, on the other hand,
would grant new and expanded powers to institutions that already
benefit from a special exemption in current law. Far from promoting
competitive equity, these proposals would promote competitive
inequality in the financial marketplace.
The Board believes that important principles governing the
structure of the Nation's banking system--such as consolidated
supervision, the separation of banking and commerce, and the
maintenance of a level playing field for all competitors in the
financial services marketplace--should not be abandoned without careful
consideration by the Congress. In the Board's view, legislation
concerning the payment of interest on demand deposits is unlikely to
provide an appropriate vehicle for the thorough consideration of the
consequences of altering these key principles.
Conclusion
I appreciate the opportunity to discuss the Board's legislative
suggestions and priorities concerning regulatory relief. The Board
would be pleased to work with the Committee and your staffs as you seek
to develop and advance meaningful regulatory relief legislation that is
consistent with the Nation's public policy objectives.
PREPARED STATEMENT OF JOANN M. JOHNSON *
Chairman, National Credit Union Administration
June 21, 2005
Chairman Shelby, Ranking Member Sarbanes, Senator Crapo, and
Members of the Committee, on behalf of the National Credit Union
Administration (NCUA) I am pleased to be here today to present our
agency's views on regulatory efficiency and reform initiatives being
considered by Congress. Enacting legislation that will directly and
indirectly benefit the consumer and the economy by assisting all
financial intermediaries and their regulators perform the role and
functions required of them is prudent.
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* Appendix held in Committee files.
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Regulatory Relief and Efficiency
In June 2004, I testified before this Committee and presented
several legislative proposals NCUA recommended for your consideration.
NCUA continues to recommend these provisions as desirable components of
regulatory reform:
Permit Federal credit unions to cash checks and money transfer
services for individuals in their field of membership but not yet
members. This is
particularly important to Federal credit unions in furthering their
efforts to serve those of limited income or means in their field of
membership. These individuals, in many instances, do not have
mainstream financial services available to them and are often
forced to pay excessive fees for check cashing, wire transfer, and
other services. The House of Representatives has taken this up as
H.R. 749, amended it to include international remittances and
passed the bill. Section 3 of S. 31, introduced by Senator Sarbanes
and other Members of the Committee includes a similar provision;
Increase the allowable maturity on Federal credit union loans
from 12 to 15 years. Federal credit unions should be able to make
loans for second homes, recreational vehicles, and other purposes
in accordance with conventional maturities that are commonly
accepted in the market today;
Increase the investment limit in credit union service
organizations (CUSO's) from 1 percent to 3 percent. The 1 percent
aggregate investment limit is unrealistically low and forces credit
unions to either bring services in-house, thus potentially
increasing risk to the credit union and the NCUSIF, or turn to
outside providers and lose control;
Safely increase options for credit unions to invest their
funds by expanding authority beyond loans, government securities,
deposits in other financial institutions and certain other very
limited investments. The recommendation is to permit additional
investments in corporate debt securities (as opposed to equity) and
further establish specific percentage limitations and investment
grade standards;
Alleviate NCUA from the process now required that it consider
a spin-off of any group of over 3,000 members in the merging credit
union when two credit unions merge voluntarily. A spin-off would
most likely undermine financial services to the affected group and
may create safety and soundness concerns;
Provide relief for credit unions from a requirement that they
register with the SEC as broker-dealers when engaging in certain de
minimums securities activities. The principle established by the
present bank exemption, and a similar exemption sought by thrifts,
is that securities activities of an incidental nature to the
financial institutions do not have to be placed into a separate
affiliate;
Make needed technical corrections to the Federal Credit Union
Act.
These NCUA recommendations are more fully described on the
following pages.
NCUA has also reviewed the following additional credit union
provisions included in the matrix circulated by Senator Crapo in
anticipation of this hearing. We have carefully examined each and have
determined that these provisions present no safety and soundness
concerns for the credit unions we regulate and/or ensure: Leases of
land on Federal facilities for credit unions; exclusion of member
business loans to nonprofit religious organizations; criteria for
continued membership of certain member groups in community charter
conversions; credit union governance provisions; providing NCUA with
greater flexibility to adjust the Federal usury ceiling for Federal
credit unions; and an exemption from the premerger notification
requirements of the Clayton Act.
Preserving the Net Worth of Credit Unions in Mergers
NCUA anticipates that the Financial Accounting Standards Board
(FASB) will act in 2005 or 2006 to lift the current deferral of the
acquisition method of accounting for mergers by credit unions thereby
eliminating the pooling method and requiring the acquisition method
beginning in 2007.\1\ When this change to accounting rules is
implemented it will require that, in a merger, the net assets on a fair
value basis of the merging credit union as a whole, rather than
retained earnings, be carried over as ``acquired equity,'' a term not
recognized by the ``Federal Credit Union Act'' (FCUA).
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\1\ Statement of Financial Accounting Standard (SFAS) No. 141,
Business Combinations, requiring the acquisition method for business
combinations and effectively eliminating the pooling method. The
pooling method has typically been used by credit unions to account for
credit union mergers. The standards became effective for combinations
initiated after June 30, 2001. Paragraph 60 of the standard deferred
the effective date for mutual enterprises (that is, credit unions)
until the FASB could develop purchase method procedures for those
combinations. In the interim, credit unions have continued to account
for mergers as poolings (simple combination of financial statement
components).
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This FASB policy has been in place since mid-2001 for most business
combinations and the delay by FASB in implementing it for credit unions
has allowed all of us to explore how credit unions could conform to the
new financial reporting standards.
Without the changes to the ``Federal Credit Union Act,'' only
``retained earnings'' of the continuing credit union will count as net
worth after a merger. This result would seriously reduce the post-
merger net worth ratio of a fFederally insured credit union, because
this ratio is the retained earnings of only the continuing credit union
stated as a percentage of the combined assets of the two institutions.
A lower net worth ratio has adverse implications under the statutory
``prompt corrective action'' (PCA) regulation. This result will
discourage voluntary mergers and on occasion make NCUA assisted mergers
more difficult and costly to the National Credit Union Share Insurance
Fund (NCUSIF). Without a remedy, an important NCUA tool for reducing
costs and managing the fund in the public interest will be lost.
NCUA encourages this Committee to include language in legislation
to allow NCUA to continue to recognize the ``net worth'' of the merging
credit union for purposes of prompt corrective action. A solution has
been referred to this Committee as H.R. 1042, the ``Net Worth Amendment
for Credit Unions Act.''
Reform of Prompt Corrective Action System for Federally Insured Credit
Unions
The guiding principle behind PCA is to resolve problems in
federally insured credit unions at the least long-term cost to the
NCUSIF. This mandate is good public policy and consistent with NCUA's
fiduciary responsibility to the insurance fund. While NCUA supports a
statutorily mandated PCA system, the current statutory requirements for
credit unions are too inflexible and establish a structure based
primarily on a ``one-size-fits all'' approach, relying largely on a
high leverage requirement of net worth to total assets. This creates
inequities for credit unions with low-risk balance sheets and limits
NCUA's ability to design a meaningful risk-based system.
Reform of capital standards is vital for credit unions as the other
Federal banking regulators explore implementation of BASEL II and other
capital reforms for banks in the United States. While maintaining a
leverage ratio, NCUA's PCA reform proposal incorporates a more risk-
based approach to credit union capital standards consistent with BASEL
I and II. In recognition of the inherent limitations in any risk-based
capital system, our proposal incorporates leverage and risk-based
standards working in tandem. The risk-based portion of the proposed
tandem system uses risk portfolios and weights based on the BASEL II
standard approach.
For the leverage requirement, NCUA supports a reduction in the
standard net worth (that is, leverage) ratio requirement for credit
unions to a level comparable to what is required of FDIC insured
institutions. The minimum leverage ratio for a well-capitalized credit
union is currently set by statute at 7 percent, compared to the
threshold of 5 percent for FDIC-insured institutions. Our proposed new
leverage requirement, while comparable, accounts for the 1 percent
method of capitalizing the NCUSIF, and its effect on the overall
capital in the Insurance Fund and the credit union system. The result
is a leverage requirement for credit unions that averages 5.7 percent
under our proposal, as compared to the 5 percent requirement in the
banking system. There are important reasons why the leverage ratio for
credit unions ratio should be lowered to work in tandem with a risk-
based requirement.
First, credit unions should not be placed at a competitive
disadvantage by being held to higher capital standards when they are
not warranted to protect the insurance fund. For FDIC insured
institutions, a 5 percent leverage requirement coupled with a risk-
based system has provided adequate protection for their insurance fund.
In comparison, the credit union industry has a relatively low-risk
profile, as evidenced by our low loss history. This is largely due both
to the greater restrictions on powers of credit unions relative to
other financial institutions and credit unions' conservative nature
given their member-owned structure. In fact, our experience has shown
that given economic needs and their conservative nature, the vast
majority of credit unions will operate with net worth levels well above
whatever is established as the regulatory minimum.
In addition, the current 7 percent leverage requirement is
excessive for low risk institutions and overshadows any risk-based
system we design, especially if you consider that under BASEL the risk-
based capital requirement is 8 percent of risk assets. A meaningful
risk-based system working in tandem with a lower leverage requirement
provides incentives for financial institutions to manage the risk they
take in relation to their capital levels, and gives them the ability to
do so by reflecting the composition of their balance sheets in their
risk-based PCA requirements. The current high leverage requirement
provides no such ability or incentive and, in fact, it can be argued
could actually contribute to riskier behavior to meet these levels
given the extra risk isn't factored into the dominant leverage
requirement.
As mentioned above, we recognize that achieving comparability
between the Federal insurance funds does require us to factor in the
NCUSIF's deposit-based funding mechanism. Thus, our reform proposal
incorporates a revised method for calculating the net worth ratio for
PCA purposes by adjusting for the deposit credit unions maintain in the
share insurance fund. However, our proposed treatment of the NCUSIF
deposit for purposes of regulatory capital standards in no way alters
its treatment as an asset under generally accepted accounting
principles, or NCUA's steadfast support of the mutual, deposit-based
nature of the NCUSIF.
As for capitalization investments in corporate credit unions, these
are not uniformly held by all credit unions. Indeed, not all credit
unions even belong to a corporate credit union. Thus, these investments
are appropriately addressed under the risk-based portion of PCA. Our
reform proposal addresses capitalization investments in corporate
credit unions consistent with BASEL and the FDIC's rules applicable to
capital investments in other financial institutions.
For the risk-based requirement, our proposal tailors the risk-asset
categories and weights of BASEL II's standard approach, as well as
related aspects of the FDIC's PCA system, to the operation of credit
unions. The internal ratings-based approach of BASEL II for the largest
internationally active banks is not applicable to credit unions.
However, it is our intention to maintain comparability with FDIC's PCA
requirements for all other insured institutions and keep our risk based
requirement relevant and up-to-date with emerging trends in credit
unions and the marketplace.
As there are limitations in any regulatory capital scheme, NCUA's
reform proposal also includes recommendations to address these other
forms of risk under the second pillar of the supervisory framework, a
robust supervisory review process. Through our examination and
supervision process, NCUA will continue to analyze each credit union's
capital position in relation to the overall risk of the institution,
which may at times reflect a need for capital levels higher than
regulatory minimums.
I would also point out that our reform proposal addresses an
important technical amendment needed to the statutory definition of net
worth. As mentioned earlier, NCUA anticipates that the Financial
Accounting Standards Board (FASB) will act soon to lift the current
deferral of the acquisition method of accounting for mergers by credit
unions, thereby eliminating the pooling method and requiring the
acquisition method. NCUA's PCA proposal includes a legislative solution
to this problem, but if the issue is considered separately in Senate
regulatory relief legislation before the expected FASB implementation
date, that is a favorable outcome.
Enabling NCUA to adopt a PCA system that remains relevant and up-
to-date with emerging trends in credit unions and the marketplace
provides safety, efficiency, and benefits to the credit union consumer.
I believe our reform proposal achieves a much needed balance between
enabling credit unions to utilize capital more efficiently to better
serve their members while maintaining safety and soundness and
protecting the share insurance fund. A well-designed risk based system
would alleviate regulatory concerns by not penalizing low-risk
activities and by providing credit union management with the ability to
manage their compliance through adjustments to their assets and
activities. A PCA system that is more fully risk-based would better
achieve the objectives of PCA and is consistent with sound risk
management principles.
As the above table illustrates, the PCA category for the vast
majority of credit unions, reflecting their already strong net worth
levels, would remain unchanged. However, 107 credit unions would
improve into a higher PCA category given their relatively low-risk
profiles. At the same time 41 credit unions would experience a
reduction in their net worth category, thus accelerating corrective
action for these inadequately capitalized credit unions. In fact,
almost all of the 29 downgrades from well or adequately capitalized to
undercapitalized under the new system are due to the proposed new risk-
based requirement, indicating the new system is better recognizing risk
in relation to net worth levels. I would also point out that the
proposed new tandem system is rigorous in respect to thinly capitalized
credit unions as no significantly or critically undercapitalized credit
unions are upgraded under the proposed system, and the overall level of
critically, significantly, and undercapitalized credit unions
increases.
Explanation of NCUA Recommended Provisions for Consideration by the
Committee on Banking, Housing, and Urban Affairs
Check Cashing and Money Transfer Services Offered within the Field of
Membership of the Credit Union
Current Law
Section 107 of the Federal Credit Union Act authorizes Federal
credit unions to provide check cashing and money transfer services to
members.
Proposed Amendment
This amendment permits Federal credit unions to offer these same
services to persons eligible to be members of the credit union, defined
as those that fall within the field of membership of the credit union.
Reasons for Change
Congress and the Administration are asking financial
institutions to do more to reach the ``unbanked.''
Credit unions are constrained from extending the most basic
financial transaction (check cashing) to those who have avoided
traditional financial institutions.
Expanding check cashing, wire transfer, and similar services
to nonmembers within a credit union's field of membership would
provide an introduction to reliable low-cost financial services
which can provide a viable alternative to less savory practices
while at the same time increase confidence in traditional financial
organizations.
With more and more credit unions adopting underserved areas,
these services become especially important in reaching out to the
underserved.
Eliminate the 12-year Limit on Term of Federal Credit Union Loans
Current Law
The Federal Credit Union Act imposes a 12-year loan maturity limit
on most credit union loans. Principal residence loans have maturities
up to 30 years, and principal mobile home loans have maturities of 15
years.
Proposed Amendment
The proposed amendment permits the NCUA Board to provide for
maturity limits up to 15 years, or longer, as the NCUA Board may allow
by regulation.
Reasons for Change
The current restriction placed on Federal credit unions is
outdated and unnecessarily restricts a credit union's lending terms
to its members.
Members of Federal credit unions should be able to obtain
loans for second homes, recreational vehicles, and other purposes
in accordance with conventional maturities that are commonly
accepted in the market today.
Increase in 1 percent Investment Limit in CUSO's
Current Law
The Federal Credit Union Act permits Federal credit unions to
invest in Credit Union Service Organizations (CUSO's)--organizations
providing services to credit unions and credit union members. An
individual credit union, however, may invest in aggregate no more than
1 percent of its shares and undivided earning in these organizations.
Proposed Amendment
The provision increases the permissible credit union investment in
CUSO's from 1 percent to 3 percent of its shares and undivided
earnings.
Reasons for Change
CUSO's are frequently established by several credit unions to
provide important services to credit unions, such as check clearing
and data processing, which can be done more efficiently for a
group.
When these services are provided through a CUSO, any financial
risks are isolated from the credit union while allowing the credit
unions to retain quality control over the services offered and the
prices paid by the credit unions or their members.
An increase in the CUSO investment to 3 percent allows the
CUSO to continue servicing its credit union members without having
to bring services back in-house or engage outside providers. This
controls risk and expense to the credit union.
The 1 percent limit has not been updated since its inception
in 1977.
Investments in Securities by Federal Credit Unions
Current Law
The Federal Credit Union Act authorizes Federal credit unions to
invest in loans, obligations of the United States, or securities fully
guaranteed as to principal and interest by the U.S. Government,
deposits in other financial institutions, and certain other limited
investments, such as obligations of Federal Home Loan Banks, wholly
owned government corporations, or in obligations, participations or
other instruments issued by, or fully guaranteed by FNMA, GNMA, or
FHLMC.
Proposed Amendment
This amendment would provide authority for Federal credit unions to
purchase and hold for their own account ``investment securities'' if
they are in one of the four highest investment rating categories--
subject to further definition and qualification by NCUA rulemaking.
The amendment limits Federal credit unions' investments in
investment securities in two ways. First, a statutory ``single
obligor'' percentage limitation is established, such that the total
amount of investment securities of any single obligor or maker held by
the Federal credit union for the credit union's own account cannot
exceed 10 percent of the net worth of the credit union. Second, the
aggregate amount of investments held by the Federal credit union for
its own account cannot exceed 10 percent of the assets of the credit
union.
Reasons for Change
A number of private debt instruments such as highly rated
commercial paper, corporate notes, and asset-backed securities
would be appropriate investments for Federal credit unions.
Other federally regulated and State regulated financial
institutions have a proven track record with these limited
investments.
Allowing such investments would give credit unions more asset
liability management options.
NCUA implementing regulations will further address appropriate
investment gradings, possible minimum credit union net worth
requirements, and other safety and soundness requirements.
With a percentage limitation of 10 percent of net worth per
single obligor, this modest increase in investment flexibility will
not subject credit unions to undue risk.
The 10 percent limitation language parallels the limitation
applicable to national banks when applied to the ``net worth''
measurement for credit unions.
The prohibition against investment in equity securities is
maintained.
Voluntary Merger Authority
Current Law
Section 109 of the Federal Credit Union Act requires NCUA to engage
in an analysis of every voluntary merger of healthy Federal credit
unions to determine whether a spin-off of any select employee group
(SEG) of over 3,000 members in the merging credit union can be
effectively accomplished.
Proposed Amendment
The recommendation is to eliminate the requirement that NCUA engage
in an analysis of every voluntary merger to determine whether a select
employee group over 3,000 can be spun-off into a separate credit union.
Reasons for Change
Requiring NCUA to engage in an analysis of every voluntary
merger of healthy Federal credit unions to consider a spin-off from
the merging credit union of any select employee group (SEG) of over
3,000 is cumbersome and provides little practical benefit or
purpose. There are about 300 a year.
When two healthy multiple bond credit unions pursue a merger,
it increases their financial strength and member service is
enhanced, as well as their long-term safety and soundness.
Member employee (or other) groups over 3,000 are already
included in a multiple group credit union in accordance with
statutory standards.
Treatment of Credit Unions as Depository Institutions Under Securities
Laws
Current Law
Section 201 and 202 of the Gramm-Leach-Bliley Act, enacted in 1999,
created specific exemptions from broker-dealer registration
requirements of the Bank Exchange Act of 1934 for certain bank
securities activities. Banks are also exempt from the registration and
other requirements of the Investment Advisors Act of 1940. The
principle established in these laws is that securities activities of an
incidental nature to the bank do not have to be placed into a separate
affiliate and functionally regulated.
Proposed Amendment
This provision would provide a statutory exemption for credit
unions similar to that already provided banks and allow credit unions,
like banks, to avoid complicated filings with the Securities and
Exchange Commission for incidental activities.
Reasons for Change
Federal credit unions are empowered to engage in specific
activities enumerated in the FCUA and any other activities
incidental to the enumerated activities. Among the specific broker-
related activities currently authorized are third-party brokerage
arrangements, sweep accounts, safekeeping and custodial activities.
Among the dealer-related activities are the purchase and sale of
particular securities, including but not limited to municipal
securities and ``Identified Banking Products'' for the credit
union's own account.
These incidental activities might trigger SEC registration if
not exempted by law.
This important regulatory relief and efficiency provision
would reduce the cost and complication to credit unions having to
approach the SEC on a case-by-case basis or through regulation--the
only avenues now available to them for relief.
While a Federal or State chartered credit union might be
granted authority to engage in otherwise lawful activities, the
credit union might have to abandon the activity or outsource it to
a third party at increased expense if this exemption is not
provided.
This exemption would not expand the types of securities
activities that credit unions are authorized to engage in. It
simply serves to provide parity with banks and thrifts regarding an
exemption from SEC registration for the limited securities
activities credit unions are authorized to engage in.
Technical Corrections to the Federal Credit Union Act
Explanation of Proposed Amendment
Twenty-eight purely technical and clerical corrections to the
Federal Credit Union Act have been identified as needed.
Reasons for Change
To make the Federal Credit Union Act accurate and correct.
Conclusion
Thank you, Mr. Chairman, Senator Sarbanes, and Senator Crapo for
the opportunity to appear before you today on behalf of NCUA to discuss
the public benefits of regulatory efficiency for NCUA, credit unions
and 84 million credit union members. I am pleased to respond to any
questions the Committee may have or to be a source of any additional
information you may require.
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PREPARED STATEMENT OF ERIC McCLURE
Commissioner, Missouri Division of Finance
on behalf of the
Conference of State Bank Supervisors
June 21, 2005
Good morning, Chairman Shelby, Ranking Member Sarbanes, and Members
of the Committee. I am Eric McClure, Commissioner of the Missouri
Division of Finance, and I am pleased to be here today on behalf of the
Conference of State Bank Supervisors (CSBS). Thank you for inviting
CSBS to be here today to discuss strategies for reducing unnecessary
regulatory burden on our Nation's financial institutions.
CSBS is the professional association of State officials who
charter, regulate, and supervise the Nation's approximately 6,240
State-chartered commercial banks and savings institutions, and nearly
400 State-licensed foreign banking offices nationwide.
As current chairman of CSBS, I am pleased to represent my
colleagues in all 50 States and the U.S. territories.
CSBS gives State bank supervisors a national forum to coordinate,
communicate, advocate, and educate on behalf of the state banking
system. We especially appreciate this opportunity to discuss our views
in our capacity as the chartering authority and primary regulator of
the vast majority of our Nation's community banks.
Chairman Shelby, we applaud your longstanding commitment to
ensuring that regulation serves the public interest without imposing
unnecessary or duplicative compliance burdens on financial
institutions. At the State level, we are constantly balancing the need
for oversight and consumer protections with the need to encourage
competition and entrepreneurship. We believe that a diverse, healthy
financial services system serves the public best.
CSBS and the State banking departments have been working closely
with the Federal banking agencies, through the Federal Financial
Institutions Examination Council, to implement the Economic Growth and
Regulatory Paperwork Reduction Act of 1996. While this legislation made
necessary and beneficial changes, we see continuing opportunities for
Congress to streamline and rationalize regulatory burden, especially
for community banks.
Principles for Regulatory Burden Relief
The Conference of State Bank Supervisors has developed a set of
principles to guide a comprehensive approach to regulatory burden
relief, and we ask Congress to consider each proposal carefully against
these principles.
First, a bank's most important tool against regulatory burden is
its ability to make meaningful choices about its regulatory and
operating structures. The State charter has been and continues to be
the charter of choice for community-based
institutions because the State-level supervisory environment--locally
oriented, relevant, responsive, meaningful, and flexible--matches the
way these banks do business.
A bank's ability to choose its charter encourages regulators to
operate more efficiently, more effectively, and in a more measured
fashion. A monolithic regulatory regime would have no incentive for
efficiency. The emergence of a nationwide financial market made it
necessary to create a Federal regulatory structure, but the State
system remains as a structural balance to curb potentially excessive
Federal regulatory measures, and as a means of promoting a wide
diversity of financial institutions.
Second, our current regulatory structure and statutory framework
may recognize some differences between financial institutions, but too
often mandate overarching ``one-size-its-all'' requirements for any
financial institution that can be described by the word ``bank.'' These
requirements are often unduly burdensome on smaller or community-based
institutions.
Regulatory burden always falls hardest on smaller institutions.
Although 48 of the Nation's 100 largest banks hold State charters,
State charters make up the vast majority of these smaller institutions.
We see this impact on earnings every day among the institutions we
supervise. In a May 27 letter to American Banker, FDIC Vice Chairman
John Reich noted the disproportionate impact of compliance costs on
institutions with less than $1 billion in assets. Community banks
represent a shrinking percentage of the assets of our Nation's banking
system, and we cannot doubt that compliance costs are in part driving
mergers. Even where laws officially exempt small, privately held banks,
as in the case of Sarbanes-Oxley, the principles behind these laws hold
all institutions to increasingly more expensive compliance standards.
This is a crucial time for Congress to take the next step in
reviewing the impact that these Federal statutes have had on the
economy of this great country. My colleagues and I see growing
disparity in our Nation's financial services industry. The industry is
bifurcated, and becoming more so. A line exists--although it is not a
clear line at this time--that divides our country's banking industry
into larger and smaller institutions. Congress must recognize this
reality, and the impact this bifurcation has on our economy.
The Nation's community banking industry is the fuel for the
economic engine of small business in the United States. Although I
speak as a State bank supervisor, I recognize that federally chartered
community banks are also important to small business.
Small business is a critical component of the U.S. economy.
According to the Small Business Administration, small business in the
United States accounts for 99 percent of all employers, produces 13
times more patents per employee than large firms, generates 60 to 80
percent of new jobs, and employs 50 percent of the private sector.
Small businesses must be served, and community banks are the primary
source of that service. They can often more readily provide customized
products that fit the unique needs of small businesses. Regulatory
burden relief will help community banks provide the service that fuels
this economic engine.
Stifling economic incentives for community banks with excessive
statutory burdens slows this economic engine of small business in the
United States. Regulatory burden relief for community banks would be a
booster shot for the nation's economic well-being.
We suggest that Congress and the regulatory agencies seek creative
ways to tailor regulatory requirements for institutions that focus not
only on size, but also on a wider range of factors that might include
geographic location, structure, management performance and lines of
business. As the largest banks are pushing for a purely national set of
rules for their evolving multistate and increasingly retail operations,
keep in mind that this regulatory scheme will also impose new
requirements on State-chartered banks operating in the majority of
States that do not already have similar rules in place.
Third, while technology continues to be an invaluable tool of
regulatory burden relief, it is not a panacea.
Technology has helped reduce regulatory burden in countless ways.
State banking departments, like their Federal counterparts, now collect
information from their financial institutions electronically as well as
through on-site examinations. Most State banking departments now accept
a wide range of forms online, and allow institutions to pay their
supervisory fees online as well. Many state banking departments allow
institutions online access to maintain their own structural
information, such as addresses, branch locations, and key officer
changes.
At least 25 State banking agencies allow banks to file data and/or
applications electronically, through secure areas of the agencies'
websites. Nearly all of the States have adopted or are in the process
of accepting an interagency Federal application that allows would-be
bankers to apply simultaneously for a State charter and for Federal
deposit insurance.
Shared technology allows the State and Federal banking agencies to
work together constantly to improve the examination process, while
making the process less intrusive for financial institutions.
Technology helps examiners target their examinations through better
analysis, makes their time in financial institutions more effective,
and expedites the creation of examination reports.
The fact that technology makes it so much easier to gather
information, however, should not keep us from asking whether it is
necessary to gather all of this information, or what we intend to do
with this information once we have it. Information-gathering is not
cost-free.
Our Bankers Advisory Board members have expressed particular
concern about Bank Secrecy Act requirements, Currency Transaction
Reports, and Suspicious Activity Reports. These collection requirements
have become far more extensive in the past 3 years, representing the
new importance of financial information to our national security.
Industry representatives, however, estimate that CTR's cost banks at
least $25 per filing. Although they understood the importance of
gathering this data, our Bankers Advisory Board members reported
widespread frustration at the perception that law enforcement agencies
do little, if anything, with this costly information. CSBS has worked
diligently with FinCEN and the Federal banking agencies to develop
clear, risk-based BSA examination procedures. We hope these procedures
will alleviate some of the financial industry's concerns in this area.
Federal law enforcement agencies need to work with State and Federal
regulators to ensure clear guidance is provided to the industry with
regard to prosecution. We also urge Congress, FinCEN, and the Federal
banking regulators to simplify the BSA reporting forms and look
carefully at potential changes to threshold levels.
Finally, although regulators constantly review regulations for
their continued relevance and usefulness, many regulations and
supervisory procedures still endure past the time that anyone remembers
their original purpose.
Many regulations implement laws that were passed to address a
specific issue; these regulations often stay on the books after the
crisis that spurred new legislation has passed. Recognizing this, many
State banking statutes include automatic sunset provisions. These
sunset provisions require legislators and regulators to review their
laws at regular intervals to determine whether they are still necessary
or meaningful.
We could hardly do that with the entire Federal banking code, but
the passage of the Fair Credit Reporting Act amendments showed how
valuable this review process can be. We urge Congress to apply this
approach to as wide a range of banking statutes as possible.
The Conference of State Bank Supervisors endorses approaches, such
as the Communities First Act (H.R. 2061 introduced in the House of
Representatives by Congressman Jim Ryun (R-KS)), that recognize and
encourage the benefits of diversity within our banking system. CSBS
supports the great majority of regulatory burden reductions proposed in
the Communities First Act, believing that they will alleviate the
burden on community banks without sacrificing either safety and
soundness or community responsiveness and responsibility. Our dual
banking system exists because one size is not appropriate for every
customer, and one system is not appropriate for every institution. We
ask that Congress include some type of targeted relief for community
banks in any regulatory relief legislation.
Through extensive discussions among ourselves and with State-
chartered banks, and in addition to the concepts and ideas expressed in
the Communities First Act, we recommend seven specific changes to
Federal law that will help reduce regulatory burden on financial
institutions, without undue risk to safety and soundness. We ask that
the Committee include these provisions in any legislation it approves.
Extended Examination Cycles for Well-Managed Banks under $1 Billion
We believe that advances in off-site monitoring techniques and
technology, and the health of the banking industry, make annual on-site
examinations unnecessary for the vast majority of healthy financial
institutions. Therefore, we ask that Congress extend the mandatory
Federal examination cycle from 12 months to 18 months for healthy,
well-managed banks with assets of up to $1 billion.
Coordination of State Examination Authority
CSBS and the State banking departments have developed comprehensive
protocols that govern coordinated supervision of State chartered banks
that operate branches in more then one State. Through the CSBS
Nationwide State Federal Cooperative Agreements, States that charter
and regulate State banks work closely with either the FDIC or Federal
Reserve and bank commissioners in host States where their bank operates
branches to provide quality, risk-focused supervision.
To further support these efforts we strongly support including
language in a Senate regulatory relief bill that reinforces these
principles and protocols that have been in place since 1996.
CSBS supports a provision that was included in the House passed
version of a regulatory relief bill in the 108th Congress (H.R. 1375
section 616) intended to improve the State system for multistate State-
chartered banks by codifying how state-chartered institutions with
branches in more than one State are examined. While giving primacy of
supervision to the chartering or home State, this provision, as
slightly modified, requires both the home and host State bank
supervisor to abide by any written cooperative agreement relating to
coordination of exams and joint participation in exams.
In addition, the House bill provides that, unless otherwise
permitted by a cooperative agreement, only the home State supervisor
may charge State supervisory fees on multistate banks. Under this
provision, however, the host State supervisor may, with written notice
to the home State supervisor, examine the branch for compliance with
host State consumer protection laws.
If permitted by a cooperative agreement, or if the out-of-State
bank is in a troubled condition, the host State supervisor could
participate in the examination of the bank by the home State supervisor
to ascertain that branch activities are not conducted in an unsafe or
unsound manner. If the host State supervisor determines that a branch
is violating host State consumer protection laws, the supervisor may,
with written notice to the home State supervisor, undertake enforcement
actions. This provision would not limit in any way the authority of
Federal banking regulators and does not affect State taxation
authority.
Regulatory Flexibility for the Federal Reserve
CSBS also favors a provision that would give the Federal Reserve
the necessary flexibility to allow State-chartered member banks to
exercise the powers granted by their charters, as long as these
activities pose no significant risk to the deposit insurance fund.
A major benefit of our dual banking system has always been the
ability of each State to authorize new products, services, and
activities for their State-chartered banks. Current law limits the
activities of State-chartered, Fed member banks to those activities
allowed for national banks. This restriction stifles innovation within
the industry, and eliminates a key dynamic of the dual banking system.
We endorse an amendment to remove this unnecessary limitation on
State member banks as it has no basis in promoting safety and
soundness. Congress has consistently reaffirmed State authority to
design banking charters that fit their unique market needs. FDICIA, in
1991, allowed States to continue to authorize powers beyond those of
national banks. Removing this restriction on State member banks would
be a welcome regulatory relief.
Limited Liability Corporations
States have been the traditional source of innovations and new
structures within our banking system, and CSBS promotes initiatives
that offer new opportunities for banks and their customers without
jeopardizing safety and soundness.
In this tradition, CSBS strongly supports an FDIC proposal to make
Federal deposit insurance available to State-chartered banks that
organize as limited liability corporations (LLC's). An LLC is a
business entity that combines the limited liability of a corporation
with the pass-through tax treatment of a partnership.
The FDIC has determined that State banks organized as LLC's are
eligible for Federal deposit insurance if they meet established
criteria designed to insure safety and soundness and limit risk to the
deposit insurance fund.
Only a handful of States now allow banks to organize as LLC's,
including Maine, Nevada, Texas, Vermont, and, most recently, Utah. More
States may consider this option, however, because the structure offers
the same tax advantages as Subchapter S corporations but with greater
flexibility. Unlike Subchapter S corporations, LLC's are not subject to
limits on the number and type of shareholders.
It is not clear, however, that Federal law allows pass-through
taxation status for State banks organized as LLC's. An Internal Revenue
Service regulation currently blocks pass-through tax treatment for
State-chartered banks. We ask the Committee to encourage the IRS to
reconsider its interpretation of the tax treatment of State-chartered
LLC's.
Federal Financial Institutions Examination Council
CSBS believes that a State banking regulator should have a vote on
the Federal Financial Institutions Examination Council (FFIEC), the
coordinating body of Federal banking agencies.
The FFIEC's State Liaison Committee includes State bank, credit
union, and
savings bank regulators. The chairman of this Committee has input at
FFIEC meetings, but is not able to vote on policy or examination
procedures that affect the institutions we charter and supervise.
Improving coordination and communication among regulators is one of
the most important regulatory burden relief initiatives. To that end,
we recommend that Congress change the State position in FFIEC from one
of observer to that of full voting member.
State bank supervisors are the primary regulators of approximately
74 percent of the Nation's banks, and thus are vitally concerned with
changes in Federal regulatory policy and procedures.
De Novo Interstate Branching
CSBS seeks changes to Federal law that would allow all banks to
cross State lines by opening new branches. While Riegle-Neal intended
to leave this decision in the hands of the States, inconsistencies in
Federal law have created a patchwork of contradictory rules about how
financial institutions can branch across State lines.
These contradictions affect State-chartered banks
disproportionately. Federally chartered savings institutions are not
subject to de novo interstate branching restrictions, and creative
interpretations from the Comptroller of the Currency have exempted most
national banks, as well.
Therefore, we ask Congress to restore competitive equity by
allowing de novo interstate branching for all federally insured
depository institutions.
Deposit Insurance for Branches of International Banks Licensed to do
Business in the United States
Finally, CSBS urges the Committee to review the statutory
prohibition on the establishment of additional FDIC-insured branches of
international banks.
Since Congress enacted this prohibition in 1991, cooperation and
information sharing between the United States and home country
regulators have improved substantially. An international bank wishing
to establish a branch in the United States must obtain approval from
the Federal Reserve as well as from the licensing authority, and the
Federal Reserve must find the bank to be subject to comprehensive
supervision or regulation on a consolidated basis by its home country
supervisor. These supervisory changes eliminate many of the concerns
about establishing additional FDIC-insured branches that led to the
statutory prohibition.
International banks operating in the United States benefit the U.S.
economy through job creation, operating expenditures, capital
investments, and taxes. The vast majority of international bank
branches are licensed by the States, and are assets to the states'
economies. The Committee should review and remove this prohibition, and
allow international banks the option of offering insured accounts.
Challenges to Regulatory Burden Relief
The current trend toward greater, more sweeping Federal preemption
of State banking laws threatens all of the regulatory burden relief
issues described above.
Federal preemption can be appropriate, even necessary, when
genuinely required for consumer protection and competitive opportunity.
The extension of the Fair Credit Reporting Act amendments met this high
standard.
We appreciate that the largest financial services providers want
more coordinated regulation that helps them create a nationwide
financial marketplace. We share these goals, but not at the expense of
distorting our marketplace, denying our citizens the protection of
State law and the opportunity to seek redress close to home, or
eliminating the diversity that makes our financial system great. The
Comptroller's regulations may reduce burden for our largest, federally
chartered institutions and their minority-owned operating subsidiaries,
but they do so at the cost of laying a disproportionate burden on
State-chartered institutions and even on smaller national banks.
We ask the Committee and Congress to review the disparity in the
application of State laws to State and nationally chartered banks and
their subsidiaries. Because expansive interpretations of Federal law
created this issue, a Federal solution is necessary in order to
preserve the viability of the State banking system.
Conclusion
Mr. Chairman, Members of the Committee, the regulatory environment
for our Nation's banks has improved significantly over the past 10
years, in large part because of your vigilance.
As you consider additional ways to reduce burden on our financial
institutions, we urge you to remember that the strength of our banking
system is its diversity--the fact that we have enough financial
institutions, of enough different sizes and specialties, to meet the
needs of the world's most diverse economy and society. While some
Federal intervention may be necessary to reduce burden, relief measures
should allow for further innovation and coordination at both the State
and Federal levels, and among community-based institutions as well as
among the largest providers.
Diversity in our financial system is not inevitable. Community
banking is not inevitable. This diversity is the product of a
consciously developed State-Federal system, and any initiative to
relieve regulatory burden must recognize this system's value. A
responsive and innovative State banking system that encourages
community banking is essential to creating diverse local economic
opportunities.
State bank examiners are often the first to identify and address
economic problems, including cases of consumer abuse. We are the first
responders to almost any problem in the financial system, from
downturns in local industry or real estate markets to the emergence of
scams that prey on senior citizens and other consumers. We can and do
respond to these problems much more quickly than the Federal
Government, often bringing these issues to the attention of our Federal
counterparts and acting in concert with them.
State supervisors are sensitive to regulatory burden, and
constantly look for ways to simplify and streamline compliance. We
believe in, and strive for, smart, focused, and reasonable regulation.
Your own efforts in this area, Chairman Shelby, have greatly reduced
unnecessary regulatory burden on financial institutions regardless of
their charter.
The industry's record earnings levels suggest that whatever
regulatory burdens remain, they are not interfering with larger
institutions' ability to do business profitably. The growing gap
between large and small institutions, however, suggests a trend that is
not healthy for the industry or for the economy.
The continuing effort to streamline our regulatory process while
preserving the safety and soundness of our Nation's financial system is
critical to our economic well-being, as well as to the health of our
financial institutions. State bank supervisors continue to work with
each other, with our legislators and with our Federal counterparts to
balance the public benefits of regulatory actions against their direct
and indirect costs.
We commend you, Mr. Chairman, Senator Crapo, and the Members of
this Committee for your efforts in this area. We thank you for this
opportunity to testify, and look forward to any questions that you and
the Members of the Committee might have.
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PREPARED STATEMENT OF STEVE BARTLETT *
President and Chief Executive Officer
The Financial Services Roundtable
June 21, 2005
Introduction
Chairman Shelby, Ranking Member Sarbanes, and Members of the
Committee, my name is Steve Bartlett and I am President & CEO of The
Financial Services Roundtable.
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* Appendix held in Committee files.
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The Roundtable represents 100 of the Nation's largest integrated
financial services companies. Our members provide banking, insurance,
and investment products and services to millions of American consumers.
Roundtable member companies account for $17.1 trillion in managed
assets, $888 billion in revenue, and 2 million jobs.
The Roundtable appreciates the opportunity to share its views on
the topic of regulatory relief for financial services firms. We
strongly support efforts to reduce the regulatory burden confronting
the financial services industry. Outdated laws and regulations impose
significant, and unnecessary, burdens on financial services firms, and
these burdens not only make our firms less efficient, but also increase
the cost of financial products and services to consumers.
I recognize that in some respects I am ``preaching to the choir''
when I cite the burdens of regulation on financial services firms. This
Committee, and Senator Crapo in particular, have been in the forefront
of efforts to eliminate unnecessary and overly burdensome laws and
regulations applicable to financial services firms. The Roundtable
appreciates these efforts, and hopes that they will be fully realized
with the enactment of a regulatory burden relief bill in this Congress.
Recently, the Roundtable has undertaken its own initiative aimed at
regulatory burden relief. Based upon input from our members, we have
identified four major regulatory problems in need of reform. We have
undertaken a dialogue with the appropriate Federal financial regulatory
agencies about these problems, and, in some instances, have recommended
specific remedies. I will begin by addressing these four key issues. I
also have highlighted a number of other regulatory reforms sought by
the Roundtable, many of which were incorporated in H.R. 1375, the
Financial Services Regulatory Relief Act, which was approved by the
House of Representatives in the last Congress. Please find attached to
my testimony an addendum of regulatory relief proposals offered for
consideration by The Financial Services Roundtable.*
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* Held in Committee files.
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The Roundtable's Regulatory Oversight Coalition
Recently, The Roundtable initiated its own effort to reduce
excessive regulation. This effort is focused on four regulatory problem
areas:
Suspicious Activity Report (SAR) filing requirements;
SEC enforcement policies and practices;
The confidentiality of information that is shared with Federal
financial regulators; and
Compliance with Section 404 of the Sarbanes-Oxley Act.
SAR's
Roundtable member companies strongly support the Government's
efforts to combat money laundering and terrorist financing. However, we
believe that the current system of reporting suspicious activities is
not working properly. The best evidence of this is the dramatic
increase in SAR filings in recent years. For example, since 1996,
national SAR reporting has increased 453 percent. Similarly, FinCEN
reported 81,197 filings in 1997 versus 288,343 filings in 2003. As of
October 28, 2004, depository institutions had filed a total of 297,753
SAR's, and the total number of SAR filings is projected to double this
year.
There are several reasons for this dramatic increase in SAR
filings. First, the failure to file SAR's has become a criminal issue.
The U.S. Justice Department has aggressively pursued actions against
financial institutions for failing to file SAR's. This criminalization
of the filing process has created a huge reputational risk for
financial institutions, and has caused institutions to file an
increasing number of SAR's in order to avoid any potential for
prosecution. Second, there are no clear standards for when SAR's should
be filed. Although guidelines are in place, examiners neither clearly
nor consistently apply them. In addition, financial institutions do not
receive feedback from law enforcement on the type of information that
should be included in the SAR. Third, Roundtable member companies have
encountered a ``zero tolerance'' policy among the Federal financial
regulatory agencies. Under this policy, institutions are held
accountable for every single transaction.
Finally, there is a lack of coordination among the various agencies
and examiners responsible for SAR filings. This lack of coordination
often results in duplicate requests and multiple filings.
To address these problems, The Roundtable has urged the Federal
financial regulatory agencies to take the following actions:
Develop clear, simple guidelines on SAR's, which include safe
harbor protections for institutions and individuals who file the
SAR;
Draft regulations and/or guidelines that focus on an
institution's anti-money laundering program and policies, not
individual transactions;
Coordinate with each other on all examination procedures, and
provide consistent interpretations of the Bank Secrecy Act;
Consider raising the Currency Transaction Report (CTR)
threshold above the current $10,000.00 level; and
Provide additional guidance on Customer Identification
Programs, including tailoring the regulations to individual
businesses versus a one-size-fits-all approach.
Additionally, the Roundtable recommends that any decision to pursue
a criminal charge against a financial institution for failure to file a
SAR, or other report required by the Bank Secrecy Act, should be made
by the main Justice Department, not a field office, and that such
decisions be made in consultation with the appropriate Federal
financial regulator for the institution.
SEC Enforcement
Roundtable member companies are increasingly concerned about the
enforcement policies and practices of the Securities and Exchange
Commission (SEC). Just as the Roundtable supports compliance with
Federal anti-money laundering laws and regulations, the Roundtable
supports compliance with our Nation's securities laws. Nonetheless, we
believe that compliance is being hindered by certain SEC enforcement
policies and practices.
Specifically, the Roundtable believes that there should be a
``firewall'' between the SEC's examination staff and the Division of
Enforcement. A firewall would give institutions a chance to more freely
discuss compliance issues and other practices outside of a potential
enforcement context. This is the model that has been successfully
followed by the Federal banking agencies, and we believe that it would
enhance, not reduce, compliance with securities laws.
Second, we believe that the SEC should provide a notice to
institutions when an investigation is complete. Currently, no such
notices are provided, and this practice can have an unnecessary
chilling effect on business operations.
Third, as discussed further below, we believe the SEC should drop
its policy of ``forcing'' companies to waive attorney-client privilege
in the course of an investigation. This policy is impairing the
attorney-client privilege, and this threatens to undermine internal
discussion and investigations.
Finally, we believe the SEC should give financial institutions
adequate time to respond to broad document requests.
The SEC has said that it will not tolerate unreasonable delays in
response to inquiries. The Roundtable does not endorse unreasonable
delays, but has found that the SEC's definition of what constitutes an
unreasonable delay is often very limited. This has created problems for
institutions that are trying to determine what information is relevant
and what is protected by the attorney-client privilege.
Confidentiality of Information Shared with Regulators
Financial institutions are required to share an increasing amount
of information with Federal financial regulators. Reporting and filing
requirements imposed by Federal law and regulators are a major source
of this burden. For example, since the enactment of the Financial
Institutions Reform, Recovery and Enforcement Act (FIRREA) in 1989,
Federal banking and thrift regulators have promulgated over 801 final
rules, most of which impose various types of reporting and filing
requirements. Additionally, financial institutions are asked to provide
a wide-range of documents and information to regulators in the course
of examinations and investigations.
Unfortunately, this information sharing is threatened by two
developments. First, there is the potential for confidential
information that is shared with a Federal financial regulator to become
accessible by third parties. Needless to say, this potential can have
significant chilling effects on the nature and type of information an
institution is willing to share with its regulator.
Second, the Justice Department, the SEC, and the other Federal
financial regulators have adopted policies that effectively undermine
the attorney-client privilege. Under these policies, the wavier of the
attorney-client privilege is a condition for being deemed
``cooperative'' with the agency, and the failure to waive the privilege
can adversely affect the nature of the charges that may be brought in
an enforcement case or the size of any civil money penalty that may be
assessed against an institution. Such policies can have significant
unintended consequences:
They have a chilling effect on the communications between
management, boards of directors, and their attorneys because of the
uncertainty over what conversations and work-product is protected:
They discourage internal investigations. The current
regulatory environment, including reforms brought about by the
Sarbanes-Oxley Act, encourages companies to conduct thorough
internal investigations and, to the extent necessary, communicate
the results of those investigations to the appropriate Federal
regulators. Yet, the likelihood that such communications will
result in a waiver of the attorney-client privilege creates a
disincentive to conducting investigations. Thus, the current waiver
policy is directly counter to the goals of Sarbanes-Oxley and
similar regulatory reforms. Furthermore, the policies place
employees in a difficult position during the course of
investigations. If employees cooperate in an investigation, their
statements may have to be provided to the investigation agency. If
an employee decided not to cooperate and withholds information, the
employee risks termination or other action against them.
To protect the confidentiality of information given to a Federal
financial regulator, the Roundtable urges the enactment of legislation
similar to The Financial Services Antifraud Network Act of 2001 (also
known as the Bank Examination Report Privilege Act or BERPA), which was
proposed in the 107th Congress,\1\ and the Securities Fraud Deterrence
and Investor Restitution Act, which was proposed in the 108th
Congress.\2\ These proposals would protect the integrity and
effectiveness of the information shared with Federal financial
regulators. For example, BERPA would clarify that information
voluntarily disclosed to an examining agency continues to be protected
by the institution's own privileges. BERPA also would codify and
strengthen the bank supervisory privilege by defining confidential
supervisory information, affirming that such information is the
property of the agency that created or requested it, and protecting
this information from unwarranted disclosure to third parties.
Furthermore, BERPA would reaffirm the agencies' powers to establish
procedures governing the production of confidential supervisory
information to third parties.
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\1\ H.R. 1408, Financial Services Antifraud Network Act of 2001,
U.S. House of Representatives, 107th Congress (November 7, 2001).
\2\ H.R. 2179, Securities Fraud Deterrence and Investor Restitution
Act, U.S. House of Representatives, 108th Congress (May 21, 2003).
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The Roundtable also recommends that such legislation be expanded to
cover information shared with an institution's auditors. The Sarbanes-
Oxley Act protects privileged documents provided to the Public Company
Accounting Oversight Board (PCAOB) in connection with the inspections
and investigations of registered audit firms.
This protection, however, does not extend to information obtained
by the auditors themselves. Ensuring that information shared with
auditors can remain subject to confidentiality will help to ensure the
flow of information between an institution and its auditors.
With respect to the governmental policies that have the effect of
undermining the attorney-client privilege, The Roundtable recommends
that Congress make it clear to the Justice Department and the Federal
financial regulators that the waiver of the privilege should not be a
matter of policy in all investigations.
Section 404 of the Sarbanes-Oxley Act
Section 404 of the Sarbanes-Oxley Act requires SEC-reporting firms
to conduct annual assessments of the effectiveness of their internal
controls, and to have their auditors independently attest to and report
on this assessment. The Roundtable supports the goals of this section.
Strong corporate governance and transparency of management structure
and internal controls are important. Nonetheless, the Roundtable has
identified a certain substantial concern with the implementation of
Section 404.
Most notably, Section 404 has changed the role of auditors. It has
made auditors hesitant to provide advice to clients, caused auditors to
impose excessive testing and documentation requirements on clients, and
significantly increased the cost of outside audits.
Additionally, Section 404 has imposed significant initial and on-
going costs on companies. A recent survey by Financial Executives
International found that the total cost of compliance per company is
approximately $4.36 million. These costs include large increases in
external costs for consulting, software and other vendors, additional
personnel, and, as noted above, additional fees by external auditors.
Furthermore, Roundtable members have encountered confusion over the
standards in Section 404. For example, we find a need for clarity on
the meaning of terms such as ``material weakness'' and ``significant
controls.''
Other Needed Regulatory Reforms
There are a number of other needed regulatory reforms that the
Roundtable urges the Committee to consider as it crafts regulatory
relief legislation. I will start by highlighting provisions from H.R.
1375, and then list some other recommended changes to Federal law.
Interstate Banking
It was exactly 10 years ago that Congress enacted the landmark
Riegle-Neal Interstate Banking and Branching Efficiency Act of 1994.
Since then, the public benefits anticipated by that Act have been
realized.
The creation of new bank branches has helped to maintain the
competitiveness of our financial services industry, and has improved
access to financial products in otherwise underserved markets. Branch
entry into new markets has enhanced competition in many markets, and
this, in turn, has resulted not only in a better array of financial
products and services for households and small businesses, but also in
competitive prices for such products and services. There is, however,
one remaining legal barrier to interstate branching, which should be
eliminated.
Under the Riegle-Neal Act, a bank cannot establish a new or so-
called ``de novo'' interstate branch without the affirmative approval
of a host State. Since 1994, only 17 states have given that approval;
33 States have not. The time has come to remove this barrier to
interstate branching. The Roundtable urges the Committee to do so by
incorporating Section 401 from H.R. 1375 in its version of regulatory
relief legislation.
Section 401 eliminates the provision in the Riegle-Neal Act that
requires State approval for de novo branching. In other words, the
enactment of Section 401 would allow a bank to establish new branches
in any State, without limitations.
Section 401 is supported by the Federal Reserve Board, the Office
of the Comptroller of the Currency, and the Conference of State Bank
Supervisors. These Federal and State regulators recognize the public
benefits associated with expanding
access to banking offices. They also realize that current law has
created some competitive disparities between different types of
institutions.
Section 401 also makes other useful modifications to interstate
operations. It removes a minimum requirement on the age of a bank that
is acquired by an out-of-state bank. It allows State bank supervisors
to permit State banks to engage in interstate trust activities similar
to the trust activities permissible for national banks. It facilitates
mergers and consolidations between insured banks and uninsured banks
with different home States. All of these changes facilitate the
provision of banking products and services to consumers.
Coordination of State Exams
A second provision related to interstate banking that we would urge
the Committee to incorporate in its version of regulatory relief
legislation is Section 616 of H.R. 1375. Section 616 of H.R. 1375
clarifies the authority of State banking supervisors over interstate
branches of State chartered banks. It provides that the banking
supervisor of the State in which a bank is chartered (a ``home'' State
supervisor) is responsible for the examination and supervision of
branches located in other States, and that only a home State supervisor
may impose supervisory fees on interstate branches. Section 616 also
encourages State banking supervisors to enter into cooperative
supervisory agreements related to the examination and supervision of
State banks with interstate operations. Such an agreement could provide
for joint examinations, and even the assessment of joint supervisory
fees. Furthermore, Section 616 acknowledges the authority of a ``host''
State banking supervisor to examine the interstate branches of State
banks for compliance with host State law.
The addition of this provision will help to avoid needless
confusion, and potential conflict, over the examination and supervision
of the interstate branches of State banks.
Regulation of Thrift Institutions
While The Roundtable supports all of the thrift provisions in H.R.
1375, I would highlight three of those provisions, which are
particularly important to our members.
Parity for Thrifts Under the Federal Securities Laws
Section 201 of H.R. 1375 would establish regulatory parity between
the securities activities of banks and thrifts. For years, the
brokerage and investment activities of commercial banks have enjoyed
exemptions under Federal securities laws.\3\ As a result, the
securities activities of banks have been subject to regulation by
banking regulators, not the Securities and Exchange Commission. Thrift
institutions, on the other hand, have not enjoyed similar exemptions
under the Exchange Act or the Investment Advisors Act, even though
Congress has, over time, permitted thrifts to engage in the same
brokerage and investment activities as commercial banks.\4\ As a
result, the securities activities of thrifts have been subject to
regulation by both the Securities and Exchange Commission (SEC) and the
Office of Thrift Supervision (OTS).
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\3\ The scope of this exemption was narrowed in the Gramm-Leach-
Bliley Act.
\4\ In 1999, Congress did amend the Investment Company Act to treat
thrifts the same as banks.
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Using its rulemaking powers, the SEC has attempted to address this
regulatory disparity, first by granting thrifts a regulatory exemption
under the Exchange Act, and, most recently, by proposing a limited
exemption for thrifts under the Investment Advisors Act. Unfortunately,
those actions by the SEC do not fully resolve the disparity between the
regulation of banks and thrifts. Therefore, we urge the Committee to
include Section 201 in its version of regulatory relief legislation.
Section 201 would establish an explicit exemption for thrifts in
the Exchange Act that is comparable to the exemption for commercial
banks. This statutory change would remove any doubt about the
permanence of the existing regulatory exemption adopted by the SEC.
Section 201 also would make the exemption for thrifts under the
Investment Advisors Act parallel to the current exemption for banks.
The regulation recently proposed by the SEC grants thrifts an exemption
from SEC regulation only when they are engaged in investment advisory
activities in connection with trust activities. It would not apply to
other investment advisory services, such as retail planning services.
Section 201 draws no such distinction. It would give thrifts the same
exemption as commercial banks.
The OTS examines the securities-related activities of thrifts, just
as the OCC and other banking agencies examine the securities-related
activities of commercial banks. Thus, the exemptions proposed in
Section 201 do not leave a regulatory void. They simply place thrifts
on regulatory par with commercial banks, by eliminating the costs
associated with registration with the SEC.
Auto Loans
The Roundtable urges the Committee to incorporate Section 208 of
H.R. 1375 in its version of regulatory relief legislation. Current law
limits the amount of automobile loans by a thrift to no more than 35
percent of the institution's assets. Section 208 would remove this
ceiling. Congress has previously determined that credit card loans and
education loans by thrifts should not be subject to any asset
limitation. Automobile loans should be placed in this same category.
Doing so will allow thrifts to further diversify their portfolios and
enhance their balance sheets. Also, this provision would increase
competition in the auto loan business, to the benefit of consumers.
Dividends
The Roundtable supports Section 204 of H.R. 1375. Section 204 would
replace a mandatory dividend notice requirement for thrifts owned by
savings and loan holding companies with an optional requirement under
the control of the Director of OTS. The existing mandatory requirement
is no longer necessary. Other existing Federal statutes and regulations
give the OTS the authority to ensure that thrifts held by holding
companies pay dividends only in appropriate circumstances. Moreover,
the current mandatory requirement applies only to thrifts owned by
savings and loan holding companies, not to those owned by other
companies or banks. Thus, Section 204 removes a disparity in regulation
that need not exist.
Cross Marketing
Presently, an insurance affiliate of a financial holding company
may engage in cross-marketing with a company in which the insurance
affiliate has made an investment if (1) the cross-marketing takes place
only through statement inserts and Internet websites; (2) the cross-
marketing activity is conducted in accordance with the antitying
restrictions of the Bank Holding Company Act (BHCA); and (3) the Board
determines that the proposed arrangement is in the public interest,
does not undermine the separation of banking and commerce, and is
consistent with the safety and soundness of depository institutions.
Under current law, however, a merchant banking affiliate of a financial
holding company may not engage in such
limited cross-marketing activities with the companies in which it makes
investments. The Roundtable urges the Committee to amend the BHCA and
establish parity of treatment between financial holding companies that
own insurance affiliates and those that own merchant banking
affiliates.
We also urge that the Committee permit a depository institution
subsidiary of a financial holding company to engage in cross-marketing
activities with a nonfinancial company held by a merchant banking
affiliate if the nonfinancial company is not controlled by the
financial holding company. When a financial holding company does not
control a portfolio company, cross-marketing activities are unlikely to
materially undermine the separation between banking and commerce.
In these noncontrol situations, the separation of banking and
commerce is maintained by the other restrictions contained in the BHCA
that limit the holding period of the investment and restrictions that
limit the financial holding company's ability to manage and operate the
portfolio company.
These proposed modifications to the BHCA were incorporated in
Section 501 of H.R. 1375.
SEC Regulation of Broker-Dealers
Sections 201 and 202 of the Gramm-Leach-Bliley Act were intended to
provide for SEC regulation of certain new securities activities, but
permit banks to continue to engage directly in traditional trust and
accommodation activities, that have long been regulated by the banking
agencies. The Gramm-Leach-Bliley Act never envisioned that banks would
be forced to ``push out'' traditional trust activities into SEC
regulated companies. Despite this clear Congressional intent, the SEC
has issued proposed regulations that would do exactly that--it would
force banks to divest historic business lines and push them out to
registered broker-dealers. The Federal Reserve and the OCC have
objected to these proposed regulations, and their comment letter to the
SEC emphasizes the importance of issuing a regulation that conforms to
Congressional intent.
Nevertheless, the SEC appears adamant in going forward with a far-
reaching regulation that would effectively require banks to cease
engaging in many traditional banking activities. The Committee should
amend the Gramm-Leach-Bliley Act to strike Sections 201 and 202 to
ensure that banks may continue to engage in traditional banking
functions without the threat of having to push these activities out
into a nonbanking company.
Diversity Jurisdiction
Under the law, citizens of two different States may avail
themselves of the Federal courts if certain jurisdictional thresholds
are met. Every corporation is deemed to be a citizen of two States: (1)
the State of incorporation; and (2) the State in which it has its
principal place of business, if different. Thus a company with offices
in every State will still be able to use the Federal courts, as long as
the other party is not a citizen of the company's ``home'' State.
National banks and Federal savings associations are treated
differently. The statute provides that a national bank is a citizen in
the State in which it is located, and at least one court has held that
this means every State in which the bank has a branch. For Federal
savings associations, there is no provision governing their
citizenship, and this issue has to be litigated over and over.
We urge the Committee to amend the law to clarify that both a
national bank and a Federal savings association are citizens of the
State in which the institution's main or home office is located and the
State in which they maintain their principal place of business, if
different. This would put national banks and Federal thrift
associations under the same rules that apply to every other corporation
in America.
Anti-Tying
We urge the Committee to repeal the price variance feature of the
existing antitying rule so that a banking institution can give a price
break to commercial customers if that commercial customer decides to
purchase other products and services from the institution. Banks should
have the ability to offer a commercial customer a price break on a
product or service if the commercial customer decides to buy another
product or service. This change would not encourage antitrust
activities. Unlike the classic tying case, the customer could not be
forced into buying a product. If the customer thinks the price break is
good enough, he or she can buy the product. If the customer does not
think the price break is good enough, he or she is under no obligation
to buy the product. Furthermore, our proposed change would apply only
to commercial customers, not individuals or small businesses.
Simplified Privacy Notice
Like many consumers, the Roundtable member companies have found
that the privacy notice required by the GLBA is overly confusing, and
largely ignored by many consumers.
Accordingly, we recommend that the Committee use this opportunity
to simplify the form of the notice required by GLBA.
There is extensive research in support of simple notices. That
research indicates that consumers have difficulty processing notices
that contain more than seven elements, and require the reader to
translate vocabulary used in the notice into concepts they understand.
Consumer surveys also indicate that over 60 percent of consumers would
prefer a shorter notice than the lengthy privacy policy mandated by
GLBA.
Recognizing the problem created by the existing GLBA privacy
notice, the Federal banking agencies, the FTC, NCUA, CFTC, and SEC
recently requested comment on alternative notices that would be more
readable and useful to consumers. These Federal agencies, however, lack
the authority to make a simplified notice truly consumer-friendly
because they cannot address conflicting and overlapping State privacy
laws. Section 507 of GLBA permits individual States to adopt privacy
protections that are ``greater'' than those established by GLBA. This
provision allows States to adopt their own privacy notices, and this
simply adds to consumer confusion and frustration.
We strongly recommend that the Committee include a provision in its
version of regulatory relief legislation that directs the relevant
Federal agencies to finalize a simplified privacy notice for purposes
of GLBA, and provides that such a notice supersede State privacy
notices. As the research has indicated, consumers will be better served
if they are given a simple, uniform explanation of an institution's
privacy policy and their privacy rights.
Real Estate Brokerage
The Financial Services Roundtable strongly supports the
authorization of financial services holding companies to engage in real
estate brokerage activities. We believe that the Gramm-Leach-Bliley Act
of 1999 clearly contemplated this would be a permissible ``financial
activity'' for financial services holding companies, and thus can be
authorized by a joint rulemaking of the Treasury Department and the
Federal Reserve Board. We also strongly support legislation, such as
H.R. 2660 sponsored by Chairman Oxley and Ranking Member Frank in the
House, that would define this activity as ``financial'' without the
need for a rulemaking proceeding.
Conclusion
In conclusion, the Roundtable appreciates the efforts of the
Committee to eliminate laws and regulations that impose significant,
and unnecessary, burdens on financial services firms. The costs savings
that will result from this regulatory relief legislation will benefit
the consumers of financial products and services. We look forward to
working with the Committee on this important legislation.
PREPARED STATEMENT OF ARTHUR R. CONNELLY *
Chairman & CEO, South Shore Savings Bank
South Weymouth, Massachusetts and
Member, Executive Committee of the Board of Directors
America's Community Bankers, Washington, DC
June 21, 2005
Chairman Shelby, Senator Sarbanes, and Members of the Committee, I
am Arthur Connelly, President and CEO of South Shore Savings Bank,
South Weymouth, Massachusetts. South Shore Savings Bank is a $900
million State-chartered savings bank owned by South Shore Bancorp, a
mutual holding company.
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* Appendix held in Committee files.
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I am here this morning representing America's Community Bankers. I
am a member of the Executive Committee of ACB's Board of Directors and
Chairman of ACB's Government Affairs Steering Committee. I want to
thank Chairman Shelby for calling this hearing and thank him and
Senator Crapo for their leadership in crafting legislation to address
the impact of outdated and unnecessary regulations on community banks
and the communities they serve.
ACB is pleased to have this opportunity to discuss recommendations
to reduce the regulatory burden placed on community banks. When
unnecessary and costly regulations are eliminated or simplified,
community banks will be able to better serve consumers and small
businesses in their local markets. ACB has a long-standing position in
support of meaningful reduction of regulatory burden.
This hearing and this topic are important and timely. Community
banks operate under a regulatory scheme that becomes more and more
burdensome every year. Ten years ago, there were 12,000 banks in the
United States. Today, there are only 9,000 left. ACB is concerned that
community banks are becoming less and less able to compete with
financial services conglomerates and unregulated companies that offer
similar products and services without the same degree of regulation and
oversight. Community banks also bear a greater relative burden of
regulatory costs compare to large banks. Community banks stand at the
heart of cities and towns everywhere, and to lose that segment of the
industry because of over regulation would be debilitating to those
communities.
Community banks today are subject to a host of laws, some over a
half-century old that originally were enacted to address concerns that
no longer exist. These laws stifle innovation in the banking industry
and put up needless roadblocks to competition without contributing to
the safety and soundness of the banking system. Further, every new law
that impacts community banks brings with it additional
requirements and burdens. This results in layer upon layer of
regulation promulgated by the agencies frequently without regard to the
requirements already in existence.
The burden of these laws results in lost business opportunities for
community banks. But, consumers and businesses also suffer because
their choices among financial institutions and financial products are
more limited as a result of these laws, and, in the end, less
competition means consumers and businesses pay more for these services.
Community banks must also comply with an array of consumer
compliance regulations. As a community banker, I understand the
importance of reasonable consumer protection regulations. As a
community banker, I also see how much it costs, both financially and in
numbers of staff hours for my small mutual community bank to comply
with the often-unreasonable application of these laws. As a community
banker, I see projects that will not be funded, products not offered
and consumers not served because I have had to make a large resource
commitment to comply with the same regulations with which banks
hundreds of times larger must comply.
Bankers are not the only ones concerned about the impact of the
increasing layers of regulation on community banks. According to FDIC
Vice Chairman John Reich, the bank and savings association regulatory
agencies have promulgated over 800 regulations since 1989. In the
opinion of the Vice Chairman, although most of the rule changes were
put in place for good, sound reasons, over 800 changes in 15 years are
a lot for banks to digest, particularly smaller community banks with
limited staff. Vice Chairman Reich believes that regulatory burden will
play an increasingly significant role in the viability of community
banks in the future. I agree.
The most egregious form of regulatory burden results from arbitrary
actions by government agencies. ACB wants to alert the Committee to
recent arbitrary actions by the National Credit Union Administration
that appear to us to be a textbook case of agency overreaching.
Although Congress has clearly granted credit unions the freedom to
choose the form of organization that best meets their strategic and
market objectives, the NCUA seems incapable of applying an evenhanded
approach to conversion matters. The agency recently invalidated the
conversion attempts of Community Credit Union and Omni American Credit
Union in Texas before the member votes were even tabulated. The NCUA
said that the credit unions violated the agency's conversion
regulations because required disclosure documents that were mailed to
all credit union members was not properly folded. Both the Texas Credit
Union Commissioner and the Director of the OTS have determined that the
way the notice was folded is not reason to start the 90-day conversion
voting process over. The NCUA's actions could prevent these credit
unions from exercising their right to determine their institutions'
charter or cost the two credit unions hundreds of thousand of dollars
to begin the process over again.
Before turning to specific recommendations for legislative changes,
I would like to discuss two areas where the implementation of laws by
the regulators has been carried out in a fashion that creates
unnecessary uncertainty and burden on community banks, namely, anti-
money laundering, and corporate governance.
Community bankers fully support the goals of the anti-money
laundering laws, and we are prepared to do our part in the fight
against crime and terrorism. As laudable as these goals are, there
currently exists an atmosphere of uncertainly and confusion about what
is required of banks. This results from inconsistent messages being
given by regulatory staff in the field, the region, and Washington. For
example, Washington officials repeatedly assure the banking industry
that the banking agencies do not have a ``zero-tolerance'' policy,
where every minor discrepancy is treated as a significant failure to
comply with the law. Nevertheless, regional offices and individual
examiners continue to articulate a ``zero-tolerance policy'' when
conducting BSA examinations and when making presentations during
industry conferences. In another example of inconsistent policy, FinCEN
has admonished banks not to file ``defensive suspicious activity
reports,'' but as recent enforcement actions taken by the banking
agencies and prosecutions by the Department of Justice demonstrate, it
is safer for banks to file SAR's, when in doubt.
The opportunity costs of BSA compliance go beyond hampering an
institution's ability to expand and hire new employees. In some cases,
fear of regulatory criticism has led some institutions to sever ties
with existing banking customers or forego the opportunity to develop
banking relationships with new customers.
ACB and other industry representatives have been working with
FinCEN and the banking regulators to improve the regulation of our
anti-money laundering efforts. Among the many reform proposals
suggested by ACB, we have proposed modernizing the cash transaction
reporting regulations. FinCEN and law enforcement report that the Cash
Transaction Report (CTR) database is littered with unhelpful CTR's. We
believe that this attributable to the $10,000 threshold set in 1970 and
a well-intentioned, but unhelpful exemption system that many community
banks find to be more burdensome than simply filing a CTR. Adjusted for
inflation since 1970, the threshold would be $48,000. ACB has suggested
that the $10,000 threshold be increased for business customers as many
businesses of all sizes routinely conduct transactions over $10,000.
The 30-year old regulations need to be updated to reflect today's
economic reality. We believe that updating the threshold for business
customers would help, not hinder law enforcement. An increase in the
threshold would help meet a 1994 Congressional mandate to reduce CTR
filings by 30
percent and provide law enforcement a cleaner, more efficient CTR
database. We have also suggested that banks be allowed more flexibility
in exempting business customers from CTR requirements by modifying or
eliminating the current 12-month waiting period for new customer
exemptions.
We have made some progress in clarifying bank responsibilities
under other anti-money laundering and terrorist financing regulations.
As a result of a dialogue among industry, FinCEN and the banking
agencies, FinCEN and the agencies recently issued joint guidance to
banks on what level of scrutiny they should use with respect to the
accounts of money service businesses. ACB commends the agencies for
providing this needed clarification of bank responsibilities. ACB will
continue to work with government agencies to provide further
clarification of the responsibilities of banks under the Nation's anti-
money laundering laws. We look forward to the release of additional
guidance in this area and are pleased that the agencies have planned
training sessions for examiners and bankers so that a consistent
message can be given to everyone at the same time.
The Sarbanes-Oxley Act contained much needed reforms, restoring
investor confidence in the financial markets that were in turmoil as a
result of the major corporate scandals at the beginning of this decade.
Community bankers support that Act and other laws, like the Federal
Deposit Insurance Corporation Improvement Act, that improve corporate
governance, enhance investor protection, and promote the safety and
soundness of the banking system. However, the implementation of the
Sarbanes-Oxley Act by the Securities and Exchange Commission and the
Public Company Accounting Oversight Board and the interpretation of
those regulatory requirements by accounting firms have resulted in
costly and burdensome unintended consequences for community banks,
including, even, privately held stock institutions and mutual
institutions.
For example, the PCAOB requires the external auditor to audit the
internal controls of a company, rather than audit the CEO's attestation
with respect to the internal controls--which was the practice generally
permitted by the banking agencies for compliance with FDICIA's internal
control requirements. ACB believes that this change in practice is a
significant cause of a dramatic increase in bank audit fees. Many
publicly traded banks are reporting an increase in audit fees of 75
percent over the prior year. Some banks are reporting audit fees equal
to 20 percent of net income. Privately held and mutual banks also are
experiencing significant increases in auditing fees because the
external auditors are applying the same PCAOB standards to these
nonpublic banks.
ACB has provided concrete suggestions to the banking regulators,
the SEC, and the PCAOB on ways to reduce the cost of compliance with
internal controls and other requirements, while still achieving the
important goal of improved corporate governance and transparency. We
appreciate the separate guidance on internal control reporting and
attestation requirements issued concurrently by the SEC and the PCAOB,
and are hopeful that it might provide some relief to the escalating
audit fees.
ACB appreciates the willingness of the staffs of Chairman Shelby,
Senator Sarbanes, and other Senators to discuss the views and
experiences of community banks in relation to the implementation of
Section 404, and want to thank Senator Sarbanes for his assistance in
securing the participation of one of our members in the SEC Roundtable
on the Implementation of Sarbanes-Oxley Internal Control Provisions.
(We have attached a letter, which ACB recently submitted to the
banking regulators, detailing these suggestions and also suggestions
for improving antimoney laundering regulation.)
While ACB is not currently recommending statutory changes to anti-
money laundering and corporate governance laws, we believe that
Congress has an important oversight role to play to ensure that
meaningful regulatory efforts to reduce burden continue, and to step in
and change laws, when that becomes necessary.
Legislative Recommendations
ACB has a number of recommendations to reduce regulations
applicable to community banks that will help make doing business easier
and less costly, further enabling community banks to help their
communities prosper and create jobs. ACB's specific legislative
proposals are attached in an appendix.
Priority Issues
Expanded Business Lending
A high priority for ACB is a modest increase in the business-
lending limit for savings associations. In 1996, Congress liberalized
the commercial lending authority for federally chartered savings
associations by adding a 10 percent ``bucket'' for small business loans
to the 10 percent limit on commercial loans. Today, savings
associations are increasingly important providers of small business
credit in communities throughout the country. As a result, even the
``10 plus 10'' limit poses a constraint for an ever-increasing number
of institutions. Expanded authority would enable savings associations
to make more loans to small- and medium-sized businesses, thereby
enhancing their role as community-based lenders. An increase in
commercial lending authority would help increase small business access
to credit, particularly in smaller communities where the number of
financial institutions is limited. To accommodate this need, ACB
supports eliminating the lending limit restriction on small business
loans while increasing the aggregate lending limit on other commercial
loans to 20 percent. Under ACB's proposal, these changes would be made
without altering the requirement that 65 percent of an association's
assets be maintained in assets required by the qualified thrift lender
test.
Unnecessary and Redundant Privacy Notices
ACB strongly urges the elimination of required annual privacy
notices for banks that do not share information with nonaffiliated
third parties. Banks with limited information sharing practices should
be allowed to provide customers with an initial notice, and provide
subsequent notices only when terms are modified. I am sure you are all
inundated by privacy statements each fall. I am equally confident that
most or all of them remain unread. At my bank we send out thousands of
such notices each year at significant cost, in both dollars and staff
time, even though our policies and procedures have remained consistent
over many years. Redundancy in this case does not enhance consumer
protection; rather it serves to numb our customers with volume.
Others share information only under very controlled circumstances
when certain operational functions are outsourced to a vendor. The
requirement to send notices should be amended when circumstances have
not changed or when we are only reiterating that no customer
information is ever shared. We do agree a notice should be sent, but it
becomes an expensive burden to send it multiple times when once will
more than suffice.
Parity Under the Securities Exchange Act and Investment Advisers Act
ACB vigorously supports providing parity for savings associations
with banks under the Securities Exchange Act and Investment Advisers
Act. Statutory parity will ensure that savings associations and banks
are under the same basic regulatory requirements when they are engaged
in identical trust, brokerage, and other activities that are permitted
by law. As more savings associations engage in trust activities, there
is no substantive reason to subject them to different requirements.
They should be subject to the same regulatory conditions as banks
engaged in the same services.
In proposed regulations, the SEC has offered to remove some aspects
of the disparity in treatment for broker-dealer registration and the
IAA, but still has not
offered full parity. Dual regulation by the OTS and the SEC makes
savings associations subject to significant additional cost and
regulatory burden. Eliminating this regulatory burden could free up
tremendous resources for local communities. ACB supports a legislative
change. Such a change will ensure that savings associations will have
the same flexibility as banks to develop future products and offer
services that meet customers' needs.
Easing Restrictions on Interstate Banking and Branching
ACB strongly supports removing unnecessary restrictions on the
ability of national and State banks to engage in interstate branching.
Currently, national and State banks may only engage in de novo
interstate branching if State law expressly permits. ACB recommends
eliminating this restriction. The law also should clearly provide that
State-chartered Federal Reserve member banks might establish de novo
interstate branches under the same terms and conditions applicable to
national banks. ACB recommends that Congress eliminate States'
authority to prohibit an out-of-state bank or bank holding company from
acquiring an in-state bank that has not existed for at least 5 years.
The new branching rights should not be available to newly acquired or
chartered industrial loan companies with commercial parents (those that
derive more than 15 percent of revenues from nonfinancial activities).
Other Important Issues
Interest on Business Checking
Prohibiting banks from paying interest on business checking
accounts is long outdated, unnecessary and anticompetitive.
Restrictions on these accounts make community banks less competitive in
their ability to serve the financial needs of many business customers.
Permitting banks and savings institutions to pay interest directly on
demand accounts would be simpler. Institutions would benefit by not
having to spend time and resources trying to get around the existing
prohibition. This would benefit many community depository institutions
that cannot currently afford to set up complex sweep operations for
their--mostly small--business customers.
Eliminating Unnecessary Branch Applications
A logical counterpart to proposals to streamline branching and
merger procedures would be to eliminate unnecessary paperwork for well-
capitalized banks seeking to open new branches. National banks, State-
chartered banks, and savings associations are each required to apply
and await regulatory approval before opening new branches. This process
unnecessarily delays institutions' plans to increase competitive
options and increase services to consumers, while serving no important
public policy goal. In fact, these requirements are an outdated
holdover from the times when regulatory agencies spent unnecessary time
and effort to determine whether a new branch would serve the
``convenience and needs'' of the community.
Coordination of State Examination Authority
ACB supports the adoption of legislation clarifying the examination
authority over State-chartered banks operating on an interstate basis.
ACB recommends that Congress clarify home- and host-state authority for
State-chartered banks operating on an interstate basis. This would
reduce the regulatory burden on those banks by making clear that a
chartering State bank supervisor is the principal State point of
contact for safety and soundness supervision and how supervisory fees
may be assessed. These reforms will reduce regulatory costs for smaller
institutions.
Limits on Commercial Real Estate Loans
ACB recommends increasing the limit on commercial real estate
loans, which applies to savings associations, from 400 to 500 percent
of capital, and giving the OTS flexibility to increase that limit.
Institutions with expertise in nonresidential real property lending and
which have the ability to operate in a safe and sound manner should be
granted increased flexibility. Congress could direct the OTS to
establish practical guidelines for nonresidential real property lending
that exceeds 500 percent of capital.
Loans to One Borrower
ACB recommends eliminating the $500,000-per-unit limit in the
residential housing development provision in the loans-to-one-borrower
section of the Home Owners' Loan Act. This limit frustrates the goal of
advancing residential development within the statute's overall limit--
the lesser of $30 million or 30 percent of capital. This overall limit
is sufficient to prevent concentrated lending to one borrower/housing
developer. The per-unit limit is an excessive regulatory detail that
creates an artificial market restriction in high-cost areas.
Home Office Citizenship
ACB recommends that Congress amend the Home Owners' Loan Act to
provide that for purposes of jurisdiction in Federal courts, a Federal
savings association is deemed to be a citizen of the State in which it
has its home office. For purposes of obtaining diversity jurisdiction
in Federal court, the courts have found that a Federal savings
association is considered a citizen of the State in which it is located
only if the association's business is localized in one State. If a
Federal savings association has interstate operations, a court may find
that the federally chartered corporation is not a citizen of any State,
and therefore no diversity of citizenship can exist. The amendment
would provide certainty in designating the State of their citizenship.
A recent court decision has cast doubt on national banks' ability
to access the Federal courts on the basis of diversity jurisdiction.
Regulatory relief legislation should also clarify that national banks
are citizens of their home States for diversity jurisdiction purposes.
Interstate Acquisitions
ACB supports the adoption of legislation to permit multiple savings
and loan holding companies to acquire associations in other States
under the same rules that apply to bank holding companies under the
Riegle-Neal Interstate Banking and Branching Efficiency Act of 1994.
This would eliminate restrictions in current law that prohibit (with
certain exceptions) a savings and loan holding company from acquiring a
savings association if that would cause the holding company to become a
multiple savings and loan holding company controlling savings
associations in more than one state.
Application of QTL to Multi-State Operations
ACB supports legislation to eliminate state-by-state application of
the QTL test. This better reflects the business operations of savings
associations operating in more than one State.
Applying International Lending Supervision Act to OTS
ACB recommends that the ILSA be amended to clarify that the ILSA
covers savings associations. Such a provision would benefit OTS-
regulated savings associations operating in foreign countries by
assisting the OTS in becoming recognized as a consolidated supervisor,
and it would promote consistency among the Federal banking regulators
in supervising the foreign activities of insured depository
institutions.
OTS Representation on Basel Committee on Banking Supervision
ACB recommends another amendment to the ILSA that would add OTS to
the multiagency committee that represents the United States before the
Basel Committee on Banking Supervision. Savings associations and other
housing lenders would benefit by having the perspective of the OTS
represented during the Basel Committee's deliberation.
Parity for Savings Associations Acting as Agents for Affiliated
Depository Institutions
ACB recommends that the Federal Deposit Insurance Act be amended to
give savings associations parity with banks to act as agents for
affiliated depository institutions. This change will allow more
consumers to access banking services when they are away from home.
Inflation Adjustment under the Depository Institution Management
Interlocks Act
ACB supports increasing the exemption for small depository
institutions under the DIMA from $20 million to $100 million. This will
make it easier for smaller institutions to recruit high quality
directors. The original $20 million level was set a number of years ago
and is overdue for an adjustment.
Reducing Debt Collection Burden
Under the Fair Debt Collection Practices Act, a debtor has 30 days
in which to dispute a debt. ACB supports legislation that makes clear
that a debt collector need not stop collection efforts for that 30-day
period while the debtor decides whether or not to dispute the debt.
This removes an ambiguity that has come up in some instances. If a
collector has to cease action for 30 days, valuable assets, which may
be sufficient to satisfy the debt, may vanish during the 30-day period.
Mortgage Servicing Clarification
The FDCPA requires a debt collector to issue a ``mini-Miranda''
warning (that the debt collector is attempting to collect a debt and
any information obtained will be used for that purpose) when the debt
collector begins to attempt to collect a debt. This alerts the borrower
that his debt has been turned over to a debt collector. However, the
requirement also applies in cases where a mortgage servicer purchases a
pool of mortgages that include delinquent loans. While the mini-Miranda
warnings are clearly appropriate for true third party debt collection
activities, they are not appropriate for mortgage servicers who will
have an ongoing relationship with the borrower.
ACB urges the adoption of legislation to exempt mortgage servicers
from the mini-Miranda requirements. The proposed exemption (based on
H.R. 314, the Mortgage Servicing Clarification Act) is narrowly drawn
and would apply only to first lien mortgages acquired by a mortgage
servicer for whom the collection of delinquent debts is incidental to
its primary function of servicing current mortgages. The exemption is
narrower than one recommended by the FTC for mortgage servicers. The
amendment would not exempt mortgage servicers from any other
requirement of the FDCPA.
Repealing Overlapping Rules for Purchased Mortgage Servicing Rights
ACB supports eliminating the 90-percent-of-fair-value cap on
valuation of purchased mortgage servicing rights. ACB's proposal would
permit insured depository institutions to value purchased mortgage
servicing rights, for purposes of certain capital and leverage
requirements, at more than 90 percent of fair market value--up to 100
percent--if the Federal banking agencies jointly find that doing so
would not have an adverse effect on the insurance funds or the safety
and soundness of insured institutions.
Loans to Executive Officers
ACB recommends legislation that eliminates the special regulatory
$100,000 lending limit on loans to executive officers. The limit
applies only to executive officers for ``other purpose'' loans, that
is, those other than housing, education, and certain secured loans.
This would conform the law to the current requirement for all other
officers, that is, directors and principal shareholders, who are simply
subject to the loans-to-one-borrower limit. ACB believes that this
limit is sufficient to maintain safety and soundness.
Decriminalizing RESPA
ACB recommends striking the imprisonment sanction for violations of
RESPA. It is highly unusual for consumer protection statutes of this
type to carry the possibility of imprisonment. Under the ACB's
proposal, the possibility of a $10,000 fine would remain in the law,
which would provide adequate deterrence.
Bank Service Company Investments
Present Federal law stands as a barrier to a savings association
customer of a Bank Service Company from becoming an investor in that
BSC. A savings association cannot participate in the BSC on an equal
footing with banks who are both customers and owners of the BSC.
Likewise, present law blocks a bank customer of a savings association's
service corporation from investing in the savings association service
corporation.
ACB proposes legislation that would provide parallel investment
ability for banks and savings associations to participate in both BSC's
and savings association service corporations. ACB's proposal preserves
existing activity limits and maximum investment rules and makes no
change in the roles of the Federal regulatory agencies with respect to
subsidiary activities of the institutions under their primary
jurisdiction. Federal savings associations thus would need to apply
only to OTS to invest.
Eliminating Savings Association Service Company Geographic Restrictions
Currently, savings associations may only invest in savings
association service companies in their home State. ACB supports
legislation that would permit savings associations to invest in those
companies without regard to the current geographic restrictions.
Streamlining Subsidiary Notifications
ACB recommends that Congress eliminate the unnecessary requirement
that a State savings association notify the FDIC before establishing or
acquiring a subsidiary or engaging in a new activity through a
subsidiary. Under ACB's proposal, a savings association would still be
required to notify the OTS, providing sufficient regulatory oversight.
Authorizing Additional Community Development Activities
Federal savings associations cannot now invest directly in
community development corporations, and must do so through a service
corporation. National banks and State member banks are permitted to
make these investments directly. Because many savings associations do
not have a service corporation and choose for other business reasons
not to establish one, they are not able to invest in CDC's. ACB
supports legislation to extend CDC investment authority to Federal
savings associations under the same terms as currently apply to
national banks.
Eliminating Dividend Notice Requirement
Current law requires a savings association subsidiary of a savings
and loan holding company to give the OTS 30 days' advance notice of the
declaration of any dividend. ACB supports the elimination of the
requirement for well-capitalized associations that would remain well-
capitalized after they pay the dividend. Under this
approach, these institutions could conduct routine business without
regularly conferring with the OTS. Those institutions that are not well
capitalized would be required to prenotify the OTS of dividend
payments.
Reimbursement for the Production of Records
ACB's members have long supported the ability of law enforcement
officials to obtain bank records for legitimate law enforcement
purposes. In the Right to Financial Privacy Act of 1978, Congress
recognized that it is appropriate for the government to reimburse
financial institutions for the cost of producing those records.
However, that Act provided for reimbursement only for producing records
of individuals and partnerships of five or fewer individuals. Given the
increased demand for corporate records, such as records of
organizations that are allegedly fronts for terrorist financing, ACB
recommends that Congress broaden the RFPA reimbursement language to
cover corporate and other organization records.
ACB also recommends that Congress clarify that the RFPA
reimbursement system applies to records provided under the
International Money Laundering Abatement and Anti-Terrorist Financing
Act of 2001 (Title III of the USA PATRIOT Act). Because financial
institutions will be providing additional records under the authority
of this new act, it is important to clarify this issue.
Extending Divestiture Period
ACB recommends that unitary savings and loan holding companies that
become multiple savings and loan holding companies be provided 10 years
to divest nonconforming activities, rather than the current 2-year
period. This would be consistent with the time granted to new financial
services holding companies for similar divestiture under the Gramm-
Leach-Bliley Act. The longer time gives these companies time to conform
to the law without forcing a firesale divestiture.
Restrictions on Auto Loan Investments
Federal savings associations are currently limited in making auto
loans to 35 percent of total assets. ACB recommends eliminating this
restriction. Removing this limitation will expand consumer choice by
allowing savings associations to allocate additional capacity to this
important segment of the lending market.
Streamlined CRA Examinations
ACB strongly supports amending the Community Reinvestment Act to
define banks with less than $1 billion dollars in assets as small banks
and therefore permit them to be examined with the streamlined small
institution examination. According to a report by the Congressional
Research Service, a community bank participating in the streamlined CRA
exam can save 40 percent in compliance costs. Expanding the small
institution exam program will free up capital and other resources for
almost 1,700 community banks across our Nation that are in the $250
million to $1 billion asset-size range, allowing them to invest even
more into their local communities.
Credit Card Savings Associations
Under current law, a savings and loan holding company cannot own a
credit card savings association and still be exempt from the activity
restrictions imposed on companies that control multiple savings
associations. However, a savings and loan holding company could charter
a credit card institution as a national or State bank and still be
exempt from the activity restrictions imposed on multiple savings and
loan holding companies. ACB proposes that the Home Owners' Loan Act be
amended to permit a savings and loan holding company to charter a
credit card savings association and still maintain its exempt status.
Under this proposal, a company could take advantage of the efficiencies
of having its regulator be the same as the credit card institution's
regulator.
Protection of Information Provided to Banking Agencies
Recent court decisions have created ambiguity about the privileged
status of information provided by depository institutions to bank
supervisors. ACB recommends the adoption of legislation that makes
clear that when a depository institution
submits information to a bank regulator as part of the supervisory
process, the depository institution has not waived any privilege it may
claim with respect to that information. Such legislation would
facilitate the free flow of information between banking regulators and
depository institutions that is needed to maintain the safety and
soundness of our banking system.
Conclusion
I wish to again express ACB's appreciation for your invitation to
testify on the importance of reducing regulatory burdens and costs for
community banks. We strongly support the Committee's efforts in
providing regulatory relief, and look forward to working with you and
your staff in crafting legislation to accomplish this goal.
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PREPARED STATEMENT OF DAVID HAYES
President and CEO, Security Bank Dyersburg, TN and
Chairman, Independent Community Bankers of America, Washington, DC
June 21, 2005
Mr. Chairman, Ranking Member Sarbanes, and Members of the
Committee, my name is David Hayes, Chairman of the Independent
Community Bankers of America (ICBA) \1\ and President and CEO of
Security Bank; a 135 million community bank in Dyersburg, Tennessee. I
am pleased to appear today on behalf of ICBA and its nearly 5,000
members to testify on proposals to reduce the regulatory burden on
banks, thrifts, and credit unions.
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\1\ The Independent Community Bankers of America represents the
largest constituency of community banks of all sizes and charter types
in the Nation, and is dedicated exclusively to representing the
interests of the community banking industry. ICBA aggregates the power
of its members to provide a voice for community banking interests in
Washington, resources to enhance community bank education and
marketability, and profitability options to help community banks
compete in an ever-changing marketplace. For more information, visit
ICBA's website at www.icba.org.
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We are especially pleased by the leadership of Senator Crapo, who
is drafting legislation for the Committee. Senator Crapo has taken a
comprehensive look at all of the regulatory relief ideas that were
recommended to this Committee last year. The matrix that Senator Crapo
developed after that hearing is a useful compendium of these ideas.
This broad approach is essential because other efforts, such as the
bill the House passed last year (H.R. 1375) included little true relief
for community banks.
To add impetus to the effort to broaden the scope of regulatory
relief, ICBA worked closely with Representative Jim Ryun on his
Community Banks Serving Their Communities First Act. The Communities
First Act (H.R. 2061) includes regulatory and tax relief that is
critical to community banks and their customers. It includes additional
provisions that apply to all banks and bank customers. Virtually all of
the regulatory provisions in the bill are included in Senator Crapo's
matrix. All but one are items that the other financial groups have
agreed to include on a list of 78 consensus items agreed to as part of
the regulatory burden reduction project being led by FDIC Vice Chairman
John Reich. ICBA hopes that Senator Crapo will include many items from
H.R. 2061 in the bill he is developing for this Committee.\2\
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\2\ In a similar vein, ICBA plans to work with the Senate Finance
and House Ways and Means Committees on the tax relief components of
H.R. 2061.
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Our testimony will focus on the specific proposals in the
Communities First Act and explain why they should be included in this
Committee's new regulatory relief bill. Before that, I will briefly
explain why regulatory relief is so important to community banks, their
customers, and the communities they serve.
Community Banks Need Regulatory Relief
Since 1992, the market share of community banks with less than $1
billion in assets has dropped from about 20 percent of banking assets
to 13 percent. And the market share of large banks with more than $25
billion in assets has grown from about 50 percent to 70 percent.
Community bank profitability also lags large banks. Obviously part of
the reason is due to economies of scale that community banks have
always accepted as a fact of life. However, in recent years, the
disproportionate impact of the ever-mounting regulatory burden is
significantly impacting community bank profitability. I agree with Vice
Chairman Reich that it is a leading cause of consolidation in our
industry.
At the same time credit unions, with their unfair tax-exempt
advantages and favorable legislation loosening membership restrictions,
have made inroads into small banks' market segments. Credit union
assets have more than tripled since 1984, from $194 billion to $611
billion, whereas total small bank assets (less than $1 billion) have
decreased.
An analysis of these trends conducted by two economists at the
Federal Reserve Bank of Dallas concluded that the competitive position
and future viability of small banks is questionable.\3\ The authors
suggest that the regulatory environment has evolved to the point of
placing small banks at an artificial disadvantage to the detriment of
their primary customers--small business, consumers, and the
agricultural community.
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\3\ Gunther and Moore, ``Small Banks' Competitors Loom Large,''
Southwest Economy, Federal Reserve Bank of Dallas, Jan./Feb. 2004.
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While larger banks have hundreds or thousands of employees to throw
into the regulatory breach, a community bank with $100 million in
assets typically has just 30 full time employees, a $200 million bank
about 60 employees. If my bank is faced with a new regulation, we must
train one or more of our current employees to comply, and complying
with the new regulation will take time away from customer service.
Unlike larger institutions, we cannot just add a new person and pass
the costs on to our customers.
It's not just smaller community banks that are feeling the pain.
Larger community banks as well are drowning in paperwork and regulatory
burden. They are hiring 2 or 3 full-time employees to do nothing but
Bank Secrecy Act compliance. They have had to expend hundreds of
thousands of dollars for Sarbanes-Oxley Act compliance.
This is not just about numbers and costs. I assure you we are not
crying ``wolf.'' If we do not get meaningful relief soon, more and more
community banks will throw up their hands, and give up their
independence.
Why should policymakers care about community banks? First,
community banks play a strong role in consumer financing and an
especially vital role in small
business lending. Commercial banks are the leading suppliers of credit
to small business, and community banks account for a disproportionate
share of total bank lending to small business, the primary job-creating
engine of our economy. Banks with less than $1 billion in assets make
37 percent of bank small business loans, nearly three times their share
(13 percent) of bank industry assets. And they account for 64 percent
of total bank lending to farms.
Second, community banks that fund local businesses are particularly
attuned to the needs of their communities and are uniquely equipped to
facilitate the local economic development process, which can be time-
consuming and resource intensive. Community bankers provide tremendous
leadership in their communities, which is critical to economic
development and community revitalization.
Community bankers serve on hospital boards, attend economic
development corporation meetings, and engage in similar activities. You
could argue that this is not an efficient and cost-effective way to
spend our time, but for most community banks, our survival depends on
the economic vitality of our communities. Branches of large megabanks
do not provide this same commitment to the community.
Bank Secrecy Act Compliance
While our testimony today does not include legislative
recommendations for changes in the Bank Secrecy Act, this certainly
does not mean that community bankers do not have serious concerns about
how the Act is being enforced. In fact, it is topic 1A when bankers
discuss the regulatory burden. However, we believe the agencies have
authority to address most of the problems. These center around whether
or not there is a ``zero tolerance'' examination climate, as well as
uncertainty about what the agencies expect from banks.
ICBA recently filed a comment letter with the banking agencies
under the EGRPRA process with a number of recommendations regarding BSA
compliance, including:
Bank Secrecy Act Administration. Issue additional guidelines
and provide reference tools for compliance so that bankers and
examiners know what is expected. (The anticipated June 30, 2005
revised examination procedures and outreach programs for bankers
and examiners should help, but balance is clearly needed.)
BSA Currency Transaction Reporting. Increase the filing
threshold from $10,000 to $30,000 to eliminate unnecessary filing.
Improve the CTR exemption process so banks use it.
Suspicious Activity Reporting. Simplify the filing process and
issue easily accessible guidance on when banks should report.
At this point, ICBA strongly urges this Committee to engage in
thorough oversight to ensure that BSA compliance does not impose an
unreasonable and unproductive burden on the economy and truly achieves
its important goals.
The Credit Union Bill is Not Like the Communities First Act
Several weeks ago the credit union industry had introduced what it
is calling a regulatory relief bill. Some representatives of that
industry compared their bill (H.R. 2317) with the Communities First
Act. The bills are not at all comparable. The credit union bill is a
powers enhancement proposal, while the Communities First Act includes
no new powers for anyone. CFA is strictly designed to lift the
regulatory and tax burden for community banks and help level the
playing field. In contrast, the credit union bill would, among other
things substantially increase the ability of credit unions to make
loans to businesses. Therefore, ICBA is unalterably opposed to H.R.
2317. Congress should eliminate the credit unions' unfair tax and
regulatory advantages over community banks, not give them even more new
powers.
There is one area that we believe credit unions very much need
regulatory burden relief. Their regulator, the National Credit Union
Administration, is undermining credit unions' ability to choose to
convert to a mutual thrift charter. Recently, NCUA invalidated a vote
by a Texas credit union's members to convert solely because of the way
the required disclosure was folded. This is just the latest example of
NCUA's efforts to unreasonably block credit union conversions. We urge
Congress to exercise its oversight role and, if necessary, act to
require the NCUA to adhere to the statutory requirement to allow credit
unions to convert their charters.
Industrial Loan Companies
Industrial loan companies (ILC's) are hybrid financial charters
that are exempt from the Bank Holding Company Act (BHCA). This
exemption gives ILC's certain preferential authorities over other
financial charters, including the authority to be owned by commercial
firms. This violates the long-standing principle of maintaining the
separation of banking and commerce, most recently reaffirmed by the
Gramm-Leach-Bliley Act. ICBA believes that the best way to deal with
and eliminate the mixing of banking and commerce made possible by the
ILC loophole is to close it by bringing ILC's under the BHCA.
Given that ILC's already enjoy extraordinary authorities due to
their BHCA
exemption, we do not believe these authorities should be expanded. In
recent testimony before the House Financial Services Committee, Federal
Reserve Board Governor Donald Kohn reiterated the Fed's long-standing
support for this position. ``Stated simply, if ILC's want to benefit
from expanded powers and become functionally indistinguishable from
other insured banks, then they and their corporate parents should be
subject to the same rules that apply to the owners of other full-
service banks.'' \4\ We strongly support this position.
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\4\ Statement of Donald L. Kohn, Member, Board of Governors of the
Federal Reserve System, June 9, 2005.
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Specific Legislative Recommendations
ICBA strongly supports the bank regulatory reduction project
mandated by the Economic Growth and Paperwork Reduction Act of 1996
(EGRPRA) and commends the EGRPRA task force, led by FDIC Vice Chairman
Reich, for the excellent job it has done to identify those banking
regulations that are outdated, unnecessary, or unduly burdensome.
Through the public comment process, banker outreach meetings, and the
EGRPRA website, the project has generated a large number of
recommendations for reducing the regulatory burden on banks. While the
bank regulators have been working hard to identify burdens they can
reduce on their own, they report to us that there are severe limits on
what they can do without help from Congress. Many burdensome and
outdated regulatory requirements are hard-wired into Federal statute.
The Communities First Act includes a variety of legislative
proposals to reduce the burden of regulation on community banks. Many
of the following legislative changes from H.R. 2061 build on the
concept of a tiered regulatory and supervision system recommended by
Vice Chairman Reich by targeting relief to institutions based on their
size. Others are of special concern to community banks, but would apply
to all banks, regardless of size. All would go a long way toward
improving community banks' ability to compete and serve local
communities.
Home Mortgage Disclosure Act
The Communities First Act would make several changes to the Home
Mortgage Disclosure Act. Section 101 would increase two reporting
exemption levels from $30 million and $34 million \5\ in assets to $250
million. While this may appear to be a substantial increase, the vast
majority of industry assets would remain covered. In fact, the FDIC
reports that as of March 31, 2004, banks and thrifts with $250 million
or less in assets held only 6.7 percent of industry assets. The
amendment would index the $250 million level using the existing
procedure in HMDA.
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\5\ The $34 million began as a $10 million exemption, but has been
increased by statute and by the Federal Reserve using an inflation-
based index.
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Title II of H.R. 2061 makes several additional changes in HMDA that
could apply to a bank of any size, depending on its activity or
location. Section 202 would exempt banks with fewer than 100 reportable
loan applications per year per category. This would lift the burden
from banks for which mortgage lending is not a major business line.
Banks that operate outside Metropolitan Statistical Areas are
exempt from HMDA. Section 202 would also allow the Federal Reserve to
develop a definition of Metropolitan Statistical Area for HMDA
purposes, instead of using Census Bureau definition created for
entirely different reasons. Current law requires the use of the Census
Bureau definition, so certain areas that are truly rural are included
in metropolitan statistical areas. This may serve the purposes of the
Census Bureau, but the Federal Reserve should have the flexibility to
modify these definitions when determining which areas must be covered
by HMDA. This would avoid unnecessarily covering certain rural banks
that are relatively close to metropolitan areas.
Finally, Section 202 would benefit all banks that must continue to
report HMDA data by requiring the Federal Reserve to review and
streamline the data collection and reporting requirements every 5
years.
It is important to note that the banking industry has included each
of these HMDA provisions on its list of consensus items for inclusion
in a regulatory relief bill in its response to Senator Crapo.
Reports of Condition (Call Reports) & BHC Policy Statement
Section 102 of the Communities First Act would permit highly rated,
well-capitalized banks with assets of $1 billion or less to file a
short call report form in two quarters of each year. This would reduce
the reporting burden for these banks, while still providing the banking
agencies with the data they need.
Section 204 would benefit all banks by directing the agencies to
reduce or eliminate filings that are not outweighed by the benefits to
safety and soundness or the ability of the FDIC and other regulators to
accurately determine the financial condition and operations of the
reporting institutions. ICBA believes that this Congressional directive
would reverse the repeated increases in the reporting burden
imposed when agency economists and financial analysts seek to add
``just one more'' item to the call reports. While many of these items
provide interesting information, we question whether private
companies--banks--should have to provide nonessential information under
threat of government sanction.
The current call report instructions and schedules consist of 458
pages. While extensive and time consuming to produce, these quarterly
filings by community banks are not essential to the agencies. The fact
is that in most community banks, the world just does not change that
dramatically between March 31 and June 30 of each year. The FDIC will
not lose track of us if every other quarter we file a short form
instead of the extensive report and Chairman Greenspan will still be
able to conduct monetary policy without our real time data. On the
other hand, this would significantly reduce the reporting burden for
banks like mine, while still providing the banking agencies with the
data they need.
Section 104 of the Communities First Act would direct the Federal
Reserve to make bank holding companies with assets up to $1 billion
eligible for the Small Bank Holding Company Policy Statement on
Assessment of Financial and Managerial Factors. To qualify, the holding
company must also (1) not be engaged in any nonbanking activities
involving significant leverage, and (2) not have a significant amount
of outstanding debt that is held by the general public. This change
would reduce the paperwork burden on these small, noncomplex, holding
companies, while maintaining the Federal Reserve's ability to obtain
holding company information for larger institutions.
Again, the banking industry has included each of these
recommendations as consensus items on the list for Senator Crapo.
Sarbanes-Oxley Act, Section 404
Section 404 of Sarbanes-Oxley imposes tremendous unexpected costs
on virtually all companies. A recent ICBA survey showed that--including
outside audit fees, consulting fees, software costs, and vendor costs--
the average community bank will spend more than $200,000 and devote
over 2,000 internal staff hours to comply with the internal control
attestation requirements of Section 404. Section103 of the Communities
First Act recognizes that these added costs are unnecessary for
community banks. First, unlike other companies, banks have been under
similar requirements for years, though with an exemption for banks
under $500 million in assets. Congress imposed these requirements on
banks after the crises of the 1980's. So, Section 404 is redundant when
imposed on the banking sector. Second, unlike other companies, banks
are closely supervised and examined by Federal officials on a regular
basis and the adequacy of their internal controls is assessed by bank
examiners. Companies like Enron and WorldCom were not regulated the
same way. Not only is this burden redundant and unnecessary for
community banks, it is a key factor in undermining their ability to
remain independent.
The banking industry has also agreed that this proposal is a
consensus item on the list for Senator Crapo.
Director Interlocks and Loans to Officers
Section 105 of the Communities First Act increases the size of bank
eligible for an exemption from interlocking director prohibitions from
$20 million to $500 million. It has always been a challenge for the
smallest institutions to find qualified directors. Now that directors'
responsibilities have increased under the Sarbanes-Oxley Act and other
requirements, this has become a challenge even for larger community
banks.
Section 108 of the Communities First Act allows banks with less
than $1 billion in total assets to make loans to executive officers, in
the aggregate, up to two times capital. The current asset size limit is
$100 million in deposits. This is not a tenfold increase, because a
bank with $1 billion in assets could have considerably less than that
in deposit liabilities.
Section 205 would help all banks by increasing the special
regulatory lending limit on loans to executive officers for loans other
than those for housing, education, and certain secured loans to
$250,000.\6\ This limit has not been adjusted for over 10 years, so
this amendment simply makes an appropriate adjustment for inflation.
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\6\ Executive officers would remain subject to the same limit on
directors and principal shareholders, the loans-to-one-borrower limit,
and to the requirement that loans to insiders not be on preferential
terms.
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These adjustments are all included in the banking industry's
consensus recommendations to Senator Crapo.
Protection for Community Banks Under SIPC
The Securities Investor Protection Act does not provide immediate
protection to community banks that suffer losses when a securities firm
fails. Current law exempts commercial banks from SIPC coverage and
assumes that all commercial banks are in a position to fend for
themselves in such cases. This may be true for large commercial banks,
but it is less so for community banks.
Section 106 of the Communities First Act would provide banks with
assets up to $5 billion the same protection afforded other investors
and other depository institutions for their brokerage account assets
under the SIPA.
This is included in the banking industry's consensus
recommendations to Senator Crapo.
Examination Schedules
Section 107 of the Communities First Act would give Federal
regulators flexibility to determine the examination interval for well-
rated, well-capitalized banks with up to $1 billion in assets. This
would replace the current 18-month exam schedule for banks with less
than $250 million in assets. The banking industry supported this as a
consensus recommendation.
Section 110 would increase CRA examination intervals for banks up
to $1 billion.\7\
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\7\ It is important to note that this examination interval is a
separate issue from the question of examination procedures for banks
under $1 billion in assets. The regulatory agencies have already
adopted, or have proposed adopting those streamlined procedures.
---------------------------------------------------------------------------
Both of these changes would help strong, well-run community banks
focus on service to their communities rather than responding to
unnecessarily frequent examinations.
Truth in Lending Right of Rescission
Section 201 of the Communities First Act calls for several changes
that would expedite consumers' access to their funds without
undermining the protection that the 3-day right of rescission provides.
They would apply without regard to the size of the institution
involved.
Subsection (a) directs the Federal Reserve to provide exemptions
when the lender is a federally insured depository institution. The
right of rescission was imposed to protect consumers against high-
pressure loan sellers often connected with illicit home improvement
operations or similar schemes. The loan programs of federally insured
institutions are, obviously, run on a far different basis and are
subject to regular scrutiny by banking regulators. Our customers know
exactly what they have applied for and are receiving. They are
frequently annoyed when they hear they have to wait an additional 3
days for their funds.
Subsection (b) addresses another source of annoyance for consumers,
the fact that borrowers have to wait 3 days to get the benefit of a
refinancing transaction even if they are not taking any cash out of the
deal. It makes no sense to insist that a consumer wait to begin taking
advantage of a lower interest rate or different term, which are the
typical purposes of these kinds of transactions.
Finally, Subsection (c) eliminates the right of rescission when a
borrower is opening up an open-ended line of credit. The very design of
the product grants consumers a perpetual right of rescission if that is
what they want. The consumer can simply refrain from drawing on the
account for 3 days or longer. On the other hand, consumers who need
immediate access to their line of credit should have it.
The banking industry has included the provisions of Section 201 in
its consensus recommendations.
Privacy Notices
One of the most wasteful provisions of the Gramm-Leach-Bliley Act
has been the requirement that financial institutions send annual
privacy notices to their customers. The law requires them to be written
in impossible-to-understand legalese. The industry and agencies have
been working on ways to simplify this language, but the task is
daunting. However, Section 203 of the Communities First Act offers a
measure that would greatly reduce the number of these notices that must
be mailed. It simply says that if an institution does not share
information (except for narrow purposes, such as providing information
to an outside data processing firm) and has not changed its policies,
it need not send out the annual notices. While any size institution
could take advantage of this provision, community bankers are
especially interested in having this option. I can tell you that my
customers and their trash collectors would also be grateful.
Like virtually all of the regulatory provisions of the Communities
First Act, this section is a banking industry consensus item.
Impact of New Regulations on Community Banks
Neither we--nor you--can anticipate all of the potential new
burdens that future laws and regulations may impose on community banks.
Therefore, Section 109 of the Communities First Act directs the banking
agencies to take into account the effect any new regulation,
requirement, or guideline would have on community banks. This sends a
clear message from Congress to the agencies that the public policy of
the United States is firmly committed to maintaining a strong, vibrant,
community bank sector for our economy.
Conclusion
ICBA greatly appreciates this opportunity to testify on this
important issue. In a major way, the future of community banking
depends on what you do. The banking industry is united on the need for
regulatory burden relief. Indeed, virtually all the proposals in
Representative Ryun's Communities First Act are included in the
industry's recommendations to Senator Crapo. The bill simply highlights
those provisions that are important to community banks. We strongly
urge Senator Crapo to include them in his regulatory relief bill. That
would provide real benefits to community banks and the communities and
customers that they serve.
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PREPARED STATEMENT OF CHRISTOPHER A. KORST
Senior Vice President, Rent-A-Center, Inc.
June 21, 2005
The following written statement is submitted in support of S. 603,
the Consumer Rental-Purchase Agreement Act, on behalf of the Coalition
for Fair Rental Regulation.
S. 603 has been introduced once again in this Congress by Senator
Mary Landrieu, and cosponsored by a number of other Senators,
Republican and Democrat alike, including Senators Shelby and Johnson of
this Committee. That legislation, standing alone or as part of an
overall regulatory relief package, proposes to regulate the rent-to-
own, or rental-purchase, transaction, for the first time at the Federal
level. In introducing this legislation, Senator Landrieu and her
colleagues have successfully struck a balance between the interests of
the consumers on the one hand and the rental merchants on the other.
For the record, it should be noted that this Committee first passed
rental-purchase legislation in 1984. That bill, sponsored by Senators
Hawkins and Gorton, would have required just a few disclosures in
rental-purchase contracts, and would have provided only a minimum of
other consumer protections. By way of contrast, S. 603 would mandate 10
contract disclosures, would require the disclosure of key financial and
other information in advertisements and on price tags in store
locations, in addition to the many substantive consumer protections the
bill would
establish. In this regard, it is fair to say that if enacted, this
legislation would represent one of the most comprehensive, substantive
Federal consumer protection laws ever enacted.
Introduction to the RTO Industry and S. 603
The rent-to-own, or rental-purchase industry, offers household
durable goods--appliances, furniture, electronics, computers, and
musical or band instruments are our primary product lines--for rent on
a weekly or monthly basis. Customers are never obligated to rent beyond
the initial term, and can return the rented product at any time without
penalty or further financial obligation. Of course, customers also have
the option to continue renting after the initial or any renewal rental
period, and can do so simply by paying an additional weekly or monthly
rental payment in advance of the rental period. In addition, rent-to-
own consumers have the option to purchase the property they are
renting, either by making the required number of renewal payments set
forth in the agreement, or by exercising an early purchase option,
paying cash for the item at any time during the rent-to-own
transaction.
Our companies offering household durables typically provide
delivery and set up of the merchandise, as well as service and
replacement products, throughout the rental period. We do not check the
credit of our customers, and do not require down payments or security
deposits. Consequently, this is a transaction that is very easy to get
into and out of, ideal for the customer that wants and/or needs
financial flexibility that only this unique, hybrid rental-and-purchase
transaction affords.
The rent-to-own transaction appeals to a wide variety of customers,
including parents of children who this week want to learn to play the
violin, only to find that, 2 weeks later, the child is more adept at--
and interested in--fiddling around. Military personnel who are
frequently transferred from base to base, who want nice things for
their apartments or homes but who often cannot afford, or do not want,
to purchase these items, use rent-to-own. College students sharing
apartments or dorms rent furniture, appliances, and electronics from
rent-to-own companies. The transaction serves the needs of campaign
offices, summer rentals, Super Bowl and Final Four parties, and other
similar short-term needs or wants.
Importantly, however, this transaction is also frequently used by
individuals and families who are just starting out and have not yet
established good credit, or who have damaged or bad credit, and whose
monthly income is insufficient to allow them to save and make major
purchases with cash. For these consumers, rent-to-own offers an
opportunity to obtain the immediate use of, and eventually ownership if
they so desire, of things that most of the rest of us take for
granted--good beds for our children to sleep on, washers and dryers so
they do not have to spend all weekend at the Laundromat, dropping coins
into machines that they will never own. Computers so the kids can keep
up in school, decent furniture to sit on and eat at, and so on. Rent-
to-own gives these working class individuals and families a chance,
without the burden of debt, and with all the flexibility they need to
meet their sometimes uncertain economic circumstances. This is
certainly a more viable alternative than garage sales, flea markets,
and second-hand stores.
Rent-to-own industry statistics indicate that approximately one in
four transactions results in the renter electing to acquire ownership
of the rented goods. In the other 75 percent, according to the industry
numbers, customers rent for a short period of time and then return the
goods to the store, typically in just a few weeks or months.
There are approximately 8,000 rent-to-own furniture, appliance, and
electronic stores throughout the country, and in Puerto Rico.
Additionally, there are 5,000 or so musical instrument stores. The
majority of companies operating in this business are ``mom-and-pop''
family owned businesses, with one or two locations in a particular city
or town, although slightly less than one-half of all stores are owned
by major, multistate corporations.
Over the past 20 years, there has been a healthy and vigorous
public debate, played out primarily at the State level, and to some
extent here in Washington as well, about the appropriate method of
regulating this transaction. Some individuals and groups have argued
that rent-to-own is most similar to a credit sale, and consequently
should be regulated as such. However, as you have just heard me
describe, this transaction differs from consumer credit in a number of
significant
respects, most importantly in that the rent-to-own customer is never
obligated to continue renting beyond the initial rental term, and has
the unilateral right to terminate the agreement and have the products
picked up at any time, without penalty. This is the critical
distinction--under traditional credit transactions, the consumer must
make all of the payments or risk default, repossession, deficiency
judgments and, in worst cases, damaged credit and personal bankruptcy.
By way of stark contrast, the rent-to-own customer enjoys complete
control over his or her use of the rented goods, and the terms of the
rental transaction itself.
Forty-seven State legislatures have enacted rent-to-own specific
legislation, beginning with Michigan in 1984. All of these legislative
bodies concluded that this unique transaction is not a form of consumer
credit, but instead is something very different. S. 603 is consistent
with the approach taken by these various State laws. However, this
proposal would set a floor of regulation, beyond which States would be
free to regulate if the State legislatures saw the need to do so in
response to local concerns and conditions. And in fact, any number of
the existing State laws provide greater consumer protections than those
imbedded in this bill, and those stronger regulatory frameworks would
remain controlling in those States if this bill were to be enacted.
Finally, if enacted, this legislation would align Federal consumer
protection law with Federal tax law, which treats rent-to-own
transactions as true leases and not as credit sales for income
reporting and inventory depreciation purposes.
Summary of Bill Contents
This bill strikes a balance between the needs of consumers for
protection from overreaching and unscrupulous merchants, and the need
to establish and maintain a fair and balanced competitive marketplace
in which honest businessmen and--women can survive and thrive.
The bill does 5 major things:
One, it defines the transaction in a manner that is consistent
with existing State rent-to-own laws, as well as Federal tax
provisions. As an aside, this definition is also consistent with
the views of both the Federal Reserve Board Staff and the Federal
Trade Commission, as expressed in their testimony before the House
Financial Services Committee in the 107th Congress.
Two, it provides for comprehensive disclosure of key financial
terms in advertising and on price cards on merchandise displayed in
these stores, as well as in the body of the rental contracts
themselves. These disclosure requirements were adopted in part from
the recommendation of the FTC in its seminal report on the rent-to-
own industry from 2000. Overall, these requirements significantly
exceed the disclosure mandates under Truth-in-Lending as well as
the Federal Consumer Lease Act.
Three, the bill establishes a list of prohibited practices in
the rent-to-own industry, a list similar in content and substance
to the practices prohibited under the Federal Trade Commission Act,
and under most State deceptive trade practices statutes. These
provisions are unique--neither the Truth-in-Lending Act (TILA) nor
the Consumer Lease Act (CLA) contains similar provisions.
Four, the bill adopts certain universal substantive
regulations shared by all of the existing State rental laws. For
example, the bill would mandate that consumers who have terminated
their rental transactions and returned the goods to the merchant be
provided an extended period of time in which to ``reinstate'' that
terminated agreement--that is, to come back to the store and rent
the same or similar goods, starting on the new agreement at the
same place the customer left off on the previous transaction.
Finally, the bill adopts the remedies available to aggrieved
and injured consumers under the Truth-in-Lending Act.
In summary, this legislation would go farther in providing
substantive protections for rent-to-own consumers than does any other
Federal consumer protection law on the books today.
Preemption
If enacted, this legislation would serve only to establish a floor
of regulation of the rent-to-own transaction. State legislatures would
have full opportunity to pass stronger laws and regulations, modify
existing statutes, or even outlaw the transaction entirely if that is
what those bodies believed was appropriate. In this respect, it must be
clear that this bill does not preempt State law. However, it should
also be recognized and understood that this bill would finally
establish a Federal or national definition of the term ``rental-
purchase,'' consistent with the definitions found in these various
existing State statutes and within the Internal Revenue Code. Just as
is the case under other Federal consumer protection laws, including
TILA and the CLA, States would not be permitted to define or
``mischaracterize'' the rent-to-own transaction in a manner that would
be inconsistent with the definition in this bill.
The Argument Against APR Disclosures
Some groups have called for any Federal rental-purchase legislation
to include the disclosure of some ``imputed annual percentage rate'' in
these agreements. The industry believes that this view is misguided,
for several reasons. First, in order for a transaction of any kind to
include an interest component, there must be debt--that is, the
consumer must owe a sum certain, and must be unconditionally obligated
to repay that sum. That is simply not the case under the typical rent-
to-own transaction. Second, the notion of ``imputed interest'' misleads
as to the true economics of the RTO transaction, which has many
benefits, services, and options that traditional credit transactions
just do not offer. For example, in addition to the immediate use of the
rented merchandise, delivery and set up are included in the price, as
is maintenance on the merchandise throughout the rental. If the item
cannot be repaired at the customers' homes, then replacement products
are delivered for use while the original rental item is being repaired.
Additionally, as noted several times, rental customers always enjoy the
unfettered right to terminate the transaction and return the products
without penalty, as well as the right to reinstate such terminated
agreements.
All of these additional benefits, services and options have value
to the consumer. As the Federal Trade Commission noted in its seminal
report on the rent-to-own industry in 2000:
Unlike a credit sale, rent-to-own customers do not incur any
debt, can return the merchandise at any time without obligation
for the remaining payments, and do not obtain ownership rights
or equity in the merchandise until all payments are completed.
There are . . . some practical considerations that suggest that
an APR disclosure requirement for rent-to-own transactions may
be difficult to implement, and could result in inaccurate
disclosures that mislead consumers.
In addition to the cash price of the merchandise itself, the
calculation of the APR also would have to take into account the
additional consumer services and options bundled with the
merchandise. Rent-to-own dealers typically include delivery,
pickup, repair, loaner, and other services in the basic rent-
to-own rental rate. Many traditional retailers charge extra
fees for these services, reflecting the value to the consumer
and the cost to the seller. The return option provided with
rent-to-own transactions also provides value to consumers and
imposes costs on dealers, including the cost of retrieving,
refurbishing, restocking, and rerenting the returned
merchandise. In a traditional retail credit sale, additional
fees for these services and options, over and above the cash
price of the merchandise itself, would be considered part of
the amount financed, not part of the service charge. Similarly,
additional fees for these services and options should be
considered part of the amount financed for rent-to-own
transactions.''
Two things are clear from the FTC Report. One, an imputed APR is an
inappropriate and misleading disclosure in rental-purchase transactions
because there is simply no debt involved in this transaction. Two,
studies by the National Consumer Law Center and the U.S. Public
Interest Research Group, purporting to show ``interest rates'' in rent-
to-own transactions, fail to take into account the totality of the
transaction and its benefits and services, and consequently must be
considered misleading at best.
In conclusion, S. 603 is strongly supported by the rental-purchase
merchants throughout the country because it represents fair and
balanced regulation of the rent-to-own transaction at the Federal
level. This legislation is necessary so that a uniform public and
economic policy is established where these transactions are concerned.
States should and would have the ability to enact more stringent
regulation of the transaction in response to local concerns and
conditions if the need arises. However, by defining this transaction
under Federal consumer protection law, this Congress extends its
traditional role in consumer regulation, as first established with the
passage of the Truth-in-Lending Act nearly 40 years ago.
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PREPARED STATEMENT OF CHRIS LOSETH *
President & CEO, Potlatch No.1 Federal Credit Union and
Chairman, Idaho Credit Union League Government Affairs Committee
on behalf of the Credit Union National Association
June 21, 2005
Chairman Shelby, Ranking Member Sarbanes, Senator Crapo, and other
Members of the Committee, on behalf of the Credit Union National
Association (CUNA), I appreciate this opportunity to come before you
and express the association's views on legislation to help alleviate
the regulatory burden under which all insured financial institutions
operate today.
---------------------------------------------------------------------------
* Appendix held in Committee files.
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CUNA is the largest credit union advocacy organization,
representing over 90 percent of our Nation's approximately 9,000 State
and Federal credit unions and their 86 million members.
I am Chris Loseth, President & CEO of Potlatch No.1 Federal Credit
Union and Chairman of the Idaho Credit Union League's Government
Affairs Committee. Potlatch No.1 Federal Credit Union is a low-income
community chartered credit union, serving a total of thirteen
counties--eleven in Idaho and two in Washington. Five of these counties
are included in our low-income community charter, while the other eight
counties were added through the Underserved Community designation.
The average unemployment rate in the counties we serve (through
March 2005) is 8.1 percent (with the high being 14.6 percent). We are
very aware of these circumstances and offer several programs to assist
our members when they need us most. For example, we offer checking
accounts that have no minimum balance requirement, no monthly fees or
transactional fees. We also offer debit cards with no monthly fees or
transactional fees. Our ATM's charge no fees to our members. According
to Callahan and Associates, a national rating service, we rank in the
93rd percentile for checking account penetration, and in the 92nd
percentile for checking accounts outstanding among credit unions in the
United States for March 2005.
Our lending services also have no loan set up fees, no application
fees, no annual fees, and are priced competitively in the marketplace
for the benefit of our members. We rank in the 94th percentile for
loans outstanding and in the 90th percentile for our loan to share
ratio among credit unions in the United States (Callahan and
Associates, March 2005).
Potlatch No.1 Federal Credit Union offers members free financial
counseling through our trained staff, financial literacy classes on a
range of topics for our members, and provides volunteers to teach in
the local elementary, junior and senior high schools and local colleges
to help further financial literacy education. We offer free AD&D
insurance to our members, free life savings insurance, free notary
services, and low balance certificates of deposit. We also do not have
fees for low balance savings accounts, check cashing, and a many other
common nuisance fees that many financial institutions charge.
Our credit union's ability to continue serving the financial needs
of our current members and our potential members who need access to our
services in Northern Idaho and Eastern Washington will be significantly
reduced without the regulatory relief this Committee is addressing.
CUNA is pleased that the Committee is moving forward with its
efforts to provide regulatory relief of unneeded and costly burdens.
Some might suggest that the Credit Union Membership Access of 1998 \1\
(CUMAA) was the credit union version of regulatory relief. While that
law did provide relief from an onerous Supreme Court
decision, it also imposed several new, stringent regulations on credit
unions, which, in spite of assertions to the contrary, are the most
stringently regulated of insured financial institutions.
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\1\ Pub. L. No. 105-219 Sec. 401; 112 Stat. 913 (1998); 12 U.S.C.
1752a note and 1757a note.
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Credit Unions Are Distinct Financial Institutions
Among its numerous provisions, the CUMAA required the U.S.
Department of the Treasury to evaluate the differences between credit
unions and other types of federally insured financial institutions,
including any differences in the regulation of credit unions and banks.
The study, ``Comparing Credit Unions with Other Depository
Institutions,'' found that while ``credit unions have certain
characteristics in common with banks and thrifts, (for example, the
intermediation function), they are clearly distinguishable from these
other depository institutions in their structure and operational
characteristics.''
These qualities, catalogued by the U.S. Treasury in its 2001 study,
had been previously incorporated into the Congressional findings of the
Federal Credit Union Act \2\ when CUMAA was adopted in 1998.
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\2\ P. L. 105-219, Sec. 2, 112 Stat. 913.
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Recognition and appreciation of such attributes is critical to the
understanding of credit unions, as Congress made it clear when it
amended the Federal Credit Union Act in 1998 that it is these
characteristics that form the foundation on which the Federal tax
exemption for credit unions rests. As Congress determined when it
passed CUMAA:
``Credit unions, unlike many other participants in the financial
services market, are exempt from Federal and most State taxes because
they are:
member-owned,
democratically operated,
not-for profit organizations,
generally managed by volunteer boards of directors, and
because they have the specified mission of meeting the credit
and savings needs of consumers, especially persons of modest
means.''
While other institutions, such as mutual thrifts, may meet one or
two of these standards or display some of these differences, other
credit union distinctions listed here do not necessarily apply. As
Treasury noted in its study, ``Many banks or thrifts exhibit one or
more of . . . (these) characteristics, but only credit unions exhibit
all five together.'' \3\
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\3\ U.S. Dept. of the Treasury, Comparing Credit Unions with Other
Depository Institutions, (Wash. DC: 2001).
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Other 1998 Congressional findings in CUMAA also emphasize the
unique nature of credit unions:
(1) ``The American credit union movement began as a cooperative effort
to serve the productive and provident credit needs of individuals
of modest means.''
(2) ``Credit unions continue to fulfill this public purpose and current
members and membership groups should not face divestiture from the
financial services institution of their choice as a result of
recent court action.''
Since their inception, credit unions continue to share these unique
attributes, separating them from other depository institutions. Despite
the frequent attempts of detractors to present credit unions in a false
light and label them as other types of institutions, the distinct
characteristics of credit unions have been recognized in statute and in
analytical reports from the U.S. Treasury and others. Further, despite
repeated attempts, legal challenges brought by banking groups against
the National Credit Union Administration's (NCUA) field of membership
policies under CUMAA have not proved fruitful.
As unique institutions, credit unions today stand distinctly in
need of regulatory relief.
Credit Unions' Regulatory Burden Is Real And Relief Is Imperative
As cooperative financial institutions, credit unions have not been
shielded from the mounting regulatory responsibilities facing insured
depositories in this country.
Last year, Federal Deposit Insurance Corporation (FDIC) Vice
Chairman John M. Reich said in testimony before the House Subcommittee
on Financial Institutions and Consumer Credit, ``regulatory burden is a
problem for all banks.'' His statement is accurate as far as it goes.
Regulatory burden is an issue for all financial institutions
generally, and credit unions in particular. Indeed, credit unions are
the most heavily regulated of all financial institutions. This dubious
distinction is the result of several factors, which include:
Credit unions operate under virtually the same consumer
protection rules, such as Truth-Lending, Equal Credit Opportunity,
Home Mortgage Disclosure, Real Estate Settlement Procedures Act,
Truth-in-Savings, Expedited Funds Availability Act, USA PATRIOT
Act, Bank Secrecy, safety and soundness including prompt corrective
action (PCA) regulations reviewed by Treasury, and other rules that
apply to banks. Credit unions will also have to comply with
developing rules under the Fair and Accurate Credit Transactions
(FACT) Act and the Check 21 statutory requirements. A list of the
137 rules that Federal credit unions must follow is attached.
In addition:
(1) Credit unions are the only type of financial institution that have
restrictions on whom they may serve;
(2) Credit unions are the only group of financial institutions that
must comply with a Federal usury ceiling;
(3) Credit unions may not raise capital in the marketplace but must
rely on retained earnings to build equity;
(4) Credit unions are the only group of financial institutions that
must meet statutory net worth requirements;
(5) Credit unions face severe limitations on member business lending;
(6) Credit unions have limitations on loan maturities;
(7) Credit unions have stringent limitations on investments;
(8) Credit unions have not been granted new statutory powers, as banks
have under Gramm-Leach-Bliley; and
(9) Credit unions' operations and governance are inflexible because
many aspects are fixed in statute.
Most importantly for credit unions, time and other resources spent
on meeting regulatory requirements are resources that would otherwise
be devoted to serving their members--which is, after all, their primary
objective.
With Few Exceptions, Credit Unions Must Comply with Virtually All Bank
Rules
Despite unfounded banker charges to the contrary, federally insured
credit unions bear an extraordinary regulatory burden that is
comparable to that of banks in most areas and much more restrictive in
others.
As the Treasury's 2001 study comparing credit unions with other
institutions concluded, ``Significant differences (in the general
safety and soundness regulation of banks and credit unions, parenthesis
added) have existed in the past, but have been gradually
disappearing.'' The Treasury study cited PCA and net worth requirements
for credit unions as a major regulatory difference that was removed in
1998.
Treasury further noted that their ``relative small size and
restricted fields of membership'' notwithstanding, ``Federally insured
credit unions operate under bank statutes and rules virtually identical
to those applicable to banks and thrifts.''
Credit Unions Must Comply With Substantial Requirements Banks Don't
Have to Follow
In addition to following rules applicable to the banking industry,
credit unions operate under considerable statutory and regulatory
requirements that do not apply to other types of financial
institutions.
As Treasury's study pointed out, credit union statutory net worth
requirements direct federally insured credit unions to maintain a
minimum of 6 percent net worth to total assets in order to meet the
definition of an adequately capitalized credit union. Well-capitalized
credit unions must meet a 7 percent net worth ratio. ``(T)his exceeds
the 4 percent Tier 1 level ratio applicable for banks and thrifts (and
is statutory as opposed to regulatory),'' Treasury stated. Complex
credit unions have additional net worth requirements.
Treasury's analysis also pointed to the fact that ``Federal credit
unions have more limited powers than national banks and Federal saving
associations. Most notably, Federal credit unions face stricter
limitations on their (member business) . . . lending and securities
activities. In addition, a usury ceiling prevents them from charging
more than 18 percent on any loan, and the term of many types of loans
may not extend beyond 12 years.''
Credit unions also have statutory and regulatory restrictions as to
whom they may serve. Federal credit unions' fields of membership must
meet the common bond requirements that apply to an associational,
occupational, multigroup or community credit union. Thus, unlike banks
and thrifts, which may serve anyone regardless of where they live or
work, a credit union may only offer its services to individuals within
its field of membership.
Credit unions operate under heavily constrained investment
authority as well. A Federal credit union may invest in government
securities and other investments only as provided under the Federal
Credit Union Act and authorized by NCUA.
Credit unions also must comply with limitations on lending,
including member business lending. A Federal credit unions' member
business loan (MBL) may not exceed the lesser of 1.75 times its net
worth or 12.25 percent of total assets, unless the credit union is
chartered to make such loans, has a history of making such loans or has
been designated as a community development credit union. By comparison,
banks have no specific limits on commercial lending and thrifts may
place up to 20 percent of their total assets in commercial loans.
It is useful to note that there are other limitations on credit
unions' member business lending that do not apply to commercial banks.
A credit union's MBL's must generally meet 12-year maturity limits and
can only be made to members. Credit union MBL's have significant
collateral and while not required, often carry the personal guarantee
of the borrower.
Commercial banks have a variety of mechanisms through which they
can raise funds, including through deposit-taking or borrowing funds in
the capital markets. In marked contrast, credit unions may only build
equity by retaining earnings. A credit union's retained earnings are
collectively owned by all of the credit unions' members, as opposed to
a bank that is owned by a limited number of stockholders or in some
cases, by a finite number of individuals or family members.
Thus, a major distinction between credit unions and commercial
banks is that credit unions operate under a number of specific,
operational regulations that do not apply to banks. Bank trade
associations attempt to mislead Congress when they erroneously argue
that credit unions have evolved into banks. The restrictions on credit
union operations and the limitations on their activities drive a stake
into the heart of that argument.
Unlike Banks, Credit Unions Have Not Received New Statutory Powers
Not only have credit unions not received new statutory powers as
banks have, severe regulatory constraints on member business lending
and under PCA have been imposed on credit unions for the last several
years.
An important study regarding the regulation of credit unions was
published in 2003 under the auspices of the Filene Research Institute
and addresses the regulatory advantages banks have over credit unions.
Authored by Associate Professor of Economics William E. Jackson,
III, Kenan-Flagler Business School, University of North Carolina at
Chapel Hill and entitled, ``The Future of Credit Unions: Public Policy
Issues,''\4\ the study looked at the efforts of Congress over the last
two decades to provide regulatory relief for traditional depository
institutions and whether more relief for credit unions is reasonable
and appropriate.
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\4\ Jackson, III, William E., University of North Carolina-Chapel
Hill. The Future of Credit Unions: Public Policy Issues, 2003.
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The study reviewed sources of funding, investments, and the
ownership structure of banks, thrifts, and credit unions and found that
the operational differences among these types of institutions are
``distinctive.'' It observed that since 1980, Congress has enacted a
number of statutory provisions that have noticeably changed the
regulatory environment in which banks and thrifts conduct business,
such as by deregulating liabilities; removing restrictions on
interstate branching; and expanding the list of activities permissible
for financial holding companies.
For example, the Gramm-Leach-Bliley Act of 1999 expanded the
statutory definition of the kinds of products and services in which
banks may engage. Under the Act, banking institutions may engage in
activities that are merely ``financial in nature'' as opposed to those
that are ``closely related to banking.'' The bank regulators have the
authority to determine what is permissible as ``financial in nature.''
Credit unions were not included in this sweeping, statutory expansion
of bank powers. However, while they received neither benefits nor new
powers under the Gramm-Leach-Bliley Act, credit unions were included in
the substantial requirements under the Act regarding privacy, including
requirements to communicate their member privacy protection policies to
members on an annual basis.
The credit union study noted, ``Credit unions face stricter
limitations on their lending and investing activities'' than other
institutions bear. ``In general, credit unions have received less
deregulation than either banks or thrifts,'' the study concluded.
Pending Credit Union Regulatory Improvements Legislation That CUNA
Supports
CUNA strongly supports H.R. 2317, the Credit Union Regulatory
Improvements Act (CURIA), which was recently introduced by
Representatives Royce and Kanjorski in the House of Representatives. In
the 108th Congress, CUNA had also endorsed the House-passed Regulatory
Relief Act, which was approved by the House of Representatives on March
18, 2004, by a vote of 392-25.
In our view, these bills provide an excellent starting point for
the Senate Banking, Housing, and Urban Affairs Committee as it
considers real reforms that will provide regulatory relief to credit
unions and other institutions.
While CUNA also supports other statutory changes, we first want to
focus on amendments to the Federal Credit Union Act--all of which CUNA
has endorsed--that are contained in the newly introduced H.R. 2317.
H.R. 2317--The Credit Union Regulatory Improvements Act
Although this legislation goes beyond what was included in the
Regulatory Relief measure that passed the House last year, it
nevertheless provides a sound foundation for this Committee's
consideration of some fundamental problems facing credit unions today
and we ask you to take a close look at these proposed changes as
incorporated in CURIA. This portion of my testimony will describe the
different sections of CURIA, followed by an explanation of why CUNA
strongly supports the proposed and necessary changes.
H.R. 2317, The Credit Union Regulatory Improvements Act of 2005--
Section-by-Section Description
Title I: Capital Reform
CUNA strongly supports this title, which reforms the system of PCA
for credit unions by establishing a dual ratio requirement: A pure
leverage ratio and a net worth to risk-asset ratio. The resulting
system would be comparable to the system of PCA in effect for FDIC
insured institutions while taking into account the unique operating
characteristics of cooperative credit unions.
Section 101. Amendments to Net Worth Categories
The Federal Credit Union Act specifies net worth ratios that, along
with a risk-based net worth requirement, determine a credit union's net
worth category. This section would continue to specify net worth
requirements, but at levels more appropriate for credit unions and
comparable to those currently in effect for banking institutions.
Section 102. Amendments Relating to Risk-Based Net Worth Categories
Currently, federally insured credit unions that are considered
``complex'' must meet a risk-based net worth requirement. This section
would require all credit unions to meet a risk-based net worth
requirement, and directs the NCUA Board to design the risk-based
requirement appropriate to credit unions in a manner more comparable to
risk standards for FDIC-insured institutions.
Section 103. Treatment Based on Other Criteria
Current risk-based net worth requirements for credit unions
incorporate measures of interest-rate risk as well as credit risk. The
comparable standards for risk-based capital requirements for FDIC
insured institutions of Section 102 deal only with credit risk. This
section would permit delegation to NCUA's regional directors the
authority to lower by one level a credit union's net worth category for
reasons of interest rate risk only that is not captured in the risk-
based ratios.
Section 104. Definitions Relating to Net Worth
Net worth, for purposes of PCA, is currently defined as a credit
union's retained earnings balance under generally accepted accounting
principles. The Financial Accounting Standards Board (FASB) is
finalizing guidance on the accounting treatment of mergers of
cooperatives that would create a new component of net worth, in
addition to retained earnings, after a credit union merger. The
unintended effect of the FASB rule will be to no longer permit a
continuing credit union to include the merging credit union's net worth
in its PCA calculations. This section addresses that anomaly and
defines net worth for purposes of PCA to include the new component for
post-merger credit unions.
It was our understanding that FASB intended to apply the standard
to credit unions beginning in early 2006, following a comment period,
but now may be putting application of the standard off until the
beginning of 2007. Such a change, we believe, will have the unintended
consequence of discouraging, if not eliminating, voluntary mergers
that, absent FASB's policy, would be advantageous to credit union
members involved. In addition, FASB's application of its proposal to
credit unions will mean that a credit union's net worth would typically
be understated by the amount of the fair value of the merging credit
union's retained earnings.
This result is not in the public interest. That is why CUNA, along
with the NCUA and others, supports a technical correction that would
amend the Federal Credit Union Act to make it clear that net worth
equity, including acquired earnings of a merged credit union as
determined under GAAP, and as authorized by the NCUA Board, would be
acceptable. Senior legal staff at FASB have indicated support for a
legislative approach, and we urge the Committee to likewise support
such an effort, well in advance of the effective date so credit unions
will have certainty regarding the accounting treatment of mergers.
Legislation was introduced by Representative Bachus to address this
issue in H.R. 1042, the ``Net Worth Amendment of Credit Unions Act,''
which passed the House of Representatives on June 13, 2005 by voice
vote. The language to correct this issue is identical in H.R. 1042 and
H.R. 2317.
Also in this section, the definition of secondary capital for low-
income credit unions is expanded to include certain limitations on its
use by those credit unions. The definition of the net worth ratio is
modified to exclude a credit union's share insurance fund deposit from
the numerator and denominator of the ratio, and the ratio of net worth
to risk-assets is defined, also to exclude a credit union's share
insurance fund deposit from the numerator.
Section 105. Amendments Relating to Net Worth Restoration Plans
Section 105 would provide the NCUA Board with the authority to
permit a marginally undercapitalized credit union to operate without a
net-worth restoration plan if the Board determines that the situation
is growth-related and likely to be short term.
This section would also modify the required actions of the Board in
the case of critically undercapitalized credit unions in several ways.
First, it would authorize the Board to issue an order to a critically
undercapitalized credit union. Second, the timing of the period before
appointment of a liquidating agent could be shortened. Third, the
section would clarify the coordination requirement with State officials
in the case of State-chartered credit unions.
The following is a detailed discussion of the need for and logic of
PCA reform.
History of Credit Union PCA
The PCA section of CUMAA established for the first time ``capital''
or ``net worth'' requirements for credit unions. Prior to that time,
credit unions were subject to a requirement to add to their regular
reserves, depending on the ratio of those reserves to ``risk-assets''
(then defined as loans and long-term investments). The purpose of
Section 1790d (PCA) of the Act is ``to resolve the problems of insured
credit unions at the least possible long-term loss to the Fund.'' The
CUMAA instructs the NCUA to implement regulations that establish a
system of PCA for credit unions that is consistent with the PCA regime
for banks and thrifts under the Federal Deposit Insurance Corporation
Improvement Act (FDICIA) but that takes into account the unique
cooperative nature of credit unions.
There are, however, a number of ways that credit union PCA under
CUMAA differs from PCA as it applies to banks and thrifts under FDICIA.
Chief among these is that the net worth levels that determine a credit
union's net worth classification are specified in the Act rather than
being established by regulation as is the case for banks and thrifts.
Further, the levels of the net worth ratio for a credit union to be
classified ``well'' or ``adequately'' capitalized are 2 percentage
points (200 basis points) above those currently in place for banks and
thrifts, even though credit unions' activities are far more
circumscribed that those of banks. In addition, the system of risk-
based net worth requirements for credit unions is structured very
differently from the Basel-based system in place for banks and thrifts.
For example, the Basel system is credit-risk based while credit union
risk-based net worth requirements explicitly account for the difficult-
to-quantify interest rate risk. In PCA as implemented under FDICIA,
interest rate risk is instead dealt with through examination and
supervision.
Need for Reform of Credit Union PCA
Net worth requirements were not the original purpose of the CUMAA.
The genesis of the Act was the Supreme Court's field of membership
decision of 1998 that prohibited NCUA from approving credit union
fields of membership comprising more than one group. Since its adoption
7 years ago, NCUA and credit unions have had sufficient time to
experience PCA requirements. Therefore, it is not surprising that there
should be a need for some modifications to PCA now that the NCUA and
the credit union movement have been operating under PCA for several
years.
There are two basic problems with the current PCA system.
High Basic Credit Union Capital Requirements. Credit unions
have significantly higher capital requirements than do banks, even
though the credit union National Credit Union Share Insurance Fund
(NCUSIF) has an enviable record compared to other Federal deposit
insurance funds. Indeed, because credit unions' cooperative
structure creates a systemic incentive against excessive risk
taking, it has been argued that credit unions actually require less
capital to meet potential losses than do other depository
institutions.
Risk Based System is Imprecise. The current system of risk-
based net worth requirements for credit unions provides an
imprecise treatment of risk. It is only when a portfolio reaches a
relatively high concentration of assets that it signals greater
risk and the need for additional net worth. This unartful system
weakens the measurement of the NCUSIF's exposure to risk, and
provides blurred incentives to credit unions on how to arrange
their balance sheets so as to minimize risk. A Basel-type method of
applying different weights to asset types based on the asset's risk
profile would permit a more precise accounting for risk than does
the current credit union system, thus improving the flow of
actionable information regarding net worth adequacy to both
regulators and credit unions.
Taken together, these problems have created an unnecessary
constraint on healthy, well-managed credit unions. Credit unions agree
that any credit union with net worth ratios well below those required
to be adequately capitalized should be subject to prompt and stringent
corrective action. There is no desire to shield such credit unions from
PCA; they are indeed the appropriate targets of PCA. Because credit
unions themselves fund the NCUSIF, they are keenly aware that they are
the ones that pay when a credit union fails. Therefore, CUNA strongly
supports a rigorous safety and soundness regulatory regime for credit
unions that is anchored by meaningful and appropriate net worth
requirements that drive the credit union system's PCA requirements.
Under the current system of PCA, there are many credit unions that
have more than enough capital to operate in a safe and sound manner,
but that feel constrained in serving their members because potential
reductions in their net worth category can result from growth in member
deposits, even when uninduced by the credit union. The current law
stipulates that a credit union with a 6 percent net worth ratio is
``adequately'' capitalized. Considering the risk exposure of the vast
majority of credit unions and the history of their Federal share
insurance fund, 6 percent is more than adequate net worth. However, as
a result of the effect of potential growth on a credit union's net
worth ratio under the present system of PCA, a very well run, very
healthy, very safe and sound credit union feels regulatory constraints
operating with a 6 percent net worth ratio. Without access to external
capital markets, credit unions may only rely on retained earnings to
build net worth. Thus, a spurt of growth brought on by members' desire
to save more at their credit union can quickly lower a credit union's
net worth ratio, even if the credit union maintains a healthy net
income rate.
We are not here describing credit unions that aggressively and
imprudently go after growth, just for growth's sake. Rather, any credit
union can be hit with sharp and unexpected increases in member
deposits, which are the primary source of asset growth for credit
unions. This can happen whenever credit union members face rising
concerns either about their own economic or employment outlook (as in a
recession) or about the safety of other financial investments they may
hold (as when the stock market falls). The resulting cautionary deposit
building or flight to safely translates into large swings in deposit
inflows without any additional effort by the credit union to attract
deposits. As an example, total credit union savings growth rose from 6
percent in 2000 to over 15 percent in 2001 despite the fact that credit
unions lowered deposit interest rates sharply throughout the year. The
year 2001 produced both a recession and falling stock market, and was
topped off with the consumer confidence weakening effects of September
11.
Credit union concern about the impact of uninduced growth on net
worth ratios goes far beyond those credit unions that are close to the
6 percent cutoff for being considered adequately capitalized. Again,
because of the conservative management style that is the product of
their cooperative structure, most credit unions wish always to be
classified as ``well'' rather than ``adequately'' capitalized. In order
to do that, they must maintain a significant cushion above the 7
percent level required to be ``well'' capitalized so as not to fall
below 7 percent after a period of rapid growth. A typical target is to
have a 200 basis point cushion above the 7 percent standard. Thus, in
effect, the PCA regulation, which was intended to ensure that credit
unions maintain a 6 percent adequately capitalized ratio, has created
powerful incentives to induce credit unions to hold net worth ratios
roughly 50 percent higher than that level, far in excess of the risk in
their portfolios. The PCA regulation in its present form thus drives
credit unions to operate at ``overcapitalized'' levels, reducing their
ability to provide benefits to their members, and forcing them instead
to earn unnecessarily high levels of net income to build and maintain
net worth.
There are two ways to resolve these problems with the current
system of PCA. One would be to permit credit unions to issue some form
of secondary capital in a way that both provides additional protection
to the NCUSIF and does not upset the unique cooperative ownership
structure of credit unions. CUNA believes that credit unions should
have greater access to such secondary capital. However, this bill does
not provide access to secondary capital.
The other solution is reform of PCA requirements themselves. Reform
of PCA should have two primary goals. First, CUNA believes any reform
should preserve the requirement that regulators must take prompt and
forceful supervisory actions against credit unions that become
seriously undercapitalized, maintaining the very strong incentives for
credit unions to avoid becoming undercapitalized. This is essential to
achieving the purpose of minimizing losses to the NCUSIF. Second, a
reformed PCA should not force well-capitalized credit unions to feel
the need to establish a large buffer over minimum net worth
requirements so that they become overcapitalized.
H.R. 2317 would reform PCA in a manner consistent with these two
requirements by transforming the system into one with net worth
requirements comparable to those in effect for FDIC insured
institutions, and that is much more explicitly based on risk
measurement by incorporating a Basel-type risk structure.
Under H.R. 2317, a credit union's PCA capitalization classification
would be determined on the basis of two ratios: The net worth ratio and
the ratio of net worth to risk assets. The net worth ratio would be
defined as net worth less the credit union's deposit in the NCUSIF,
divided by total assets less the NCUSIF deposit. The ratio of net worth
to risk assets would be defined as net worth minus the NCUSIF deposit
divided by risk assets, where risk assets would be designed in a manner
comparable to the Basel system in effect for banks of similar size to
credit unions. The tables below show the ratio cutoff points for the
various net worth classifications. A credit union would have to meet
both ratio classifications, and if different, the lower of the two
classifications would apply. For example, a credit union classified as
``well capitalized'' by its net worth ratio, but ``undercapitalized''
by its ratio of net worth to risk assets would be considered
undercapitalized.
The net worth cutoff points specified in H.R. 2317 are
substantially similar to those currently in effect for FDIC insured
institutions, yet, the ratios would have the effect of being more
stringent on credit unions for two reasons. First, not all of an
individual credit union's net worth is included in the numerator of the
ratio; the NCUSIF deposit is first subtracted. Second, a portion of
banks' net worth can be met by secondary or Tier II capital. All but
low-income credit unions have no access to secondary capital, so all
credit union net worth is equivalent to banks' Tier I capital, which
has more characteristics of pure capital than does Tier II.
H.R. 2317 would require NCUA to design a risk-based net worth
requirement based on comparable standards applied to FDIC insured
institutions. The outlook for those standards as they will apply to
banks is currently under review by the Federal banking regulators.
Federal banking regulators have indicated that when Basel II takes
affect for the very largest U.S. banks (approximately 25 banks and
thrifts), some modifications to Basel I for all other U.S. banks will
be implemented.
The exact nature of the changes to Basel I for the vast bulk of
U.S. banks and thrifts is as yet unclear, although U.S. banking
regulators have stated they do not intend to permit smaller U.S. banks
to be disadvantaged compared to the largest banks when Basel II lowers
net worth requirements for the very large institutions. Thus, it will
be the modified version of Basel I in place for smaller banks that will
be the standard under which NCUA will construct a risk weighting system
for credit unions. Since it will be Basel based, it will focus on
credit risk, leaving the treatment of interest rate risk to the
supervisory process. The new credit union risk-based system will
provide a much more precise measure of balance sheet risk than the
current risk-based net worth requirement.
H.R. 2317 will improve the risk-based components of PCA and place
greater emphasis on the risk-based measures, while lowering to the same
level in effect for banks, the pure net worth ratio requirements for a
credit union to be classified as adequately capitalized. CUNA believes
that in addition to relying on improved risk measurements, a reduction
of the pure net worth levels to be classified as well- or adequately
capitalized is justified for the following reasons:
One of the original justifications for higher credit union PCA
net worth requirements (higher than for banks) was the 1 percent
NCUSIF deposit. While FASB and NCUA have both affirmed that the 1
percent NCUSIF deposit is an asset and thus part of net worth, as a
result of the unique funding mechanism of the NCUSIF (it has been
funded solely by credit unions), the 1 percent deposit appears on
the books of both the NCUSIF and insured credit unions. H.R. 2317
has addressed this issue by defining the net worth ratio as net
worth less the 1 percent NCUSIF deposit divided by assets less the
1 percent deposit. Thus, to be adequately capitalized, a credit
union must hold net worth equal to about 5.7 percent (on average)
of its assets to meet the 5 percent net worth requirement. This
means that the discretionary and mandatory supervisory actions of
PCA will be applied at higher levels of individual credit union
capitalization than for similarly situated banks and thrifts.
Another reason given for credit unions' higher net worth
requirements is their lack of access to capital markets. Credit
unions' only source of net worth is the retention of earnings,
which is a time consuming process. The idea was that since credit
unions cannot access capital markets, they should hold more capital
to begin with so that they have it available in time of need. There
is some merit to this notion, but a problem with this logic is that
is suggests that a poorly capitalized bank can easily access the
capital markets. However, if a bank's capital ratio falls
substantially due to losses, investors are likely to be wary of
providing additional capital to it. Other institutions similarly
have limited access to capital markets when they have experienced
substantial losses. Thus, the lack of effective access to outside
capital in times of financial stress might not really distinguish
credit unions from banks or other depository institutions as much
as it might appear.
The other reason that a credit union's net worth ratio might
fall--rapid asset growth--does not require higher net worth
requirements for credit unions either. Asset growth (which comes
from savings deposits) can be substantially influenced by a credit
union's dividend policies. Under the current PCA system, lowering
dividend rates creates the dual effects of retarding growth and
boosting net income, both of which raise net worth ratios which
would not occur had dividend rates been lowered. H.R. 2317 would
permit a credit union to protect a reasonable net worth ratio with
appropriate dividend rate cutting rather than being required to
hold additional net worth.
There is substantial evidence that credit unions actually require
less net worth than do for-profit financial institutions in order to
provide protection to the deposit insurance system.\5\ Credit unions,
because of their very cooperative nature, take on less risk than do
for-profit financial institutions. Because credit union boards and
management are not enticed to act by stock ownership and options, the
moral hazard problem of deposit insurance has much less room for play
in credit unions than in other insured depository institutions.
Evidence of the effects of this conservative financial management by
credit unions is found in the fact that average credit union ratios for
net worth, net income, and credit quality have shown dramatically less
volatility over that past two decades than comparable statistics for
banks and thrifts. Similarly, the equity ratio of the NCUSIF has been
remarkably stable, between 1.2 percent and 1.3 percent, of insured
shares while other Federal deposit funds have seen huge swings, and
even insolvency. This is hardly evidence supporting the need of more
capital in credit unions than in banks and thrifts.
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\5\ See ``The Federal Deposit Insurance Fund that Didn't Put a Bite
on U.S. Taxpayers,'' Edward J. Kane and Robert Hendershott, Journal of
Banking and Finance, Volume 20, September 1996, pp.1305-1327. Kane and
Hendershott summarize their paper as ``the paper analyzes how
differences in incentive structure constrain the attractiveness of
interest-rate speculation and other risk-taking opportunities to
managers and regulators of credit unions.'' See also Differences in
Bank and Credit Union Capital Needs, David M. Smith and Stephen A.
Woodbury (Filene Research Institute, Madison, WI. 2001) Smith and
Woodbury find that credit unions have lower loan delinquencies and net-
charge off rates than do banks, and that charge-offs at credit unions
are only two-thirds as sensitive to macroeconomic shocks as they are at
banks. They also explain that because of the governance structure in
credit unions ``economic theory predicts that credit unions would take
less risk than banks.'' (p. 5).
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Reforming PCA as provided in H.R. 2317 would preserve and
strengthen the essential share-insurance fund protection of PCA and
would more closely tie a credit union's net worth requirements to its
exposure to risk--the reason for holding net worth in the first place.
It would also permit adequately and well-capitalized credit unions to
operate in a manner devoted more to member service and less to the
unnecessary accumulation of net worth.
Title II: Economic Growth
Section 201. Limits on Member Business Loans
This section eliminates the current asset limit on MBL's at a
credit union from the lesser of 1.75 times actual net worth or 1.75
percent times net worth required for a well-capitalized credit union
and replaces it with a flat rate of 20 percent of the total assets of a
credit union. This provision therefore facilitates member business
lending without jeopardizing safety and soundness at participating
credit unions.
Section 202. Definition of Member Business Loans
This section would amend the current definition of a MBL to
facilitate such loans by giving the NCUA the authority to exclude loans
of $100,000 or less as de minimus, rather than the current limit of
$50,000.
Section 203. Restrictions on Member Business Loans
This section would modify language in the Federal Credit Union Act
that currently prohibits a credit union from making any new MBL's if
its net worth falls below 6 percent. This change will permit the NCUA
to determine if such a policy is appropriate and to oversee all MBL's
granted by an undercapitalized institution.
Section 204. Member Business Loan Exclusion for Loans to Nonprofit
Religious
Organizations
This section excludes loans or loan participations by Federal
credit unions to nonprofit religious organizations from the MBL limit
contained in the Federal Credit Union Act, which is 12.25 percent of
the credit union's total assets. This amendment would offer some relief
in this area by allowing Federal credit unions to make MBL's to
religious-based organizations without concern about the statutory limit
that now covers such loans. While the limit would be eliminated, such
loans would still be subject to other regulatory requirements, such as
those relating to safety and soundness.
We believe that this is really a technical amendment designed to
correct an oversight during passage of CUMAA. The law currently
provides exceptions to the MBL caps for credit unions with a history of
primarily making such loans. Congress simply overlooked other credit
unions that purchase parts of these loans, or participate in them. This
provision would clarify that oversight and ensure that these
organizations can continue meeting the needs of their members and the
greater community at large and ensuring that loans are available for
religious buildings as well as their relief efforts.
Section 205. Credit Unions Authorized to Lease Space in Buildings with
Credit
Union Offices in Underserved Areas
This section enhances the ability of credit unions to assist
distressed communities with their economic revitalization efforts. It
would allow a credit union to lease space in a building or on property
in an underserved area on which it maintains a physical presence to
other parties on a more permanent basis. It would permit a Federal
credit union to acquire, construct, or refurbish a building in an
underserved community, then lease out excess space in that building.
Having described briefly how CURIA would address credit union
member business lending concerns, I would like to provide the
Subcommittee with a detailed rationale for these needed changes.
Helping Small Business
Title II, Section 203 of CUMAA established limits on credit union
MBL activity. There were no statutory limits on credit union member
business lending prior to 1998. The CUMAA-imposed limits are expressed
as a 1.75 multiple of net worth, but only net worth up to the amount
required to be classified as well-capitalized (that is, 7 percent) can
be counted. Hence the limit is (1.75 x .07) or 12.25 percent of assets.
Need for Reform of Credit Union MBL Limits
Small businesses are the engine of economic growth--accounting for
about one-half of private nonfarm economic activity in the United
States annually. Their ability to access capital is paramount. But this
access is seriously constrained by the double-whammy of banking
industry consolidation and the CUMAA-imposed limitations on credit
union MBL's. Recent research published by the Small Business
Administration reveals that small businesses receive less credit on
average in regions with a large share of deposits held by the largest
banks. FDIC statistics show that the largest 100 banking institutions
now control nearly two-thirds of banking industry assets nationally. In
1992, the largest 100 banking institutions held just 45 percent of
banking industry assets. Thus, CUMAA severely restricts small business
access to credit outside the banking industry at a time when small
firms are finding increasing difficulty in accessing credit within the
banking industry.
Basic problems with the current MBL limits are:
The Limits are Arbitrary and Unnecessarily Restrictive.
Insured commercial banks have no comparable business lending
portfolio concentration limitations. Other financial institutions,
savings and loans, for example, have portfolio concentration
limitations, but those limitations are substantially less
restrictive than the limits placed on credit unions in CUMAA.
The 12.25 Percent Limit Discourages Entry into the MBL
Business. Even though very few credit unions are approaching the
12.25 percent ceiling, the very existence of that ceiling
discourages credit unions from entering the field of member
business lending. Credit unions must meet strict regulatory
requirements before implementing an MBL program, including the
addition of experienced staff. Many are concerned that the costs of
meeting these requirements cannot be recovered with a limit of only
12.25 percent of assets. For example, in today's market, a typical
experienced mid-level commercial loan officer would receive total
compensation of approximately $100,000. The substantial costs
associated with hiring an experienced lender, combined with funding
costs and overhead and startup costs (for example, data processing
systems, furniture and equipment, printing, postage, telephone,
occupancy, credit reports, and other operating expenses) make
member business lending unviable at most credit unions given the
current 12.25 percent limitation. In fact, assuming credit unions
could carry salary expense of 2 percent of portfolio, 76 percent of
CU's couldn't afford to be active member business lenders even if
they had portfolios that were equal in size to the current 12.25
percent of asset maximum. Alternatively, assuming credit unions
could carry salary expense of 4 percent of portfolio, 63 percent of
CU's could not afford to be active member business lenders even if
they had portfolios that were equal in size to the current 12.25
percent of asset maximum.
The Limits are not Based on Safety and Soundenss
Considerations. There is no safety and soundness reason that net
worth above 7 percent cannot also support business lending. If all
net worth could be counted, the actual limit would average between
18 percent and 19 percent of total assets rather than 12.25 percent
of total assets.
The MBL Definitions Create Disincentives that Hurt Small
Businesses. The current $50,000 cutoff for defining an MBL is too
low and creates a disincentive for credit unions to make loans to
smaller businesses. Permitting the cutoff to rise to $100,000 would
open up a significant source of credit to small businesses. These
``small'' business purpose loans are so small as to be unattractive
to many larger lenders. Simply inflation adjusting the $50,000
cutoff, which was initially established in 1993 and has not been
adjusted since that time, would result in an approximate 33 percent
increase in the cutoff to over $65,000.
While some bankers call credit union member business lending
``mission creep'' this is simply a preposterous fiction. Credit union
member business lending is not new--since their inception credit unions
have offered business-related loans to their members. Moreover, credit
union member business lending shows a record of safety. According to a
U.S. Treasury Department study, credit union business lending is more
regulated than commercial lending at other financial institutions. In
addition, the Treasury found that ``member business loans are generally
less risky than commercial loans made by banks and thrifts because they
generally require the personal guarantee of the borrower and the loans
generally must be fully collateralized. Ongoing delinquencies--for
credit unions, loans more than 60 days past due, and for banks and
thrifts, loans more than 90 days past due--are lower for credit unions
than for banks and thrifts. Credit unions' mid-year 2000 loan charge-
off rate of 0.03 percent was much lower than that for either commercial
banks (0.60 percent) or savings institutions (0.58 percent).''
Not surprisingly, the Treasury also concluded that member business
lending ``does not pose material risk to the'' National Credit Union
Share Insurance Fund.
Updated statistics from full-year 2000 through 2003 indicate that
the favorable relative performance of MBL's reported in the Treasury
study has continued in recent years. Credit union MBL net chargeoffs
have averaged just 0.08 percent over the 4-year period since the
Treasury study, while the comparable average net chargeoff rate at
commercial banks was 1.28 percent and at savings institutions it was
1.11 percent. MBL's have even lower loss rates than other types of
credit union lending, which themselves have relatively low loss
experience.
Credit union member business lending represents a small fraction of
total commercial loan activity in the United States. At mid-year 2004,
the dollar amount of MBL's was less than one-half of 1 percent of the
total commercial loans held by U.S. depositories. Credit union MBL's
represent just 3.1 percent of the total of credit union loans
outstanding and only 17.9 percent of U.S. credit unions offer MBL's.
According to credit union call report data collected by the NCUA, the
median size of credit union MBL's granted in the first 6 months of 2004
was $140,641.
Currently, only 11 credit unions in Idaho, out of a total of 68
(only 16 percent), offer MBL's to their members. The average size MBL
is $91,653. The total amount of business lending by credit unions in
Idaho is $17.3 million, while banking institutions in Idaho make $4.3
billion in business loans. In Idaho, credit unions represent 0.4
percent of the market share for business lending, while banking
institutions represent 99.6 percent; and, while credit union business
loans represent only 0.66 percent of credit union assets, banking
institutions' business loans represent 78.98 percent of bank assets.
Adjusting credit union MBL limits from 12.25 percent to 20 percent
of assets, which is the equivalent to the business lending limit for
savings institutions, would not cause these numbers to change
dramatically.
This adjustment would help small business. As noted earlier, small
businesses are the backbone of the U.S. economy. The vast majority of
employment growth occurs at small businesses. And small businesses
account for roughly half of private nonfarm gross domestic product in
the United States each year.
Small businesses are in need of loans of all sizes, including those
of less than $100,000, which many have said banks are less willing to
make.
Moreover, large banks tend to devote a smaller portion of their
assets to loans to small businesses. The continuing consolidation of
the banking industry is leaving fewer smaller banks in many markets. In
fact, the largest 100 banking institutions accounted for 42 percent of
banking industry assets in 1992. By year-end 2003, the largest 100
banking institutions accounted for 65 percent of banking industry
assets--a 23-percentage point increase in market share in just 11
years.
This trend and its implications for small business credit
availability are detailed in a recently released Small Business
Administration paper. The findings reveal ``credit access has been
significantly reduced by banking consolidation . . . we believe this
suggests that small businesses, especially those to which relationship
lending is important, have a lower likelihood of using banks as a
source of credit.''
In reforming credit union MBL limits, Congress will help to ensure
a greater number of available sources of credit to small business. This
will make it easier for small businesses to secure credit at lower
prices, in turn making it easier for them to survive and thrive.
Title III: Regulatory Modernization
Section 301. Leases of Land on Federal Facilities for Credit Unions
This provision would permit military and civilian authorities
responsible for buildings on Federal property the discretion to extend
to credit unions that finance the construction of credit union
facilities on Federal land real estate leases at minimal charge. Credit
unions provide important financial benefits to military and civilian
personnel, including those who live or work on Federal property. This
amendment would authorize an affected credit union, with the approval
of the appropriate authorities, to structure lease arrangements to
enable the credit union to channel more funds into lending programs and
favorable savings rates for its members.
Section 302. Investments in Securities by Federal Credit Unions
The Federal Credit Union Act limitations on the investment
authority of Federal credit unions are anachronistic and curtail the
ability of a credit union to respond to the needs of its members. The
amendment provides additional investment authority to purchase for the
credit union's own account certain investment securities. The total
amount of the investment securities of any one obligor or maker could
not exceed 10 percent of the credit union's unimpaired capital and
surplus. The NCUA Board would have the authority to define appropriate
investments under this provision, thus ensuring that new investment
vehicles would meet high standards of safety and soundness and be
consistent with credit union activities.
Section 303. Increase in General 12-Year Limitation of Term of Federal
Credit Union
Loans
Currently, Federal credit unions are authorized to make loans to
members, to other credit unions, and to credit union service
organizations. The Federal Credit Union Act imposes various
restrictions on these authorities, including a 12-year maturity limit
that is subject to limited exceptions. This section would allow loan
maturities up to 15 years, or longer terms as permitted by the NCUA
Board.
All Federal credit unions must comply with this limitation. We are
very concerned that credit union members seeking to purchase certain
consumer items, such as a mobile home, may seek financing elsewhere in
which they could repay the loan over a longer period of time than 12
years. While we would prefer for NCUA to have authority to determine
the maturity on loans, consistent with safety and soundness, a 15-year
maturity is preferable to the current limit. Such an increase in the
loan limit would help lower monthly payments for credit union borrowers
and benefit credit unions as well as their members.
Section 304. Increase in 1 Percent Investment Limit in Credit Union
Service
Organizations
The Federal Credit Union Act authorizes Federal credit unions to
invest in organizations providing services to credit unions and credit
union members. An individual Federal credit union, however, may invest
in aggregate no more than 1
percent of its shares and undivided earnings in these organizations,
commonly known as credit union service organizations or CUSO's. The
amendment raises the limit to 3 percent .
CUSO's provide a range of services to credit unions and allow them
to offer products to their members that they might not otherwise be
able to do, such as check clearing, financial planning, and retirement
planning. Utilizing services provided through a CUSO reduces risk to a
credit union and allows it to take advantage of economies of scale and
other efficiencies that help contain costs to the credit union's
members. Further, as Federal credit union participation in CUSO's is
fully regulated by NCUA, the agency has access to the books and records
of the CUSO in addition to its extensive supervisory role over credit
unions.
The current limit on CUSO investments by Federal credit unions is
out-dated and limits the ability of credit unions to participate with
these organizations to meet the range of members' needs for financial
services. It requires credit unions to arbitrarily forego certain
activities that would benefit members or use outside vendors in which
the credit union has no institutional stake. While we feel the 1
percent limit should be eliminated or set by NCUA through the
regulatory process, we appreciate that the increase to 3 percent will
provide credit unions more options to investment in CUSO's to enhance
their ability to serve their members.
CUNA also would support raising the borrowing limitation that
currently restricts loans from credit unions to CUSO's to 1 percent. We
believe the limit should be on par with the investment limit, which
under this bill would be raised to 3 percent.
Section 305. Check-Cashing and Money-Transfer Services Offered within
the Field of
Membership
Federal credit unions are currently authorized to provide check-
cashing services to members and have limited authority to provide wire
transfer services to individuals in the field of membership under
certain conditions. The amendment would allow Federal credit unions to
provide check-cashing services to anyone eligible to become a member.
This amendment is fully consistent with President Bush's and
Congressional initiatives to reach out to other underserved communities
in this country, such as some Hispanic neighborhoods. Many of these
individuals live from paycheck to paycheck and do not have established
accounts, for a variety of reasons, including the fact that they do not
have extra money to keep on deposit. We know of members who join one
day, deposit their necessary share balance and come in the very next
day and withdraw because they need the money. This is not mismanagement
on their part. They just do not have another source of funds. And
sometimes, a $5.00 withdrawal means the difference between eating or
not.
If we are able to cash checks and sell negotiable checks such as
travelers checks, we could accomplish two things: Save our staff time
and effort opening new accounts for short-term cash purposes which are
soon closed and gain the loyalty and respect of the potential member so
that when they are financially capable of establishing an account, they
will look to the credit union, which will also provide financial
education and other support services. Take the example of one of our
credit unions in Pueblo, which attracts migrant workers who live in
that area for several months each year, many who return year after
year. It is well-known that this particular group is taken advantage of
because of the language barrier. The Pueblo credit union has developed
a group of bilingual members who are willing to act as translators when
needed and several successful membership relationships have resulted.
Legislation that includes similar provisions is pending in both the
House and Senate on this issue: The International Consumer Protection
Act, introduced in the House (H.R. 928) by Representative Gutierrez and
in the Senate (S. 31) by Senator Sarbanes. Additionally, the Expanded
Access to Financial Services Act (H.R. 749), introduced by
Representatives Gerlach and Sherman, contains identical language to
this provision, and passed the House of Representatives on April 26,
2005, by voice vote. CUNA strongly supports all legislative efforts to
pursue this provision and is grateful to Ranking Member Sarbanes for
the introduction of his bill.
Section 306. Voluntary Mergers Involving Multiple Common Bond Credit
Unions
In voluntary mergers of multiple bond credit unions, NCUA has
determined that the Federal Credit Union Act requires it to consider
whether any employee group of over 3,000 in the merging credit union
could sustain a separate credit union. This provision is unreasonable
and arbitrarily limits the ability of two healthy multiple common bond
Federal credit unions from honing their financial resources to serve
their members better.
The amendment is a big step forward in facilitating voluntary
mergers, as other financial institutions are permitted to do. It
provides that the numerical limitation does not apply in voluntary
mergers.
Section 307. Conversions Involving Common Bond Credit Unions
This section allows a multiple common bond credit union converting
to or merging with a community charter credit union to retain all
groups in its membership field prior to the conversion or merger.
Currently, when a multiple group credit union converts to or merges
with a community charter, a limited number of groups previously served
may be outside of the boundaries set for the community credit union.
Thus, new members within those groups would be ineligible for service
from that credit union. The amendment would allow the new or continuing
community credit union to provide service to all members of groups
previously served.
Section 308. Credit Union Governance
This section gives Federal credit union boards flexibility to expel
a member who is disruptive to the operations of the credit union,
including harassing personnel and creating safety concerns, without the
need for a two-thirds vote of the membership present at a special
meeting as required by current law. Federal credit unions are
authorized to limit the length of service of their boards of directors
to ensure broader representation from the membership. Finally, this
section allows Federal credit unions to reimburse board of director
volunteers for wages they would otherwise forfeit by participating in
credit union affairs.
There has been more than one occasion when some credit unions would
have liked to have had the ability to expel a member for just cause. It
is relatively rare that things occur that would cause credit unions to
use such a provision. However, the safety of credit union personnel may
be at stake. One instance I know of involved a credit union member who
seemed to have a fixation on an employee and had made inappropriate
comments. Another involved an older member who refused to take no for
an answer from a young teller whom he persistently asked to date. We
have heard of an example at another credit union when one member
actually told one of the tellers he would punch her if he ever saw her
out in public. Most cases are not quite that extreme; however, we have
had other reports from credit unions of unruly members who seem to
enjoy causing a ruckus.
Credit unions should have the right to limit the length of service
of their boards of directors as a means to ensure broader
representation from the membership. Credit unions, rather than the
Federal Government, should determine term limits for board members.
Providing credit unions with this right does not raise supervisory
concerns and should not, therefore, be denied by the Federal
Government.
Credit unions are directed and operated by committed volunteers.
Given the pressures of today's economy on many workers and the legal
liability attendant to governing positions at credit unions, it is
increasingly difficult to attract and maintain such individuals. Rather
than needlessly discourage volunteer participation through artificial
constraints, the Federal Credit Union Act should encourage such
involvement by allowing volunteers to recoup wages they would otherwise
forfeit by participating in credit union affairs.
Whether or not a volunteer attends a training session or conference
is sometimes determined by whether or not that volunteer will have to
miss work and not be paid.
Section 309. Providing NCUA with Greater Flexibility in Responding to
Market
Conditions
Under this section, in determining whether to lift the usury
ceiling for Federal credit unions, NCUA will consider rising interest
rates or whether prevailing interest rate levels threaten the safety
and soundness of individual credit unions.
Section 310. Credit Union Conversion Voting Requirements
This section would change the Federal Credit Union Act from
permitting conversions after only a majority of those members voting
approve a conversion, to requiring a majority vote of at least 20
percent of the membership to approve a conversion.
Time and time again, Congress has made clear its support for credit
unions, in order to assure consumers have viable choices in the
financial marketplace. Yet, banking trade groups and other credit union
detractors have indicated they would like to encourage credit union
conversions, particularly those involving larger credit unions, in
order that they may control the market, thereby limiting consumers'
financial options.
Last year, the NCUA adopted new regulatory provisions to require
credit unions seeking to change their ownership structure to provide
additional disclosures to their members to ensure they are adequately
informed regarding the potential change and are fully aware of the
consequences of such action. CUNA strongly supported this action
because we feel members should know that their rights and ownership
interests would change, particularly if the institution converts to a
bank. In such a situation the institution would ``morph'' from one in
which the members own and control its operations to an institution
owned by a limited number of stockholders.
CUNA likewise supports the agency's ongoing efforts to ensure
members are provided sufficient disclosures and opportunities to
present opposing views in relation to a possible conversion.
Congress addressed conversions in CUMAA and reinforced that a
credit union board which desires to convert must allow its members to
vote on its conversion plan. CURIA would require a minimum level of
participation in the vote--at least 20 percent of the members--for a
conversion election to be valid. Currently, there is a requirement that
only a majority of those voting approve the conversion. The legislation
would prevent situations in which only a very small number of an
institution's membership could successfully authorize such a
conversion.
Recently, CUNA's Board adopted a set of principles related to
credit union conversions, and we want to share its provisions with the
Committee.
Principles Regarding Credit Union Conversions
We support the right of member/owners to exercise their
democratic control of their credit unions.
The credit union charter currently provides the best vehicle
for serving the financial needs of consumers.
CUNA encourages credit unions that are considering conversions
to make their decisions based solely on the best interests of their
members.
Full, plain language, disclosures are essential to furthering
the democratic process.
Credit union directors and managers have a fiduciary
responsibility to present objective and honest information as well
as reasonable business alternatives (for example mergers,
liquidations.)
We believe that the net worth of the credit union belongs to
the members and should remain with them. There should be no unjust
enrichment to Directors and senior management upon later conversion
to a bank.
CUNA supports NCUA and State regulators in the full use of
their current authority to ensure members understand the conversion
process and that fiduciary duties of credit union boards are fully
enforced.
Section 311. Exemption from Premerger Notification Requirement of the
Clayton Act
This section gives all federally insured credit unions the same
exemption as banks and thrift institutions already have from premerger
notification requirements and fees of the Federal Trade Commission.
Section 312. Treatment of Credit Unions as Depository Institutions
under Securities
Laws
This section gives federally insured credit unions exceptions,
similar to those provided to banks, from broker-dealer and investment
adviser registration requirements.
108th Congress: H.R. 1375--Financial Services Regulatory Relief Act
(Credit Union
Provisions)
Most of the provisions of H.R. 2317, as outlined above, were also
included in last Congress's H.R. 1375. The single exception is the
following section.
Section 301. Privately Insured Credit Unions Authorized to become
Members of a
Federal Home Loan Bank
CUNA supports this section which permits privately insured credit
unions to apply to become members of a Federal Home Loan Bank.
Currently, only federally insured credit unions may become members. The
State regulator of a privately insured credit union applying for
Federal Home Loan Bank membership would have to certify that the credit
union meets the eligibility requirements for Federal deposit insurance
before it would qualify for membership in the Federal Home Loan Bank
system.
Additional Legislative Amendments CUNA Supports
None of the following provisions have been included in CURIA, nor
past versions of regulatory relief legislation, yet represent
legitimate burdens faced by credit unions that are deserving of relief.
We encourage the Committee to consider including them in any future
legislation.
Allow community credit unions to continue adding members from
groups that were part of the field of membership (FOM) before the
credit union converted to a community charter but are now outside
the community.
Prior to the adoption of amendments to the Federal Credit Union Act
in 1998, community credit unions were able to add new members from
groups that they had previously served but are outside of the community
area the credit union serves. Currently, the credit union may serve
members of record but not include additional members from those groups.
CUNA supports legislation that would restore that capacity to credit
unions.
Allow credit unions to serve underserved areas with an ATM.
The legislative history to the CUMAA indicates that Federal credit
unions should establish a brick and mortar branch or other facility
rather than establishing an ATM to serve an underserved area. This
directive makes it far less affordable for a number of credit unions to
reach out even more to underserved areas. While credit unions serving
underserved areas through an ATM should be as committed to the area as
a credit union with another type of facility, this change would
facilitate increased service to underserved areas.
Eliminate the requirement that only one NCUA Board member can
have credit union experience.
Currently, only one member of the NCUA Board may have credit union
experience. Such a limit does not apply to any of the other Federal
regulatory agencies and denies the NCUA Board and credit unions the
experience that can greatly enhance their regulation. At a minimum, the
law should be changed to permit at least one person with credit union
experience on the NCUA Board.
Accounting Treatment of Loan Participations as Sales.
Many of our members currently engage in loan participations, either
as the originating institution or as an investor, and FASB's project to
review FASB Statement (FAS) No. 140, Accounting for Transfers and
Servicing of Financial Assets and Extinguishments of Liabilities, is of
great concern to us. Other financial institution groups, as well as
Federal financial regulators, have likewise raised serious questions
about the need for and advisability of the proposed guidance.
For a variety of reasons, participations can be important financial
and asset liability management tools. They are used increasingly by
credit unions, as well as by other institutions, to control interest
rate risk, credit risk, balance sheet growth, and maintain net worth
ratios. Participations enable credit unions to utilize assets to make
more credit available to their membership than they would be able to do
without the use of loan participations.
FASB states that it is concerned that in a loan participation in
which the borrower has shares or deposits at the originating
institution, if that institution is
liquidated, the participating institution would not be able to recover
its pro rata portion of the members' shares/deposits within the
originating institution that are ``claimed'' by the originating
institution to setoff the portion of the debt owed to it. This outcome
is highly unlikely and we are not aware that it has ever occurred in a
credit union.
Nonetheless, FASB is considering amendments to Statement of
Financial Accounting Standard 140 that would expressly state that
because the right of setoff between the originating institution and the
member/depositor/borrower exists (setting up the potential that the
participating institution would not have any claim against the member/
depositors' funds in the originating institution) the loan transaction
does not meet the isolation requirements of FAS 140. Because of this
concern, instead of transferring the portion of the loan participated
off of its books as a sale, it is our understanding that the
transaction would be reflected on the originating credit union's
financial statements and records as a secured borrowing.
In order for participations to continue being treated as sales for
accounting purposes, the amendments would further change the existing
accounting standards by requiring an institution to transfer
participations through a qualified special purpose entity (QSPE), if
the transaction did not meet ``True-Sale-At-Law'' test. This is a
needless and costly expense that would make it difficult for credit
unions to use participation loans as a management tool. Further, it
would drastically limit the ability of credit unions to provide low-
cost, economical financing for their membership through loan
participations.
There are sufficient safeguards already in place that address
FASB's concerns about isolating the loan participation asset from the
reach of the originating credit union and its creditors in liquidation,
without the need for changes to FAS 140 of the nature FASB is
contemplating.
Conclusion
In summary, Mr. Chairman, we are grateful to the Committee for
holding this important hearing. The Potlatch No.1 Federal Credit
Union's ability to continue serving the financial needs of our current
members and our potential members who need access to our services in
Northern Idaho and Eastern Washington will be significantly reduced
without the regulatory relief this Committee is addressing. We strongly
urge the Committee to act on this very important issue this year. And,
we strongly urge the Committee to make sure that the provisions in
CURIA are a part of any Congressional action to provide financial
institutions regulatory relief. We strongly believe that our future
will be determined by our ability to provide relief in these important
areas. Without this relief, many credit unions will be unable to
respond to the financial needs of millions of Americans.
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PREPARED STATEMENT OF EDWARD PINTO
President, Courtesy Settlement Services, LLC
on behalf of The National Federation of Independent Business
June 21, 2005
Good Morning. I am Ed Pinto, President of Courtesy Settlement
Services LLC in Sarasota, FL. Thank you, Chairman Shelby and Ranking
Member Sarbanes, for giving me the opportunity to testify on behalf of
the National Federation of Independent Business (NFIB) regarding
interest bearing checking accounts for small businesses. Eighty-six
percent of NFIB members support allowing business owners to earn
interest on their business checking account balances.
I commend the Committee for conducting this hearing on Regulatory
Relief. I am also pleased that the House has overwhelmingly voted in
favor of H.R. 1224 by a vote of 424-1, to overturn this archaic law
that prohibits interest on business checking accounts.
The big banks have consistently opposed repealing the ban on
interest checking, and have proposed compromise legislation, a
compromise that would delay the implementation of the repeal by 3 or
more years. Their efforts to insulate themselves from free-market
competition have hurt small businesses, the acknowledged job creation
engines of this country. This bill is necessary consumer protection
legislation, and every day it is delayed is an injustice to the more
than 25 million taxpayers filing business income tax returns with the
IRS!
Let me repeat that number--there are over 25 million business
income taxpayers! \1\ This issue may seem like small potatoes--perhaps
only an average of $100 or $200 per year per small business--but
multiply it by 25 million and consider the job creation power of our
Nation's small businesses, and the impact will be large. The House-
passed bill, as currently written with a 2-year delay, is already a
compromise, and NFIB strongly urges the Committee to resist efforts to
further lengthen the phase-in period. I urge you not to deny this much
needed legislation to these millions of taxpayers.
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\1\ ``The Small Business Economy-A Report to the President,'' U.S.
Small Business Administration, Office of Advocacy, (2004).
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While it has been 16 years since I started my first business, I can
still vividly recall my astonishment at being told that a business
could not earn interest on a checking account. I was further astonished
to find that my business account not only did not pay interest, it came
with a plethora of fees! My banker said not to worry, and introduced me
to the spellbinding concept of compensating balances. Boy, was I in for
an education, and one that had nothing to do with growing my business.
I remember thinking that all of this seemed quite foreign and not
exactly consumer-friendly. I had been earning interest for years on my
personal checking account, which had a much smaller balance. I recall
asking my banker, ``Why no interest?'' I was told simply that it was
against the law.
Later, as the business prospered, my banker suggested that I set up
what she called a ``sweep account''--which, she told me, did not have
the benefit of FDIC insurance, but did pay interest. And so, that's
what we did. Boy, was it complicated. First, we analyzed my account
history to determine how much to keep in my regular account so as to
``earn'' enough to avoid incurring fees on my regular checking account,
my second encounter with compensating balances. Next, we had to project
what would be earned in interest and compare that to the additional
fees incurred to administer my new sweep account. Then I had to
authorize an amount to be swept each night. Here I had a choice: I
could either call each afternoon to authorize the transfer or I could
set a floor amount and automatically sweep all funds in excess of that
amount. Not being a glutton for punishment, I selected the automatic
option. After this exercise, I barely remembered what business I was
in. But that was just the beginning.
As any new business owner will tell you, there are better ways to
spend your time than calling your banker everyday. But small-business
owners, by our nature, break out in hives at the thought of money
sitting in a banking account not earning interest.
What I did not know was that a sweep account is really designed for
a larger company, one with an in-house accounting and financial staff
to keep up with the flow of money from account-to-account. For the
small-business owner with a business to run, it can be a paperwork
nightmare. We soon found that the sweep account, while addressing the
noninterest bearing account issue, resulted in a flood of paper from
the bank. Each day we would receive a reconciliation statement to let
us know how the money had been shifted around in the past 24 hours. And
because this is done via the mail, there was always a 2-to-3 day delay
in the information flow so we never had an accurate, up-to-the minute
view of the flow of funds among our banking accounts. Of course, the
mail piled up unopened at the rate of 250 letters per year. To add
insult to injury, my sweep account fees were paying for all of this
paperwork.
Don't get me wrong. I am not arguing against sweep accounts. But
they are a bookkeeping hassle for a small business. Wouldn't these
misguided resources be better spent on tasks that help grow the
business, rather than keeping up with a flood of paperwork?
For obvious reasons, the make-work nature of the sweep account
ended up significantly reducing our interest earnings. And if you
consider the allocation of staff time to handling the paperwork and the
lack of oversight caused by the sweep solution, I could argue that we
would have been much better off leaving the funds in a noninterest-
bearing account--which is what all too many small-business owners do--a
fact that restricts much-needed job creation capital from those who
need it most.
I know that there are many simpler nonbank alternatives to this
crazy system, but is that Congress' intent? And so, while I have
continued to work with a traditional banking institution (without a
sweep account I might add), it makes even less sense today why this
prohibition is continued. I don't even believe that it makes sense for
banks. Creating by legal fiat a restriction that can be sidestepped
with sweep accounts (even if in an inefficient manner) or does not
apply to competitors of banks, in the long-run will only hurt the banks
themselves. I challenge anyone to present a justification for a result
that can only be cited as a textbook example of the law of unintended
consequences run amok.
The Senate has an opportunity to eliminate an archaic law that has
run headlong into the creativity of the free-market. The current law
saddles America's small businesses with an inefficient alternative that
costs small businesses billions in annual revenue that could be used to
grow these businesses and the jobs that go along with them.
I support giving banks at least the choice to offer interest-
bearing accounts to small-business owners. I urge this Committee to
consider this bipartisan effort and to resist efforts to further
lengthen the phase-in period of this important legislation. The time is
now for the Senate to act. Thank you for allowing me to express my
views before the Committee.
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PREPARED STATEMENT OF EUGENE F. MALONEY *
Executive Vice President, Federated Investors, Inc.
June 21, 2005
My name is Eugene F. Maloney. I am Executive Vice President,
Corporate Counsel and a member of the Executive Committee of Federated
Investors, Inc. Federated is a Pittsburgh-based financial services
holding company whose shares are listed on the New York Stock Exchange.
Through a family of mutual funds used by or in behalf of financial
intermediaries and other institutional investors, we manage
approximately $200 billion. For the past 20 years, I have been a member
of the faculty of Boston University School of Law where I teach a
course entitled Securities Activities of Banks. Our mutual funds are
used by over 1,000 community banks either within their own portfolios
or in behalf of clients of their trust departments. These institutions
are not our customers--they are our friends.
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* Appendix held in Committee files.
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In connection with the proposed removal of Regulation Q, thereby
permitting banks and thrifts to pay interest on business checking, my
firm's position is that we are strongly in favor of any rule,
regulation or legislation that results in our community bank friends
becoming more competitive, more profitable or being able to operate
their businesses more efficiently. We are concerned that the current
initiative to repeal Regulation Q, if not evaluated in an historical
context, will result in the exact opposite. This conclusion is based on
my personal experience with the introduction of ceilingless deposit
accounts in 1982 and the impact it had on our client base. Friends of
long standing lost their jobs, their pensions and their self esteem
because of the failure by governmental officials and Members of
Congress to fully think through the economic impact of ceilingless
deposit accounts to our banking system and its profitability. This
failure cost every man, woman, and child in the United States $1,500.
In researching the history of ceilingless deposit accounts, which
were to be ``competitive with and equivalent to money market mutual
funds,'' we found some fascinating information. At the meeting chaired
by the Secretary of the Treasury to consider the features of the new
account, the members were advised that if they set the minimum account
size below $5,000, massive internal disintermediation would occur, and
it would result in pure cost to the banks. The account size was set at
$2,500. We have been to the national archives and declassified the
minutes of subsequent meetings, and they make for astonishing reading.
The members were fully briefed on the excesses committed by banks and
thrifts and elected to do nothing to stop them. I brought some examples
with me (see Exhibits A-1, A-2).
We have seen nothing in the present record to suggest that any
effort has been made to prevent a repeat of the past mistakes.
The legislative record indicates that only slight attention has
been given to the banks' costs when paying interest on business
checking accounts or the resulting impact on banks' earnings. The
record does not include the type of detailed analysis that was
performed by the staff of the Depository Institutions Deregulation
Committee (DIDC) during the DIDC's deliberations on whether to allow
the payment of interest on business checking accounts in the early
1980's. The record also does not indicate that any significant
attention has been given to the relationship between interest rate
deregulation in the early 1980's and the subsequent thrift crisis.
When this matter was before Congress last year, the House Committee
report included a detailed estimate of the implications for Federal tax
revenues and the budgetary impact of paying interest on required
reserve balances,\1\ but not of the impact on the earnings or assets of
banks.
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\1\ H. Rep. No. 107-38 at 10-18 (Congressional Budget Office
report).
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During the House Committee hearings, in response to questioning as
to whether the legislation would ``weaken any player in the market,''
Governor Meyer of the Federal Reserve Board replied, ``No.'' \2\ In
response to a question as to whether the Board had any estimate as to
the amount of deposits that are lost by banks due to the current
prohibition against the payment of interest on business checking
accounts, Governor Meyer replied, ``No, I don't have any numbers to
share with you.'' \3\
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\2\ ``Proposals to Permit Payment of Interest on Business Checking
Accounts and Sterile Reserves Maintained at Federal Reserve Banks,''
Hearing before the Subcommittee on Financial Institutions and Consumer
Credit of the Committee on Financial Services, 107th Cong., 1st Sess.
(March 13, 2001) (House Hearing) at 18 (Testimony of Laurence H. Meyer,
Member, Board of Governors of the Federal Reserve System).
\3\ Id. at 24.
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In anticipation of my appearance before the committee today, we
commissioned a study by Treasury Strategies of Chicago to provide us
with their views on the impact of the repeal of Regulation Q (see
Exhibit B).
Some of the key findings that we offer for your consideration are
as follows:
Companies now maintain liquid assets of approximately $5
trillion.
Fifty-seven percent (57 percent) of corporate liquidity is now
in deposits or investments that mature in 30 days or less.
As we speak, banks are adjusting their balance sheets to
mitigate interest rate risk to maintain their spread revenues.
This is a volatile mix. It becomes obvious that if higher-than-
market interest rates are offered by banks to corporate customers, we
risk a repeat of the 1980's debacle of massive movement of money to
institutions that are ill-equipped to rationally deploy it.
Treasury Strategies (see Exhibit B) has suggested the following
options to prevent this from occurring:
Do not Increase from 6 to 24 the Number of Permissible Transfers per
Month into MMDA Accounts
The House version calls for this increase. However, since MMDA
accounts currently enjoy lower reserve requirements and are not limited
in the rates they may pay, this would become the surviving vehicle. In
effect, this would be tantamount to full repeal on day one without any
phase-in period or risk management safeguards.
Cap the Interest Rates Payable on these Deregulated Accounts during the
Phase-In Period
Our elasticity studies show that medium-sized and small business
begin to adjust their deposit/investment behavior when rate offerings
reach 40 percent of the 90-day Treasury bill rate and complete their
adjustments when rates reach 80 percent. By contrast, larger companies
begin their adjustment process at the 80 percent point and will move
virtually all of their short-term investments if rate offerings reach
110 percent of the Treasury bill rate.
Therefore, an approach to an orderly transition would be to
initially allow payment of interest at up to 40 percent of the 90-day
Treasury bill rate. Then, this could rise 10 percent every 6 months and
be phased out after 3 years.
Limit the Amount of Interest-Bearing Business Demand Deposits a Bank
can Hold as a Percentage of its Capital
Bank capital is an excellent protection against risk. As corporate
cash moves from other investments and into banks, banks will have to
deploy that cash in the form of more loans and investments. This could
lead to excesses or dislocations if unchecked. Limits on the amount of
deregulated deposits that a bank can initially take in to a specific
percentage of its capital would provide an appropriate safeguard.
One approach in this regard might be to limit deposits in this
deregulated account initially to an aggregate of XX percent of a bank's
total capital. This limit could be raised by YY percent every 6 months
and eliminated altogether after 3 years.
Limit Interest Payments to Just Uninsured Deposits
Bank depositors enjoy the benefit of insurance on the first
$100,000 of their deposit. Investors in mutual funds or direct money
market instruments do not have the same protections. If the market for
``business cash'' is deregulated, the playing field for this cash
should be leveled. This would not only allow for effective and
transparent rate competition, but also induce banks to insure that they
pursue safe and sound policies.
There are two possible approaches to implementing this safeguard.
One is to allow for payment of interest on only the uninsured portion
of a company's deposit. The other is to establish a distinct, uninsured
account type that could pay interest on the entire deposit. A phase-in
period for the latter option is appropriate.
Collateralize the Deregulated Deposits
Banks are currently required to post collateral to safeguard public
sector deposits. In many cases, banks must set aside U.S. Government
securities equal to 100 percent or more of each deposit.
Requiring banks to collateralize these deregulated deposits would
ensure their safe deployment. At the same time, banks could still earn
a spread on the rates paid versus their earnings on the collateral
itself.
Money market mutual funds are in fact backed by a specific
portfolio of marketable securities. Collateralization of interest-
bearing demand deposits is analogous.
An approach to implementing this could be to begin with the
requirement that each bank back these deposits, in the aggregate, 100
percent with U.S. Government and agency obligations. This figure could
be reduced by 10 percent every 6 months and phased out after 3 years.
Implement a Phased Approach
Record levels of short-term liquidity relative to bank deposits,
the volatility of the flow of funds among investment instruments, and
the balance sheet readjustment that banks are navigating due to the
rising rate environment combine to make this a less than ideal time to
repeal Regulation Q. We would recommend deferring implementation to a
more stable environment, perhaps 6 to 12 months following enactment.
Once implemented, some combination of the buffers cited above
should be put into place and phased out over an additional 3-year
period. This would allow for a smooth transition and avert serious
market dislocations.
Other anticipated fallout we expect to occur should the repeal go
forward are:
1. Increased credit risk that will raise the banks' rate of loan charge
offs; and
2. Pressure on banks' profitability and subsequent increases in charges
for discrete services. Some statistics on this point are: (a)
profit risk of $4 billion; (b) increased interest expense of $6 to
$7.5 billion per year; and (c) for the banks studied by Treasury
Strategies, it has been determined that in order to break even on
their business customer base, banks will need to grow deposits or
raise service charges by the following:
With Respect to Small Business:
grow deposits by 80 percent; or
raise service charges by 34 percent.
With Respect to Mid-size Companies:
grow deposits by 35 percent; or
raise service charges by 16 percent.
The reason I am here today is to make a fact-based attempt to
prevent history from repeating itself.
I appreciate being given the opportunity to share my thoughts with
the Committee. I would be pleased to take questions.
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PREPARED STATEMENT OF BRADLEY E. ROCK *
President and Chief Executive Officer,
Bank of Smithtown, and Chairman, Government Relations Council,
American Bankers Association
June 21, 2005
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* Appendix held in Committee files.
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Mr. Chairman and Members of the Committee, my name is Bradley Rock.
I am Chairman, President and CEO of Bank of Smithtown, a $750 million
community bank located in Smithtown, New York founded in 1910. I am
also Chairman of the Government Relations Council of the American
Bankers Association (ABA). ABA, on behalf of the more than two million
men and women who work in the Nation's banks, brings together all
categories of banking institutions to best represent the interests of
this rapidly changing industry. Its membership--which includes
community, regional and money center banks, and holding companies, as
well as savings associations, trust companies, and savings banks--makes
ABA the largest banking trade association in the country.
I am glad to be here today to present the views of the ABA on the
need to reduce or eliminate unnecessary, redundant, or inefficient
regulatory burdens that increase costs not only for banks, but also for
the customers and businesses that use banks--and that is nearly
everyone.
In my testimony, I would like to make three key points:
Excessive regulatory burden is not just a problem for banks--
it has a significant impact on bank customers and local economies.
The regulatory burden is significant for banks of all sizes,
but pound for pound, small banks carry the heaviest regulatory
load. The community bank, which has been the cornerstone of
economic growth in this country, is in great danger of being
regulated right out of business.
The ongoing review of regulatory costs by the Federal bank
regulators is very positive; results are what counts, however, and
many bankers are skeptical that significant relief from the
regulators is possible without congressional action.
The Federal banking agencies, which are now in the fourth phase of
the 10-year regulatory review required by the Economic Growth and
Regulatory Paperwork Reduction Act (EGRPRA), are evaluating ways to
reduce unduly burdensome regulations. EGRPRA, which became law in 1996,
is the last comprehensive regulatory
relief bill enacted by Congress. In the decade following EGRPRA's
enactment, banks have struggled to shoulder the effects of some of the
most imposing legislation of the past 100 years. Much of it was
prompted by renewed focus on accounting practices and heightened
security in the aftermath of September 11. While the impetus behind the
compliance obligations imposed by the USA PATRIOT Act, the Sarbanes-
Oxley Act, and the privacy provisions of the Gramm-Leach-Bliley Act
(GLBA) are reasonable, too often their enforcement and practical
effects are not.
When the cumbersome layering of additional rules, issued by the
Securities and Exchange Commission (SEC), the Financial Accounting
Standards Board (FASB), the Public Company Accounting Oversight Board
(PCAOB), and the American Institute of Certified Public Accountants
(AICPA) are also taken into account, it is abundantly clear that bank
resources are being stretched too thin. Obviously, this is not in the
interest of banks, but it also means that banks have fewer resources
available to meet the stated policy goals of lawmakers and regulators.
We have submitted comments to regulators recommending changes that
involve the Bank Secrecy Act (BSA), including discontinuing currency
transaction reports (CTR's) for seasoned customers, eliminating the
verification requirement for customers purchasing monetary instruments,
and establishing a standard for suspending repetitive SAR filings on
continuing activities in which law enforcement has no interest. Other
suggested changes involve such issues as appraisal standards, real
estate lending standards, and annual audit and reporting requirements.
We have long since reached a point where only the active
involvement of Congress can result in a comprehensive reduction of
outdated, inefficient, and costly regulatory burdens. A more detailed
explanation of some of the areas in which ABA is seeking reform is
found at the end of this testimony in the appendix.
Regulatory Burden Has an Impact on Bank Customers and Local
Economies
Reviewing regulations and their impact on our businesses and
communities should be an ongoing process, as the marketplace continues
to change rapidly. Outdated laws and regulations only squander scarce
resources of banks that could otherwise be used to provide financial
services demanded by our customers. New laws, however well-intentioned,
have added yet more layers of responsibilities on businesses like ours.
While no single regulation by itself is overwhelming to most
businesses, the cumulative weight of all the requirements is
overwhelming. It is like boxing outside of one's weight class. Even the
best moves will not, in the end, overcome the disadvantages of being
dwarfed by the size of your challenger. New laws add heft to the
regulatory burden. Banks are against the ropes.
The burden of regulation has a significant impact on bank customers
and local economies. Compliance costs are a significant drain on bank
resources, taking precious resources away from meeting the needs of our
customers. And every new law, regulation or rule added means two
things: More expensive bank credit and less of it. This is likely to
hurt small businesses the most, as they cannot go directly to the
capital markets, yet need low-cost financing. The result is slower
economic growth.
During the past 25 years, the compliance burden has grown so large
and is so pervasive throughout all levels of bank management that it is
extremely difficult to measure. Research done by the ABA and the
Federal Reserve \1\ indicates that the total cost of compliance today
for banks would range from $34 billion to $42 billion per year and this
does not include compliance costs due to legislation enacted in the
last 5 years, such as the USA PATRIOT Act and Sarbanes-Oxley.
Compliance costs are expected to grow at an even faster pace in the
coming years.
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\1\ ``Survey of Regulatory Burden,'' American Bankers Association,
June 1992; Elliehausen, ``The Cost of Banking Regulation: A Review of
the Evidence,'' Staff Study, Board of Governors of the Federal Reserve
System, April 1998.
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Certainly, some of the regulatory cost is appropriate for safety
and soundness reasons. But consider the direct impact on bank lending
and economic growth if this burden could be reduced by 20 percent and
redirected to bank capital; it would support additional bank lending of
$69 billion to $84 billion. This would clearly have a big impact on our
economies. In fact, it represents nearly 10 percent of all consumer
loans or 11 percent of all small business loans.
Community Banks Are In Danger of Being Regulated Right Out of Business
Regulatory costs are significant for banks of all sizes, but pound
for pound, small banks carry the heaviest regulatory load. For the
typical small bank, about one out of every four dollars of operating
expense goes to pay the costs of government regulation. For large banks
as a group, total compliance costs run into the billions of dollars
annually.
The cumulative effect of new rules and regulations will ultimately
force many community banks to look for merger partners to help spread
the costs; some will go out of business altogether or consolidate with
larger banks. Our members routinely mention regulatory burden as the
first or second critical factor threatening the viability of his or her
community bank. I can tell you, Mr. Chairman, the pressures to comply
with all the regulations and still meet the demands of our customers
are enormous. We feel that we must grow the bank rapidly to generate
more revenues simply to pay for the ever-increasing regulatory cost.
The sad part is that too much time and effort is now devoted to
compliance and not to serving our customers.
Bankers at all levels, from bank directors and CEO's to compliance
managers and tellers, spend endless hours on compliance paperwork. Much
of this work falls heavily on tellers. For example, they fill out the
more than 13 million CTR's filed annually. Yet the 35-year-old rules
related to CTR's have become redundant and lost their usefulness due to
several developments, including formalized customer identification
programs; more robust suspicious activity reporting; and, government
use of inquiry and response processes.
At Bank of Smithtown, every person in every department has major
compliance responsibilities. Because of the complexities involved, my
bank pays more than $100,000 each year to outside firms to help us with
the big compliance issues. On top of this, one person on my staff has a
full-time job just to coordinate all the activities throughout the bank
related to regulatory compliance.
I personally spend about one-and-a-half days per week just on
compliance issues. Some CEO's tell me that they are now spending nearly
half of their time on regulatory issues. This means that for banking
alone, CEO's spend over 5.5 million hours per year on compliance--time
that could have been better spent on ways to expanding their businesses
and to meet the changing needs of their customers.
Of course, labor costs are a small part of the entire cost required
to meet all the compliance obligations that we have. In addition, banks
spend billions annually on compliance training, outside compliance
support (including accounting firms, consultants and attorneys),
compliance related hardware and software, printing, postage, and
telephone connections.
Banks that can least afford increasing compliance costs are hit the
hardest. Consider a small bank, which can have as few as 20 employees
or less. In order to fulfill their compliance obligations, banks of
this size often are forced to hire an additional full-time employee
just to complete reports related to BSA. Not only is this a huge
expenditure of time and money, but bankers wonder if these reports are
even being read. The cost versus benefit analysis fails to make the
case for many of the rules and regulations banks must follow, and the
reports that we generate.
In fact, there are more than 3,200 banks and thrifts with fewer
than 25 employees; nearly 1,000 banks and thrifts have fewer than 10
employees. These banks, which serve primarily small communities in
nonurban areas, simply do not have the human resources to run the bank
and to read, understand and implement the thousands of pages of new and
revised regulations, policy statements, directives, and reporting
modifications they receive every year. According to the Small Business
Administration's Office of Advocacy, the total cost of regulation is 60
percent higher per employee for firms with fewer than 20 employees
compared to firms with more than 500 employees due to the fixed costs
associated with regulations.\2\
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\2\ Crain and Hopkins, ``Impact of Regulatory Costs for Small
Firms,'' Small Business Administration, Office of Advocacy, 2001.
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Banks that are regulated by more than one bank regulatory agency
have a particular challenge, in that opinions about what is correct or
adequate with regard to certain regulatory requirements differ between
agencies. Such banks currently lack one definitive answer about what is
required and necessary to comply with any specific aspect of a
regulation. Another challenge facing institutions is the fact that
compliance regulations can come from a variety of sources such as the
SEC, FASB, PCAOB, and AICPA. The system lacks monitoring of the overall
increasing regulatory and reporting burden on financial institutions.
Just over the last few years, numerous accounting changes have been
issued and have cost the industry an enormous amount of valuable staff
time and money to implement. A few of the most recognizable rules
include: Fair value disclosures, accounting for derivatives, accounting
for guarantees, accounting for loan loss reserves, accounting for
special purpose entities, and accounting for purchased loans. These
rules are being issued at a very rapid speed with an extraordinarily
short amount of time given to implement them; this presents a
significant challenge to all banking institutions. Moreover, we are
concerned that a significant amount of time, effort and expense has
been directed to rules that have not been demanded by investors and
will not be used or even understood by them.
While we recognize there have been positive benefits of the
Sarbanes-Oxley Act, banks have experienced inordinately large increases
in annual auditing fees as a result of it and new rules developed by
the PCAOB. Even nonpublicly traded banks have been impacted. Many
community banks' accounting fees have more than doubled. One community
bank in New York saw its accounting fees jump from $193,000 in 2003 to
more than $600,000 in 2004.
Not only have outside auditing fees increased tremendously, but so
too have attorneys' fees and insurance costs. Many publicly traded
community banks are exploring whether to de-register under the
Securities Exchange Act of 1934 because the huge regulatory expenses
and the doubling--and even tripling--of accounting and legal costs that
result directly from Section 404, Management Assessment Of Internal
Controls, and other provisions of the Sarbanes-Oxley Act. We urge that
the Committee look at the costs versus benefits in the application of
some of the Act's provisions to community banks. We have also asked the
SEC to increase the 500 shareholder registration threshold.
The bottom line is that too much time and too many resources are
consumed by compliance paperwork, leaving too little time and resources
for providing actual banking services. I'm sure I speak for all bankers
when I say that I would much rather be spending my time talking with
our customers about their financial needs and how my bank will fulfill
them than poring over piles of government regulations. The losers in
this scenario are bank customers and the communities that banks serve.
Congressional Support for Burden Reduction is Critical
The agencies have made considerable progress in the last several
years in improving some of their regulations. Nonetheless, not all of
the agencies' regulations have been so revised, although we certainly
recognize that, in many cases, the agencies are constrained by the
language of statutes in reducing the burdens in a meaningful fashion.
We are hopeful that the current review of bank regulations,
required under EGRPRA, will provide meaningful relief. We applaud the
openness of the banking regulators to the concerns of the industry as
they conduct this review. Doubt exists as to whether this effort will
be--or even can be--successful in achieving a meaningful reduction in
the burden unless Congress becomes an active partner. Most bankers have
seen previous regulatory relief efforts come and go without noticeable
effect, while the overall level of regulatory burden has kept rising.
Results are what matters.
There is a dilemma here: At the same time that the regulatory
agencies are undertaking a review of all regulations with an eye toward
reducing the overall compliance burden, they must promulgate new rules
for the new laws that Congress has enacted. Simply put, any reduction
in existing compliance obligations is likely to be obliterated by
compliance requirements of new regulations implementing new laws.
It should be noted that even when Congress has acted to reduce a
burden, the agencies have at times not followed through. For example,
in 1996, Congress amended RESPA so as to reduce the amount of
information that must be provided to mortgage customers relating to a
lender's sale, transfer or retention of mortgage loan servicing. This
change eliminated the requirement that lenders provide historical data
on the likelihood of this transfer and that customers acknowledge
receipt of this information in writing. HUD has never implemented this
statutory change to RESPA. Thus, since 1996 HUD's regulation continues
to require language in the disclosure form, which Congress struck from
the statute. This creates an unnecessary burden on banks. ABA pointed
this out to Congress years ago and HUD has still not implemented this
1996 statutory change.
Bankers continue to be concerned about ``the uneven playing field''
in compliance between depository institutions and other financial
institutions. While bankers spend increasing amounts of time and money
dealing with regulatory red tape, nonbank competitors, including money
market funds and mutual funds, are selling savings and investment
products to bank customers. The same is true of credit unions and the
Farm Credit System, both of which are free from much of the red tape
and expenses imposed on banks. Even when the regulatory requirement is
the same on paper, such as the case with the Truth in Lending
requirements, nonbank competitors are not subject to the frequent, in-
depth, on-site examination that banks are subject to. The result is
slower growth for banks, leaving fewer community resources available
for meeting local credit needs.
Bankers know that their loans will be examined for consumer
compliance at least once every 2 years. They also know that nonbank
lenders will not have their loans examined, probably ever, because the
Federal Trade Commission (FTC) and the State agencies that have
jurisdiction over them do not have the examination and supervision
infrastructure to do so. One solution is to fund, by assessment of the
nonbank lenders, if necessary, a real supervisory examination program
to stop some of the consumer abuse and predatory lending that we hear
about constantly. Congress should ensure that the FTC has the resources
to actually enforce against nonbank lenders the consumer protection
laws currently in effect.
Importantly, the EGRPRA mandate encompasses more than just
regulatory action: It calls for the agencies to advise the Congress on
unnecessary burdens imposed by statute, which the agencies cannot
change but the Congress can. As noted, in many cases, meaningful
compliance burden reduction cannot be achieved absent statutory
changes. Mr. Chairman, we hope this Committee will seriously consider
the recommendations made under this effort.
Conclusion
In conclusion, the cost of unnecessary paperwork and red tape is a
serious long-term problem that will continue to erode the ability of
banks to serve our customers and support the economic growth of our
communities. We thank you for continuing to look for ways to reduce the
regulatory burden on banks and thrifts, and to restore balance to the
regulatory process. Mr. Chairman, the ABA is committed to working with
you and the members of this Committee to achieve this goal.