WASHINGTON — The Federal Deposit Insurance Corp. warned banks under its watch Wednesday about the risks of acquiring participations in loans while relying too heavily on originating institutions for the underwriting.
In an advisory letter to all FDIC-supervised banks, the agency said that type of "over-reliance on lead institutions has in some instances caused significant credit losses and contributed to bank failures, particularly for loans to out-of-territory borrowers and obligors involved in industries unfamiliar to the bank."
The FDIC advised banks to establish more formal policy guidelines for both originating and buying participations, that should, among other things, mandate due diligence about the borrower for the entire of the participation.
Agreements between participating banks should fully spell out the lead institution's duties, and those purchasing participations should analyze the loan in the same manner as if they were originating it.
"Management should exercise caution and perform extensive due diligence of participations involving an out-of-territory loan or credit facility to a borrower in an unfamiliar industry," the FDIC said. "Management should ensure the obligor, source of repayment, market conditions, and potential vulnerabilities are clearly understood and monitored."