On January 22, 2021, the Federal Deposit Insurance Corporation ("FDIC") published its final rule ("Final Rule") revising and modernizing its regulations related to brokered deposits and the interest rate restrictions that apply to insured depository institutions ("IDIs") that are less than well capitalized. Under Section 29 of the Federal Deposit Insurance Act, certain IDIs that are not well capitalized are prohibited from accepting, or require a waiver to accept, deposits from a deposit broker. Section 29 defines a "deposit broker" and sets forth nine exclusions from the definition of deposit broker. The Final Rule establishes a new framework for analyzing certain aspects of the "deposit broker" definition, including what constitutes "facilitating" the placement of deposits and what business arrangements satisfy the "primary purpose exception." This alert summarizes the Final Rule and identifies key aspects for broker dealers.
Key Changes to Definition of "Deposit Broker"
Under the Final Rule, a "deposit broker" includes any of the following:
- An entity engaged in the business of placing deposits of third parties with IDIs;
- An entity engaged in the business of facilitating the placement of deposits of third parties with IDIs;
- An entity engaged in the business of placing deposits with IDIs for the purpose of selling those deposits, or interests in those deposits, with third parties; or
- An entity or trustee who establishes a deposit account to facilitate a business arrangement with an IDI to use the proceeds of the account to fund a prearranged loan.
The Final Rule makes key changes to the first two prongs of the "deposit broker" definition, namely, whether an entity is engaged in the business of placing deposits or engaged in the business of facilitating the placement of deposits.
Engaged in the Business of Placing Deposits
The Final Rule clarifies that an entity is "engaged in the business of placing deposits" only if the entity (1) has a "business relationship" with the third party, and (2) "receives" third party funds and deposits those funds at more than one IDI. An entity is engaged in the business of placing deposits if the entity has a business relationship with its customer and, as part of that relationship, places deposits with IDIs on behalf of the customer.
Engaged in the Business of Facilitating the Placement of Deposits
One of the most important aspects of the Final Rule is that it narrows the scope of the "facilitation" prong of the "deposit broker" definition from the FDIC's proposal and provides that an entity is engaged in the business of facilitating the placement of deposits if:
- the entity has legal authority, contractual or otherwise, to close the account or move the third party's funds to another IDI;
- the entity is involved in negotiating or setting rates, fees, terms, or conditions for the deposit account; or
- the entity engages in "matchmaking" services.
The supplementary information to the Final Rule states that the "facilitation" prong of the deposit broker definition "is intended to capture activities that indicate that the third party takes an active role in the opening of an account or maintains a level of influence or control over the deposit account even after the account is open."
Under the Final Rule, an entity is engaged in matchmaking if the entity proposes deposit allocation at, or between, more than one bank based upon both:
- the particular deposit objective of a specific depositor or depositor's agent; and
- the particular deposit objectives of specific banks, except in the case of deposits placed by a deposit's agent with a bank affiliated with the depositor's agent.
In order for a deposit to be based on the objectives of the depositor or the depositor's agent, the entity must have access to specific financial information and act upon that information. Similarly, in order to advance the deposit objectives of specific banks, an entity must have access to specific information about the deposit objectives of those specific banks, and act upon that information.
Importantly, the matchmaking prong is not intended to capture third parties that provide administrative services as part of a deposit sweep program. For example, if a third party is merely executing instructions provided by a bank or depositor (or depositor's agent), the execution of such instructions should not be determined to be active in nature or to be proposing deposit allocations, as would be captured by the Final Rule. The supplementary information to the Final Rule clarifies that the matchmaking prong "is defined to capture specific forms of matchmaking that are active in nature; more passive forms of matching depositors and banks . . . would not be captured." Thus, the distinguishing factor between whether a third party is engaged in "matchmaking" or providing "administrative services" appears to be whether the third party is engaged in only passive activities and not proposing deposit allocations. The supplementary information to the Final Rule specifically identifies entities such as listing services, marketing firms, and certain companies that design their own deposit products with special features as examples of entities engaged in passive activities that would not likely be considered "facilitation" under the Final Rule.
Exclusive Deposit Placement Arrangements
One of the important highlights of this new definition is that an entity with an exclusive deposit placement arrangement at only one IDI will not be engaged in the business of placing or facilitating the placement of deposits and, therefore, will not meet either of the first two prongs of the "deposit broker" definition.
Key Changes to Exclusions from Definition of "Deposit Broker"
There are nine statutory exclusions from the definition of deposit broker, including an exclusion for an agent or nominee whose primary purpose is not the placement of funds with depository institutions. Over the last few decades, the FDIC has issued numerous advisory opinions related to the primary purpose exception and, in the Final Rule, the FDIC has effectively codified and modified the business relationships that qualify for the primary purpose exception.
The Final Rule specifies 14 business relationships that are designated as meeting the primary purpose exception. Two of these business relationships - the 25 percent test and the enabling transactions test - require the entity to submit a written notice to the FDIC indicating that the entity is relying on the designated exception. The other designated business relationships do not require notice or any application to the FDIC. In addition, if a person believes the primary purpose exception applies to a business relationship that is not identified in the Final Rule as a designated business relationship, the Final Rule sets forth a process by which the person can apply for the primary purpose exception.
Each of the designated business relationships applies with respect to a particular "business line." The FDIC has allowed persons taking advantage of the primary purpose exception to make their own good-faith determination as to what constitutes a business line and will generally defer to that good-faith determination, but the FDIC has retained discretion to determine the appropriate business line.
With respect to the 25 percent test, the Final Rule provides that an entity will not be deemed to be a deposit broker if less than 25 percent of the total assets that the agent or nominee has under administration for its customers, in a particular business line, is placed at IDIs. In determining the amount of customer assets under administration, the agent or nominee must measure the total market value of all the financial assets (including cash balances) that the agent or nominee administers on behalf of its customers that participate in a particular business line.
What Else Should You Know?
Involvement of Other Third Parties. In the Final Rule, the FDIC indicates that if deposits are placed by or through an intermediary that meets any part of the deposit broker definition, then the deposits would be considered brokered deposits, regardless of the status of the agent or nominee. Thus, when determining whether deposits are brokered deposits, an IDI must consider each third party that is involved in the placement of the deposits.
Treatment of Brokered Deposits When Institution Falls Below Well Capitalized. The Final Rule maintains the requirements that (1) an adequately capitalized IDI may not accept, renew, or roll over any brokered deposits unless it has applied for and been granted a waiver by the FDIC, and (2) an undercapitalized IDI may not accept, renew, or roll over any brokered deposits. However, the Final Rule clarifies that for existing nonmaturity accounts, a nonmaturity brokered deposit is deemed "accepted" by a less than well-capitalized IDI when the aggregate account balance increases above the amount in the account at the time the IDI fell to adequately capitalized. In effect, this should mean that if an IDI holds nonmaturity brokered deposits and the IDI is downgraded to less than well-capitalized, the IDI may continue to hold the nonmaturity brokered deposit accounts the IDI held prior to being downgraded.
Interest Rate Restrictions. In addition, Section 29 restricts an IDI that is less than well capitalized from engaging in the solicitation of deposits by offering rates of interest that are significantly higher than the prevailing rates of interest on deposits offered by other IDIs in the IDI's normal market area. The Final Rule includes amendments to the FDIC's methodology for calculating the national rate, national rate cap, and local rate cap.
Timing for Changes. The Final Rule will take effect on April 1, 2021, which means that the FDIC will begin accepting notices and applications for the primary purpose exception on that date. However, full compliance with the Final Rule is not required until January 1, 2022. After that date, an entity may no longer rely on the FDIC advisory opinions regarding brokered deposits that predate the final rule.
Because of the generality of this update, the information provided herein may not be applicable in all situations and should not be acted upon without specific legal advice based on particular situations.
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