WASHINGTON - The era of free deposit insurance is nearing an end.

Federal Deposit Insurance Corp. officials say the current system - which enables almost 93% of banks to pay nothing in good times, but steep fees in tougher times - needs an overhaul, and they have proposed two alternatives.

"The FDIC believes it will eventually have to start charging premiums again, and they are looking for a way to do so equitably," said Karen Shaw Petrou, president of ISD/Shaw Inc., a consulting firm here. "They are opposed to the notion that zero premiums can go on indefinitely, which I think is where many in the industry find themselves."

The agency released an "options paper" last week that details an array of possibilities.

Under one alternative, banks would pay a set percentage of their deposits in one lump sum. If the deposits did not change in the next year, the bank would pay nothing. If they rose, the bank would have to pay more to adjust for the increase. If they fell, the institution could get a refund, an idea many bankers find appealing.

The FDIC refers to this as a "mutual model," and draws a parallel with the credit union system in which institutions put 1% of their deposits into a fund but still count that money as an asset.

While industry representatives oppose an increase in premiums, this idea has earned respect.

"We believe this is a concept that deserves consideration," said Edward L. Yingling, chief lobbyist for the American Bankers Association.

"The issue of rebates is front and center when you talk about the mutual model," said Diane Casey, president of America's Community Bankers. "Bankers want the opportunity for some of the money they pay to come back to them."

But comparisons to the credit union model, which allows rebates, also raise problems.

Currently, credit unions and the government count the percentage paid to the fund as an asset - which critics say is faulty accounting. The FDIC has not decided who should get to claim premium payments as an asset, but it agrees with critics that only banks or the government may own it.

Under the second alternative, banks would pay a small premium, or "user fee." This system would not include a reserve ratio, which determines the minimum size of the fund. Currently, reserves must be at least $1.25 for every $100 of insured deposits.

The user fee could be determined by a moving historical average, where the FDIC sets a premium based on a particular time frame of insurance fund expenses. The agency argues that this would spread losses over the entire industry, with all institutions paying the same premium. For example, if the premium is set on expenses over the last 20 years, institutions would pay 11.2 cents for every $100 in domestic deposits every year, the agency said.

The FDIC is also considering tying user fees to the riskiness of each bank. Using a formula for "expected loss" to the fund, banks would be grouped by their chance of default, size of insured deposits, and the potential cost of a failure.

"Bankers prefer a small, steady premium," said Karen Thomas, director of regulatory affairs for the Independent Community Bankers of America. "Compared to the current system, where premiums can vary a lot, I think bankers prefer a 'user fee.' "

While the FDIC has raised the possibility of rebates in the "user fee" system, it has also argued that the government bears most of the risk in the event of a catastrophic failure.

Oliver, Wyman & Co., a New York consulting firm hired by the FDIC to study the issue, said premiums are simply the price banks pay for being insured, and they should not receive any rebates.

"If Allstate charges you $200 a year for car insurance, and you don't have an accident, they don't turn around and say, 'Here's $100 back,' " said Andrew Kuritzkes, vice president of Oliver Wyman.

Either way the agency goes, transition problems emerge. Most importantly, how would the FDIC treat banks that have already paid substantial sums to rebuild the insurance fund? From 1991 through 1996 the banking industry poured more than $25 billion into the fund.

If either system is adopted, the agency would have to decide if those banks received credit, or start all over again.

"If the agency tries to start from zero, this issue will be a real nonstarter," said Bert Ely, an independent analyst in Alexandria, Va. "If they don't, they are liable to cause a division between those who paid in the 1990s and those who didn't. This issue is tricky."

The options paper also covers the proper pricing of risk and the possibility of tying the current coverage limit per account to an index, such as inflation. While the comment period is open-ended, the agency said it expects to offer proposals by the time the next Congress convenes in January.

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