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Banking Enforcement Actions on the Increase: Consider your Options Before you Consent

June 20, 2008

Over the past several months, there has been a significant increase in the number of formal enforcement actions initiated by federal banking regulators against financial institutions.  Given the concerns surrounding subprime lending, capital markets disruptions, and the deterioration of asset values in general, it is no surprise that there has been increased scrutiny of banks and financial-services providers.  However, the actions being taken by regulators are in many cases counter-productive and can create future difficulties for individual institutions and the industry as a whole.

In particular, there is evidence that federal banking regulators in Washington, DC have become more aggressive and are overruling the judgment of front-line bank examiners.  In the recent past, bank examiners have been given latitude to work with banks and thrifts to remediate problems that are discovered during the examination process.  Based on favorable past experience with managements, those managements have been allowed by regulators the opportunity to correct deficiencies and if any documentation is required at all, it has typically been either an informal agreement or a memorandum of understanding.  Only when managements have been unresponsive or when the seriousness of the deficiencies warrant it have the regulators asked the institutions to enter into formal written agreements or consent to cease and desist orders.

Now, however, we are seeing the federal banking regulators often ignoring the preliminary, informal agreement phase of the process and jumping directly into formal agreements or consent orders – with the threat of court action if the institutions fail to comply.  Rather than helping to resolve problems, such formal actions often bring with them a number of detrimental consequences, including unwarranted negative publicity, a loss of customer confidence and frequent and complex reporting requirements that are a distraction to managements' ability to fix problems.  Additionally, bank executives and directors have often entered into formal enforcement actions that contain requirements that are realistically impossible to achieve (for example, while a bank may be able to restructure its loan portfolio, it cannot change the economic conditions in which the bank operates or the value of collateral securing its loans).  Signing such agreements without thinking through their ability to comply with the requirements can put bankers and bank directors at serious risk of liability, including civil money penalties.  Bankers who have always wanted to cooperate with their regulators too often sign what is put before them, not realizing that the terms are subject to negotiation and failing to consult counsel as they would before signing any other legal document.

Regulatory enforcement actions are serious matters and should not be entered into casually.  Bankers and bank directors can take steps to protect themselves against unexpected liability including:

Challenge examination conclusions with which the bank in good faith disagrees.  If a satisfactory resolution cannot be achieved at the local or district office level, the agency Ombudsman should be contacted and it is important that this be done before an enforcement action is proposed, because enforcement actions are not appealable to the Ombudsman.

Have legal counsel review carefully any proposed formal or informal regulatory enforcement action and discuss with management and the board of directors the consequences of each of the provisions.