Banking Law

Pepper Hamilton LLP recently issued a client alert that discusses the effect of the Dodd-Frank Wall Street Reform and Consumer Protection Act on industrial banks, credit card banks, and trust banks. These "bank holding company loophole banks," especially industrial banks, have been the subject of a lot of attention from the FDIC, Democrats in Congress, and community bankers ever since Wal-Mart's application to acquire an industrial bank charter caused the FDIC to place an official (then unofficial) moratorium on applications for FDIC insurance and change of control applications that would result in a holding company that did not engage primarily in "financial activities."

Peeper Hamilton's alert summarizes the effects of the bill (although it also discusses each effect in more detail) as follows:

Although the Dodd-Frank Act does not bring industrial banks, credit card banks and trust banks within the definition of "bank" under the BHCA, it nonetheless subjects such institutions and their parents to a number of regulatory requirements. The Act places a three-year moratorium on the ability of such institutions to obtain insurance from the FDIC and experience a change of control except under certain circumstances. The Act also requires the commercial firm parents of such institutions to serve as a source of financial strength should the subsidiary experience financial distress. Finally, the Act subjects industrial banks, credit card banks and their parents to the Volcker Rule, which restricts their ability to engage in proprietary trading and to sponsor or invest in private equity or hedge funds. In addition to these regulatory requirements, the Act also requires the GAO to conduct studies that could ultimately bring about even more regulatory requirements and restrictions for industrial banks, credit card banks and trust banks.

The bottom line of all of this is that industrial banks, credit card banks, and trust banks are living in the same state of uncertainty under Dodd-Frank as they did since the FDIC first imposed a moratorium in 2006. If there's one thing business (including the banking business) abhors, it's uncertainty. Therefore, expect to see more cases like that of Utah industrial loan company ADB Bank (paid subscription required), which last month announced it is voluntarily liquidating and paying off depositors. A sale would be "too hard to pull off" with the moratorium in effect. and living with the possibility of becoming a bank holding company did not interest the investors who owned the bank (which was why they acquired an ILC charter in the first place). Thus, another financial institution bank bites the dust, and former Utah Commissioner of Financial Institutions thinks that's not a good thing..

"There is so much interest in getting into banking, but the impediments are shrinking the share of credit available through banks," said ,,,Sutton.... "It ought to be the opposite of that."

I wonder how much of the lending business will decide to operate outside the traditional banking sector, especially lending to businesses? The costs of funding will be higher, but the headaches involved with entering, operating, and exiting the business will certainly be fewer.