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FDIC Federal Register Citations

[Federal Register: December 1, 1998 (Volume 63, Number 230)]

[Notices]

[Page 66177-66185]

From the Federal Register Online via GPO Access [wais.access.gpo.gov]

[DOCID:fr01de98-98]

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FEDERAL DEPOSIT INSURANCE CORPORATION

Statement of Policy Pursuant to Section 19 of the Federal Deposit

Insurance Act Concerning Participation in the Conduct of the Affairs of

an Insured Institution by Persons Who Have Been Convicted of Crimes

Involving Dishonesty, Breach of Trust or Money Laundering or Who Have

Entered Pretrial Diversion Programs For Such Offenses

AGENCY: Federal Deposit Insurance Corporation (FDIC).

ACTION: Final policy statement.

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SUMMARY: The FDIC is updating its statement of policy (SOP), which is

issued pursuant to section 19 of the Federal Deposit Insurance Act (12

U.S.C. 1829). Section 19 prohibits, without the prior written consent

of the FDIC, any person from participating in banking who has been

convicted of a crime of dishonesty or breach of trust or money

laundering, or who has entered a pretrial diversion in connection with

such an offense. Section 19 was significantly expanded by the Financial

Institutions Reform, Recovery and Enforcement Act of 1989 (FIRREA),

Pub. L. No. 101-73, 103 Stat.183 (1989) and the Comprehensive Thrift

and Bank Fraud Prosecution and Taxpayer Recovery Act of 1990 (Crime

Control Act), Pub. L. No. 101-647, 104 Stat. 4789 (1990). As a result,

the two existing policy statements for section 19 are outdated, and the

new SOP is intended to replace them and to supersede prior guidelines.

While the SOP maintains the FDIC's current requirement that an

application seeking the FDIC's consent must be filed by an insured

depository institution (insured institution), it provides blanket

approval for certain de minimis crimes, and allows for a waiver of the

institution filing requirement where an individual can demonstrate

substantial good cause for such a waiver. Other significant provisions

include the exclusion from section 19's coverage of a conviction that

has been completely expunged, pretrial diversion and similar programs

entered before November 29, 1990, and youthful offender adjudgments.

The SOP clarifies that the scope of section 19's coverage applies to

employees of an insured institution, and also to other persons who are

in a position to influence or control the management or affairs of an

insured institution.

EFFECTIVE DATE: December 1, 1998.

FOR FURTHER INFORMATION CONTACT: James M. Orlowsky, Review Examiner,

Division of Supervision (202) 898-6763

[[Page 66178]]

or Andrea Winkler, Counsel, Legal Division (202) 898-3727, Federal

Deposit Insurance Corporation, 550 17th Street, N.W., Washington, D.C.

20429.

SUPPLEMENTARY INFORMATION:

I. Background

As amended by FIRREA and the Crime Control Act, section 19

prohibits, without the prior written consent of the FDIC, a person

convicted of any criminal offense involving dishonesty or breach of

trust or money laundering (covered offenses), or who has entered into a

pretrial diversion or similar program in connection with a prosecution

for such offense, from becoming or continuing as an institution-

affiliated party, owning or controlling, directly or indirectly an

insured institution, or otherwise participating, directly or

indirectly, in the conduct of the affairs of an insured institution. In

addition, the law forbids an insured institution from permitting such a

person to engage in any conduct or to continue any relationship

prohibited by section 19. It imposes a ten-year ban against the FDIC's

consent for a person convicted of certain crimes enumerated in Title 18

of the United States Code, absent a motion by the FDIC and approval by

the sentencing court.

A proposed SOP was published in the Federal Register on July 24,

1997 (62 FR 39840 (1997)). The FDIC invited comments on all aspects of

the proposal, as well as on a number of specific aspects of the SOP.

Comments were due by September 22, 1997. The FDIC received a total of

19 comment letters: 12 from banks, savings associations or bank holding

companies; two from law firms; one from a state banking department; and

four from trade associations. Based upon the comments, as discussed

below, the final SOP is a significant revision of the proposal.

II. Final Statement of Policy

A. Scope of Section 19

(1) Participation

Section 19 covers institution-affiliated parties, as defined by 12

U.S.C. 1813(u), and others who are participants in the conduct of the

affairs of an insured depository institution. Therefore, all employees

of an insured institution fall within the scope of section 19. The

proposed SOP indicated that, additionally, persons employed by an

institution's holding company or an affiliate, subsidiary or joint

venture of an insured institution or of its holding company may be

within the scope of section 19 where such person is engaged in

performing banking or banking-related activities on a regular and

material basis. For independent contractors, the proposal indicated

that participation by an independent contractor or an employee of an

independent contractor would occur where either is performing banking

or banking-related activities on behalf of, or for the benefit of, an

insured institution on a regular and material basis so as to be

involved in the ordinary course of operations or to be exercising

control over such operations. The proposal did not define what

constitutes such activities. The SOP stated that ``person,'' for

purposes of section 19, means a natural person, and does not include a

corporation, firm, or other business entity.

The FDIC received fourteen comments relevant to what constitutes

``participation'' and what classes of individuals should be considered

``participants.'' Ten of the comments were received from banks, savings

associations or bank holding companies; one from a law firm; one from a

state banking department; and two from trade associations. In general,

the commenters expressed the view that the FDIC's definition of

participation was overly broad and ambiguous, particularly with regard

to affiliates and independent contractors, and did not adequately

consider the risk of particular positions to the safety and soundness

of an insured institution or its depositors. For example, one commenter

indicated that under the proposal, section 19 could cover a computer

technician employed by the institution's holding company who

periodically performs routine maintenance at the institution's

facilities, despite the low level of risk associated with the position.

Concern was expressed that the proposal might have a crippling effect

on independent contractors who employ large numbers of employees.

Commenters felt that although independent contractors engage in

activities that are related to banking, many do not exercise any

decision-making authority with regard to the activities of the insured

institution, and thus should not be subject to section 19. For example,

if having access to sensitive bank data is a banking-related activity,

then providers of automated teller machines and securities systems

firms might arguably be included within the scope of section 19.

Commenters requested that the FDIC specifically define the positions or

types of independent contractors and activities that are covered by

section 19.

After considering the comments, the FDIC believes that it is not

the purpose of the SOP to define precisely what activities constitute

``participation.'' Rather, agency and court decisions should provide

the guide as to what standards should be applied. As a general

proposition, participation will be determined by the degree of

influence or control over the management or affairs of an insured

institution. Furthermore, given the changes in banking, including

financial modernization and the rapid pace of technology, a listing of

activities in the SOP is neither practical nor advisable. The FDIC must

maintain flexibility in such determinations, and in reaching such

determinations, the FDIC will consider the facts and circumstances and

the degree of involvement of the individual in the institution's

affairs. Under this standard, persons who function as ``de facto''

employees regardless of their relationship to the institution, will be

covered by section 19. Likewise, the SOP need not specifically define

what activities constitute direct as distinguished from indirect

participation. The relevant inquiry is whether the individual

personally participates in an institution's affairs, or whether the

individual does so through another person or entity, i.e.,

``indirectly.''

The final SOP adopts the standard that whether persons, other than

institution-affiliated parties of an insured institution, are

participants covered by section 19 depends upon their degree of

influence or control over the management or affairs of an insured

institution. It retains the definition of ``person'' set forth in the

proposed SOP as not including corporations, firms or other business

entities. Thus, section 19 would not apply to persons who are simply

employees of a bank holding company, but would apply if those persons

were in a position to influence or control the management or affairs of

the insured institution. To the extent that the holding company's

officers and directors have the power to define and direct the policies

of the subsidiary insured institution, such persons would be deemed to

be participants in the affairs of those subsidiaries, and therefore

covered by section 19.

Similarly, directors and officers of affiliates, subsidiaries or

joint ventures of an insured institution or its holding company will be

covered if they are in a position to influence or control the

management or affairs of the insured institution. In those cases in

which such individuals exercise policymaking functions for the insured

institution, they should be deemed ``participants.'' For example,

officers of an electronic data processing (EDP) affiliate would not

typically exercise a controlling

[[Page 66179]]

influence to the extent that the affiliate simply provides a processing

service to the bank. On the other hand, if a mortgage banking affiliate

sends loans to an insured institution that the institution is obligated

to purchase, then the officers of the affiliate may be participants in

the insured institution's affairs. Where an employee of an EDP service

has access to sensitive bank records and the ability to manipulate data

so as to influence or control the management or affairs of an insured

institution, that person will be covered by section 19. The degree of

such influence may be controlled by reliance upon the safeguards and

internal controls put in place by the affiliate and the bank.

Insured depository institutions continue to out source increasing

numbers of banking tasks. To the extent that independent contractors

are utilized, an analysis similar to that for affiliates may be

applied. Typically an independent contractor does not have a

relationship with the insured institution other than the activity

contracted for by the depository institution. Independent contractors

are not considered institution-affiliated parties unless they knowingly

or recklessly participate in violations, unsafe or unsound practices or

breaches of fiduciary duty which result in the consequences set forth

in 12 U.S.C. 1813(u). Those who do so, and who have been convicted of

or entered pretrial diversion programs for covered offenses would, of

course, be covered by section 19. In terms of participation, however,

the typical independent contractor does not influence or control the

bank's management or affairs. This would also be true of consultants

who perform a specific defined task for the insured institution.

Additionally, it has been determined that ``person'' within the context

of section 19 means individuals, but not companies. This approach may

eliminate coverage for many independent contractors. It would

eliminate, for example, marketers of special promotions and similar

independent contractors whose activity is not commonly thought to pose

a risk to the operation of a financial institution. To the extent that

any officer of such a company or any individual contractor attempts to

use their position to influence or control the management or affairs of

a financial institution, they would be covered as participants.

The FDIC is aware that an effort can be made to evade the coverage

of section 19 by ``converting'' an employee to an independent

contractor. In those cases, generally applicable standards of

employment law will be used to identify such arrangements, and to find

that the person is a ``de facto'' employee. This same analysis will be

used where an individual is employed by the holding company simply to

avoid section 19 coverage.

The FDIC believes that the approach adopted in the final SOP

preserves the distinction between employees and independent contractors

for contractual, regulatory and tax purposes, and avoids the criticism

that the FDIC is imposing an excessive regulatory burden upon

institutions without commensurate benefit. Furthermore, the FDIC

expects that the relationship between an independent contractor and an

insured institution is to be governed by a written contract, through

which the insured institution may require typical safeguards such as

warranties and bond coverage.

(2) ``Ownership'' and ``Control''

Section 19 specifically prohibits a person subject to its coverage

from owning or controlling an insured institution. The proposed SOP did

not specifically define ``own'' or ``control,'' although the

accompanying Preamble indicated that the FDIC was using the definition

of ``control'' set forth in Regulation Y (12 CFR Part 225) which the

Board of Governors of the Federal Reserve System (Federal Reserve

Board) uses to implement the Change in Bank Control Act (CBCA) (12

U.S.C. 1817(j)). The proposal stated that a controlling shareholder or

a member of a control group subject to section 19 could not, without

the prior written consent of the FDIC engage in the following conduct:

(i) exercise any voting rights in any shares of stock of an insured

institution or its holding company; (ii) own or control such shares of

stock so as to result in controlling the management or policies of an

insured institution; (iii) control such shares of stock so as to result

in controlling the management or policies of an insured institution;

(iv) solicit, procure, transfer, or attempt to transfer, vote, or

attempt to vote any proxy, consent or authorization with respect to any

voting rights in any insured institution; or (v) modify or set aside

any voting agreement previously approved by the appropriate federal

banking agency.

The FDIC received six comments regarding the issue of ownership and

control-three from depository institutions; one from a state banking

department; and two from trade associations. Most commenters supported

the conclusion that ``control'' should have the same meaning as set

forth in the CBCA. Generally, the commenters indicated that absent an

influence on the operations of an insured operation, mere ownership

should not impose a section 19 obligation, nor should the ownership of

a de minimis interest in the outstanding shares of an institution.

As a general rule, since the 1990 Crime Control Act amendments, the

FDIC has followed the interpretation found in the CBCA regarding

``control.'' ``Control'' under the CBCA occurs where the person has the

power to direct the management or policies of an institution (12 U.S.C.

1817(j)(8)(B)). The statute and the FDIC's implementing regulation (12

CFR Part 303) deem the power to vote 25 percent or more of a class of

voting securities to constitute such control. In addition, the FDIC's

regulation creates a presumption of control, i.e., that the person can

direct management or policies of the institution, where the person

owns, controls, or has the power to vote ten percent or more of the

institution's voting securities if that person is the largest

shareholder.

The FDIC agrees with the commenters that ``own'' must mean more

than simply owning a few shares. In order to give meaning to the

ownership prohibition contained in section 19, the FDIC will apply the

25 percent limitation regarding the power to vote shares to include an

ownership limitation of 25 percent. The FDIC will also apply the ten

percent limitation to ownership of voting shares where that person is

the largest shareholder. Consequently, a person would be prohibited

from owning or having the power to vote 25 percent or more of an

institution's voting shares, or ten percent of those shares where that

person is the largest shareholder. These standards would also apply to

an individual acting in concert with others so as to have such

ownership or control. The FDIC believes that this approach will avoid

the absurd result of requiring a convicted person who owns one share or

ten shares of stock in a large publicly traded insured depository

institution from having to divest his or her ownership interest.

Absent the FDIC's consent, persons subject to the prohibitions of

section 19 will be required to divest their ownership of shares above

the foregoing limits. Section 19 does not contain specific statutory

prohibitions regarding specific activities relating to the voting of

stock. Therefore, the FDIC has decided not to incorporate into the

final SOP any prohibitions on specific voting activities other than the

aforementioned limitations regarding ownership, control, and

participation.

It should be noted that while the Preamble accompanying the

proposed

[[Page 66180]]

SOP referred to the Federal Reserve Board's Regulation Y (12 CFR Part

225) as enunciating the standards for ``own'' and ``control,'' the FDIC

has decided that use of its own regulations in this area would be more

appropriate. Regulation Y has wide reaching attribution rules for stock

ownership among family members. An attempt to restrict ownership or

control of shares by family members simply because of a person's

conviction raises significant due process issues that are best avoided,

however, control of a convicted person's shares by family members may

be precluded where such control is detrimental to the bank, based upon

the facts in a particular case.

B. Standards for Determining Whether an Application Is Required

The Proposed SOP contained the requirement that an application

seeking the consent of the FDIC prior to engaging in banking activities

be submitted in all cases in which any adult or minor treated as an

adult was convicted or entered into a pretrial diversion program with

regard to a covered offense. As discussed more fully in section (5),

below, based upon its experience in processing section 19 applications,

and in light of comments received, the final SOP reflects the FDIC's

determination that it will provide automatic approval and dispense with

the application requirement in certain cases involving de minimis

crimes.

(1) Convictions

The proposal required that there be a conviction of record, and

excluded arrests, pending cases not brought to trial, acquittals, or

any conviction which has been reversed on appeal. Under the proposed

SOP, a conviction with regard to which an appeal is pending required an

application until or unless reversed. The proposal stated that a

conviction which has been expunged, or for which a pardon has been

granted, required an application.

The FDIC received seven comments regarding the issue of expunged

convictions--five from depository institutions; one from a law firm;

and one from a trade association. The commenters overwhelmingly favored

excluding expunged convictions from section 19's coverage. As the

commenters pointed out, under most state laws, an expunged conviction

is deemed not to have occurred, and is not a conviction ``of record.''

Further problems arise regarding the ability of an institution to

discover whether someone has an expunged criminal record, and in some

states, laws prohibit and punish disclosure of information regarding

expunged records.

Historically, the FDIC has taken the position that convictions

which have been completely expunged are not covered by section 19. The

FDIC proposed a change in that position in the proposed SOP based upon

the rationale that the Crime Control Act amendments require a person

who has entered into a pre-trial diversion or similar program to file a

section 19 application. This requirement appears to create an anomalous

result when compared with the FDIC policy that those with expunged

convictions need not file.

Based upon the comments, however, and because it appears that

expunged convictions do not constitute convictions of record, the final

SOP excludes expunged convictions from the coverage of section 19.

Furthermore, institutions have been advised in the past that expunged

convictions were not covered by section 19. Excluding expunged

convictions would avoid the significant practical problems of a change

in policy which would require those previously allowed to work at

institutions to now file section 19 applications. Therefore, the final

SOP adopts the FDIC's current interpretation that persons with

completely expunged convictions are not required to file section 19

applications.

(2) Pretrial Diversions

The proposed SOP defined a pretrial diversion as a program entry,

as determined by relevant federal, state or local law, whether formal

or informal, which is characterized by a suspension or eventual

dismissal of charges or criminal prosecution upon agreement by the

accused to treatment, rehabilitation, restitution, or other noncriminal

or nonpunitive alternatives. The FDIC received two comments on the

issue of what should constitute a ``pretrial diversion program,'' one

from a law firm and one from a trade association. Each made suggestions

as to whether certain specific programs ought to be included in the

definition.

The FDIC believes that it would be impractical to attempt to

identify in the SOP all of the specific programs which might constitute

pretrial diversion programs. As is the current practice, the final SOP

states that the FDIC will continue to determine whether a program

constitutes a pretrial diversion on a case-by-case basis. In addition,

in 1990, the Crime Control Act amendments made pretrial diversion

programs subject to section 19 for the first time. Persons working in

financial institutions at the time of the 1990 amendments who had

previously entered into a pre-trial diversion program would be unaware

that they were suddenly prohibited from working in banking. In order to

avoid the issue of retroactive application, and to provide a ``bright

line'' test, the FDIC has decided to except pre-trial diversions

entered before November 29, 1990, from section 19's coverage. In

addition, since most offenses eligible for pre-trial diversion are

relatively minor, and since only those offenses more than seven and a

half years old would be excluded from coverage, the risk to financial

institutions from this proposal is slight.

(3) Covered Offenses Involving Dishonesty or Breach of Trust

The proposed SOP indicated that for section 19 to apply, the

conviction or program entry must be for a criminal offense involving

dishonesty, breach of trust or money laundering. Under the proposal,

``dishonesty'' was defined as directly or indirectly to cheat or

defraud; to cheat or defraud for monetary gain or its equivalent; or

wrongfully to take property belonging to another in violation of any

criminal statute. Dishonesty includes acts involving want of integrity,

lack of probity, or a disposition to distort, cheat, or act deceitfully

or fraudulently, and may include crimes which federal, state or local

laws define as dishonest. ``Breach of trust'' means a wrongful act,

use, misappropriation or omission with respect to any property or fund

which has been committed to a person in a fiduciary or official

capacity, or the misuse of one's official or fiduciary position to

engage in a wrongful act, use, misappropriation or omission.

The proposed SOP made clear that all convictions for offenses

concerning the illegal manufacture, sale, distribution of or

trafficking in controlled substances required an application (drug

offenses). The proposal indicated that a ``controlled substance'' shall

mean those so defined by federal law. While the proposal acknowledged

that use of a controlled substance does not per se constitute a covered

offense, the circumstances of the offense may contain elements of

dishonesty or breach of trust or money laundering, and that the FDIC

would determine on a case-by-case basis whether to approve an

application regarding a person convicted of such an offense.

The FDIC received three comments regarding the definitions of

``dishonesty'' and ``breach of trust''--two from insured institutions

and one from a law firm. The commenters requested clarification of what

[[Page 66181]]

constitutes a conviction involving ``dishonesty'' and ``breach of

trust,'' and requested that the SOP contain a specific list of crimes

to which section 19 will apply, or safe harbors to which it will not

apply. Concern was expressed that crimes of violence may not be

covered, while one expressed the view that all crimes are dishonest.

With regard to drug offenses, the FDIC received four comments-three

from insured institutions and one from a bank holding company-all of

which were generally unfavorable regarding the approach the proposal

took regarding drug offenses. The commenters felt that no application

should be required of those convicted of using or possessing drugs,

citing concerns regarding laws pertaining to disabilities and

rehabilitation. In addition, concern was expressed regarding the

proposed case-by-case method of reviewing the underlying circumstances

of each drug offense to determine whether an application should be

approved.

After considering the comments, the FDIC has altered its approach

in the final SOP. The FDIC has generally acknowledged that not all

crimes are covered by section 19, and that many crimes involving

violence do not have dishonesty and breach of trust as elements. The

FDIC believes that whether a crime involves ``dishonesty'' or ``breach

of trust'' must be determined from the statutory elements of the crime

itself, rather than the factual circumstances surrounding a crime, and

the final SOP adopts this approach. To do otherwise would require

insured institutions and the FDIC to analyze the factual background of

every conviction, including such offenses as disturbing the peace. For

many convictions, records of a factual background are not available.

All convictions for offenses concerning the illegal manufacture, sale,

distribution of or trafficking in controlled substances shall require

an application. A ``controlled substance'' shall mean those so defined

by federal law.

(4) Youthful Offender Adjudgments

The proposed SOP indicated that an adjudgment by a court against a

person as a ``youthful offender'' under any youth offender law, or any

adjudgment as a ``juvenile delinquent'' by any court having

jurisdiction over minors as defined by state law does not require an

application. Such adjudications are not considered convictions for

criminal offenses.

The FDIC received three comments-all from insured institutions,

which strongly favored the stated approach. Historically, the FDIC has

followed the approach of exempting youthful offender adjudgments from

the coverage of section 19, with no perceived ill effects upon

institutions. Furthermore, it is questionable whether the institution

or the FDIC would be able to obtain records regarding such adjudgments.

Therefore, the final SOP adopts, without change, the position set forth

in the proposed SOP.

(5) De minimis Offense

The proposed SOP required any person with a conviction or program

entry concerning a covered offense to submit an application. The FDIC

received six comments--four from insured institutions or holding

companies, one from a law firm and one from a trade association--

regarding whether there should be an exemption for a de minimis crime.

All commenters favored an approach whereby a de minimis crime would not

require an application, although there was no general consensus as to

the precise definition of such offenses.

Suggestions were made that a de minimis offense should include any

misdemeanor committed by a juvenile, any one-time crime of dishonesty

or breach of trust where the amount of loss was small, and a single

misdemeanor committed by an adult. Further, commenters suggested that

there should be a distinction between felonies and misdemeanors, and

consideration of the time that has elapsed since the conviction, a

person's present integrity and the risk associated with the position

sought. A list of the specific crimes or the factors which should be

taken into account in determining whether an offense is de minimis was

requested. An alternative suggestion was a streamlined approach with a

shortened approval period based upon the level of risk the person's

position presents to the institution.

Section 19 applies, without exception, to convictions for crimes

involving dishonesty or breach of trust. The FDIC, therefore, must

provide prior written consent before covered persons may participate in

banking. However, based upon the comments, and in light of its

experience in processing and approving many applications involving

minimal offenses, the FDIC has determined to grant blanket approval,

through the final SOP, to certain defined categories of offenses. Such

offenses are considered to be of such a minimal nature and of such low

risk that the affected person may be employed at any institution, in

any position. The foregoing approach would have the advantage of

addressing a large number of pretrial diversion applicants, since in

most cases, the crimes involved in such programs are not serious ones

which would involve risk to an insured institution.

The final SOP provides that approval is automatically granted and

application will not be required where the covered offense is

considered de minimis, because it meets the following criteria: there

is only one conviction or program entry of record for a covered

offense; the offense was punishable by imprisonment for a term of less

than one year and/or a fine of less than $1000, and the individual did

not serve time in jail; the conviction or program was entered at least

five years prior to the application; and the offense did not involve an

insured institution or insured credit union. The above factors

generally encompass offenses that are less than felonies. This

exception represents the FDIC's view that an individual should

generally not be prohibited from participating in banking because of a

singular offense of lesser consequence. The basic underlying premise of

section 19 is to prevent risk to the safety and soundness of an insured

institution or the interests of its depositors, and to prevent

impairment of public confidence in the insured institution. We find it

incongruous to accord blanket approval to individuals who have

previously committed an offense against an insured institution or

insured credit union, and an application therefore will be required in

such cases. Any person who meets the foregoing criteria shall be

covered by a fidelity bond to the same extent as others in similar

positions, and shall disclose the presence of the conviction or program

entry to all insured institutions in the affairs of which he or she

wishes to participate.

C. Procedures

The proposed SOP indicated in the section regarding procedures that

section 19 imposes a duty upon the insured institution to make a

reasonable inquiry regarding an applicant's history, which consists of

taking steps appropriate under the circumstances, consistent with

applicable law, to avoid hiring or permitting participation in its

affairs by a person who has a conviction or program entry for a covered

offense. It stated that an institution might believe that undertaking a

minimal inquiry might not be necessary in certain circumstances,

however, the FDIC believes that at a minimum, each insured institution

should establish a screening process which provides the insured

institution with information concerning any conviction or program entry

pertaining to a job applicant. The

[[Page 66182]]

proposed SOP provided examples of what would constitute a reasonable

inquiry, including, the completion of a written employment application

which requires a listing of all convictions and program entries; (2)

fingerprinting and (3) periodic inquiries to determine whether a person

has a conviction or program entry. The proposed SOP indicated that the

foregoing were not requirements, and that the FDIC would look to the

circumstances of each situation to determine whether the inquiry is

reasonable.

The procedures set forth in the proposed SOP were that upon notice

of a conviction or program entry, an application seeking the FDIC's

consent prior to the person's participation must be filed. When an

application is required, forms and instructions should be obtained

from, and the application filed with, the appropriate FDIC Regional

Director.

The proposed SOP stated that the application must be filed by an

insured institution on behalf of a person, but contained an exception

to this requirement for a shareholder seeking to exercise voting rights

if the insured institution has refused to file an application on that

person's behalf. Where a person currently employed by an insured

institution is discovered to have a conviction or program entry, the

proposed SOP allowed that, upon request, the Regional Director could

grant a conditional approval pending the processing of the application.

Fourteen comments were received pertaining to whether the screening

process, including the idea of fingerprinting, was burdensome--nine

from depository institutions, one from a bank holding company, one from

a law firm and three from trade associations. The comments were

generally not favorable, or found the proposed SOP confusing about what

was being required. One commenter took exception to the FDIC imposing

any duty upon insured depository institutions for making a reasonable

inquiry into whether a person has a conviction or program entry based

upon the argument that section 19 imposes no duty to discover such

offenses, it only demands action once the presence of a conviction

becomes known. The FDIC believes that the commenter's approach does not

comport with the intent of the law which is designed as a preventive

measure to protect against risk to the safety and soundness of insured

institutions and their depositors.

(1) Fingerprinting

The issue of fingerprinting generated more discussion than any

other. It is apparent that fingerprinting as a recommended practice,

even though explicitly not required in the SOP, is not welcomed by the

banking community. The smaller banks, especially, appear to be opposed

to the practice. They maintain that because of the smaller communities

they serve, they are familiar with their applicants and view

fingerprinting as an unnecessary burden. Many commenters expressed

concern that a recommendation or guideline that fingerprinting is

advocated would be interpreted as an industry standard, and by field

examiners as mandatory.

Others feared that bankers would deem fingerprinting a requirement

and feared liability for any loss which could have been prevented by

fingerprinting. Others suggested that a written application listing

previous convictions or program entries would suffice, but that the

screening process must be coordinated with the standards in the

institution's fidelity bond to avoid any loss of insurance. One

commenter stated that the SOP should only contain minimum standards,

and that institutions should be encouraged to develop even stricter

standards. Others suggested restricting fingerprinting to high-risk

positions, or using bonding or other companies to perform such

screening. The remainder of the comments addressed the difficulty of

obtaining criminal background information and fingerprints, the delay

and cost inherent in fingerprinting, the burdensome impact of the

process would have upon small institutions, and the need to ensure that

requirement of criminal background checks was consistent with other

laws which protect against disclosure of criminal or arrest

information.

After considering the comments, the FDIC has decided not to address

fingerprinting in the final SOP. Instead, the FDIC will allow each

insured institution to determine what screening methods it will use,

and will look to the circumstances of each situation to determine

whether an inquiry was reasonable. The FDIC believes that at a minimum,

each institution should have a screening process to uncover information

regarding a job applicant's convictions and program entries, which

would include, for example, a written application listing such

convictions and program entries, although other alternatives may be

appropriate. The final SOP reflects this guidance.

(2) Periodic Inquiries

Seven commenters addressed the issue of periodic inquiries. The

majority of comments were not favorable, and indicated that using

periodic inquiry to determine whether current employees were subject to

recent convictions would be burdensome on institutions and that such an

inquiry was not mandated by section 19. Others stated that periodic

inquires on recent convictions were not useful because employees would

be afraid of losing their jobs. Others stated that there are regular

channels by which institutions learn about recent convictions or

program entries by their employees other than having routine inquires.

Alternatively it was suggested that periodic inquiries should be

optional or limited to high-risk positions, only required at the

beginning of employment or only conducted at lengthy intervals such as

every ten years.

Similar to the analysis regarding fingerprinting, after considering

the comments, the FDIC believes that whether periodic background checks

are used should be optional, and that the major responsibility should

be upon the individual to bring to the institution's attention any

change in ``conviction'' status for purposes of section 19.

(3) Who May Be an Applicant?

The proposed SOP requires that an application be filed by an

institution rather than an individual. This policy is based upon the

rationale that in determining whether to approve a section 19

application, the FDIC must assess whether the person's participation in

an insured institution constitutes a risk to the safety and soundness

of the insured institution or its depositors or impairs public

confidence in the institution. In making this determination, the FDIC

has traditionally considered the position the person will occupy at the

institution, the extent of the supervision of the person that the

institution will provide, the size and condition of the institution and

the fidelity bond coverage by the institution's bonding company. Where

an individual is filing an application without institution sponsorship,

the FDIC may not have the foregoing information available to it.

Furthermore, an application may be filed by an individual who has no

prospect of employment by an insured institution, and is merely seeking

agency certification for potential employment. On the other hand, the

FDIC is mindful that such a requirement may be unfair to an individual

in certain circumstances. Therefore, the notice accompanying the

proposed SOP sought comments whether the FDIC should change this

longstanding policy.

[[Page 66183]]

There were ten comments on this issue-seven from depository

institutions, one from a bank holding company and two from trade

associations. Only one commenter believed that individuals should be

permitted to file a section 19 application, although one indicated that

independent contractors, if covered by section 19, might be allowed to

file applications without bank sponsorship since the FDIC would be able

to assess from the application what services the independent contractor

provides for the financial institution.

The remaining comments were opposed to permitting an individual to

file a section 19 application without institution sponsorship. The

reasons generally were that insured institutions should maintain

control over the process because they are in the best position to have

available information to determine when section 19 applications should

be submitted on behalf of an individual based upon the person's

position and the risk to the institution. Further, the FDIC's resources

should be available to handle section 19 applications filed by

institutions on an expedited basis, and such handling should not be

delayed because the FDIC is reviewing applications by individuals who

may or may not have a legitimate interest in working for an insured

institution. Another concern expressed was that if an individual filed

an application without institution sponsorship and received approval

for a particular position, the individual could later be employed in

that position at another institution without the prior notice or

consent of the FDIC.

After considering the comments, the FDIC has decided to maintain

its requirement that an institution file a section 19 application on

behalf of an individual. However, the FDIC is aware that many

institutions will not file applications on behalf of a convicted

individual under any circumstance. For those with relatively minor

convictions this appears to be a harsh result, and the FDIC has

attempted to lessen this harsh effect by adopting the de minimis

exception discussed above. In addition, the FDIC is mindful that others

may not fall within the de minimis exception, yet the institution

filing requirement may result in a harsh result. Therefore, while the

final SOP retains the institution filing requirement, it provides that

an individual may seek a waiver of this requirement where substantial

good cause for granting a waiver is shown. For example, a waiver is

likely to be granted where the person requesting consent is a

shareholder seeking to exercise voting rights and the insured

institution has refused to file an application on his or her behalf.

The FDIC expects that waivers will be granted on an infrequent basis,

and only in truly meritorious cases.

(4) Conditional Approvals

The proposed SOP provided for a conditional approval by the

Regional Director upon request, pending the processing of an

application. Two comments received from depository institutions

strongly supported this approach. At the time the proposed SOP was

issued, the FDIC had not proposed a de minimis exception to filing. In

light of the fact that under this new approach, the number of

applications will decrease, the FDIC believes it will be able to act in

an expedited manner on an application where necessary. Therefore, there

is no provision for conditional approval in the final SOP.

D. Evaluation of Section 19 Applications

The proposed SOP stated that the essential criteria in assessing an

application are whether the person has demonstrated his or her fitness

to participate in the conduct of the affairs of an insured institution,

and whether the affiliation, ownership, control or participation by the

person in the conduct of the affairs of the insured institution may

constitute a threat to the safety and soundness of the insured

institution or the interests of its depositors or threaten to impair

public confidence in the insured institution. Factors listed as

relevant to this determination were the conviction or program entry and

the specific nature and circumstances of the covered offense; evidence

of rehabilitation including the person's reputation since the

conviction or program entry, the person's age at the time of conviction

or program entry, and the time which has elapsed since the conviction

or program entry; the position to be held or the level of participation

by the person at an insured institution; the amount of influence and

control the person will be able to exercise over the management or

affairs of an insured institution; the ability of management of the

insured institution to supervise and control the person's activities;

the degree of ownership the person will have of the insured

institution; the applicability of the insured institution's fidelity

bond coverage to the person; the opinion or position of the primary

Federal and/or state regulator; and any additional factors in the

specific case that appear relevant.

The proposed SOP indicated that the foregoing criteria will also be

applied by the FDIC to determine whether the interests of justice are

served in seeking an exception in the appropriate court when an

application is made to terminate the ten-year ban prior to its

expiration date. The proposal stated that approval orders will be

subject to the condition that the person shall be covered by a fidelity

bond to the same extent as others in similar positions, and that when

deemed appropriate, approval orders may also be subject to the

condition that the prior consent of the FDIC will be required for any

proposed significant changes in the person's duties and/or

responsibilities. Such proposed changes may, in the discretion of the

Regional Director, require a new application. In situations in which an

approval has been granted for a person to participate in the affairs of

a particular insured institution and that person subsequently seeks to

participate at another insured institution, approval does not

automatically follow. In such cases, another application must be

submitted. The proposed SOP also indicated in its introduction that

some applications can be approved without an extensive review because

the person will not be in a position to constitute any substantial risk

to the safety and soundness of the insured institution. Persons who

will occupy clerical, maintenance, service or purely administrative

positions, generally fall into this category. A more detailed analysis

will be performed in the case of persons who will be in a position to

influence or control the management or affairs of the insured

institution.

Only one comment was received, which requested that the FDIC define

what constitutes a substantial change in duties so as to require a new

application. The FDIC believes, however, that an institution should

itself be aware whether a person's duties have changed to the extent

that their influence and risk upon the institution would require a

section 19 application.

The final SOP incorporates all of the standards and factors set

forth in the proposed SOP. In addition, it addresses the policy

regarding a waiver by stating that in cases in which a waiver of the

institution filing requirement has been granted to an individual,

approval of the application will be conditioned upon that person

disclosing the presence of the conviction to all insured institutions

in the affairs of which he or she wishes to participate. The FDIC

believes this is essential to ensuring that institutions are aware of

the potential risks to safety and soundness posed by their employees

and participants, and are

[[Page 66184]]

able to fully apprise their fidelity insurers of such risks.

The Board of Directors of the FDIC has rescinded two earlier policy

statements regarding section 19--Consent to Service of Persons

Convicted of Offenses Involving Dishonesty or Breach of Trust as

Directors, Officers or Employees of Insured Banks (41 FR 42699 (Sept.

22, 1976)) and Applications Under Section 19 of the Federal Deposit

Insurance Act (March 31, 1980), and adopted the following Statement of

Policy for Section 19 of the FDI Act:

FDIC Statement of Policy for Section 19 of the FDI Act

Section 19 of the Federal Deposit Insurance Act (12 U.S.C. 1829)

prohibits, without the prior written consent of the Federal Deposit

Insurance Corporation (FDIC), a person convicted of any criminal

offense involving dishonesty or breach of trust or money laundering

(covered offenses), or who has agreed to enter into a pretrial

diversion or similar program in connection with a prosecution for such

offense, from becoming or continuing as an institution-affiliated

party, owning or controlling, directly or indirectly an insured

depository institution (insured institution), or otherwise

participating, directly or indirectly, in the conduct of the affairs of

an insured institution. In addition, the law forbids an insured

institution from permitting such a person to engage in any conduct or

to continue any relationship prohibited by section 19. It imposes a

ten-year ban against the FDIC's consent for persons convicted of

certain crimes enumerated in Title 18 of the United States Code, absent

a motion by the FDIC and court approval.

Section 19 imposes a duty upon the insured institution to make a

reasonable inquiry regarding an applicant's history, which consists of

taking steps appropriate under the circumstances, consistent with

applicable law, to avoid hiring or permitting participation in its

affairs by a person who has a conviction or program entry for a covered

offense. The FDIC believes that at a minimum, each insured institution

should establish a screening process which provides the insured

institution with information concerning any convictions or program

entry pertaining to a job applicant. This would include, for example,

the completion of a written employment application which requires a

listing of all convictions and program entries. The FDIC will look to

the circumstances of each situation to determine whether the inquiry is

reasonable. Upon notice of a conviction or program entry, an

application seeking the FDIC's consent prior to the person's

participation must be filed.

Section 19 applies, by operation of law, as a statutory bar to

participation absent the written consent of the FDIC. The purpose of an

application is to provide the applicant an opportunity to demonstrate

that, notwithstanding the bar, a person is fit to participate in the

conduct of the affairs of an insured institution without posing a risk

to its safety and soundness or impairing public confidence in that

institution. The burden is upon the applicant to establish that the

application warrants approval.

A. Scope of Section 19

Section 19 covers institution-affiliated parties, as defined by 12

U.S.C. 1813(u), and others who are participants in the conduct of the

affairs of an insured institution. Therefore, all employees of an

insured institution fall within the scope of section 19. In addition,

those deemed to be de facto employees as determined by the FDIC based

upon generally applicable standards of employment law, will also be

subject to section 19. Whether other persons who are not institution-

affiliated parties are covered depends upon their degree of influence

or control over the management or affairs of an insured institution.

For example, section 19 would not apply to persons who are merely

employees of an insured institution's holding company, but would apply

to its directors and officers to the extent that they have the power to

define and direct the policies of the insured institution. Similarly,

directors and officers of affiliates, subsidiaries or joint ventures of

an insured institution or its holding company will be covered if they

are in a position to influence or control the management or affairs of

the insured institution. Those who exercise major policymaking

functions of an insured institution would be deemed participants in the

affairs of that institution and covered by section 19. Typically, an

independent contractor does not have a relationship with the insured

institution other than the activity for which the insured institution

has contracted. Under 12 U.S.C. 1813(u), independent contractors are

institution-affiliated parties if they knowingly or recklessly

participate in violations, unsafe or unsound practices or breaches of

fiduciary duty which are likely to cause significant loss to, or a

significant adverse effect on, an insured institution. In terms of

participation, an independent contractor who influences or controls the

management or affairs of the insured institution, would be covered by

section 19. In addition, ``person'' for purposes of section 19 means an

individual, and does not include a corporation, firm or other business

entity.

Section 19 specifically prohibits a person subject to its coverage

from owning or controlling an insured institution. For purposes of

defining ``control'' and ``ownership'' under section 19, the FDIC has

adopted the definition of ``control set forth in the Change in Bank

Control Act (12 U.S.C. 1817(j)(8)(B)). A person will be deemed to

exercise ``control'' if that person has the power to vote 25 percent or

more of the voting shares of an insured institution (or ten percent of

the voting shares if no other person has more shares) or the ability to

direct the management or policies of the insured institution. Under the

same standards, person will be deemed to ``own'' an insured institution

if that person owns 25 percent or more of the insured institution's

voting stock, or ten percent of the voting shares if no other person

owns more. These standards would also apply to an individual acting in

concert with others so as to have such ownership or control. Absent the

FDIC's consent, persons subject to the prohibitions of section 19 will

be required to divest their ownership of shares above the foregoing

limits.

B. Standards for Determining Whether an Application Is Required

Except as indicated in paragraph (5), below, an application must be

filed where there is present a conviction by a court of competent

jurisdiction for a covered offense by any adult or minor treated as an

adult, or where such person has entered a pretrial diversion or similar

program regarding that offense.

(1) Convictions. There must be present a conviction of record.

Section 19 does not cover arrests, pending cases not brought to trial,

acquittals, or any conviction which has been reversed on appeal. A

conviction with regard to which an appeal is pending will require an

application until or unless reversed. A conviction for which a pardon

has been granted will require an application. A conviction which has

been completely expunged is not considered a conviction of record and

will not require an application.

(2) Pretrial Diversion or Similar Program. Program entry, whether

formal or informal, is characterized by a suspension or eventual

dismissal of charges or criminal prosecution upon agreement by the

accused to treatment, rehabilitation, restitution, or other noncriminal

or nonpunitive

[[Page 66185]]

alternatives. Whether a program constitutes a pretrial diversion is

determined by relevant federal, state or local law, and will be

considered by the FDIC on a case-by-case basis. Program entries prior

to November 29, 1990, are not covered by section 19.

(3) Dishonesty or Breach of Trust. The conviction or program entry

must be for a criminal offense involving dishonesty, breach of trust or

money laundering. ``Dishonesty'' means directly or indirectly to cheat

or defraud; to cheat or defraud for monetary gain or its equivalent; or