On August 16, 2011, the Financial Institutions and Consumer Credit subcommittee of the House Committee on Financial Services held a field hearing in Newnan, Georgia, with a stated topic of “Potential Mixed Messages: Is Guidance from Washington Being Implemented by Federal Bank Examiners?”
Representatives Shelley Moore Capito, Spencer Bachus, Lynn A. Westmoreland and David Scott each heard testimony from panels of federal banking regulators and Georgian bankers about the condition of banking in Georgia, including the effect that federal banking regulations, guidance, policies and actions have had on community banks. Copies of the written testimony submitted, including that of the FDIC, OCC and Federal Reserve are now available on the Subcommittees website.
Although it is hard to draw any overall themes from the hearings (other than possibly that the issues involved aren’t easily addressed in this format), there were several good points made.
From the FDIC’s written testimony, addressing the challenges faced by Georgia banks:
As the Subcommittee has discussed in previous oversight hearings, the collapse of the U.S. housing market in 2007 led to a financial crisis and economic recession that has adversely affected banks and their borrowers in Georgia and nationwide. Georgia’s economy was hit especially hard following years of strong economic growth characterized by rising real estate prices, abundant credit availability, and robust job creation. Financial institutions, whose performance is closely linked to economic and real estate market conditions, have been significantly affected by a rise in the number of borrowers who are unable to make payments.
Gil Barker, the Deputy Comptroller for the Southern District, specifically addressed many concerns expressed by bankers in his written testimony, including statements of regulators criticizing loans to a particular industry, performing non-performing loans, criticizing loans merely because of a decline in collateral value, and the second guessing of independent appraisers. While one can certainly question whether the interpretations provided by Mr. Barker line up with some of the actions of the on-site examiners, it is definitely a good read for anyone dealing with the OCC in the Southern District.
The loss share method of resolving closed institutions seems to have significant benefits over the FDIC retaining the assets for bulk sale, but there is significant disagreement as to whether the loss share agreements properly incent the acquiring bank with regard to working with borrowers to minimize losses. The representatives seemed particularly attuned to the additional issues related to loan participations where the lead bank has gone through receivership.
Courtesy of William Linkous, Jr. and Kimberly Civins, two of Bryan Cave’s trusts and estates attorneys.
On July 1, 2010, the provisions of a completely revised Georgia trust code became effective. This month we celebrate its first anniversary, so it seemed to be a good time to reflect on what were the top “attention-getters” of the new code. In thinking about this “top three” list, we’re reminded of the last time we trained a new puppy. The theme was: reward the good behavior, ignore the bad. Fortunately, the new code will help you take care of your dog and rewards good trustee behavior, but there could be serious consequences for a trustee not complying with some of the new provisions.
1. The Dog: By far and away, for better or for worse, most attention has been focused on the new provisions allowing pet trusts. In the past, we were able to (somewhat) accommodate people’s wishes to provide for their pets upon their deaths by naming an individual as beneficiary of the trust fund so long as they were caring for the pet. Now, it’s much easier because the pet itself can be a trust beneficiary.
2. The Carrot: Trustees of Georgia trusts now may take comfort in a shorter period during which a beneficiary can sue for a breach of fiduciary duty. If the trustee has provided the beneficiary a “written report” that “adequately discloses the existence of a claim against the trustee”, then a shortened two-year statute of limitations applies instead of the former six-year period. Without that “written report” the beneficiary has the normal six years to sue beginning when the beneficiary discovered, or should have discovered, the existence of the claim. Over this first year, virtually all trustees we talk to praise this new provision.
On May 11, 2011, Georgia Governor Nathan Deal signed House Bill 30 into law, ushering in a new era for non-competition agreements (non-competes), non-disclosure agreements (NDAs), and non-solicitation covenants under Georgia law. Historically, Georgia courts have not been friendly to such agreements and have made enforceability unclear. The new statute clarifies and strengthens the ability of parties to restrict conduct during and after employment or a deal. Perhaps most importantly, the law expressly authorizes courts to cure or “blue pencil” such agreements signed on or after May 11, 2011. Under the previous regime, one faulty provision generally invalidated an entire restrictive covenant in Georgia. In addition, the new law makes clear that NDAs need not specify a time limit on a requirement to maintain information as confidential so long as the information otherwise remains confidential.
In Georgia, new consideration is not required to execute new non-competes, so employers are in a good position to strengthen their competitive protections under the revised statute, but action is required as only new agreements will enjoy the benefits of the new law. The new law also governs restrictive covenants between distributors and manufacturers, lessors and lessees, partnerships and partners, franchisors and franchisees, sellers and purchasers of a business or a commercial enterprise, and two or more employers.
In-Term Covenants Generally
The bill codifies many aspects of the law in this area that had developed in the Georgia courts. This includes the presumption that any restriction within an agreement that operates during the term of the underlying employment or business relationship is not unreasonable because it lacks any specific limitation on the scope of activity, duration, or geographic area as long as it promotes or protects the purpose of the agreement or deters any potential conflict of interest.
Regulation 80-1-6-.03 of the Georgia Department of Banking and Finance requires each director of a Georgia state bank to maintain an annual financial statement in the files of the bank for which he or she serves as a director. The regulation requires that the financial statement be revised annually and that the financial statement not be more than 18 months old.
In the past, bank examiners have carefully reviewed these financial statements to ensure that estimates of asset values, particularly estimates of the values of bank stock, are reasonable. Given the volatility of bank stock valuations over the recent years, directors should ensure that their estimates of the value of bank stock in their portfolios are reasonable. For banks and bank holding companies that have thinly traded securities, estimates should reflect current market conditions as well as the financial condition of the institution. The latest price at which the securities were sold may or may not reflect those factors.
On Friday, November 5, 2010, the Georgia Department of Banking and Finance determined that the final rule being adopted to address loan renewals will not contain the requirement that the loan be a performing loan, and elected not to make any revisions to Rule 80-1-5-.01. In addition to withdrawing the proposed rule, the Georgia DBF has affirmatively confirmed that it no longer interprets the statute as pertaining only to “performing” loans. As we’ve previously discussed, this brings the Georgia legal lending limits in the context of a loan renewal into parity with the comparable requirements for national banks.
The Georgia DBF’s announcement was as follows:
In an effort to ensure parity between state and federally chartered banks regarding the renewal of loans, the Department no longer interprets 7-1-285(c)(9) as pertaining to only “performing” loans as originally stated in our February 2010 bulletin. Bankers are encouraged to familiarize themselves with 7-1-285(c)(9) and ensure that safe and sound underwriting procedures are undertaken and documented when making these renewal/restructuring decisions.
On Friday, October 22, 2010, the DBF announced that it was withdrawing the proposed rule as it relates to the legal lending limit for further study. Both the Georgia Bankers Association and the Community Bankers Association sent the DBF comment letters opposing the change.
Arguments against adopting the proposal were based on two points, one based on legal interpretation and the second on practicalities. The first is that the proposed rule reads into the statute something that is simply not there. If the legislature had wanted to limit the loan renewals to ones that were performing it could have easily done so. The fact that they did not should be read as a decision by the legislature not to limit the renewal provision in that way.
The second point is based on the fact that a restrictive interpretation will put state chartered banks on a competitive disadvantage with national banks. Apparently the OCC does not read its regulations allowing for renewal of loans when the bank’s capital has shrunk to require that a loan be performing in order to be renewed or restructured.
We will keep readers apprised of further developments as they occur.
The Georgia Department of Banking and Finance announced proposed rule making on September 23, 2010 to conform DBF rules to statutory changes adopted in the 2010 legislative session. One of those rules addresses the issues that have arisen concerning interpretation of the amendment to the Georgia legal lending limit statute. That amendment was adopted earlier this year in response to many banks finding themselves unable to renew loans due to the fact that loan renewals were treated as a new extension of credit for legal lending limit purposes and banks had suffered capital reductions making the renewal unlawful. HB 926 was proposed as a means to allow state chartered banks in Georgia to deal with this situation in the same way that national banks currently deal with it. The legal lending limit for national banks is found at 12 USC § 84 and the applicable regulations are found in 12 CFR § 32.2. The OCC regulations do not consider a loan renewal to be an extension of credit for purposes of the legal lending limit. 12 CFR § 32.2 (k)(2)(iv) provides that an extension of credit does not include:
A renewal or restructuring of a loan as a new “loan or extension of credit,” following the exercise by a bank of reasonable efforts, consistent with safe and sound banking practices, to bring the loan into conformance with the lending limit, unless new funds are advanced by the bank to the borrower (except as permitted by § 32.3(b)(5)), or a new borrower replaces the original borrower, or unless the OCC determines that a renewal or restructuring was undertaken as a means to evade the bank’s lending limit.
The amendment to the Georgia statute used a similar approach. A bank must use reasonable efforts to try and bring a loan into compliance with the legal lending limit. If it is unable to do so then the bank would be authorized to renew the loan even though its capital has shrunk and the loan would constitute a violation of the legal lending limit. The revised statute now provides that a renewal or restructuring of a loan following the exercise by the bank of reasonable efforts, consistent with safe and sound banking practices, to bring the loan into conformance with the lending limits of the statute will not be considered a new extension of credit unless unless:
(A) New funds are advanced by the bank to the borrower, except as permitted under the statute;
(B) A new borrower replaces the original borrower; or
(C) The department determines that a renewal or restructuring was undertaken as a means to evade the bank’s lending limit.
On September 23, 2010, the Georgia Department of Banking and Finance (DBF) published proposed new and amended loan-to-one-borrower and mortgage industry rules to conform DBF rules to statutory changes adopted in the 2010 legislative session. The DBF invites comments on the rules through October 25, 2010.
The primary rule change affecting community banks is a clarification of the DBF’s interpretation of the exception from the state’s legal lending limit for the renewal and restructuring of maturing loans.
In addition, new definitions would clarify the reach of the DBF’s loan-stacking rule and the limitation applicable to loans to “corporate groups.” “Control,” “capital,” and “surplus” would track definitions in Regulation O, 12 C.F.R. § 215, and in the context of national banks. Under the loan-stacking or “common enterprise” concept, loans to separate borrowers are aggregated for purposes of the lending limit in part when there is a relationship between the parties that includes control and financial interdependence. Loans to corporate groups—corporations and their subsidiaries—are separately capped at 50% of capital and surplus, as defined.
On February 11, 2010, the Governor signed House Bill 926 (HB 926), an amendment to the Georgia legal lending limit statute, to permit banks to renew maturing loans without violating the legal lending limit statute. The Georgia legal lending statute is found at Ga. Code Ann.§ 7-1 -285. The statute is supplemented by the rules adopted by the Georgia Department of Banking and Finance, specifically Rule 80-1-5-.01(12). The amendment was proposed as a solution to a problem which many banks are currently facing due to a reduction in their capital base. At issue is the language in the Rule which states that a bank may not renew a loan which although proper when made would now no longer meet the legal lending limit requirement.
“(12) Where the “statutory capital base” as defined in Section 7-1-4(35) is reduced by operating losses, loan losses, or for other reasons, existing debt which was in conformity with the legal limitations at the time it originated shall not be construed to be non-conforming with new legal limitations resulting from the reduced statutory capital base; provided, however, in the absence of agreements to the contrary and originating at the time such debt originated regarding repayment programs for the debt in question, any extension, renewal, rollover or the like of the existing debt shall be determined to be a new loan and must conform to the new, lower lending limitations.” (emphasis added)
Due to a shrinkage in capital many banks are faced with loans which are maturing but that the regulations will not allow to be renewed. As a practical matter these loans are not subject to being repaid immediately due to lack of liquidity by borrowers nor are there any other financial institutions willing to take over the credits. Banks are forced to enter into forbearance type arrangements which does not result in the loan being renewed and must carry the loan on their books as past due.
As we’ve previously discussed, the Georgia Department of Banking and Finance had proposed to modify the way in which loans to related entities are treated, among other changes. No material changes to the proposed rules have been made, and the new final rules are effective on September 7, 2009. The new final rules are available from the DBF’s website or directly here.
The new rules, effectively consolidating many related party loans, may cause the consolidated relationships to become in technical violation of Georgia’s loans to one borrower rule upon renewal. However, the DBF, in recognition of the current economic environment, has allowed for a transitional phase for loans that were previously made and separately remain in compliance with the DBF’s prior rule on an unconsolidated basis. Those loans should be reworked to comply with the new regulations if feasible, but will otherwise be treated as grandfathered under the prior rules. So long as such loans are modified or renewed by the bank without any additional extension of credit, the loans will not be cited for a violation of the Georgia legal lending limit.
The DBF has NOT provided any relief from loan to one borrower issuers in the context of declining legal lending limits due to reduced capital. Under the Georgia regulations, where the bank’s statutory capital base is reduced for any reason, existing debt which was in conforming with the legal limitations at the time it originated are not construed to be non-conforming with new legal limitations resulting from the reduced statutory capital base. However, extensions, renewals and rollovers are generally considered to be a new loan, and must conform to the new, lower lending limitations.
In the current economic environment this places banks in an untenable situation because borrowers are unable to pay off the loans due to a lack of liquidity and no other financial institutions are willing to take over the credits. There are few options left for a bank in such a situation; e.g., enter into some sort of forbearance agreement with the borrower. The result of that, however, is that after 90 days the loan will need to be downgraded to substandard, regardless of whether the borrower is able to keep interest payments current. We have had extensive discussions with the Georgia DBF on this issue, focused on the OCC rules, which permit extensions or renewals in this situation. However, the Georgia DBF has stated that it will not modify its position at this time.