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4000 - Advisory Opinions

Can a Stand-By Letter of Credit Issued by a Depository Institution Be Treated as a Deposit for Insurance Purposes


June 4, 1990

Mark A. Mellon, Attorney

This is in response to your inquiry of May 3, 1990. You wish to ascertain whether a stand-by letter of credit issued by a federally-insured depository institution would be treated as a deposit for federal insurance purposes in the event of the issuing institution's default.

It has been a long-standing policy of the Federal Deposit Insurance Corporation (the "FDIC") that a stand-by letter of credit will not be treated as a deposit for insurance purposes unless the customer of the depository institution, at whose behest the standby letter of credit is issued, provides some form of asset or "hard earning" to cover the liability.

The Supreme Court agreed with this position in a recent decision. Philadelphia Gear Corp. v. FDIC, 427 U.S. 426 (1986). Even though letters of credit are specifically listed in the definition of insured deposits in the Federal Deposit Insurance Act (12 U.S.C. 1813(1)(l)), the Supreme Court concluded that a stand-by letter of credit backed only by a contingent promissory note was not a "deposit" within the meaning of the Act because no non-contingent assets were given to the bank by its customer in return for the letter of credit. The Supreme Court held that the purpose of the Act was to safeguard the assets and "hard earnings" that businesses and individuals had entrusted to banks. This purpose would not be served, the Court further held, if the protection of the Act were to be extended to a transaction where the customer surrendered no assets to the bank, the bank did not credit any account of the customer's in exchange for the note and the bank did not treat its own assets as increased by acceptance of the note. The Court did not, however, discuss whether a stand-by letter of credit should be treated as a deposit for insurance purposes when it is backed by a deposit or the surrender of other assets to the issuing depository institution.

To sum up, a stand-by letter of credit is most likely to be treated by the FDIC as a deposit for purposes of federal insurance when the depositor has made himself primarily liable for the letter, either by depositing funds with the institution or by providing a non-contingent, presently effective note.

I hope that this letter is responsive to your inquiry. If you have any further questions on this or any other matter, please contact me.

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