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“Living Wills” Rules Adopted for Large Bank Holding Companies and Banks and Nonbank Systemically Important Financial Institutions

Sept. 30, 2011

On September 13, 2011, the Board of Directors of the Federal Deposit Insurance Corporation (“FDIC”) adopted a rule (the “165(d) Rule”) to implement section 165(d)(1) of the Dodd-Frank Act, which mandates the development of resolution plans (“living wills”) by each nonbank financial company supervised by the Board of Governors of the Federal Reserve (the “FRB”), each bank holding company with assets of $50 billion or more, and any foreign bank or company that is or is treated as a bank holding company under Section 8(a) of the International Banking Act of 1978 and has $50 billion or more in total consolidated worldwide assets. (The 165(d) Rule is a joint rule with the FRB; the FRB has not yet adopted the 165(d) Rule but is expected to adopt it in the same form adopted by the FDIC.)

The FDIC also adopted a companion interim final rule (the “IDI Rule”) which requires the development of resolution plans by insured depository institutions (“IDIs”) with $50 billion or more in total assets. The IDI Rule was originally proposed in May 2010, prior to the adoption of the Dodd-Frank Act, but the FDIC deferred finalizing the rule in order to permit it to be harmonized with the 165(d) Rule.

General Overview

The 165(d) Rule requires each financial institution covered by the 165(d) Rule (a “Covered Company”) to submit a resolution plan providing for the “rapid and orderly resolution” of the Covered Company in the event of material financial distress or failure of the Covered Company. “Rapid and orderly resolution” is defined as a reorganization or liquidation of the Covered Company under the U.S. Bankruptcy Code that can be accomplished within a reasonable period of time in a manner that is intended to substantially mitigate the risk that the failure of the Covered Company would present to  the financial stability of the United States.

The IDI Rule requires IDIs covered by the rule (“CIDIs”) to submit resolution plans focused on planning the resolution of the CIDI. Such a resolution would be conducted not under the Bankruptcy Code, but under the Federal Deposit Insurance Act (the “FDI Act”) pursuant to which the FDIC acts as receiver for the CIDI. The resolution plans of CIDIs must enable the FDIC to resolve the institution in a manner that ensures that depositors receive access to their insured deposits within one business day following a CIDI’s failure (or two business days if the failure occurs on a day other than Friday), maximizes the net present value return from the sale or disposition of its assets, and minimizes the amount of any loss to be realized by the institution’s creditors. 

Despite their different stated goals, the 165(d) Rule and IDI Rule are intended to complement each other to ensure comprehensive and coordinated resolution planning for both a CIDI and its parent holding company and affiliates in the event that an orderly liquidation is required. Certain key elements of the rules are discussed below.

The FDIC noted that there are currently 37 CIDIs, all but three of which are subsidiaries of bank holding companies subject to the 165(d) Rule. Other financial institutions which do not have IDI subsidiaries may become subject to the 165(d) Rule only, following designation as a nonbank systemically important financial institution (nonbank “SIFI”) by the Financial Stability Oversight Council (“FSOC”).

Effective Dates

The effective date for the 165(d) Rule has not yet been established. The FDIC has proposed that the effective date be 30 days after the final rule is published in the Federal Register, which will occur after the 165(d) Rule is adopted by the FRB.

The IDI Rule will be effective on January 1, 2012. Comments on the IDI Rule, which is an interim final rule, must be submitted to the FDIC by November 21, 2011.

As explained below, initial resolution plans will be required to be submitted according to a staggered schedule.

Staggered Initial Submission Dates

The due dates for the initial submission of resolution plans under both the 165(d) Rule and the IDI Rule are staggered based on total nonbank assets. Covered Companies with the greatest amount of total nonbank assets (and their CIDI subsidiaries) are required to submit their plans first. The due dates are as follows:

  • July 1, 2012, for any Covered Company that has $250 billion or more in total nonbank assets (or, in the case of a foreign-based Covered Company, in total U.S. nonbank assets) including its CIDI subsidiaries.
  • July 1, 2013, for any Covered Company with $100 billion or more in total nonbank assets (or, in the case of a foreign-based Covered Company, in total U.S. nonbank assets).
  • December 31, 2013, for all other Covered Companies including their CIDI subsidiaries.

The meaning of “nonbank assets” is not defined in the rules, but we believe that the term is meant to exclude bank assets of IDIs and their subsidiaries.

The FDIC and the FRB have authority to require a Covered Company (or CIDI) to submit its resolution plan earlier or later than the date that would be required based on its total nonbank assets. (We also note that some of the largest bank holding companies were required by the regulators to submit versions of their living wills well prior to the proposal of the rules.)

A company that becomes a Covered Company after the effective date (through designation by the FSOC or through growth) must submit its resolution plan by the next July 1 following the date the company becomes a Covered Company, provided the date is at least 270 days after the date the company becomes a Covered Company. An IDI that becomes a CIDI after the effective date must submit its initial resolution plan no later than July 1 of the following calendar year.

Resolution Plan Updates

Each Covered Company and CIDI is required to submit an updated resolution plan on an annual basis, by the anniversary date of its initial submission, as long as the institution remains a Covered Company or CIDI. We note that some institutions have expressed concern that the submission deadlines of the updated plans (either by their respective July 1 or December 31 anniversary dates) will not be more staggered and have questioned the ability of the agencies to provide prompt feedback on all updated plans.

Under the IDI Rule, a bank holding company that has at least $50 billion in total consolidated assets at any point after the effective date remains a Covered Company unless its total consolidated assets falls to $45 billion or below, as determined based on the most recent annual or, as applicable, the average of the four most recent quarterly reports made to the FRB.

Under the proposed 165(d) Rule, submission of updated resolutions plans would have been required following any event, occurrence, change in conditions or circumstances, or other change that results in, or could reasonably be foreseen to have, a material effect on the resolution plan of the Covered Company.  However, this requirement was revised in the 165(d) Rule and the IDI Rule such that each Covered Company or CIDI is instead required to file a notice within 45 days after such an event. The Covered Company must then revise its next annual resolution plan to take account of the event that resulted in the material effect on the resolution plan. (An effect on a resolution plan is “material” if it has such significance as to render the resolution plan ineffective, in whole or in part, until revisions are made to the plan.)

Informational Requirements

The 165(d) Rule and the IDI Rule each set specific requirements for the information that must be included in the respective resolution plans. Although there is consistency in many of the requirements for resolution plans of Covered Companies and CIDIs under the 165(d) Rule and the IDI Rule, there are differences as well. 

  • Under the 165(d) Rule, a Covered Company’s resolution plan must include an executive summary of the Covered Company’s plan for rapid and orderly resolution in the event of material financial distress at or failure of the Covered Company; a strategic analysis, including key assumptions and supporting analysis underlying the resolution plan and specific actions to be taken under the plan; a description of the Covered Company’s corporate governance structures and processes for resolution planning; a description of the Covered Company’s organizational structure and related information, such as major counterparties, balance sheet and off-balance sheet exposures; analysis of the interconnections and interdependencies among the Covered Company and its material entities, critical operations and core business lines; information regarding the Covered Company’s management information systems; certain supervisory and regulatory information; and contact information.
  • Under the IDI Rule, a CIDI’s resolution must include an executive summary that summarizes the key elements of the CIDI’s strategic plan for resolution under the FDI Act in the event of its insolvency; a description of the CIDI’s and its parent company’s and affiliates’ legal and functional structures; information regarding key business lines, critical services and providers of critical services; a description of the CIDI’s interconnectedness with its parent company’s organization; and information regarding the CIDI’s major counterparties, balance sheet, off-balance sheet exposures, operations and management information systems. (In addition, as described in greater detail below, the CIDI’s resolution plan must describe strategies to separate the CIDI and its subsidiaries from its parent company’s organization and for the sale or disposition of the CIDI’s deposit franchise, core business lines and major assets.)

To avoid duplication, the IDI Rule specifically provides that a CIDI may incorporate into its resolution plan under the IDI Rule data and other information from its parent holding company’s resolution plan under the 165(d) Rule.

Tailored Resolution Plans

The FDIC noted in its commentary to the 165(d) Rule that the resolution plans of more complex Covered Companies will require information that may not be relevant for smaller, less complex Covered Companies. To the extent that an informational element is not applicable or a Covered Company does not engage in an activity relevant to an informational element, the Covered Company should indicate this in its resolution plan.

More specifically, smaller, less complex bank holding companies and foreign banking organizations will be permitted to submit tailored resolution plans which focus the content and analysis of the organization’s resolution plan on the nonbanking operations of the organization. As discussed below, the list of items required to be submitted will be largely similar to that supplied by other firms, but the focus of the resolution plan will be on the nonbanking operations and business lines subject to the Bankruptcy Code and, importantly, the interconnections between the nonbanking operations and the IDI operations of the Covered Company.

Covered Companies Which Operate Predominantly Through One or More IDIs

The FDIC recognized that for Covered Companies that operate predominantly through one or more IDIs, meeting the statutory requirement to develop and submit a plan for the orderly resolution of the company under the Bankruptcy Code would be challenging. Accordingly, the resolution plan requirements have been tailored for Covered Companies with less than $100 billion in total nonbank assets that predominantly operate through one or more IDIs to focus on the nonbank operations of the Covered Company. A Covered Company is eligible to submit a tailored resolution plan if at least 85% of its total consolidated assets (or, in the case of a foreign-based company, the assets of the U.S. depository institution operations, branches and agencies) are bank rather than nonbank assets.

Such Covered Companies (unless otherwise excluded or directed by the FDIC or the FRB to submit a standard resolution plan) may submit tailored resolution plans which identify and describe interconnections and interdependencies and provide contact information with respect to the entire organization. The resolution plan also must include the remaining resolution plan elements (i.e., strategic analysis, organizational structure, description of management information systems, etc.), but only with respect to the Covered Company’s nonbank operations.

The CIDI subsidiaries of such Covered Companies also would be required to submit resolution plans to the FDIC under the IDI Rule, which in effect would be the company’s primary resolution plan.

Application to Foreign Banks

As explained above, the 165(d) Rule applies to any foreign bank or company that is or is treated as a bank holding company under Section 8(a) of the International Banking Act of 1978 and has $50 billion or more in total consolidated worldwide assets. Despite comments requesting that the $50 billion threshold apply to only the U.S. assets of a foreign bank or company, the FDIC has taken the position that a plain reading of Section 165 of the Dodd-Frank Act leads to the reasonable interpretation that “total consolidated assets” for purposes of the $50 billion threshold encompasses the company’s worldwide consolidated assets.

The FDIC did recognize, however, that the resolution plan of a foreign-based company that has limited assets or operations in the United States could be limited in its scope and complexity. A foreign-based Covered Company is required to provide information regarding its U.S. operations, an explanation of how resolution planning is integrated into the Covered Company’s overall contingency planning process, and information regarding the interconnections and interdependencies among its U.S. operations and its foreign-based operations. The nature and extent of the home country’s related crisis management and resolution planning requirements for the foreign-based company also will be considered in the FDIC’s and FRB’s review process.

CIDI Resolution Plans Under the IDI Rule

The IDI Rule sets forth the elements that are expected to be included in a CIDI’s resolution plan. As explained above, while a Covered Company’s resolution plan under the 165(d) Rule will describe the plan to resolve each parent holding company under the Bankruptcy Code, the IDI Rule is focused on planning the resolution of a CIDI, a resolution that will be conducted under the “failed bank” receivership and liquidation provisions of the FDI Act. 

The IDI Rule is focused on ensuring that depositors receive access to their insured deposits rapidly, minimizing the costs to the Federal Deposit Insurance Fund and maximizing recovery for creditors in the resolution of CIDIs. As described above, a CIDI’s resolution plan should provide a strategy for the sale or disposition of the deposit franchise, including branches, core business lines and major assets of the CIDI in a manner that ensures that depositors receive access to their insured deposits within one business day following the IDI’s failure (two business days if the failure occurs on a day other than Friday), maximizes the net present value return from the sale or disposition of such assets, and minimizes the amount of any loss realized by creditors. The resolution plan should also describe the strategies for the separation of the CIDI and its subsidiaries from its parent company’s organization and for the sale or disposition of the deposit franchise, core business lines and major assets under a method that provides the least cost resolution to the Federal Deposit Insurance Fund.

The FDIC identified potential strategies for both the payment of depositors and the sale of core business lines and assets:

  • For payment of depositors, potential strategies are: (a) a cash payment of insured deposits; (b) a purchase and assumption transaction with an IDI to assume insured deposits; (c) a purchase and assumption transaction with an IDI to assume all deposits; (d) a purchase and assumption transaction with multiple IDIs in which branches are broken up and sold separately in order to maximize franchise value; or (e) transfer of insured deposits to a bridge institution chartered to assume the deposits, as an interim step prior to the purchase of the deposit franchise and assumption of the deposits by one or more IDIs.
  • For the sale of core business lines and assets, potential strategies are: (a) retention of some or all of the assets in receivership, to be marketed broadly to eligible purchasers, including IDIs as well as other interested purchasers; (b) sale of all or a portion of the core business lines and assets in a purchase and assumption agreement to one or more IDIs; or (c) transfer of all or a portion of the core business lines and assets to a bridge institution chartered to continue operating the core business lines and service the assets transferred to it, as an interim step prior to the sale of the core business lines and assets through appropriate marketing strategies.

In developing a resolution strategy, a CIDI may utilize one or more of the methods described above, but is not limited to these methods.

Treatment of Material Entities

A Covered Company’s resolution plan must provide its strategy in the event of a failure or discontinuation of a material entity, critical operation or core business line, and the actions that will be taken by the Covered Company to prevent or mitigate any adverse effects of such failure or discontinuation on the financial stability of the United States. When a material entity of a Covered Company is subject to the Bankruptcy Code, the Covered Company’s resolution plan should assume the failure of the material entity and provide both the Company’s and the material entity’s strategy in the event of such failure.

A Covered Company may limit its strategic analysis with respect to material entities that are subject to an insolvency regime other than the Bankruptcy Code to cover only material entities that either have $50 billion in total assets or conduct critical operations (as discussed below). Any such analysis should be in reference to the applicable insolvency regime (e.g., in the case of an IDI, resolution under the FDI Act).

In addition to providing a strategy to address the failure of any CIDI subsidiary, a Covered Company is required to assume that each of its IDIs, without regard to asset size, is not the cause of the failure and provide the Covered Company’s strategy for ensuring that its IDI subsidiaries will be adequately protected from risks arising from the activities of any nonbank subsidiaries of the Covered Company. This requirement is a specific statutory requirement, but it is applicable only with respect to IDI subsidiaries and not to other types of subsidiaries.

“Critical Operations” and “Critical Services”

Under the 165(d) Rule, a Covered Company’s resolution plan should address and provide for the continuation and funding of “critical operations.” The definition of “critical operations” in the final rule has been revised from the proposed definition. Under the revised definition, “critical operations” are those operations of the covered company, including associated services, functions and support, the failure or discontinuance of which, in the view of the covered company or as jointly directed by the FRB or the FDIC, would pose a threat to the financial stability of the United States. This definition is intended to more closely reflect the purpose of Section 165 of the Dodd-Frank Act, which is “to prevent or mitigate risks to the financial stability of the United States.” As an example of a “critical operation,” the FDIC pointed to an operation, such as a clearing, payment or settlement system, which plays a role in the financial markets for which other firms lack the expertise or capacity to provide a ready substitute.

A CIDI’s resolution plan under the IDI Rule should provide for the continuation and funding of “critical services.” The term “critical services” under the IDI Rule means services and operations of the CIDI, such as servicing, information technology support and operations, human resources, and personnel that are necessary to continue the day-to-day operation of the CIDI. This term differs substantially from the term “critical operations” as used in the 165(d) Rule because it focuses on the impact the loss of the service would have on the CIDI specifically, rather than on its more general impact on the financial stability of the United States.

Evolution of Plans and Review

The FDIC and the FRB expect the submission and review of the initial resolution plans to involve an ongoing dialogue. In developing their initial resolution plans, Covered Companies are instructed to focus on the key elements of a resolution plan, including identifying critical and core operations, developing a robust strategic analysis, and identifying and describing the interconnections and interdependencies among material entities. Covered Companies also are encouraged, to the extent practicable, to attempt to leverage and incorporate information already reported to the FDIC and the FRB or publicly disclosed through securities or other similar filings. The agencies expect the initial resolution plans submitted by Covered Companies and CIDIs to provide the foundation for developing more robust annual resolution plans over the next few years following the initial submission period. We note that some institutions are concerned about the compliance burden of submitting “more robust” plans over time.

Under the 165(d) Rule, when a Covered Company submits a resolution plan, the FDIC and the FRB will preliminarily review the plan for completeness within 60 days. If the resolution plan is deemed complete, the FDIC and the FRB will review the plan for compliance with the requirements of the 165(d) Rule. If the FDIC and the FRB jointly determine that the resolution plan of a Covered Company is not “credible” (as determined in the discretion of the FDIC and FRB) or would not facilitate an orderly resolution of the Covered Company under the Bankruptcy Code, the Covered Company will be notified and given 90 days (or such shorter or longer period as the FDIC and the FRB jointly determine) to submit a revised resolution plan. If the Covered Company fails to timely submit a revised resolution plan or submits an inadequate revised plan, the FDIC and the FRB may subject the Covered Company or any subsidiary of the Covered Company to more stringent capital, leverage or liquidity requirements, and/or restrictions on growth, activities or operations. A Covered Company that has failed over a period of two years to submit an adequately revised resolution plan may be directed to divest certain assets or operations.

The review process for CIDIs’ resolution plans under the IDI Rule is similar, with certain key differences. First, the IDI Rule defines the “credibility” standard by which a CIDI’s resolution plan will be reviewed. A resolution plan is “credible” if the strategies for resolving the IDI, and the detailed information required by the IDI Rule, are well-founded and based on information and data related to the CIDI that are observable or otherwise verifiable and further employ “reasonable projections” from current and historical conditions within the broader financial markets. A CIDI’s resolution plan will be reviewed by the FDIC in consultation with the IDI’s primary federal regulator, rather than jointly by the FDIC and the FRB. Finally, the IDI Rule does not explicitly identify the consequences for a CIDI that fails to cure deficiencies in its resolution plan, but presumably such a failure could subject the CIDI to a safety and soundness enforcement action.

Confidentiality

The issue of confidentiality for resolution plans has been a matter of significant concern to Covered Companies and CIDIs. The FDIC and FRB acknowledged that most commentators requested that resolution plans be treated as exempt from disclosure under the Freedom of Information Act (“FOIA”).

The 165(d) Rule and the IDI Rule partially respond to these concerns by requiring that resolution plans be divided into two sections: a public section and a confidential section. The public section of a resolution plan should consist of an executive summary of the resolution plan that describes the business of the Covered Company (or CIDI) and includes, to the extent material to an understanding of the Covered Company (or CIDI), (i) the names of material entities; (ii) a description of core business lines; (iii) consolidated financial information (or, in the case of a Covered Company, segment financial information) regarding assets, liabilities, capital and major funding sources; (iv) a description of derivative activities and hedging activities; (v) a list of memberships in material payment, clearing and settlement systems; (vi) a description of foreign operations; (vii) the identities of material supervisory authorities; (viii) the identity of principal officers; (ix) a description of the corporate governance structure and processes related to resolution planning; (x) a description of material management information systems; and (xi) a description, at a high level, of the Covered Company’s (or CIDI’s) resolution strategy covering such items as the range of potential purchasers of the Covered Company (or CIDI), its material entities, and core business lines.

The FDIC acknowledged that large portions of submissions will contain or consist of “trade secrets” and other sensitive commercial or financial information, which may be withheld from public disclosure under exemption 4 of the FOIA, as well as information that is “contained in or related to an examination, operating, or condition reports prepared by, on behalf of, or for the use of an agency responsible for the regulation and supervision of financial institutions” which may be withheld from public disclosure under exemption 8 under the FOIA. A Covered Company (or CIDI) may submit a confidential section of its resolution plan, which should be supported by a properly substantiated request for confidential treatment of any details in the confidential section that the Covered Company (or CIDI) believes are subject to withholding under the FOIA. Despite the request for FOIA protection, confidential information nonetheless may be subject to disclosure through decision by the agencies or by court order.

Credit Exposure Report Requirement Not Yet Adopted

The proposed rule would have included certain reporting requirements regarding a Covered Company’s credit exposures to other significant bank holding companies and financial companies. The credit exposure reporting requirement will not be finalized at this time.

For additional information concerning this alert, please contact the following lawyers:

Edwin E. Smith, Financial Restructuring Group
edwin.smith@bingham.com, 212.705.7044

Jeffrey S. Sabin, Financial Restructuring Group
jeffrey.sabin@bingham.com, 212.705.7747

Neal J. Curtin, Financial Institutions Corporate and Regulatory Group
neal.curtin@bingham.com, 617.951.8437

James M. Rockett, Financial Institutions Corporate and Regulatory Group
james.rockett@bingham.com, 415.393.2025

Andrew B. Kales, Financial Institutions Corporate and Regulatory Group
andrew.kales@bingham.com, 202.373.6788

Roger P. Joseph, Investment Management Group
roger.joseph@bingham.com, 617-951-8247

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