Banks and Fintechs Stand to Win with New Brokered Deposit Rule

On December 12, 2019, the Federal Deposit Insurance Corporation (FDIC) released its much-anticipated rule on brokered deposits (Rule). The Rule seeks to modernize brokered-deposit restrictions to account for advances in fintech and evolved business models. If adopted, the Rule would contain several provisions that would benefit banks, fintechs, and partnerships between the two.

Background

FDIC currently regulations define a brokered deposit as any deposit obtained through direct or indirect participation of a “deposit broker.” Federal banking law defines a “deposit broker” as any party engaged in the business of placing deposits or that otherwise facilitates placement of deposits with a bank. While the regulatory and statutory definitions of deposit broker are largely the same, ambiguity in regulatory interpretation has led to inconsistent application and caused regulatory staff to apply brokered deposit restrictions broadly.

What Does the Rule Change?   

The Rule, among other things, makes two key changes to existing FDIC regulations:

(1)  Sets forth four criteria for determining when a party facilitates placement of deposits and would be considered a deposit broker, and

(2)  Expands applicability of the primary purpose exception (which provides that a third party whose “primary purpose” is not placement of funds with a bank is not a deposit broker), and creates an application process for would-be deposit brokers to seek approval from the FDIC.

What are Criteria for Facilitating Deposit Placement?

Under the Rule, a party would be “facilitating” placement of deposits if they:

(1)  Directly or indirectly share any third-party information with a bank that is holding customer accounts

(2)  Have legal authority to close a bank account or move customer funds

(3)  Provide assistance or is involved in setting rates, fees, terms, or conditions for the account at the bank, or

(4)  Act, directly or indirectly, as an intermediary in anything other than a purely administrative capacity (e.g., reporting or bookkeeping assistance, and not assisting in key decision-making functions).

Benefits for Banks

The Rule would set clearer standards for facilitating placement of deposits, which would allow some banks to reclassify brokered deposits as core deposits.

The Rule also establishes a process whereby a deposit broker may, subject to FDIC application and approval, rely on the primary purpose exception provided that its core business is not placing funds at banks.

A key feature of the Rule is that it would allow a deposit broker to rely on the primary purpose exception so long as such broker allocates less than 25% of its customer assets under management (AUM) (for particular business line) to depository institutions.

Under the Rule, certain large banks would also be afforded relief under the liquidity coverage ratio (LCR), which requires banks to hold liquid assets sufficient to cover projected net cash outflows over a 30-day period.

Banks subject to the LCR could hold fewer high-quality liquid assets (e.g., treasuries and cash) as brokered deposits would be considered core deposits. From a regulatory perspective, this translates to a lower probability of withdrawal by depositors (known under the LCR as the “outflow rate” or “runoff rate”). Having a lower runoff rate requires a bank to hold fewer assets to meet projected outflows, therefore allowing a bank to engage in more revenue-generating activities such as lending and strategic investing.

Benefits for Fintechs

The Rule could also incentivize relationships between fintechs and smaller FDIC-insured depository institutions.

Banks once wary of accepting too many brokered deposits because of regulatory constraints would be more willing to accept deposits they might otherwise turn away. As a result of the Rule, certain fintechs could gain additional bargaining power as their pool of prospective bank partners would expand. 

Similarly, fintechs with existing bank partnerships would also benefit from having greater leverage in renegotiating more favorable terms with their regulated partners.

What’s Next?

The FDIC is accepting comments on the Rule through the end of February 2020.

Expect comment letters to focus on aspects of the primary purpose application (e.g., evaluation of business lines and AUM thresholds, among other areas), as well as regulatory exceptions to the definition of deposit broker.

Comments will influence the FDIC’s final rule, which will likely be introduced before the end of 2020.

Authored by John W. Popeo

If you have any questions concerning this publication or would like to submit comments on the Rule, please contact the author.