Sometimes it's for the best to end a complicated relationship.
The Federal Deposit Insurance Corp. enticed banks during the financial crisis to buy failed institutions by offering generous terms on loss-share agreements, where the agency agreed to absorb a portion of the losses on loan pools.
Banks have found that managing those loans has its own set of headaches. The agreements often include added costs that reflect collections efforts and FDIC reporting requirements. They can obfuscate a bank's balance sheet and the accounting can become frustrating, industry observers said.
The FDIC has loosened requirements so more banks are eligible for early termination, and a wave of institutions, including Simmons First National, State Bank Financial and Community Bankers Trust, are taking advantage of the opportunity.
"An acquiring institution's relationship with the FDIC is like a shaky marriage," said Randy Dennis, president of DD&F Consulting Group. "Issues come out over time. While these banks respect the FDIC, they'd rather just live separate lives."
Loss-share agreements often enticed potential buyers to place higher bids and help mitigate the FDIC's losses, said James Kaplan, a lawyer at Quarles & Brady. But bankers, many of which had never worked with such agreements before, were likely unprepared for the pacts' sometimes complex nature, he added.
"I don't think there was a great deal of hand wringing over loss-share agreements," Kaplan said. "I would occasionally hear back from bankers … that had won a failed bank who later decided not to bid anymore. There was a lot of unanticipated work."
Roughly $43.4 billion of assets were subject to loss sharing on April 30, according to FDIC data. At Dec. 31, 20 banks had terminated agreements covering $1.2 billion of assets, and another 94 institutions were eligible for early termination.
A number of banks have arranged for early termination since then.
More banks are likely to follow. DD&F Consulting, for instance, is working with dozens of banks that are considering early termination, Dennis said.
Community Bankers Trust in Richmond, Va., opted to terminate its bank's loss-share agreement because the loans it bought in 2009 were performing better than anticipated, said Rex Smith, the company's president and chief executive. The $1.2 billion-asset company's bank had also spent more than $4 million a year managing the agreement.
The accounting also complicated the balance sheet and skewed certain numbers like loan yields, Smith said. Explaining that to outsiders was "another hoop … to jump through every quarter" to understand the financials, he added.
"It's a burden," Smith said. "It's fairly complex accounting if you aren't doing it all the time."
Most agreements were reached between 2009 and 2011. Arrangements for commercial loans generally included five-year periods where the FDIC and the acquiring bank shared in the losses and recoveries, followed by another three years where just the recoveries were split. Agreements for residential loans were typically for 10 years for losses and recoveries.
So some bankers may look at early termination as a way to eliminate such hassles.
"A lot of these agreements were written when the economy was still in a recession and we hadn't come into a recovery yet," said David Giesen, a managing director in Navigant Consulting's valuation and financial risk management practice. "The economy has recovered and a lot of these loans are performing. Banks are more comfortable with them now."
To qualify for early termination, banks must have no more than $100 million in outstanding unpaid principal balance for each single-family and commercial loss agreement, and the termination payment from the FDIC cannot exceed $10 million per receivership. The FDIC has increased the maximums to make more banks eligible, industry observers said.
"The FDIC is receptive to terminating these early," Giesen said. "It's a drain on the agency's resources … and it takes effort to administer" the agreements.
The FDIC declined to comment. The agency said in an August report that, while many eligible banks have declined early termination, the trend may change as commercial loss-share agreements "lose loss coverage and covered asset levels decline."
Despite the complexity of these agreements and the costs of administering them, it is likely the FDIC and bankers would turn to them again if another crisis hits, industry observers said.
While challenging, the FDIC "does a great job" handling loss-share agreements, Dennis said.
"I would absolutely do it again," Smith said. "No one knew where the world would end up with real estate values. It would have been hard for the FDIC to get some failed banks sold without a backup plan."