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2007 Annual Report Highlights
2007 Annual Report Highlights
I. Management's Discussion and Analysis
Supervision and Consumer Protection
Supervision and consumer protection are cornerstones of the FDIC’s efforts to ensure the stability of and public confidence in the nation’s financial system. The FDIC’s supervision program promotes the safety and soundness of FDIC-supervised insured depository institutions, protects consumers’ rights, and promotes community investment initiatives.
The FDIC’s strong bank examination program is the core of its supervisory program. At year-end 2007, the Corporation was the primary federal regulator for 5,257 FDIC-insured state-chartered institutions that are not members of the Federal Reserve System (generally referred to as "state nonmember" institutions). Through safety and soundness, consumer compliance and Community Reinvestment Act (CRA), and other specialty examinations, the FDIC assesses their operating condition, management practices and policies, and their compliance with applicable laws and regulations. The FDIC also educates bankers and consumers on matters of interest and addresses consumers' questions and concerns.
In 2007, the Corporation conducted 2,258 statutorily-required safety and soundness examinations, including a review of Bank Secrecy Act compliance, and all required follow-up examinations for FDIC-supervised problem institutions within prescribed time frames. The FDIC also conducted 1,773 CRA/Compliance examinations (1,241 joint CRA/compliance examinations, 528 compliance-only examinations,1 and four CRA-only examinations) and 2,941 specialty examinations. All CRA/compliance examinations were also conducted within the time frames established by FDIC policy, including required follow-up examinations of problem institutions. The accompanying table compares the number of examinations, by type, conducted in 2005, 2006 and 2007.
As of December 31, 2007, there were 77 insured institutions with total assets of $22.2 billion designated as problem institutions for safety and soundness purposes (defined as those institutions having a composite CAMELS2 rating of “4” or “5”), compared to the 51 problem institutions with total assets of $8.5 billion on December 31, 2006. This constituted a 51 percent year-over-year increase in the number of problem institutions and a 161 percent increase in problem institution assets. During 2007, 38 institutions with aggregate assets of $6.4 billion were removed from the list of problem financial institutions, while 64 institutions with aggregate assets of $26.5 billion were added to the list of problem financial institutions. The FDIC is the primary federal regulator for 47 of the 77 problem institutions.
During 2007, the Corporation issued the following formal and informal corrective actions to address safety and soundness concerns: 48 Cease and Desist Orders, three Temporary Cease and Desist Orders, one modified Cease and Desist Order, and 158 Memoranda of Understanding. Of these actions issued, 25 Cease and Desist Orders and 31 Memoranda of Understanding were issued based, in part, on apparent violations of the Bank Secrecy Act.
As of December 31, 2007, 43 FDIC-supervised institutions were assigned a “4” rating for safety and soundness and four institutions were assigned a “5” rating. Forty-two of the “4”-rated institutions were examined in 2007, and formal or informal enforcement actions have been finalized to address the FDIC’s examination findings. All “5”-rated institutions were examined in 2007.
As of December 31, 2007, eight FDIC-supervised institutions were assigned a “4” rating for compliance; no institutions were assigned a “5” rating. In total, three of the “4”-rated institutions were examined in 2007; three were examined prior to 2007 but are currently in various stages of appealing the ratings, and the remaining two were examined in 2006. With regard to the two for which examinations were last conducted in 2006, an informal enforcement action for one was issued in September 2007; therefore, an examination is not due until 2008. The other institution is operating under a Cease and Desist Order and the examination remains open.
The Corporation has issued enforcement actions to address the examination findings for all five of the institutions that were not in the process of an appeal. These actions include one Cease and Desist Order as noted above and four Memoranda of Understanding.
Joint Examination Teams
The FDIC used joint compliance/risk management examination teams (JETs) to assess risks associated with new, nontraditional and/or high-risk products being offered by FDIC-supervised institutions. The JET approach recognizes that to fully understand the potential risks inherent in certain products and services, the expertise of both compliance and risk management examiners is required. The JET approach has three primary objectives:
Subprime Hybrid Adjustable Rate Mortgages
In 2007, the FDIC continued to closely monitor the expansion of subprime hybrid adjustable rate mortgages (ARMs), typically offered to subprime borrowers. Hybrid ARMs start with a low fixed interest rate for an initial period, which often lasts for two to three years, and then resets to a variable rate. Mortgage lenders typically qualified borrowers based on the low introductory payment amount rather than at the fully indexed interest rate, assuming a fully amortizing repayment schedule. Such underwriting standards and loan terms can cause payment shock, the consequences of which may not have been fully explained to borrowers. In addition, many lenders combined these loans with other potentially risky features, such as requiring little or no documentation of income, high loan-to-value ratios, and simultaneous second-lien mortgages, which could compound the risk to both borrowers and lenders.
To address these concerns, the FDIC joined the other federal financial institution regulatory agencies in issuing the Statement on Subprime Mortgage Lending (Subprime Guidance) on July 10, 2007. The guidance covers three primary areas: risk management practices, consumer protection principles, and control systems. The risk management section focuses on avoiding predatory lending, following prudent underwriting standards for qualifying borrowers, and encouraging institutions to work constructively with residential borrowers who are in default or whose default is reasonably foreseeable.
Working through Mortgage Resets
The FDIC became increasingly concerned about borrowers’ ability to service the higher debt load resulting from payment shock when their hybrid ARMs payments reset. Many borrowers, especially those who were qualified at a low introductory payment amount rather than the fully indexed interest rate and on a fully amortizing repayment schedule, may not have sufficient financial capacity to make the higher contractual payments owed on their home loans.
To address this concern, the FDIC led the agencies in issuing the Statement on Working with Mortgage Borrowers in April 2007. This guidance primarily addresses those instances when a financial institution has retained a residential mortgage loan on its books. The agencies issued the Statement on Loss Mitigation Strategies for Servicers of Residential Mortgages in September 2007 to provide guidance to entities that service residential mortgage loans for others. In addition, the FDIC joined the Conference of State Bank Supervisors and the American Association of Residential Mortgage Regulators in issuing the Supplemental Information for Loss Mitigation Strategies. This guidance encourages servicers to consider the borrower’s ability to repay modified obligations, taking into account the borrower’s total monthly housing-related payments as a percentage of the borrower’s gross monthly income.
The FDIC is encouraging servicers to adopt a streamlined approach to making the decision to grant loan modifications where necessary. Where the homeowner generally has been current at the starter rate, but cannot refinance in today’s market or make the higher payments after the interest rate resets, then the loan should be modified to keep it at the starter rate for a long-term sustainable period. Such modification arrangements would also benefit lenders and investors who would not only have a higher level of performing loans, but would also avoid administrative expenses associated with servicing delinquent debts or foreclosing on the property. In addition, financial institutions may receive favorable CRA consideration for programs that transition low-to moderate-income borrowers from higher cost credit to lower cost credit, provided that the loan modifications are made in a prudent manner.
Protection of Federal Benefit Payments
The FDIC, along with the other federal financial institution regulators, proposed guidance that encourages federally regulated financial institutions to follow best practices to protect federal benefit payments from garnishment orders. Federal law protects federal benefit payments – such as Social Security benefits and Veterans’ benefits – from garnishment orders and the claims of judgment creditors, subject to certain exceptions. Creditors and debt collectors are often able to obtain orders from state courts garnishing funds in a consumer’s account that do not meet the requirements of exempt funds. To comply with state court garnishment orders, financial institutions often place a temporary freeze or hold on an account upon receipt of a garnishment order, which can cause significant hardship for the account holder. The agencies developed proposed guidance, which includes best practices, to encourage financial institutions to minimize the hardships encountered by federal benefit funds recipients and to do so while remaining in compliance with applicable laws. The comment period closed in November 2007 and the agencies have reviewed the comments and will determine the best course of action during 2008.
Large Complex Financial Institution Program
In 2007, the FDIC led a comprehensive initiative to standardize data capture and reporting through the Large Insured Depository Institution (LIDI) Program. Under this Program, supervisory staff throughout the nation performs comprehensive quantitative and qualitative risk analysis on institutions with assets over $10 billion, or under this threshold at regional discretion. This information is used by various business lines to perform critical functions related to insurance, resolutions and supervision.
In 2007, the FDIC supported the insurance function in analyzing and setting appropriate insurance premiums for large insured financial institutions. The Corporation also led and supported various initiatives designed to better understand potential resolution challenges posed by complex insured financial institutions.
The FDIC continued to assess internal and industry preparedness relative to Basel II capital rules and was actively involved in domestic and international discussions intended to ensure effective implementation of the New Capital Accord. This included participation in numerous supervisory working group meetings with foreign regulatory authorities to address Basel II home-host issues.
Bank Secrecy Act/Anti-Money Laundering
The FDIC pursued a number of Bank Secrecy Act (BSA), Counter-Financing of Terrorism (CFT) and Anti-Money Laundering (AML) initiatives in 2007.
Promoting Economic Inclusion
The FDIC pursued a number of initiatives in 2007 to promote inclusion of traditionally underserved populations in banking services and to ensure protection of consumers in the provision of these services.
Minority Depository Institutions
The FDIC’s Minority Bankers’ Roundtable series is a forum designed to, among other things, explore possible partnerships between the MDI community and the FDIC, as well as to seek input on how the FDIC can better promote the availability of technical assistance to the MDI segment of the industry. From the 2006 Roundtable sessions evolved ideas for two partnerships that were piloted during 2007. The first initiative, a “University Partnerships” pilot, is designed to do the following:
In July 2007, the FDIC hosted the second annual National Minority Depository Institution Conference in Miami, Florida. This event was coordinated on an interagency basis and drew approximately 170 attendees. In addition to presentations by senior officials from all of the federal banking regulatory authorities, the program covered these topics: Broadening Access to the Financial Mainstream, Opportunities for NeighborWorks® America and Minority Community Bankers, and Capital Enhancement and Investment Opportunities, including a presentation on the Community Development Financial Institution Fund. The program also included workshops on Information Technology, BSA Emerging Issues, Compliance and CRA Hot Topics, and the Revised Interagency Policy Statement on the Allowance for Loan and Lease Losses. Feedback from the attendees was overwhelmingly positive. A third annual interagency conference is planned for 2008.
Information Technology, Cyber Fraud and Financial Crimes
The FDIC and other FFIEC regulatory agencies jointly issued guidance requiring financial institutions to strengthen account access credentials in an effort to curb online fraud and protect both consumer and commercial Internet banking customers. The guidance required the implementation of stronger authentication for most institutions on or before January 1, 2007. FDIC examiners tracked and reported on compliance with the guidance during various examination activities in 2007. Details collected suggest that an overwhelming majority (94 percent) of the institutions have complied with the provisions of the guidance. Most of the remaining institutions have plans to comply. Industry feedback suggests that stronger authentication has reduced online Internet banking-related fraud through more secure access credential management practices.
Other major accomplishments during 2007 in combating identity theft included the following:
Consumer Complaints and Inquiries
The FDIC investigates consumer complaints about FDIC-supervised institutions and answers inquiries from the public about consumer protection laws and banking practices. In 2007, the FDIC received 11,624 written complaints, of which 4,457 were against state nonmember institutions. The Corporation responded to over 93 percent of these complaints within timeliness standards established by corporate policy. The FDIC also responded to 3,656 written and 3,321 telephone inquiries from consumers regarding state nonmember institutions. Overall in 2007, the FDIC handled 5,856 consumer telephone calls from the public and members of the banking community about consumer protection issues not including deposit insurance inquiries.
Deposit Insurance Education
The FDIC has an extensive deposit insurance education program consisting of seminars for bankers, electronic tools for estimating deposit insurance coverage, and written and electronic information targeted for both bankers and consumers. The FDIC also responds to thousands of telephone and written inquiries each year from consumers and bankers regarding FDIC deposit insurance coverage. The FDIC completed a multi-pronged effort in 2007 to update numerous publications and educational tools for consumers and bankers on FDIC insurance coverage, including consumer brochures, banker resource guides, videos and the Electronic Deposit Insurance Estimator.
The FDIC hosted two identical series of telephone seminars for bankers on the FDIC’s rules for deposit insurance coverage. Each series consisted of topics on Basic Concepts of Deposit Insurance Coverage, Coverage for Retirement and Employee Benefit Plan Accounts, Trust Account Coverage, and Coverage for Business and Government Accounts. These free seminars were open to employees of all FDIC-insured banks and savings associations. The telephone conferences were attended by bankers in approximately 11,000 locations. Many of these locations represent bank branch offices where multiple employees took part in the training.
The FDIC coordinated with bank trade associations to conduct seven comprehensive seminars for financial institution employees on the rules for deposit insurance coverage. These seminars, which were conducted in classroom settings throughout the United States, provided a comprehensive review of how FDIC insurance works, including the 2006 changes to the FDIC’s final rules for insurance coverage.
The FDIC also completed a comprehensive and authoritative resource guide for bankers, attorneys, financial advisors and similar professionals on the FDIC’s rules and requirements for deposit insurance coverage of revocable and irrevocable trust accounts. The new trust guidebook will be published on the FDIC’s Web site in the first quarter of 2008.
In 2007, the FDIC received over 119,000 telephone and written inquiries from consumers and bankers regarding federal insurance coverage of bank deposits. Of these inquiries, 4,125 required formal written responses, 98 percent of which were completed within timeliness standards established by corporate policy.
Financial Education and Community Development
In 2001, the FDIC – recognizing the need for enhanced financial education across the country – inaugurated its award-winning Money Smart curriculum, which is now available in six languages, large print and Braille versions for individuals with visual impairments and a computer-based instruction version. Since its inception, over 1.4 million individuals (including approximately 200,000 in 2007) have participated in Money Smart classes and self-paced computer-based instruction. Approximately 163,000 of these participants have subsequently established new banking relationships. During 2007, the FDIC updated and enhanced the Money Smart curriculum and training tools. These changes included guidance on consumer-related concerns such as identity theft, remittances and how to assess mortgage product options.
In recognition that public schools are one of the best venues for reaching the next generation of consumers of all income levels, the FDIC embarked on a pilot project to expand its outreach and enhance the availability of the Money Smart financial curriculum in high schools. Over 339 schools, school systems and related entities have been contacted regarding the availability of Money Smart. Several hundred secondary school teachers and volunteers have been trained to deliver Money Smart. The FDIC also began work on developing a Money Smart curriculum for young adults.
The FDIC completed a major multi-year study in 2007 to evaluate the effectiveness of the Money Smart curriculum. The study, A Longitudinal Evaluation of the Intermediate-term Impact of the Money Smart Financial Education Curriculum upon Consumers' Behavior and Confidence, shows that the training can positively influence how people manage their finances. The survey examines the impact of financial education on the behavior of a broad audience up to one year after completing the training. The goal was to measure, over time, not only whether trainees’ knowledge of financial matters improved, and whether they intended to change their financial behaviors, but also whether, months after the training, they had actually acted on their intentions. Survey results indicate that those who took the Money Smart course were more likely to open deposit accounts, save money, use and adhere to a budget, and have increased confidence in their financial abilities when contacted 6 to 12 months after completing the course. A majority of those surveyed reported an increase in personal savings, a decrease in debt, a better understanding of financial principles, and an increased willingness to comparison shop for financial services.
During 2007, the FDIC focused its international programs and activities toward the goal of helping to build strong and effective systems for protecting depositors, supervising financial institutions and resolving failures. Efforts included arranging and conducting training sessions, technical assistance missions and foreign visits, leadership roles in international organizations, bilateral consultations with foreign regulators, and many other activities and consulting services.
The FDIC’s strengthened international leadership role paved the way for the election of the FDIC’s Vice Chairman to the position of President of the International Association of Deposit Insurers (IADI) and Chair of the IADI Executive Council. In addition, the Vice Chairman, as Chair of the IADI Training and Conference Standing Committee, developed and led the first-ever Executive Training Program, providing training to 35 IADI members from 27 countries. The FDIC was elected for the first time to serve on the Board of Directors for the Association of Supervisors of Banks in the Americas (ASBA) and to represent the North American Region. The FDIC’s leadership within ASBA included providing technical training to ASBA members on operational risk management and leading two working groups in developing ASBA guidance on key supervisory issues. The FDIC also established strong working relationships and presented at several European Forum of Deposit Insurers (EFDI) meetings, including the EFDI/IADI Joint Symposium on Cross Border Issues.
The FDIC continued to enhance the effectiveness and broaden the scope and impact of its three primary international programs – technical assistance, foreign visitors and training. The FDIC provided technical assistance to 12 central banks, bank supervisors and deposit insurers from 11 countries. A highlight of this assistance was an expanded partnership with the Financial Services Volunteer Corp (FSVC) in supporting the Central Bank of Egypt in developing an examiner commissioning program. The FDIC also provided critical technical assistance to Albania on resolution practices and the legal framework for establishing the backup financial support from the government to strengthen the deposit insurance safety net. In addition, the FDIC hosted 66 foreign country visits, including 417 foreign visitors from 28 countries. Noteworthy among these visits was the second U.S.-China Seminar on Bank Supervision, delegations representing parliament officials from South Africa, United Kingdom, Sweden and Italy, and an extended visit by board members and staff of the Nigerian Deposit Insurance Corporation. Lastly, 168 foreign students from 17 countries received training in examinations, financial institution analysis, loan analysis, examination management, information technology examination, and anti-money laundering and counter-terrorism financing.
The FDIC expanded relationships with key international banking and deposit insurance organizations by expanding the secondment program (detailing staff from one country to another), technical assistance agreements and initiating new supervisory information sharing agreements. Secondment Memoranda of Understanding (MOU) were entered into with Japan, Albania, Poland, Nicaragua, and Korea to allow for selected employees from these countries to come to the FDIC to receive training and gain expertise in areas of supervision, resolution management and deposit insurance. Technical assistance agreements were executed with the People’s Bank of China and the U.K. Financial Services Authority, providing FDIC subject matter expertise in promoting deposit insurance best practices.
1 Compliance-only examinations are conducted for most institutions at or near the mid-point between joint compliance-CRA examinations under the Community Reinvestment Act of 1977, as amended by the Gramm-Leach-Bliley Act of 1999. CRA examinations of financial institutions with aggregate assets of $250 million or less are subject to a CRA examination no more than once every five years if they receive a CRA rating of “Outstanding” and no more than once every four years if they receive a CRA rating of “Satisfactory” on their most recent examination.
2 The CAMELS composite rating represents the adequacy of Capital, the quality of Assets, the capability of Management, the quality and level of Earnings, the adequacy of Liquidity, and the Sensitivity to market risk, and ranges from "1" (strongest) to "5" (weakest).
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